The carrying value of accounts receivable, accounts payable and accrued expenses, due
factor, and advances from customers are reasonable estimates of their fair values because of their short-term maturity.
Property and equipment, net, consist of the following:
| | April 30, 2013 | | | October 31, 2012 | |
Computers and software | | $ | 3,403 | | | $ | 3,385 | |
Furniture and equipment | | | 1,448 | | | | 1,315 | |
Leasehold improvements | | | 154 | | | | 327 | |
Total property and equipment, gross | | | 5,005 | | | | 5,027 | |
Accumulated depreciation | | | (4,142 | ) | | | (4,024 | ) |
Total property and equipment, net | | $ | 863 | | | $ | 1,003 | |
| | January 31, 2014 | | October 31, 2013 | |
Computers and software | | $ | 3,725 | | $ | 3,430 | |
Furniture and equipment | | | 1,548 | | | 1,554 | |
Leasehold improvements | | | 154 | | | 154 | |
Total property and equipment, gross | | | 5,427 | | | 5,138 | |
Accumulated depreciation | | | (4,402) | | | (4,321) | |
Total property and equipment, net | | $ | 1,025 | | $ | 817 | |
9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses consist of the following:
| | April 30, 2013 | | | October 31, 2012 | |
Accounts payable-trade | | $ | 3,765 | | | $ | 4,847 | |
Royalty and software development | | | 6,392 | | | | 8,914 | |
Salaries and other compensation | | | 995 | | | | 838 | |
Workforce reduction costs | | | 301 | | | | - | |
Other accruals | | | 520 | | | | 891 | |
Total accounts payable and accrued expenses | | $ | 11,973 | | | $ | 15,490 | |
| | January 31, 2014 | | October 31, 2013 | |
Accounts payable-trade | | $ | 2,844 | | $ | 4,436 | |
Royalty and software development | | | 5,473 | | | 3,612 | |
Salaries and other compensation | | | 711 | | | 742 | |
Other accruals | | | 341 | | | 204 | |
Total accounts payable and accrued expenses | | $ | 9,369 | | $ | 8,994 | |
10. ADVANCES FROM CUSTOMERS AND DEFERRED REVENUE
Advances from customers and deferred revenue consist of the following:
| | January 31, 2014 | | October 31, 2013 | |
Deferred sales revenue | | $ | 27 | | $ | 5,204 | |
Deferred license revenue | | | - | | | 1,179 | |
Advances from customers | | | 3 | | | 455 | |
Total advances from customers and deferred revenue | | $ | 30 | | $ | 6,838 | |
Common stock warrants and unitsThe following table sets forth the number shares of common stock purchasable under outstanding stock purchase warrants at April 30, 2013 and October 31, 2012:
Issued in connection with | | Issue date | | Expiration date | | Exercise Price | | | April 30, 2013 | | | October 31, 2012 | |
Equity financing | | September 5, 2007 | | March 5, 2013 | | $ | 2.04 | | | | - | | | | 1,110,001 | |
Consulting services | | June 14, 2006 | | May 31, 2013 | | $ | 1.55 | | | | 16,500 | | | | 16,500 | |
Consulting services | | March 29, 2010 | | March 28, 2015 | | $ | 1.06 | | | | 50,000 | | | | 50,000 | |
Total warrants outstanding | | | | | | | | | 66,500 | | | | 1,176,501 | |
In the six months ended April 30, 2012, 20,000 warrants were exercised on a cashless basis for 12,320 shares.
In the three and six months ended April 30, 2013, 1,110,001 warrants expired. ThereJanuary 31, 2014, there were no other changes to the status ofin the Company’s outstanding warrants. As of January 31, 2014, the Company had warrants for50,000 shares outstanding with and unitsexercise price of $1.06 per share, which expire in the three and six months ended April 30, 2013 or 2012.11.March 2015.
12. STOCK BASED COMPENSATION ARRANGEMENTSThe Company issued 111,038 and 165,685 shares of restricted stock during
Stock-based compensation expense in the three and six months ended April 30,January 31, 2014 and 2013 amounted to $373 and $280, respectively, and cancelled 12,194is recorded in general and 246,547 sharesadministrative expenses in the accompanying consolidated statements of restricted stock, respectively. The Company issued 18,358 and 32,514 shares of restricted stock during operations.
Inthe three and six months ended April 30, 2012, respectively, and cancelled 0 and 0January 31, 2014, there were no changes in the Company’s outstanding stock options. As of January 31, 2014, the Company had optionsfor3,363,644 shares of restricted stock during the three and six months ended April 30, 2012, respectively. The Company values shares of restricted stock at fair value as of the grant date.The Company issued 0 and 851,061 stock options during the three and six months ended April 30, 2013, respectively, and cancelled 16,069 and 16,069 of stock options, respectively. The options issued during the six months ended April 30, 2013 have anoutstanding with a weighted-average exercise price of $0.77$2.10 per share and a seven-year term and vestshare.
A summary of the Company’s restricted stock activity in one year. the three months ended January 31, 2014 is presented below:
Balance at beginning of period | | | 1,601,157 |
Granted | | | 78,332 |
Vested | | | (73,437) |
Outstanding at end of period | | | 1,606,052 |
The aggregate grant-date fair value of the options was $400, based on an estimated four-year life, expected volatility of 84.8%, an interest rate of 0.6% and a 0% dividend yield. The Company issued 0 and 0 stock optionsrestricted shares granted during the three and six months ended April 30, 2012, respectively and cancelled 0 and 0January 31, 2014 was $47, based on the fair value of the Company’s common stock options, respectively.Stock-based compensation amounted to $385 and $665 inon the three and six months ended April 30, 2013, respectively and $429 and $863 in the three and six months ended April 30, 2012, respectively.
12.date of grant.
13. INCOME TAXESThe tax provision reflected in the accompanying condensed consolidated statements of operations represents alternative minimum taxes and certain state taxes. The federal and state income tax provisions recorded by the Company for the three and six months ended April 30, 2012 reflect the use of available net operating loss (“NOL”) carryforwards to offset taxable income. NOL carryforwards available for income tax purposes at April 30, 2013 amounted to approximately $71,000 for federal income taxes, $13,000 for certain state income taxes and $5,000 for United Kingdom income taxes.
Due to the Company’s history of losses
and uncertainty of future taxable income, a valuation allowance sufficient to fully offset
NOLsnet operating losses and other deferred tax assets has been
established under current accounting pronouncements and thisestablished. The valuation allowance will be maintained until sufficient positive evidence exists to support
its reversal.a conclusion that a valuation allowance is not necessary. The Company’s effective tax rate for the three months ended January 31, 2014 and 2013 differed from the expected U.S. federal statutory rate primarily due to the change in the valuation allowance.
13. (LOSS) INCOME
14. LOSS PER SHAREThe table below provides a reconciliation of basic and diluted average shares outstanding used in computing (loss) income per share, after applying the treasury stock method.
| | Three months ended April 30, | | | Six months ended April 30, | |
| | 2013 | | | 2012 | | | 2013 | | | 2012 | |
Basic weighted average shares outstanding | | | 40,543,635 | | | | 39,819,106 | | | | 40,512,763 | | | | 39,777,497 | |
Common stock options | | | - | | | | 419,953 | | | | - | | | | 444,709 | |
Non-vested portion of restricted stock grants | | | - | | | | 897,132 | | | | - | | | | 911,709 | |
Warrants | | | - | | | | 251,564 | | | | - | | | | 311,831 | |
Diluted weighted average shares outstanding | | | 40,543,635 | | | | 41,387,755 | | | | 40,512,763 | | | | 41,445,746 | |
Options, warrants and restricted shares to acquire 3,441,9115,019,736 and 3,955,5244,442,436 shares of common stock were not included in the calculation of diluted (loss) incomeloss per common share for the three and six months ended April 30,January 31, 2014 and 2013, respectively, as the effect of their inclusion would be anti-dilutive due to the Company’s net loss in the periods. Options, warrants and restricted shares to acquire 696,734 and 666,734 shares of common stock were not included in the calculation of diluted earnings per common share for the three and six months ended April 30, 2012, respectively, as the effect of their inclusion would be anti-dilutive.14.
15. COMMITMENTS AND CONTINGENCIES Infringement claimsOn July 1, 2011, a complaint for patent infringement was filed in the United States District Court for the District of Delaware by Impulse Technology Ltd. against Microsoft Corporation and certain other game publisher defendants that have released games for Microsoft’s Kinect for Xbox 360, including the Company. The complaint alleged infringement relating to Microsoft’s Xbox Kinect hardware, and correspondingly, the Company’s Zumba Fitness, Zumba Fitness Rush, Hulk Hogan’s Main Event and Jillian Michaels Fitness Adventure games for Xbox 360, of Impulse’s patents for certain motion tracking technology.The Company entered into a settlement agreement resolving the dispute with Impulse on April 23, 2013 and the Company was dismissed from the case with prejudice against Impulse on May 16, 2013. The settlement did not have a material effect on the Company’s consolidated financial position, cash flows or results of operations.
On September 20, 2012, a complaint for patent infringement was filed in the United States District Court for the Eastern District of Virginia by Intelligent Verification Systems, LLC against Microsoft Corporation and the Company. The complaint alleges that Kinect and certain of the Company’s Kinect games, including Zumba Fitness Rush, infringe the plaintiff’s patents relating to biometric facial recognition and facial expression recognition technology. Intelligent Verification Systems is seeking injunctive relief and monetary damages in an unspecified amount for the alleged infringement. The Company, intends, in conjunction with Microsoft, to defendis defending itself against the claim.claim and has certain third party indemnity rights from developers for costs incurred in the litigation. The Company cannot currently estimate a potential range of loss if the claim against the Company is successful. In addition to the itemsitem above, the Company at times may be a party to claims and suits in the ordinary course of business. The Company recordsWe record a liability when it is both probable that a liability has been incurred and the amount of the loss or range of loss can be reasonably estimated. The Company has not recorded a liability with respect to the Intelligent Verification Systems, LLC matter above. While the Company believes that it has valid defenses with respect to the legal matter pending and intends to vigorously defend the matter above, given the uncertainty surrounding litigation and our inability to assess the likelihood of a favorable or unfavorable outcome, it is possible that the resolution of the matter could have a material adverse effect on itsour consolidated financial position, cash flows or results of operations. The Company routinely issues purchase orders and enters into short-term commitments in the ordinary course of business. As of April 30, 2013,January 31, 2014, commitments under development agreements amounted to $7,859.15.$1,505.
16. WORKFORCE REDUCTIONOn
Workforce Reduction
In January
8, 2013,
wethe Company implemented a realignment of
ourits workforce to reduce certain fixed costs and provide for a more flexible
variable cost
based model
using outside subcontractors in the
productiondevelopment and distribution of
ourits games. The realignment included a reduction in workforce of approximately 40 employees, including
14 employees related to the closure of
ourits studio in Massachusetts, which focused on social games for Facebook,
14 game-testing personnel in
ourits New Jersey facility, and other marketing and support personnel.
A portion of the affected game-testing workforce was converted to seasonal employees. Employees directly affected by the restructuring plan received notification during the three months ended January 31, 2013. The Company recorded the following charges in the three
and six months ended
April 30,January 31, 2013:
| | Three months ended April 30, | | | Six months ended April 30, | |
Severance costs | | $ | - | | | $ | 766 | |
Lease termination costs | | | - | | | | 10 | |
Total workforce reduction costs | | $ | - | | | $ | 776 | |
Severance costs | | $ | 766 | |
Lease termination costs | | | 10 | |
Total workforce reduction costs | | $ | 776 | |
Changes in the Company’s accrued liabilities for workforce reduction costs in the three
and six months ended
April 30,January 31, 2013 were as follows:
| | Three months ended April 30, | | | Six months ended April 30, | |
Beginning balance | | $ | 634 | | | $ | - | |
Workforce reduction costs accrued | | | - | | | | 776 | |
Workforce reduction costs paid | | | (333 | ) | | | (475 | ) |
Ending balance | | $ | 301 | | | $ | 301 | |
16.
Beginning balance | | $ | - | |
Workforce reduction costs accrued | | | 776 | |
Workforce reduction costs paid | | | (142) | |
Ending balance | | $ | 634 | |
The Company currently has an agreement with Morris Sutton, the Company’s former Chief Executive Officer and father of the Company’s Chief Executive Officer,Chairman Emeritus, under which he provides services as a consultant. The agreement provides for a monthly retainer of $13. Under this arrangement, fees totaled $38 and $75 in$13. For the three and six months ended April 30,January 31, 2014 and 2013, respectively,consulting fees incurred under the agreement amounted to $38 and $38 and $75 in the three and six months ended April 30, 2012,$38, respectively.The The Company purchases a portion of its Zumba belt accessories from a second supplier, on terms equivalentequal to those of its primaryanother supplier. The Company estimates that Morris Sutton and another relative of Jesse Sutton, the Company’s Chief Executive Officer, earned compensation from thesuch supplier of approximately $49$16 and $59$10 in the three and six months ended April 30,January 31, 2014 and 2013, respectively, and $0 and $446 in the three and six months ended April 30, 2012, respectively, based on the value of the Company’s purchases.
The Company also has an agreement with a Board member of its board of directors to provideunder which he provides specified strategic consulting services, in additionservices. The agreement provides for a monthly retainer of $10. For the three months ended January 31, 2014 and 2013, consulting fees incurred under the agreement amounted to his services$30 and $30, respectively.
18. INVESTMENT IN GMS ENTERTAINMENT LIMITED
In the fiscal year ended October 31, 2013, the Company formed GMS Entertainment Limited (“GMS”), an Isle of Man company, with a third party to pursue online casino gaming. The Company accounts for GMS on the equity method as a board member, on a month-to-month basis at a monthly ratecorporate joint venture.
In the three months ended January 31, 2014, the Company’s share of $10. Under this arrangement, fees totaled $30 and $60GMS’s net loss was $247, which is included in loss from equity method investment in the threestatement of operations. GMS’s fiscal year end is September 30, which differs from the Company’s fiscal year end by one month. The Company’s policy is to record its share of GMS’s periodic results on the basis of a one-month delay. In addition, the Company recognized $63 of foreign currency translation gain, which is included in foreign currency translation adjustments in other comprehensive loss. The functional currency of GMS is the pound sterling.
As of December 31, 2013, the assets of GMS consisted of approximately $1,000 of cash and six months ended April 30, 2013, respectively,working capital and $30$2,600 of intangible assets and $60 in the three and six months ended April 30, 2012, respectively.goodwill.
Item 2. Management’s Discussion and Analysis of Financial Condition andResults of Operations. Statements in this quarterly report on Form 10-Q that are not historical facts constitute forward-looking statements that are made pursuant to the safe harbor provisions of Section 21E of the Securities Exchange Act of 1934, or the Exchange Act. These statements relate to future events or our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements. Those factors include, among other things, those listed under “Risk Factors” and elsewhere in our annual report on Form 10-K for the fiscal year ended October 31, 20122013 and other filings with the Securities and Exchange Commission (“SEC”). In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other comparable terminology. These statements are only predictions. Actual events or results may differ materially. Moreover, neither we nor any other person assume responsibility for the accuracy or completeness of these statements. We are under no duty to update any of the forward-looking statements after the date of this report to conform these statements to actual results. References herein to “we,” “us,” “our,” and the “Company” are to Majesco Entertainment Company.
We are a provider of video game products primarily for the casual-game consumer. We sell our products primarily to large retail chains, specialty retail stores, and distributors. We publish video games for major current generation interactive entertainment hardware platforms, including Nintendo’s DS, DSi, 3DS, Wii and Wii,WiiU, Sony’s PlayStation 3, or PS3, Microsoft’s Xbox 360 and Xbox One and the personal computer, or PC. We also publish games for digital platforms such as Xbox Live Arcade and PlayStation Network, or PSN, mobile platforms such as the iOS and Android phones, and online sites such as Facebook and Steam. Our video game titles are targeted at various demographics at a range of price points. Due to the larger budget requirements for developing and marketing premium console titles for core gamers, we focus on publishing more casual games targeting casual-game consumers. In some instances, our titles are based on licenses of
well knownwell-known properties and, in other cases based on original properties. We enter into agreements with content providers and video game development studios for the creation of our video games.
Our operations involve similar products and customers worldwide. These products are developed and sold domestically and internationally. The Company is centrally managed and our chief operating decision makers, the chief executive and other officers, use consolidated and other financial information supplemented by sales information by product category, major product title and platform for making operational decisions and assessing financial performance. Accordingly, we operate in a single segment.
Net Revenues. Our revenues are principally derived from sales of our video games. We provide video games primarily for the mass market and casual game player. Our revenues are recognized net of estimated provisions for price protection and other allowances. Cost of Sales. Cost of sales consists of product costs and amortization and impairment of software development costs and license fees. A significant component of our cost of sales is product costs. Product costs are comprised primarily of manufacturing and packaging costs of the disc or cartridge media, royalties to the platform manufacturer and manufacturing and packaging costs of peripherals. In cases where we act as a distributor for other publishers’ products, cost of sales may increase as we acquire products at a higher fixed wholesale price. While the product costs as a percentage of revenue is higher on these products, we do not incur upfront development and licensing fees or resulting amortization of capitalized software development costs. Commencing upon the related product’s release, capitalized software development and intellectual property license costs are amortized to cost of sales. When, in management’s estimate, future cash flows will not be sufficient to recover previously capitalized costs, we expense these capitalized costs to cost of sales — loss on impairment of capitalized software development costs and license fees – future releases. These expenses may be incurred prior to a game’s release. Gross Profit. Gross profit is the excess of net revenues over product costs and amortization and impairment of capitalized software development and license fees. Development and license fees incurred to produce video games are generally incurred up front and amortized to cost of sales. The recovery of these costs and total gross profit is dependent upon achieving a certain sales volume, which varies by title. Product Research and Development Expenses. Product research and development expenses relate principally to our cost of supervision of third party video game developers, testing new products, development of social games and conducting quality assurance evaluations during the development cycle that are not allocated to games for which technological feasibility has been established. Costs incurred are primarily employee-related, may include equipment, and are not allocated to cost of sales. Selling and Marketing Expenses. Selling and marketing expenses consist of marketing and promotion expenses, including television advertising, the cost of shipping products to customers and related employee costs. Credits to retailers for trade advertising are a component of these expenses.
General and Administrative Expenses. General and administrative expenses primarily represent employee related costs, including corporate executive and support staff, general office expenses, professional fees and various other overhead charges. Professional fees, including legal and accounting expenses, typically represent the second largest component of our general and administrative expenses. These fees are partially attributable to our required activities as a publicly traded company, such as SEC filings.
Loss on Impairment of Capitalized Software Development Costs and License Fees- CancelledGames. Loss on impairment of capitalized software development costs and license fees — cancelled games consists of contract termination costs, and the write-off of previously capitalized costs, for games that were cancelled prior to their release to market. We periodically review our games in development and compare the remaining cost to complete each game to projected future net cash flows expected to be generated from sales. In cases where we do not expect the projected future net cash flows generated from sales to be sufficient to cover the remaining incremental cash obligation to complete the game, we cancel the game, and record a charge to operating expenses. While we incur a current period charge on these cancellations, we believe we are limiting the overall loss on a game project that is no longer expected to perform as originally expected due to changing market conditions or other factors. Significant management estimates are required in making these assessments, including estimates regarding retailer and customer interest, pricing, competitive game performance, and changing market conditions.
Interest and Financing Costs. Interest and financing costs are directly attributable to our factoring and our purchase-order financing arrangements. Such costs include commitment fees and fees based upon the value of customer invoices factored.
Income Taxes. Income taxes consists of our provision/(benefit)provision for income taxes. Utilizationtaxes, as affected by our net operating loss carryforwards. Future utilization of our net operating loss, (“NOL”)or NOL, carryforwards may be subject to a substantial annual limitation due to the “change in ownership” provisions of the Internal Revenue Code. The annual limitation may result in the expiration of NOL carryforwards before utilization. Due to our history of losses, a valuation allowance sufficient to fully offset our NOL and other deferred tax assets has been established under current accounting pronouncements, and this valuation allowance will be maintained until sufficient positive evidence exists to support its reversal. In fiscal 2012 and 2013, we recorded certain alternative minimum taxes and state taxes and, in fiscal 2012, reversed our valuation allowance to the extent of our NOL used.
Seasonality and Variations in Interim Quarterly Results Our quarterly net revenues, gross profit, and operating
(loss) incomeloss are impacted significantly by the seasonality of the retail selling season, and the timing of the release of new titles. Sales of our catalog and other products are generally higher in the first and fourth quarters of our fiscal year (ending January 31 and October 31, respectively) due to increased retail sales during the holiday season. Sales and gross profit as a percentage of sales also generally increase in quarters in which we release significant new titles because of increased sales volume as retailers make purchases to stock their shelves and meet initial demand for the new release. These quarters also benefit from the higher selling prices that we are able to achieve early in the product’s life cycle. Therefore, sales results in any one quarter are not necessarily indicative of expected results for subsequent quarters during the fiscal year.
Critical Accounting Estimates Our discussion and analysis of the financial condition and results of operations is based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP.
The preparation of these condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, and expenses, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions 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. Actual results could differ materially from these estimates under different assumptions or conditions.
We have identified the policies below as critical to our business operations and to the understanding of our financial results. The impact and any associated risks related to these policies on our business operations is discussed throughout management’s discussion and analysis of financial condition and results of operations when such policies affect our reported and expected financial results.
Revenue Recognition. We recognize revenue upon the shipment of our product when: (1) risks and rewards of ownership are transferred; (2) persuasive evidence of an arrangement exists; (3) we have no continuing obligations to the customer; and (4) the collection of related accounts receivable is probable. Certain products are sold to customers with a street date (the earliest date these products may be resold by retailers). Revenue for sales of these products is not recognized prior to their street date. Some of our software products provide limited online features at no additional cost to the consumer. Generally, we have considered such features to be incidental to our overall product offerings and an inconsequential deliverable. Accordingly, we do not defer any revenue related to products containing these limited online features. However, in instances where online features or additional functionality is considered a substantive deliverable in addition to the software product, such characteristics will be taken into account when applying our revenue recognition policy. To date, the Company has not earned significant revenues from such features. In addition, some of our software products are sold exclusively as downloads of digital content for which the consumer takes possession of the digital content for a fee. Revenue from product downloads is generally recognized when the download is made available (assuming all other recognition criteria are met). When we enter into license or distribution agreements that provide for multiple copies of games in exchange for guaranteed amounts, revenue is recognized in accordance with the terms of the agreements, generally upon delivery of a master copy, assuming our performance obligations are complete and all other recognition criteria are met, or as per-copy royalties are earned on sales of games.We
When we operate hosted online games in which players can play for free and purchase virtual goods for use in the games. Wegames, we recognize revenues from the sale of virtual goods as service revenues over the estimated period in which players use the game. We currentlygenerally estimate these periods of use to be less than a year. We will periodically assess our estimates for this period of use and future increases or decreases in these estimates will affect our recognized revenues prospectively. We also recognize advertising revenue related to advertising placed on our game sites as ads are displayed.
Price Protection and Other Allowances. We generally sell our products on a no-return basis, although in certain instances, we provide price protection or other allowances on certain unsold products in accordance with industry practices. Price protection, when granted and applicable, allows customers a partial credit with respect to merchandise unsold by them. Revenue is recognized net of estimates of these allowances. Sales incentives and other consideration that represent costs incurred by us for benefits received, such as the appearance of our products in a customer’s national circular advertisement, are generally reflected as selling and marketing expenses. We estimate potential future product price protection and other discounts related to current period product revenue. In addition, some of our software products are sold exclusively as downloads of digital content for which the consumer takes possession of the digital content for a fee. Revenue from product downloads is generally recognized when the download is made available (assuming all other recognition criteria are met). Our provisions for price protection and other allowances fluctuate over periods as a result of a number of factors including analysis of historical experience, current sell-through of retailer inventory of our products, current trends in the interactive entertainment market, the overall economy, changes in customer demand and acceptance of our products and other related factors. Significant management judgments and estimates must be made and used in connection with establishing the allowance for returns and price protection in any accounting period. However, actual allowances granted could materially exceed our estimates as unsold products in the distribution channels are exposed to rapid changes in consumer preferences, market conditions, technological obsolescence due to new platforms, product updates or competing products. For example, the risk of requests for allowances may increase as consoles pass the midpoint of their lifecycle and an increasing number of competitive products heighten pricing and competitive pressures. While management believes it can make reliable estimates regarding these matters, these estimates are inherently subjective. Accordingly, if our estimates change, this will result in a change in our provisions, which would impact the net revenues and/or selling and marketing expenses we report. Fluctuations in the provisions reflected our estimates of future price protection based on the factors discussed above. We limit our exposure to credit risk by factoring a portion of our receivables to a third party that buys without recourse. For receivables that are not sold without recourse, we analyze our aged accounts receivables, payment history and other factors to make a determination if collection of receivables is likely, or a provision for uncollectible accounts is necessary.
Capitalized Software Development Costs and License Fees. Software development costs include development fees, primarily in the form of milestone payments made to independent software developers. Software development costs are capitalized once technological feasibility of a product is established and management expects such costs to be recoverable against future revenues. For products where proven game engine technology exists, this may occur early in the development cycle. Technological feasibility is evaluated on a product-by-product basis. Amounts related to software development that are not capitalized are charged immediately to product research and development costs. Commencing upon a related product’s release capitalized software development costs are amortized to cost of sales based upon the higher of (i) the ratio of current revenue to total projected revenue or (ii) straight-line charges over the expected marketable life of the product. Prepaid license fees represent license fees to holders for the use of their intellectual property rights in the development of our products. Minimum guaranteed royalty payments for intellectual property licenses are initially recorded as an asset (capitalized license fees) and a current liability (accrued royalties payable) at the contractual amount upon execution of the contract or when specified milestones or events occur and when no significant performance commitment remains with the licensor. Licenses are expensed to cost of sales at the higher of (i) the contractual royalty rate based on actual sales or (ii) an effective rate based upon total projected revenue related to such license.
Capitalized software development costs are classified as non-current if they relate to titles for which we estimate the release date to be more than one year from the balance sheet date.
The amortization period for capitalized software development costs and license fees is usually no longer than one year from the initial release of the product. If actual revenues or revised forecasted revenues fall below the initial forecasted revenue for a particular license, the charge to cost of sales may be larger than anticipated in any given quarter. The recoverability of capitalized software development costs and license fees is evaluated quarterly based on the expected performance of the specific products to which the costs relate.
When, in management’s estimate, future cash flows will not be sufficient to recover previously capitalized costs, we expense these capitalized costs to cost of sales — loss on impairment of capitalized software development costs and license fees – future releases, in the period such a determination is made. These expenses may be incurred prior to a game’s release. If a game is cancelled and never released to market, the amount is expensed to operating costs and expenses – loss on impairment of capitalized software development costs and license fees – cancelled games.
As of April 30, 2013, the net carrying value of our licenses and capitalized software development costs was $6.2 million, including $0.5 million classified as noncurrent and included in other assets in the accompanying condensed consolidated financial statements. If we were required to write off licenses or capitalized software development costs, due to changes in market conditions or product acceptance, our results of operations could be materially adversely affected.
As of January 31, 2014, the net carrying value of our licenses and capitalized software development costs was $2.1 million.
License fees and milestone payments made to our third party developers are typically considered non-refundable advances against the total compensation they can earn based upon the sales performance of the products. Any additional royalty or other compensation earned beyond the milestone payments is expensed to cost of sales as incurred.
We have expensedexpense as research and development all costs associated with the development of mobile and social games.games when we cannot reliably project that future net cash flows from developed games will exceed related development costs. These games have not earned significant revenues to date and we are continuing to evaluate alternatives for future development and monetization.
Inventory. Inventory is stated at the lower of cost or market. Cost is determined by the first-in, first-out method. We estimate the net realizable value of slow-moving inventory on a title-by-title basis and charge the excess of cost over net realizable value to cost of sales. Some of our inventory items are packaged with accessories, such as basketballs for ourNBA Baller Beats game, belts for ourZumba games and dolls for ourBabysitting Mama game.accessories. The purchase of these accessories involves longer lead times and minimum purchase amounts, which may require us to maintain higher levels of inventory than for other games. Therefore, these items have a higher risk of obsolescence, which we review periodically based on inventory and sales levels.
Accounting for Stock-Based Compensation. Stock-based compensation expense is measured at the grant date based on the fair value of the award and is recognized as expense over the vesting period. Determining the fair value of stock-based awards at the grant date requires judgment, including, in the case of stock option awards, estimating expected stock volatility. In addition, judgment is also required in estimating the amount of stock-based awards that are expected to be forfeited. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted.
Commitments and Contingencies.We record a liability for commitments and contingencies when the amount is both probable and reasonably estimable. We record associated legal fees as incurred.
Three months ended April 30, 2013January 31, 2014 versus three months ended April 30, 2012January 31, 2013
Net Revenues.Net revenues for the three months ended April 30, 2013January 31, 2014 decreased approximately 68%7% to $9.7$21.9 million from $30.4$23.5 million in the comparable quarter last year. The decrease wasis primarily due to the timing of new releases and declineslower licensing fees for our Zumba Fitness titles in Europe. Additionally, we have experienced a decline in sales of our Zumba products fordomestically when compared to the Nintendo Wii.same quarter last year. However, the impact of this decline on our quarterly results is mitigated somewhat by the timing of shipments and street dates of our new holiday releases around our fiscal year end of October 31. We released Zumba Fitness Rush forWorld Party and Zumba Kids during our first quarter of fiscal 2014. Comparatively, we released Zumba Core during the Microsoft XBOX in North America and Europe in February 2012; therefore, allfourth quarter of fiscal 2012. Therefore, launch sales of Zumba Core of approximately $11 million, which include initial retailer stock-up, were included in our second fiscalthe fourth quarter of 2012. Comparably, there were no newfiscal 2012, while launch revenue for Zumba releasesWorld Party and Zumba Kids was included in the current-year period. Additionally, retail salesfirst quarter of our catalog Zumba games for the Wii were lower than in the prior year, as sales of games for the Wii platform have decreased industry-wide.2014, affecting comparability. Net revenues in the European market decreased to approximately $1.5$3.0 million from $6.5$6.1 million during the same period a year ago, which also reflected the timing of our Zumba releases.ago. Overall Zumba sales accounted for 65%72% of our net revenues during the three months ended April 30, 2013,January 31, 2014, compared to 86%67% in the prior-year period. The following table sets forth our net revenues by platform:
| | Three months ended April 30, | | | Six months ended April 30, | |
| | 2013 | | | % | | | 2012 | | | % | | | 2013 | | | % | | | 2012 | | | % | |
| | (thousands) | | | | | | (thousands) | | | | | | (thousands) | | | | | | (thousands) | | | | |
Nintendo Wii | | $ | 4,469 | | | | 46 | % | | $ | 12,161 | | | | 40 | % | | $ | 17,053 | | | | 51 | % | | $ | 59,608 | | | | 62 | % |
Microsoft Xbox 360 | | | 2,538 | | | | 26 | % | | | 14,741 | | | | 49 | % | | | 8,132 | | | | 25 | % | | | 24,338 | | | | 25 | % |
Nintendo DS/3DS | | | 2,008 | | | | 21 | % | | | 2,617 | | | | 8 | % | | | 6,748 | | | | 20 | % | | | 10,651 | | | | 11 | % |
Sony Playstation 3 | | | 304 | | | | 3 | % | | | 258 | | | | 1 | % | | | 476 | | | | 1 | % | | | 690 | | | | 1 | % |
Accessories and other | | | 401 | | | | 4 | % | | | 623 | | | | 2 | % | | | 783 | | | | 3 | % | | | 1,293 | | | | 1 | % |
TOTAL | | $ | 9,720 | | | | 100 | % | | $ | 30,400 | | | | 100 | % | | $ | 33,192 | | | | 100 | % | | $ | 96,580 | | | | 100 | % |
| | Three months ended January31, | |
| | 2014 | | % | | | 2013 | | % | |
| | (thousands) | | | | | (thousands) | | | |
Nintendo Wii/WiiU | | $ | 9,355 | | 43 | % | | $ | 12,584 | | 54 | % |
Microsoft Xbox 360/Xbox One | | | 8,346 | | 38 | % | | | 5,594 | | 24 | % |
Nintendo DS/3DS | | | 2,584 | | 12 | % | | | 4,740 | | 20 | % |
Sony Playstation 3 | | | 892 | | 4 | % | | | 172 | | 1 | % |
Accessories and other | | | 757 | | 3 | % | | | 382 | | 1 | % |
TOTAL | | $ | 21,934 | | 100 | % | | $ | 23,472 | | 100 | % |
Gross Profit.Gross profit for the three months ended April 30, 2013January 31, 2014 was $3.0$3.4 million compared to a gross profit of $12.2$7.2 million in the same period last year. The decrease in gross profit was primarily attributable to decreased net revenues fora lower gross profit as a percentage of sales when compared to the three months ended April 30, 2013, as discussed above.same period last year. Gross profit as a percentage of net sales was 31%15% for the three months ended April 30, 2013,January 31, 2014, compared to 40%30% for the three months ended April 30, 2012.January 31, 2013. The decrease in gross profit as a percentage of sales primarily reflects lower average selling priceshigher development and licensing costs of our current-period Zumba releases when compared to prior releases. We incur fixed development and licensing fees to develop a game sequel. These costs are amortized over expected sales of the three months ended April 30, 2012, which includedrelated product. Therefore, when the releaseexpected sales volume decreases for a particular title, amortized development and licensing costs increase as a percentage of revenue. We also developed our latest sequel, Zumba Rush,World Party, for both current gen, and changesnext gen console platforms. This resulted in product mix between the periods.a higher development expense relative to our previous titles.
Product Research and Development Expenses.Research and development expenses were $1.5$1.2 million for the three months ended April 30, 2013,January 31, 2014, compared to $1.7$2.1 million of expenses for the same period in 2012. Lower internal development expenses, including2013. The decrease reflects the effects of ourthe January 2013 headcountworkforce reduction, were partially offset by outsourcedincluding the closing of our social games studio, and decreased spending on other development costs for mobile games in the current-year period.projects.
Selling and Marketing Expenses.Total selling and marketing expenses were approximately $1.5$4.1 million for the three months ended April 30, 2013, comparedJanuary 31, 2014, comparable to $4.7$3.7 million for the three months ended April 30, 2012.January 31, 2013. Each period included holiday-season advertising expenses for Zumba releases. The decreaseincrease was primarily due to decreased media advertisingmarketing activities related to Zumba. Commissions and other costs were also lower due to lesser sales volumes.the Company’s mobile game releases in the current-year period.
General and Administrative Expenses.For the three-month period ended April 30, 2013,January 31, 2014, general and administrative expenses decreasedamounted to $2.2$2.1 million, from $2.7compared to $2.3 million infor the comparable prior-year period. The decrease primarily reflected a general decrease inthree months ended January 31, 2013. Lower costs of cash compensation costs and consulting and professional fees travel and other office expenses as well as lower stockwere partially offset by higher share-based compensation costs and charges for uncollectible accounts.charges.
Loss on Impairment of Capitalized Software Development Costs and License Fees – Cancelled Games.For the three-month period ended April 30, 2013, loss on impairment of capitalized software development costs and license fees – cancelled games, amounted to $0 compared to $0.2 million in the prior-year period. Our games in development are subject to periodic reviews to assess game design and changing market conditions. When we do not expect the projected future net cash flows generated from sales to be sufficient to cover the remaining incremental cash obligation to complete a game, we cancel the game, and record a charge to operating expenses for the carrying amount of the game. In fiscal 2013, we reduced the number of console-game development projects initiated.Operating (Loss) Income.loss.Operating loss for the three months ended April 30, 2013January 31, 2014 was approximately $2.2$4.1 million, compared to an operating incomeloss of $2.8$2.0 million in the comparable period in 2012,2013, primarily as a result of decreased revenues andreflecting lower gross profits discussed above offset by our January 2013 workforce reduction and lower advertising costs of Zumba.on sales in fiscal 2014.
Change in Fair Value of Warrant Liability.WePrior to March 2013, we had outstanding warrants that contained a provision that may require settlement by transferring assets and were therefore, recorded at fair value as liabilities.liabilities and remeasured on a quarterly basis. We recorded a nominal gain of $0.2 million for the three months ended April 30, 2012,January 31, 2013, reflecting a decrease in the fair value of the warrants.
Income Taxes.In the three months ended April 30,January 31, 2014 and 2013, the warrants expired and the change in the fair value of the warrant liability was not significant.Income Taxes.In the three months ended April 30, 2013 and 2012, our income tax expense was not significant, representing primarily minimum state income taxes.
Six months ended April 30, 2013 versus six months ended April 30, 2012Net Revenues.Net revenues for the six months ended April 30, 2013 decreased approximately 66% to $33.2 million from $96.6 million in the comparable period last year. The decrease was primarily due to lower sales of our Zumba Fitness products and lower revenues from new releases on the Microsoft Kinect and Nintendo 3DS. The decline in Zumba sales was due to the timing of our newly released titles, and a lower demand for our Zumba products for the Nintendo Wii. Our results for the six months ended April 30, 2012 include revenues from the launch of new Zumba titles for both the Nintendo Wii and Microsoft Kinect for the Xbox 360. Comparatively, we had no launch revenues for Zumba in our results for the same period in fiscal 2013 as our Zumba titles were released in the previous quarter. Additionally, sales of Zumba games for the Wii were significantly less than in the prior year overall. Software sales for all video games for the Nintendo Wii have declined significantly, reflecting the end of life of the Wii platform. Net revenues in the European market decreased to approximately $7.6 million from $23.2 million during the same period a year ago, also reflecting Zumba-release timing. Overall Zumba sales accounted for 66% of our net revenues during the period, compared to 80% in the prior year.
Gross Profit.Gross profit for the six months ended April 30, 2013 was $10.2 million compared to a gross profit of $35.2 million in the same quarter last year. The decrease in gross profit was primarily attributable to decreased net revenues for the six months ended April 30, 2013, as discussed above. Gross profit as a percentage of net sales was 31% for the six months ended April 30, 2013, compared to 36% for the six months ended April 30, 2012. The decrease in gross profit as a percentage of sales primarily reflects lower average selling prices and higher development and license fees in the current period and changes in product mix between the periods.
Product Research and Development Expenses.Research and development expenses were $3.5 million for the six months ended April 30, 2013, compared to $4.0 million of expenses for the same period in 2012. Lower internal development expenses, including the effects of our January 2013 headcount reduction, were partially offset by increased third-party development costs of mobile games in the current-year period.
Selling and Marketing Expenses.Total selling and marketing expenses were approximately $5.2 million for the six months ended April 30, 2013, compared to $13.7 million for the six months ended April 30, 2012. The decrease was primarily due to decreased media advertising related to Zumba and other new releases. Commissions and other costs were also lower due to lesser sales volumes and our January 2013 headcount reduction.
General and Administrative Expenses.For the six-month period ended April 30, 2013, general and administrative expenses decreased to $4.5 million from $5.7 million in the comparable prior-year period. The decrease primarily reflected lower compensation costs, including stock compensation and accrued incentive compensation, generally reduced consulting and professional fees and other administrative expenses. The prior year period also included charges for uncollectible accounts receivable.
Workforce Reduction. Workforce reduction costs amounted to $0.8 million in the six months ended April 30, 2013. There were no such costs in the prior-year period. On January 8, 2013, we implemented a realignment of our workforce to reduce certain fixed costs and provide for a more flexible variable cost based model using outside subcontractors in the production of our games. The realignment included a reduction in workforce of approximately 40 employees. Workforce reduction costs consisted primarily of severance costs.
Loss on Impairment of Capitalized Software Development Costs and License Fees – Cancelled Games.For the six-month period ended April 30, 2013, loss on impairment of capitalized software development costs and license fees – cancelled games, amounted to $0.2 million compared to $1.2 million in the prior-year period. Our games in development are subject to periodic reviews to assess game design and changing market conditions. When we do not expect the projected future net cash flows generated from sales to be sufficient to cover the remaining incremental cash obligation to complete a game, we cancel the game, and record a charge to operating expenses for the carrying amount of the game. In fiscal 2013, we reduced the number of console-game development projects initiated.
Operating (Loss) Income.Operating loss for the six months ended April 30, 2013 was approximately $4.2 million, compared to operating income of $10.3 million in the comparable period in 2012, primarily as a result of decreased revenues and gross profits discussed above and our January 2013 workforce reduction offset by lower advertising costs and impairment losses.
Change in Fair Value of Warrant Liability.We had outstanding warrants that contained a provision that may require settlement by transferring assets and were, therefore, recorded at fair value as liabilities. We recorded a gain of $1.0 million for the six months ended April 30, 2012, reflecting a decrease in the fair value of the warrants. In the six months ended April 30, 2013, the warrants expired and the change in the fair value of the warrant liability was not significant.
Income Taxes.In the six months ended April 30, 2013 and 2012, our income tax expense was not significant, representing primarily minimum state income taxes.
Liquidity and Capital Resources As of
April 30, 2013,January 31, 2014, our cash and cash equivalents balance was
$25.5$12.3 million and funds available to us under our factoring and purchase order financing agreements were
$2.1$3.6 million and $10.0 million, respectively. We expect continued fluctuations in the use and availability of cash due to the seasonality of our business, timing of receivables collections and working capital needs necessary to finance our business.
Capitalized software and development costs and license fees amount to $2.1 million as of January 31, 2014, primarily reflecting unamortized costs incurred in the development of games to be sold in future periods. We will incur additional costs to complete games currently in development and purchase initial inventory.
Our current plan is to fund our operations through product sales and existing cash balances from which we expect to have sufficient funds for the next twelve months. However, our operating results may vary significantly from period to period and we have incurred operating losses. Industry-wideWe believe that sales of video game software for casual games operating on dedicated handheld and console platforms have declined industry-wide for the past two years due to the late lifecycle of existing generation gaming platforms and the introduction of competing platforms such as mobile gaming. Based on these factors,The newly introduced next generation console platforms have not yet demonstrated a large base of users in the casual and fitness game segments from which we have derived the majority of our revenues. Therefore, we do not currently plan to develop a new Zumba Fitness console game during 2014. Rather we will promote our existing next gen title, Zumba World Party, as the installed hardware base develops. As our Zumba Fitness titles accounted for a significant portion of our revenues over the past three years, we expect our revenues will decline in 2014. As a result, we expect to experience declining sales and anincur a net operating loss for fiscal 2013in 2014 and have reflected these expectations infactored this into our operating plan.planning. We may be required to modify our plan, or seek outside sources of financing, and/or equity sales, if our operating plan and sales targets are not met. There can be no assurance that such funds will be available on acceptable terms, if at all. In the event that we are unable to negotiate alternative financing, or negotiate terms that are acceptable to us, we may be forced to modify our business plan materially, including making reductions in game development and other expenditures. Additionally, we are dependent on our purchase order financing and account receivable factoring agreement to finance our working capital needs, including the purchase of inventory. If the current level of financing was reduced or we fail to meet our operational objectives, it could create a material adverse change in the business. Factoring and Purchase Order Financing. We factor our receivables. Under our factoring agreement, we have the ability to take cash advances against accounts receivable and inventory of up to $30.0 million, and the availability of up to $2.0 million in letters of credit. The factor, in its sole discretion, can reduce the availability of financing at any time. We had no outstanding advances against accounts receivable under our factoring agreement at April 30, 2013.January 31, 2014. We also utilize financing to provide funding for the manufacture of our products. Under an agreement with a finance company, we have up to $10.0 million of availability for letters of credit and purchase order financing. In connection with these arrangements, the finance company and the factor have a security interest in substantially all of our assets. We had no outstanding advances for purchase order financing at April 30, 2013.January 31, 2014.
Under the terms of our factoring agreement, we sell our accounts receivable to the factor. The factor, in its sole discretion, determines whether or not it will accept the credit risk associated with a receivable. If the factor does not accept the credit risk on a receivable, we may sell the accounts receivable to the factor while retaining the credit risk. In both cases we surrender all rights and control over the receivable to the factor. However, in cases where we retain the credit risk, the amount can be charged back to us in the case of non-payment by the customer. The factor is required to remit payments to us for the accounts receivable purchased from us, provided the customer does not have a valid dispute related to the invoice. The amount remitted to us by the factor equals the invoiced amount, adjusted for allowances and discounts we have provided to the customer, less factor charges of 0.45 to 0.5% of the invoiced amount.
In addition, we may request that the factor provide us with cash advances based on our accounts receivable and inventory. The factor may either accept or reject our request for advances at its discretion. Generally, the factor allowed us to take advances in an amount equal to 70% of net accounts receivable, plus 60% of our inventory balance, up to a maximum of $2.5 million of our inventory balance. Occasionally, the factor allows us to take advances in excess of these amounts for short-term working capital needs. These excess amounts are typically repaid within a 30-day period. At
April 30, 2013,January 31, 2014, we had no excess advances outstanding.
Amounts to be paid to us by the factor for any accounts receivable are offset by any amounts previously advanced by the factor. The interest rate is prime plus 1.5%, annually, subject to a 5.5% floor. In certain circumstances, an additional 1.0% annually is charged for advances against inventory.
Manufacturers require us to present a letter of credit, or pay cash in advance, in order to manufacture the products required under a purchase order. We utilize letters of credit either from a finance company or our factor. The finance company charges 1.5% of the purchase order amount for each transaction for 30 days, plus administrative fees. Our factor provides purchase order financing at a cost of 0.5% of the purchase order amount for each transaction for 30 days. Additional charges are incurred if letters of credit remain outstanding in excess of the original time period and/or the financing company is not paid at the time the products are received. When our liquidity position allows, we will pay cash in advance instead of utilizing purchase order financing. This results in reduced financing and administrative fees associated with purchase order financing.
Advances from Customers.On a case by case basis, distributors and other customers have agreed to provide us with cash advances on their orders. These advances are then applied against future sales to these customers. In exchange for these advances, we offer these customers beneficial pricing or other considerations.
Commitments and Contingencies.
As previously disclosed, on July 1, 2011, a complaint for patent infringement was filed in the United States District Court for the District of Delaware by Impulse Technology Ltd. against Microsoft Corporation and certain other game publisher defendants that have released games for Microsoft’s Kinect for Xbox 360, including the Company. The complaint alleged infringement relating to Microsoft’s Xbox Kinect hardware, and correspondingly, the Company’s Zumba Fitness, Zumba Fitness Rush, Hulk Hogan’s Main Event and Jillian Michaels Fitness Adventure games for Xbox 360, of Impulse’s patents for certain motion tracking technology.The Company entered into a settlement agreement resolving the dispute with Impulse on April 23, 2013 and the Company was dismissed from the case with prejudice against Impulse on May 16, 2013. The settlement did not have a material effect on the Company’s consolidated financial position, cash flows or results of operations.
On September 20, 2012, a complaint for patent infringement was filed in the United States District Court for the Eastern District of Virginia by Intelligent Verification Systems, LLC against Microsoft Corporation and the Company. The complaint alleges that Kinect and certain Kinect games, including Zumba Fitness Rush, infringe the plaintiff’s patents relating to biometric facial recognition and facial expression recognition technology. Intelligent Verification Systems is seeking injunctive relief and monetary damages in an unspecified amount for the alleged infringement. The Company intends, in conjunction with Microsoft, to defend itself against the claim. The Company cannot currently estimate a potential range of loss if the claim against the Company is successful. In addition to the items above, we at times may be a party to claims and suits in the ordinary course of business. We record a liability when it is both probable that a liability has been incurred and the amount of the loss or range of loss can be reasonably estimated. We have not recorded a liability with respect to the Intelligent Verification Systems, LLC matter above. While we believe that we have valid defenses with respect to the legal matter pending and intends to vigorously defend the matter, given the uncertainty surrounding litigation and our inability to assess the likelihood of a favorable or unfavorable outcome, it is possible that the resolution of the matter could have a material adverse effect on our consolidated financial position, cash flows or results of operations. Commitments under development agreements amounted to
$7.9$1.5 million at
April 30, 2013.January 31, 2014. In addition, certain agreements provide for minimum commitments for marketing support.
Off-Balance Sheet Arrangements As of
April 30, 2013,January 31, 2014, we had no off-balance sheet arrangements.
Our management currently believes that inflation has not had, and does not currently have, a material impact on continuing operations.
Cash and cash equivalents were $25.5$12.3 million as of April 30, 2013January 31, 2014 compared to $18.0$13.4 million at October 31, 20122013 and $31.7$26.8 million at April 30, 2012.January 31, 2013. Working capital as of April 30, 2013January 31, 2014 was $24.1$11.6 million compared to $27.7$15.7 million at October 31, 2012.2013. Changes in cash and working capital balances reflected operating results, as well as significant seasonal factors. Total cash and cash equivalents, plus advances available to us under our factoring agreement were $27.6$15.9 million and $31.3$18.2 million at April 30, 2013January 31, 2014 and October 31, 2012,2013, respectively.
Operating Cash Flows.Our principal operating source of cash is sales of our interactive entertainment products. Our principal operating uses of cash are for payments associated with third-party developers of our software, costs incurred to manufacture, sell and market our video games and general and administrative expenses. For the sixthree months ended April 30, 2013,January 31, 2014, we generated approximately $7.7$1.0 million in cash flow from operating activities, compared to $19.5$8.8 million in the same period last year. The effects ofIn addition to an increase in our net loss in the current period, comparedcash collections from sales of the preceding quarters decreased, reflecting a decline in sales to net income$10.0 in the prior-year period, were offset byfourth fiscal quarter of 2013 from $26.6 million in the timingfourth quarter of cash receipts from sales, and of disbursements for license and development costs.fiscal 2012.
Investing Cash Flows.Cash used in investing activities in the sixthree months ended April 30, 2013January 31, 2014 amounted to $0.1$0.3 million, compared to $0.2less than $0.1 million in the sixthree months ended April 30, 2012.January 31, 2013, primarily reflecting the purchase of website assets.
Financing Cash Flows.Net cash used in financing activities for the sixthree months ended April 30, 2012January 31, 2014 reflected cash used to reduce outstanding borrowings under our purchase order financing agreement for seasonal inventory. We had no outstanding borrowings at October 31, 2012 and, accordingly, there were no net cash outflows for repayments in the sixthree months ended April 30,January 31, 2013.
Item 3. Quantitative and Qualitative Disclosure about Market RiskMarket Risk
We are exposed to certain market risks in the normal course of business, primarily risks associated with fluctuations in foreign currency exchange rates and interest rates.
Foreign Currency Exchange Rate Risk
We earn certain revenues from transactions denominated in foreign currencies and are exposed to market risk resulting from fluctuations in foreign currency exchange rates, particularly Euros, which may result in gains or losses in our results of operations. Accordingly, our future results could be adversely affected by declines in exchange rates for the Euro. In the three and six months ended April 30, 2013, revenues from Zumba games in Europe decreased significantly. Accordingly, our revenue and gross profits from transactions denominated in Euros and related exposures to foreign currency losses decreased significantly. However, the portion of our total revenue represented by these transactions may fluctuate significantly on a quarterly basis.
We may hedge a portion of our foreign currency risk related to forecasted foreign currency-denominated revenues by entering into foreign exchange forward contracts that reduce, but do not eliminate our risk. During the three and six months ended April 30, 2013 and 2012, we did not enter into any foreign exchange forward contracts related to cash flow hedging activities. We do not maintain significant working capital balances denominated in foreign currencies or enter into derivatives or other financial instruments for trading or speculative purposes.
Interest Rate Risk
To satisfy our liquidity needs, we factor our receivables and periodically utilize financing to provide funding for the manufacture of our products. We had no outstanding advances for purchase order financing at April 30, 2013.
Under the terms of our factoring agreement, we sell our accounts receivable to the factor. The amount remitted to us by the factor equals the invoiced amount, adjusted for allowances and discounts we have provided to the customer, less factor charges of 0.45% to 0.5% of the invoiced amount and the interest rate on advances is generally prime plus 1.5%, annually, subject to a 5.5% floor.
When we utilize letters of credit from our finance company, the finance company charges 1.5% of the purchase order amount for each transaction for 30 days, plus administrative fees. Additional charges are incurred if letters of credit remain outstanding in excess of the original time period and/or the financing company is not paid at the time the products are received.
At April 30, 2013, we had cash and cash equivalents of $25.5 million in the form of bank deposits and money market funds. Our cash balances fluctuate significantly during the year. However, interest income on cash balances is not expected to be significant to our results of operations.
There have been no significant changes in our exposure to interest rate risk in the current period.
Not applicable.
Item 4. Controls and Procedures Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures, as defined in the Securities Exchange Act of 1934 Rule 13a-15(e) and 15d-15(e), as of the end of the period covered by this report.
In designing and evaluating our disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.
While we believe our disclosure controls and procedures and our internal control over financial reporting are adequate, no system of controls can prevent errors and fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur. Controls can also be circumvented by individual acts of some people, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with its policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
Subject to the limitations above, management believes that the condensed consolidated financial statements and other financial information contained in this report, fairly present in all material respects our financial condition, results of operations, and cash flows for the periods presented.
Based on the evaluation of the effectiveness of our disclosure controls and procedures, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) were effective at a reasonable assurance level.
There were no changes in our internal control over financial reporting that occurred during our most recent fiscal quarter that materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal ProceedingsAs previously disclosed, on July 1, 2011, a complaint for patent infringement was filed in the United States District Court for the District of Delaware by Impulse Technology Ltd. against Microsoft Corporation and certain other game publisher defendants that have released games for Microsoft’s Kinect for Xbox 360, including the Company. The complaint alleged infringement relating to Microsoft’s Xbox Kinect hardware, and correspondingly, the Company’s Zumba Fitness, Zumba Fitness Rush, Hulk Hogan’s Main Event and Jillian Michaels Fitness Adventure games for Xbox 360, of Impulse’s patents for certain motion tracking technology. The Company entered into a settlement agreement resolving the dispute with Impulse on April 23, 2013 and the Company was dismissed from the case with prejudice against Impulse on May 16, 2013.
None.
We may not be able to maintain our listing on the Nasdaq Capital Market.
Our common stock currently trades on the Nasdaq Capital Market, referred to herein as Nasdaq. This market has continued listing requirements that we must continue to maintain to avoid delisting. The standards include, among others, a minimum bid price requirement of $1.00 per share and any of: (i) a minimum stockholders’ equity of $2.5 million; (ii) a market value of listed securities of $35 million; or (iii) net income from continuing operations of $500,000 in the most recently completed fiscal year or in the two of the last three fiscal years. Our results of operations and our fluctuating stock price directly impact our ability to satisfy these listing standards. In the event we are unable to maintain these listing standards, we may be subject to delisting.
On March 1, 2013, we received a letter from Nasdaq notifying us that for the 30 consecutive trading days preceding the date of the letter, the bid price of our common stock had closed below the $1.00 per share minimum required for continued inclusion on the Nasdaq Capital Market pursuant to Nasdaq Marketplace Rule 5550(a)(2).
The letter also stated that, in accordance with Nasdaq Marketplace Rule 5810(c)(3)(A), we will be provided 180 calendar days, or until August 28, 2013, to regain compliance with the minimum bid price requirement. On August 29, 2013, we were notified by Nasdaq that the Company had been provided an additional 180 calendar day grace period, or until February 24, 2014. Compliance is achieved if the bid price per share of our common stock closes at $1.00 per share or greater for a minimum of ten consecutive trading days prior to February 24, 2014.
As we did not achieve compliance within the required period, the Nasdaq staff issued written notification that the Company’s securities are subject to delisting. Upon receipt of such notification, we appealed the Nasdaq staff delisting determination to a Nasdaq Listing Qualifications Panel in order to present to the panel our intended plan of compliance, which includes a reverse stock split in order to increase our bid price above the minimum amount in order to attempt to regain compliance. If the panel does not accept our plan for compliance, or we fail to regain compliance, we could be delisted.
A delisting from Nasdaq would result in our common stock being eligible for listing on the Over-The-Counter Bulletin Board (the “OTCBB”). The OTCBB is generally considered to be a less efficient system than markets such as Nasdaq or other national exchanges because of lower trading volumes, transaction delays and reduced security analyst and news media coverage. These factors could contribute to lower prices and larger spreads in the bid and ask prices for our common stock. Additionally, trading of our common stock on the OTCBB may make us less desirable to institutional investors and may, therefore, limit our future equity funding options and could negatively affect the liquidity of our stock.
A description of theother risks associated with our business, financial condition, and results of operations is set forth in Part I, Item 1A, of our Annual Report on Form 10-K for the fiscal year ended October 31, 2012.2013. These factors continue to be meaningful for your evaluation of the Company and we urge you to review and consider the risk factors presented in the Form 10-K. There have been no material changes to these risks other than as may have been disclosed in our quarterly reports filed subsequent to our Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds None.
Item 3. Defaults Upon Senior Securities None.
Item 4. Mine Safety Disclosures
Not applicable.
Item 5. Other Information None.
10.1*31.1* | Majesco Entertainment Company Short-Term Incentive Plan (incorporated by reference to Exhibit 10.1 to our Current Report on Form 8-K filed on April 25, 2013). |
31.1* | Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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31.2* | | Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
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32* | | Certification of Principal Executive Officer and Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
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101.INS# | | XBRL Instance Document. |
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101.SCH# | | XBRL Schema Document. |
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101.CAL# | | XBRL Calculation Linkbase Document. |
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101.DEF# | | XBRL Definition Linkbase Document. |
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101.LAB# | | XBRL Label Linkbase Document. |
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101.PRE# | | XBRL Presentation Linkbase Document. |
* Constitutes a management contract, compensatory plan or arrangement.
*
# In accordance with Rule 406T of Regulation S-T, the XBRL related information in Exhibit 101 to this quarterly report on Form 10-Q shall not be deemed to be “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that section, and shall not be part of any registration statement or other document filed under the Securities Act of 1933 or the Securities Exchange Act of 1934, except as shall be expressly set forth by specific reference in such filing.
Pursuant to the requirements 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.
MAJESCO ENTERTAINMENT COMPANY
MAJESCO ENTERTAINMENT COMPANY | |
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/s/ Jesse Sutton | |
Jesse Sutton | |
Chief Executive Officer | |
Date: June 10, 2013March 12, 2014 | |