UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 20-F
| REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934 |
OR
| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 20152018
OR
| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
OR
| SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Date of event requiring this shell company report………………………………….report
For the transition period from ____ to _____
Commission File No. 000-51694
Perion Network Ltd.
(Exact Name of Registrant as specified in its charter)
N/A
(Translation of
Israel
(Jurisdiction of incorporation or organization)
26 HaRokmim Street
Holon, Israel 5885849
(Address of principal executive offices)
Maoz Sigron, Chief Financial Officer
Tel: +972-73-3981582; Fax: +972-3-644-5502
Tel: +972-73-3981582; Fax: +972-3-644-5502
26 HaRokmim Street
Holon, Israel 5885849
(Name, Telephone, E-mail and /or Facsimile Number and Address of Company Contact Person)
Securities registered or to be registered pursuant to Section 12(b) of the Act.
Title of Each Class | Name of Each Exchange on which Registered |
| Ordinary shares, par value |
Securities registered or to be registered pursuant to Section 12(g) of the Act.
None None
(Title of Class)
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.
None
(Title of Class)
Indicate the number of outstanding shares of each of the issuer'sissuer’s classes of capital or common stock as of the close of the period covered by the Annual Report.
As of December 31, 2015,2018, the Registrant had outstanding 75,811,48725,850,188 ordinary shares, par value ILS 0.01NIS 0.03 per share.share (excluding treasury shares).
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act
Yes £☐ No T☒
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
Yes £☐ No T☒
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirementsrequirements for the past 90 days.
Yes T☒ No £☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes T☒ No £☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.filer, or an emerging growth company. See definition of "accelerated“large accelerated filer, “accelerated filer,” and large accelerated filer"“emerging growth company” in Rule 12b-2 of the Exchange Act (Check one):
| Large accelerated filer | Accelerated filer ☒ | Non-accelerated filer ☐ |
| Emerging growth company ☐ |
If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
| U.S. GAAP | International Financial Reporting Standards as issued by the International Accounting Standards Board | Other ☐ |
If "Other"“Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.
Item 17 £☐ Item 18 £☐
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):
Yes £☐ No ☒
PRELIMINARY NOTES
Terms
As used herein, and unless the context suggest otherwise, the terms "Perion," "Company," "we," "us"“Perion,” “Company,” “we,” “us” or "ours"“ours” refer to Perion Network Ltd. and subsidiaries. References to "dollar"“dollar” and "$"“$” are to U.S. dollars, the lawful currency of the United States, and references to "ILS"“NIS” are to New Israeli Shekels, the lawful currency of the State of Israel. This annual report contains translations of certain ILSNIS amounts into U.S. dollars at specified rates solely for your convenience. These translations should not be construed as representations by us that the ILSNIS amounts actually represent such U.S. dollar amounts or could, at this time, be converted into U.S. dollars at the rate indicated. Unless otherwise indicated, we have translated ILSNIS amounts into U.S. dollars at an exchange rate of ILS 3.9020NIS 3.748 to $1.00, the representative exchange rate reported by the Bank of Israel on December 31, 2015.2018.
Changes in Share Capital
On August 26, 2018, following the approval of a special general meeting of our shareholder held on August 2, 2018, the Company executed a 3-to-1 reverse share split of the Company’s ordinary shares, such that each three ordinary shares, par value NIS 0.01 per share, have been consolidated into one ordinary share, par value NIS 0.03. Unless otherwise indicated, all of the share numbers and the option numbers in this Form 20-F have been adjusted, on a retroactive basis, to reflect this 3-to-1 reverse share split.
Forward-Looking Statements
This annual report on Form 20-F contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"“Exchange Act”). Forward-looking 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,industries’ actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed, implied or inferred by these forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as "may," "will," "should," "could," "would," "expects," "plans," "intends," "anticipates," "believes," "estimates," "predicts," "projects," "potential"“may,” “will,” “should,” “could,” “would,” “expects,” “plans,” “intends,” “anticipates,” “believes,” “estimates,” “predicts,” “projects,” “potential” or "continue"“continue” or the negative of such terms and other comparable terminology.
Although we believe that the expectations reflected in the forward-looking statements are reasonable, we do not know whether we can achieve positive future results, levels of activity, performance, or goals. Actual events or results may differ materially from our current expectations. All forward-looking statements included in this report are based on information available to us on the date of this report. Except as required by applicable law, we undertake no obligation to update or revise any of the forward-looking statements after the date of this annual report to conform those statements to reflect the occurrence of unanticipated events, new information or otherwise.
You should read this annual report and the documents that we reference in this report completely and with the understanding that our actual future results, levels of activity, performance and achievements may be materially different from what we currently expect.
Factors that could cause actual results to differ from our expectations or projections include certain risks, including but not limited to the risks and uncertainties relating to our; business, intellectual property, industry and operations in Israel, as described in this annual report under Item 3.D. – "Key“Key Information – Risk Factors."” Assumptions relating to the foregoing, involve judgment with respect to, among other things, future economic, competitive and market conditions, and future business decisions, all of which are difficult or impossible to predict accurately and many of which are beyond our control. In light of the significant uncertainties, inherent in the forward-looking information included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives or plans will be achieved. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time and it is not possible for our management to predict all risks, nor can we assess the impact of all risks on our business or the extent to which any risk, or combination of risks, may cause actual results to differ from those contained in any forward-looking statements.
We obtained statistical data, market data and other industry data and forecasts used in preparing this annual report from market research, publicly available information and industry publications. Industry publications generally state that they obtain their information from sources that they believe to be reliable, but they do not guarantee the accuracy and completeness of the information. Similarly, while we believe that the statistical data, industry data and forecasts and market research are reliable, we have not independently verified the data, and we do not make any representation as to the accuracy of the information.
TABLE OF CONTENTS
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Not applicable.
| A. | SELECTED FINANCIAL DATA |
We derived the selected operations data below for the years ended December 31, 2013, 20142016, 2017 and 20152018 and the selected balance sheet data as of December 31, 20142017 and 20152018 from our audited consolidated financial statements and the related notes to the financial statements included elsewhere herein (the "Financial Statements"“Financial Statements”). We derived the selected operations data below for the years ended December 31, 20112014 and 20122015 and the selected balance sheet data as of December 31, 2011, 20122014, 2015 and 20132016 from our audited consolidated financial statements not incorporated by reference in this report. Our consolidated financial statements are prepared and presented in U.S. dollars and in accordance with U.S. Generally Accepted Accounting Principles ("(“U.S. GAAP"GAAP”). The following tables present selected financial data and should be read in conjunction with "Item“Item 5 – Operating and Financial Review and Prospects"Prospects” and our Financial Statements.
Year ended December 31, (U.S. dollars in thousands, except share and per share data) | ||||||||||||||||||||
| 2014 | 2015 | 2016 | 2017 | 2018 | ||||||||||||||||
| Revenues: | ||||||||||||||||||||
| Advertising | $ | 45,076 | $ | 32,053 | $ | 140,111 | $ | 134,481 | $ | 125,977 | ||||||||||
| Search and other | 343,655 | 188,897 | 172,683 | 139,505 | 126,868 | |||||||||||||||
| Total Revenues | 388,731 | 220,950 | 312,794 | 273,986 | 252,845 | |||||||||||||||
| Costs and Expenses: | ||||||||||||||||||||
| Cost of revenues | 10,950 | 7,877 | 25,924 | 24,659 | 23,757 | |||||||||||||||
| Customer acquisition costs and media buy | 174,575 | 91,194 | 140,210 | 130,885 | 128,351 | |||||||||||||||
| Research and development | 37,427 | 21,692 | 25,221 | 17,189 | 18,884 | |||||||||||||||
| Selling and marketing | 20,792 | 22,886 | 54,559 | 52,742 | 38,918 | |||||||||||||||
| General and administrative | 36,730 | 31,064 | 28,827 | 21,911 | 16,450 | |||||||||||||||
| Restructuring charges | 3,981 | 1,052 | 728 | - | 2,075 | |||||||||||||||
| Impairment, net of gain on reversal of contingent consideration | 19,941 | 72,785 | - | 85,667 | - | |||||||||||||||
| Depreciation and amortization | 21,321 | 11,422 | 25,977 | 16,591 | 9,719 | |||||||||||||||
| Total Costs and Expenses | 325,717 | 259,972 | 301,446 | 349,644 | 238,154 | |||||||||||||||
| Income (Loss) from Operations | 63,014 | (39,022 | ) | 11,348 | (75,658 | ) | 14,691 | |||||||||||||
| Financial expense, net | 2,888 | 1,939 | 8,288 | 5,922 | 3,794 | |||||||||||||||
| Income (Loss) before Taxes on Income | 60,126 | (40,961 | ) | 3,060 | (81,850 | ) | 10,897 | |||||||||||||
| Taxes on income | 10,816 | 697 | 212 | (8,826 | ) | 2,776 | ||||||||||||||
| Net Income (Loss) from Continuing Operations | 49,310 | (41,658 | ) | 2,848 | (72,754 | ) | 8,121 | |||||||||||||
| Net loss from discontinued operations | 6,484 | 26,999 | 2,647 | - | - | |||||||||||||||
| Net Income (Loss) | $ | 42,826 | $ | (68,657 | ) | $ | 201 | $ | (72,754 | ) | $ | 8,121 | ||||||||
| Net Earnings (Loss) per Share - Basic: | ||||||||||||||||||||
| Continuing operations | $ | 2.17 | $ | (1.74 | ) | $ | 0.11 | $ | (2.81 | ) | $ | 0.31 | ||||||||
| Discontinued operations | $ | (0.29 | ) | $ | (1.14 | ) | $ | (0.10 | ) | $ | - | - | ||||||||
| Net Income (Loss) | $ | 1.88 | $ | (2.88 | ) | $ | 0.01 | $ | (2.81 | ) | $ | 0.31 | ||||||||
| Net Earnings (Loss) per Share – Diluted: | ||||||||||||||||||||
| Continuing operations | $ | 2.11 | $ | (1.74 | ) | $ | 0.11 | $ | (2.81 | ) | $ | 0.31 | ||||||||
| Discontinued operations | $ | (0.28 | ) | $ | (1.14 | ) | $ | (0.10 | ) | $ | - | - | ||||||||
| Net Income (Loss) | $ | 1.83 | $ | (2.88 | ) | $ | 0.01 | $ | (2.81 | ) | $ | 0.31 | ||||||||
| Number of shares continuing and discontinued: | ||||||||||||||||||||
| Basic | 22,737,736 | 23,766,811 | 25,520,151 | 25,849,724 | 25,850,067 | |||||||||||||||
| Diluted | 23,442,470 | 23,766,811 | 25,557,934 | 25,849,724 | 25,855,225 | |||||||||||||||
| Statement of Operations Data: | ||||||||||||||||||||
| (in thousands, except share and per share data) | Year ended December 31 | |||||||||||||||||||
| 2011 | 2012 | 2013 | 2014 | 2015 | ||||||||||||||||
| Revenues: | ||||||||||||||||||||
| Search | $ | 469,293 | $ | 517,060 | $ | 277,275 | $ | 330,757 | $ | 172,277 | ||||||||||
| Advertising and other | 12,431 | 19,948 | 48,233 | 57,974 | 48,673 | |||||||||||||||
| Total Revenues | 481,724 | 537,008 | 325,508 | 388,731 | 220,950 | |||||||||||||||
| Costs and Expenses: | ||||||||||||||||||||
| Cost of revenues | 4,167 | 5,513 | 6,104 | 27,817 | 16,195 | |||||||||||||||
| Customer acquisition and media buy costs | 113,358 | 119,555 | 185,355 | 174,575 | 91,217 | |||||||||||||||
| Research and development | 18,346 | 16,858 | 22,394 | 44,129 | 26,377 | |||||||||||||||
| Selling and marketing | 17,917 | 7,920 | 10,298 | 25,388 | 28,270 | |||||||||||||||
| General and administrative | 4,126 | 4,705 | 19,115 | 37,605 | 31,520 | |||||||||||||||
| Restructuring charges | - | - | - | 3,981 | 1,052 | |||||||||||||||
| Impairment, net of change in fair value of contingent consideration | - | - | - | 19,941 | 92,340 | |||||||||||||||
| Total Costs and Expenses | 157,914 | 154,551 | 243,266 | 333,436 | 286,971 | |||||||||||||||
| Income (Loss) from Operations | 323,810 | 382,457 | 82,242 | 55,295 | (66,021 | ) | ||||||||||||||
| Financial income (expense), net | (591 | ) | 7,696 | 2,782 | (2,888 | ) | (1,939 | ) | ||||||||||||
| Income (Loss) before Taxes on Income | 323,219 | 390,153 | 85,024 | 52,407 | (67,960 | ) | ||||||||||||||
| Taxes on income | 22,564 | 75,435 | 22,616 | 9,581 | 697 | |||||||||||||||
| Net Income (Loss) from Continuing Operations | 300,655 | 314,718 | 62,408 | 42,826 | (68,657 | ) | ||||||||||||||
| Net loss from discontinued operations | (14,248 | ) | (23,798 | ) | (33,795 | ) | 0 | - | ||||||||||||
| Net Income (Loss) | $ | 286,407 | $ | 290,920 | $ | 28,613 | $ | 42,826 | $ | (68,657 | ) | |||||||||
| Net Earnings (Loss) per Share - Basic: | ||||||||||||||||||||
| Continuing operations | $ | 6.12 | $ | 6.02 | $ | 1.16 | $ | 0.63 | $ | (0.96 | ) | |||||||||
| Discontinued operations | $ | (0.29 | ) | $ | (0.45 | ) | $ | (0.63 | ) | $ | - | - | ||||||||
| Net Income (Loss) | $ | 5.83 | $ | 5.57 | $ | 0.53 | $ | 0.63 | $ | (0.96 | ) | |||||||||
| Net Earnings (Loss) per Share – Diluted: | ||||||||||||||||||||
| Continuing operations | $ | 5.86 | $ | 5.91 | $ | 1.14 | $ | 0.58 | $ | (0.96 | ) | |||||||||
| Discontinued operations | $ | (0.28 | ) | $ | (0.45 | ) | $ | (0.62 | ) | $ | - | - | ||||||||
| Net Income (Loss) | $ | 5.58 | $ | 5.46 | $ | 0.52 | $ | 0.58 | (0.96 | ) | ||||||||||
| Number of shares – Basic: | ||||||||||||||||||||
| Continuing operations | 49,118,535 | 52,320,133 | 53,910,741 | 68,213,209 | 71,300,432 | |||||||||||||||
| Discontinued operations | 49,118,535 | 52,320,133 | 53,910,741 | - | - | |||||||||||||||
| Number of shares – Diluted: | ||||||||||||||||||||
| Continuing operations | 51,309,654 | 53,264,743 | 54,837,307 | 70,327,411 | 71,300,432 | |||||||||||||||
| Discontinued operations | 51,309,654 | 53,264,743 | 54,837,307 | - | - | |||||||||||||||
| Balance Sheet Data | As of December 31, | |||||||||||||||||||
| (U.S. dollars in thousands): | 2014 | 2015 | 2016 | 2017 | 2018 | |||||||||||||||
| Cash and cash equivalents | $ | 101,183 | $ | 17,519 | $ | 23,962 | $ | 31,567 | $ | 39,109 | ||||||||||
| Working capital | $ | 91,255 | $ | 37,394 | $ | 27,048 | $ | 32,895 | $ | 26,779 | ||||||||||
| Total assets | $ | 356,139 | $ | 442,298 | $ | 368,452 | $ | 274,027 | $ | 256,446 | ||||||||||
| Total liabilities | $ | 110,142 | $ | 242,461 | $ | 160,308 | $ | 135,695 | $ | 107,665 | ||||||||||
| Shareholders’ equity | $ | 245,997 | $ | 199,837 | $ | 208,144 | $ | 138,332 | $ | 148,781 | ||||||||||
| Balance Sheet Data (in thousands): | As of December 31, | |||||||||||||||||||
| 2011 | 2012 | 2013 | 2014 | 2015 | ||||||||||||||||
| Cash and cash equivalents | $ | 41,239 | $ | 78,395 | $ | 949 | $ | 101,183 | $ | 17,519 | ||||||||||
| Working capital (*) | $ | 249,718 | $ | 208,793 | $ | (19,682 | ) | $ | 91,255 | $ | 37,394 | |||||||||
| Total assets (*) | $ | 334,734 | $ | 308,920 | $ | 31,058 | $ | 356,139 | $ | 442,297 | ||||||||||
| Total liabilities (*) | $ | 48,890 | $ | 64,899 | $ | 21,031 | $ | 110,142 | $ | 242,461 | ||||||||||
| Shareholders' equity | $ | 285,844 | $ | 244,021 | $ | 10,027 | $ | 245,997 | $ | 199,837 | ||||||||||
| B. | CAPITALIZATION AND INDEBTEDNESS |
Not applicable.
| C. | REASONS FOR OFFER AND USE OF PROCEEDS |
Not applicable.
| D. | RISK FACTORS |
We are subject to various risks and uncertainties relating to or arising out of the nature of our business and general business, economic, financial, legal and other factors or conditions that may affect us. We believe that the occurrence of any one or some combination of the following factors could have a material adverse effect on our business, financial condition, cash flows and results of operations.
Risks Related to our Business and Industry
We generally do not enter into long-term contracts with our advertising anycustomers, and such customers do business with us on a non-exclusive basis, with no minimum spending guarantees. In most cases, our customers may terminate or reduce the scope of their agreements with little or no penalty or notice. Accordingly, our business is highly vulnerable to adverse economic conditions, market evolution and development of new or more compelling offerings by our competitors, which could either lead to reduced advertising spend generally or motivate our current or potential customers to migrate to our competitors. Any reduction in spending for online advertising by, or loss of, existing or potential advertisers could adversely impact our business and results of operations.
These companies, along with other large and established Internet and technology companies, these are currently notmay also leverage their power to make changes to their web browsers, operating systems, platforms, networks or other products or services in a way that impacts the entire digital advertising marketplace.
As of February 2018, the Google Chrome internet browser supports the “Better Ads Standards” implemented by the Coalition for Better Ads, an industry body formed by leading international trade associations and companies involved in online media (in which Undertone is also a member), and remove all ads from certain sites that violate this standard. This, together with other advertisement-blocking technologies incorporated in or compatible with leading internet browsers, could impact on Undertone’s ad units (as well as lucrative as search advertising in general and affiliation with Google in particular. Continued unilateralthose of Undertone’s competitors). These changes could adversely affectmaterially impact the way we do business, and if we or our advertising partners are unable to quickly and effectively adjust to those changes, there could be an adverse effect on our revenues and performance.
The consolidation among participants within the digital advertising market is highly concentrated, and our inability to replace customers if necessary could have a material adverse impact on our business and results of operations.
| · | our customers or |
| · | competitors could improve their competitive position or broaden their offerings through strategic |
While we work with a wide variety of advertising buyers and sellers, many buyers and sellers are part of larger organizations. Our primary advertising customers are advertising agencies, and many of those agencies are owned, affiliated with or controlled by a small number of large holding companies. If any of these large consolidated enterprises decided to reduce or terminate their business relationship with us for any reason, it may lead to a material adverse impact on our revenue and profitability.
Further, the growing trend of consolidation of Internetdigital advertising networks, exchanges, web portals, search engines and web publishers, and increasing industry presence of a small number of large companies, such as Google, Facebook, and Apple could harm our business. WeFor example, we are currently able to serve, track and manage advertisements for our customers on a variety of networks and websites. Concentration of advertising networksThese enterprises could substantially impair our ability to serve advertisementsoperate if these networks or websitesthey decide not to permit us to serve, track or manage advertisements on their websites, if they develop ad placement systems that are incompatible with our ad serving systemscapabilities or if they use their market power to force their customers to use certain vendors on their networks or websites.
Due to our evolving business model and rapid changes in the Internet and the nature of services, it is difficult to accurately predict our future performance and may be difficult to increase revenue or profitability.
We do not have an extensive history of ongoing operations in digital advertising from which to predict our future performance, and making such market, whetherpredictions, particularly with regard to the effect of our efforts to aggressively increase the distribution and profitability is very complex and challenging. If we are unable to continuously improve our systems and processes, this could have a negative effect on our competitiveness and ability to service and attract customers. If we are unsuccessful in doing so in a timely fashion, we may not be able to achieve revenue growth or increase our profitability.
We depend on publishers to supply us with advertising inventory in order for us to deliver advertising campaigns in a cost-effective manner.
We rely on a diverse set of publishers including direct publishers, advertising exchange platforms and other platforms, that aggregate advertising inventory, to provide us with high-quality digital advertising inventory on which we deliver ads, collectively referred to as “supply sources”. The future growth of our advertising business will depend, in part, on our ability to enter into, maintain and further develop successful business relationships in order to increase the network of our supply sources. If we are unsuccessful in establishing or maintaining our relationships with supply sources on commercially reasonable terms, or if these relationships are not profitable for us and competitive in the marketplace, our ability to compete in the marketplace or to grow our revenues from our advertising business could be adversely affected. Our supply sources typically supply their advertising inventory to us on a non-exclusive basis and are not required to provide any minimum amounts of advertising inventory to us or to provide us with a consistent supply of advertising inventory, at any predetermined price or through real time bidding. Supply sources often maintain relationships with various sources of demand that compete with us, and it is easy for supply sources to quickly shift their advertising inventory among these demand sources, or to shift inventory to new demand sources, without notice or accountability. Supply sources may also seek to change the terms at which they offer inventory to us, or they may allocate their advertising inventory to our competitors who offer more favorable economic terms or whose offerings or technology are considered more beneficial. Supply sources may also elect to sell all, or a portion, of their advertising inventory directly to advertisers and agencies, or they may develop their own competitive offerings, which could diminish the demand for our solutions. In addition, significant supply sources within the industry may enter into exclusivity arrangements with our competitors, which could limit our access to a meaningful supply of inventory. As a result of all of these factors, our supply sources may not supply us with sufficient amounts of high-quality digital advertising inventory in order for us to fulfill the demands of our advertising customers.
8
Additionally, our ability to access advertising inventory in a cost-effective manner may be constrained or affected as a result of a recession that causes a reduction in advertising expenditures generally or otherwise, which causes a decrease in our North American revenues could have a material adverse effect on our resultsnumber of operations.other factors, including, but not limited to:
| · | Supply sources may impose significant restrictions on the advertising inventory they sell, or may impose other unfavorable terms and conditions on the advertisers using their sites or platforms. For example, these restrictions may include frequency caps, prohibitions on advertisements from specific advertisers or specific industries, or restrictions on the use of specified creative content or advertising formats, which would restrain our supply of available inventory. |
| · | Supply sources that offer online content and mobile applications may shift from an advertising-based monetization method to a pay for content/services model, thereby reducing available inventory. |
| · | Social media platforms may be successful in keeping users within their sites via products such as Facebook’s Instant Articles. If, as a result, users are not on the open web, advertising inventory on the open web (including our publisher’s sites) may be reduced or may become less attractive to our advertising customers. |
| · | Supply sources may be reluctant or unable to adopt certain of our proprietary and unique high-impact ad formats for a variety of reasons (such as user preference changes making such ad formats less desirable, or technological limitations, such as connection with header bidding or the ability to transact programmatically) resulting in limited advertising inventory supply for such formats and inhibiting our ability to scale such formats. |
In summary, if our supply sources terminate or reduce our access to their advertising inventory, increase the price of new products and services in responseinventory or place significant restrictions on the sale of their advertising inventory, or if platforms or exchanges terminate our access to the evolving trends and technologies of the Internet, as well as the identification of new business opportunities in this dynamic environment, requires significant time and resources. Wethem, we may not be able to adapt quickly enough (and/or in a cost-effective manner) to these changes, appropriately time the introduction to the market of new applications and features forreplace this with inventory from other supply sources that satisfy our platform or for other products and services or identify new business opportunitiesrequirements in a timely and cost-effective manner. Also, these changes could require us to modify related infrastructures and the failure to do so could render our, or those of our partners, existing websites, applications, services and proprietary technologies obsolete. The failure to respond toIf any of these changes appropriately (and/this happens, our revenue could decline or in aour cost effective manner)of acquiring inventory could adversely affect us,increase, lowering our financial condition and our results of operations.operating margins.
We may be unable to these changes, or if Microsoft, Google, Apple or other companies that provide Internet browsers, operating systems or other underlying platforms, effectively further restrict, discourage or otherwise hamper companies, like us, from offering or changing the search properties, this would continue todeliver advertising in a brand-safe environment, which could harm our reputation and cause a material adverse effect on our revenue and our financial results.
The digital advertising businessindustry is subject to fierce competition.highly competitive. If we cannot compete effectively in this market, our revenues are likely to decline.
We face intense competition in the marketplace. We operate in a dynamic market that is subject to rapid development and introduction of new technologies, products and solutions, changing branding objectives, evolving customer demands and industry guidelines, all of which affect our ability to remain competitive. There are a large number of digital media companies and advertising technology companies that offer products or services similar to ours and that compete with us for a finite advertiseradvertising budgets and agency budget, as well asfor limited inventory from publishers. Given that the barriers to entering the Internet advertising market are relatively low, the number of competitors may increase even further. There areis also a large number of niche companies that are competitive with us, as they provide a subset of the services that we provide (e.g., mobile in-app ad networks). Further,provide. Some of our existing and potential competitors may be better established, benefit from greater name recognition, may offer solutions and technologies that we do not offer or that are more evolved than ours, and may have significantly more financial, technical, sales and marketing resources than we do. In addition, some competitors, particularly those with a larger and more diversified revenue base and a broader offering, may have greater flexibility than we do to compete aggressively on the basis of price and other contract terms as well as respond to market changes. Additionally, companies that do not currently compete with us in this space may change their services to be competitive if there is a revenue opportunity. If we are unable to compete with such companies, our revenue may decline.
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Our Undertonedigital advertising business is susceptible to seasonality, unexpected changes in campaign size and prolonged cycle time, which could affect our business, results of operations and our ability to repay indebtedness when due.
| · | Historically, in most cases our advertising solution experienced the lowest sales in the first quarter and the highest sales in the fourth quarter, with the second and third quarters being slightly stronger than the first quarter. Fourth quarter sales tend to be the highest due to a need to utilize remaining budgets, and increased customer advertising volumes during the holiday selling season. |
| · | Product and service revenues are influenced by political advertising, which generally occurs every two years. |
| · | In any single period, product and service revenues and delivery costs are subject to significant variation based on changes in the volume and mix of deliveries performed during such period. |
| · | Revenues are subject to the changes of brand marketing trends, including when and where brands choose to spend their money in a given year. |
| · | Advertising customers generally retain the right to supplement, extend, or cancel existing advertising orders at any time prior to their completion, and we have no control over the timing or magnitude of these revenue changes. |
| · | Relative complexity of individual advertising formats, and the length of the creative design process. |
As a result, our profit from these operations is even more seasonal, with the fourth quarter accounting for as much as 40% ofbeing the major contributor to our profits and the first quarter possibly resulting in a loss.
Moreover, due to the long receivable cycle and shorter payable cycle, this seasonality puts strains on our cash flow through the first and second quarter of every year.
Our advertising clients expect and often demand that our advertising campaigns achieve certain performance levels based on metrics such as user engagement, clicks or conversions, to validate their value proposition, particularly as our services can be costlier. We may have difficulty achieving or proving these performance levels for a variety of reasons. Additionally, customers may request measurement of campaign metrics that are difficult or impossible to measure. For example, it may be difficult to track view-ability on our proprietary high-impact ad units, either directly or through a third-party vendor. Accordingly, we may not be able to reach customer requested performance levels or measure certain metrics, which could cause customers to cancel campaigns, not provide repeat business or request make-goods or refunds.
Increased availability of advertisement-blocking technologies could limit or block the delivery or display of advertisements by our solutions, which could undermine the viability of our business.
Advertisement-blocking technologies, such as mobile apps or browser extensions that limit or block the delivery or display of advertisements, are currently available for desktop and mobile users. Further, new browsers and operating systems, or updates to current browsers or operating systems, offer native advertisement-blocking technologies to their users, such as the support of Google Chrome in blocking advertisements from web sites that violate the “Better Ads Standards” established by the Coalition for Better Ads (in which Undertone is a member). The more such technologies become widespread, our business may be adversely affected, and so are our financial condition and results of operations.
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Our advertising business depends on our ability to collect and use data, and any limitation on the collection and use of this data could significantly diminish the value of our solutions and cause us to lose customers and revenue.
In most cases, when we deliver an advertisement, we are often able to collect certain information about the content and placement of the ad, the relevancy of such ad to a user and the interaction of the user with the ad, such as whether the user viewed or clicked on the ad or watched a video. As we collect and aggregate data provided by billions of ad impressions and third-party providers, we analyze the data in order to measure and optimize the placement and delivery of our advertising inventory and provide cross-channel advertising capabilities. Our ability to access and utilize such data is crucial.
Our publishers or advertisers might decide not to allow us to collect some or all of this data or might limit our use of this data. Our ability to either collect or use data could be restricted by new laws or regulations, including, the General Data Protection Regulation in the European Union which entered into effect in May 2018, and presumably broaden the definition of personal data to include location data and online identifiers, which are commonly used and collected parameters in digital advertising, and impose more stringent user consent requirements, changes in technology, operating system restrictions, requests to discontinue using certain data, restrictions imposed by advertisers and publishers, industry standards or consumer choice. In addition, the California Consumer Privacy Act (2018) will become effective on January 1, 2020 and may also affect us Interruptions, failures or defects in our data collection, analysis and storage systems could also limit our ability to aggregate and analyze data from our advertisers’ advertising campaigns.
If this happens, we may not be able to optimize ad placement for the benefit of our advertisers, which could render our solutions less valuable and potentially result in loss of clients and a decline in revenues. Additional details are provided below under “Risks related to Regulatory Changes” and “— Risks Related to our Technological Environment”.
If we do not continue to innovate and provide high-quality advertising solutions and services, we may not remain competitive, and our business and results of operations could be materially adversely affected.
Our success depends on our ability to provide customers with innovative, high-quality advertising solutions and services that foster consumer engagement. We face intense competition in the marketplace and are confronted by rapidly changing technology, evolving industry standards and consumer needs, and the frequent introduction of new products and solutions by competitors, as well as publishers themselves, that we must adapt and respond to in order to remain competitive. Therefore, our continued success depends in part upon our ability to develop new solutions and technologies, enhance our existing solutions and expand the scope of our offerings to meet the evolving needs of the industry. As a result, we must continue to invest significant resources in research and development in order to enhance our technology and our existing solutions and services, and introduce new high-quality solutions and services.
Our operating results will also suffer if our innovations are not responsive to the needs of our customers, are not appropriately timed with market opportunity or are not effectively brought to market. If we are unable to accurately forecast market demands or industry changes, if we are unable to develop or introduce our solutions and services in a timely manner, or if we fail to provide quality solutions and services that run without complication or service interruptions or do not respond properly to the even changing technological landscape, we may damage our brand and our ability to retain new and existing customers or attract new customers. As online advertising technologies continue to develop, our competitors may be able to offer solutions that are, or that are perceived to be, substantially similar or better than those offered by us. Customers will not continue to do business with us if our solutions do not deliver advertisements in an appropriate and effective manner, through a variety of distribution channels and methods, or if the advertising we deliver does not generate the desired results. If we are unable to meet these challenges, our business and results of operations could be materially adversely affected.
Commoditization in digital advertising could have a material adverse effect on our business.
There has been commoditization of services provided in digital advertising, resulting in margin pressure. If such commoditization occurs in areas such as high impact, this could have a material adverse effect on our business.
Sales efforts with advertising and ad agency customers, and with advertisers of mobile applications, require significant time and expense and may ultimately be unsuccessful.
Contracting with new advertising and ad agency customers requires substantial time and expenses, and we may not be successful in establishing new relationships or in maintaining current relationships. It is often difficult to identify, engage, and market to potential advertising customers who are unfamiliar with our brand or services, and we may spend substantial time and resources educating customers about our unique offerings, including providing demonstrations and comparisons against other available solutions, without ultimately achieving the desired results. Furthermore, many of our advertising clients’ purchasing and design decisions generally require input from multiple internal and external parties of these clients, requiring that we identify those involved in the purchasing decision and devote a sufficient amount of time to present our services to each of those decision-making individuals. We may not be able to reduce our sales and marketing expenses to correspond proportionately to periods of reduced revenues. If we are not successful in streamlining our sales processes with potential clients in a cost effective manner, or if our efforts are unsuccessful, our ability to grow our business may be adversely affected.
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Our growth depends in part on the success of our relationships with advertising agencies.
While we work with some brand advertisers directly, our primary advertising customers are advertising agencies, who are paid by their brand customers to develop their media plans. The agencies, in turn, contract with third parties, like us, to execute and fulfill their brands’ advertising campaigns. As a result, our future growth will depend, in part, on our ability to enter into and maintain successful business relationships with advertising agencies.
Identifying agencies, engaging in sales efforts, and negotiating and documenting our agreements with agencies require significant time and resources. These relationships may not result in additional brand customers or campaigns for our business, and may not ultimately enable us to generate significant revenues. Our contracts with advertising agencies are typically non-exclusive and the agencies often work with our competitors or offer competing services or solutions.
When working with agencies to deliver campaigns on behalf of their brand customers, we generally bill the agency for our products and services, and in most cases, the brand has no direct contractual commitment to us to make any payments. Furthermore, some agencies contractually limit their payment obligations to us through sequential liability provisions, whereby the agency is liable for payment if, and only to the extent, that the agency collects a corresponding payment from the brand on whose behalf our services were rendered. These circumstances may result in longer collections periods, increased costs associated with pursuing brands directly for payments, or our inability to collect payments. In summary, if we are unsuccessful in establishing or maintaining our relationships with these agencies on commercially reasonable terms or if the agencies are unable to effectively collect corresponding payments from the brands, our ability to compete in the marketplace or to grow our revenues could be impaired and our operating results would suffer.
If the demand for social advertising does not grow as expected, or if our solution for advertising through those channels is not competitive, the revenues related to our Partnerssocial marketing platform could decline.
We leverage the capabilities of Make Me Reach, our social marketing platform, to offer our customers the ability to deliver ads on social platforms. The future growth of this market could be negatively impacted if consumers decrease the time they spend engaging on social media sites or mobile applications. In addition, the demand for advertising in these channels, and Customers
the success of our social and in-app solutions in particular, may be constrained by the limited flexibility, increased requirements that are associated with advertising in these channels, and the social platforms working through independent service providers. As a result, it is difficult to predict the future customer demand for our solution, and there is no guarantee that we will be able to generate significant revenues from our social marketing platform. In addition to the foregoing, our social marketing platform is dependent on our ability to create, optimize, and manage our customers’ advertising campaigns on Facebook, Instagram, Snapchat, Twitter and Google. As a result, we are subject to each social network’s respective terms and conditions governing our ability to access and utilize its platform. Our social marketing platform would be harmed if any of these social networks discontinues our partnership, makes changes to its platform, or modifies the terms and standards applicable to its marketing partners or to advertising on its platform in general. Moreover, these social networks may develop offerings or features that compete with or substitute our solution or may otherwise make changes to their platforms that would render our social advertising solution obsolete. Further, consumers may migrate away from Facebook, Twitter, Snapchat and Instagram to other social networking platforms with which we are not affiliated, which would in turn decrease the demand for our solutions. Any of these outcomes could cause demand for our social marketing platform to decrease, our development costs to increase, and our results of operations and financial condition to be harmed.Our search businesssolution depends heavily upon revenues generated from arrangementsour agreement with search providers, particularly Microsoft, and any adverse change in those relationshipsthat agreement could adversely affect our business or its financial condition and results of operations.
We are highly dependent on our search services agreement with Microsoft Online Inc. ("Microsoft"),Irelands Operations Limited, which covers substantially all of our search businesssolution. Our previous agreement with Microsoft and hasOnline Inc. had a term from January 1, 2015 until December 31, 2017.2017 (the “Microsoft Agreement”). In 2015, our search servicesOctober 2017, we entered into an agreement with Microsoft Ireland Operations Limited effective as of January 1, 2018 until December 31, 2020 (the “Renewed Microsoft Agreement”). In 2018, the Microsoft Agreement accounted for 81%45% of our revenues. In this annual report on Form 20-F we refer to Microsoft Corporation and its affiliates as Microsoft.
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If our agreement withRenewed Microsoft Agreement is terminated or substantially amended or not renewed(not on favorable terms,terms), we couldwould experience a material decrease in our search-generated revenues or the profits it generates and we couldwould be forced to seek alternative search providers.providers, at less competitive terms. There are very few companies in the market that provide Internet search and advertising services similar to those provided by Microsoft Google and Yahoo. These threesuch as Google. Such companies are substantially the dominant playersonly participants in this market,western markets, and competitors do not offer as much coverage through sponsored links or searches. Although, we have agreements with both Google and Yahoo, we do not have a significant amount of revenue generated from either of them. If we fail to quickly locate, negotiate and finalize alternative arrangements, or if we do, but the alternatives do not provide for terms that are as favorable as those currently provided and utilized, or if the alternative arrangements will not attract the same traffic as the traffic attracted by Microsoft, or if the termination by Microsoft affects our ability to contract with other providers,and we would experience a material reduction in our revenues and, in turn, our business, financial condition and results of operations would be adversely affected.
Our search revenue business is highly reliant upon a small number of publishers, who account for the substantial majority of pay-outs to publishers and generate most of our revenues. If we were to lose all or a significant portion of those publishers as customers, our revenues and results of operations would be materially adversely affected.
In 2015,2018, the top tenfive publishers distributing our search propertiesservices accounted for approximately 62%36% of our revenues, of which the top five publishers represented approximately 51% of our revenue (each representing 25%, 13%, and the additional three: 4% of our revenues, each).revenues. There can be no assurance that these existing publishers will continue to distribute our search propertiesservices or continue utilizing the revenue-generating monetization services at the levels they did in the past or at all. The loss of all or a substantial portion of our relationships with these publishers, or a substantial reduction in their level of activity, could cause a material decline in our revenues and profitability.
The generation of revenues from search activity through large publishers is subject to competition. If we cannot compete effectively in this market, our revenues are likely to decline.
We obtain a significant portion of our revenues through designating the Company as the default search provider during the download and installation of our publishers’ product,products and the use of our search servicesoffering and the subsequent searches performed by the users thereof. We therefore are constantly looking for more ways to convince potential users to acceptdistribute our search offering designate the Company as its default search provider and accept the other search properties offered.through various channels. To achieve these goals, we rely heavily on third-party publishers to distribute our search syndication servicesoffering as a value-added component of their own offerings. There are other companies that generate revenue from searches, some of them withmay have a more significant presence than ours and with greater capability to offer substantially more content. The large search engine companies, including Google, Microsoft and others, have become increasingly aggressive in their own search service offerings. In addition, we need to continually maintain the technological advantage of our platform, products and other services in order to attract partnerspublishers to our offering. If the search engine companies engage more direct relationships with publishers or we are unable to maintain the technological advantage to service our partners,publishers, we may lose both existing and potential new partner publishers and our ability to generate revenues will be negatively impacted.
In order to receive advertisement-generated revenues from our search partners,providers, we depend, in part, on factors outside of our control.
The amount of revenue we receive from each of our search partnersproviders depends upon a number of factors outside of our control, including the amount thesesuch search providers charge for advertisements, the efficiency of the search provider’s system in attracting advertisers and syndicating paid listings in response to search queries and parameters established by it regarding the number and placement of paid listings displayed in response to search queries. In addition, each of the search partners makes judgmentsproviders make analysis about the relative attractiveness (to thetheir advertiser) of clicks on paid listings from searches performed on or through our search assets, and these judgments factor into the amount of revenue we receive. Changes toin the efficiency of a search partners'providers’ paid listings network, efficiency,in its judgment about the relative attractiveness of clicks on paid listings or in the parameters applicable to the display of paid listings could have an adverse effect on our business, financial condition and our results of operations. Such changes could come about for a number of reasons, including general market conditions, competition or policy and operating decisions made by Microsoft or Googleother search providers.
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We have experienced a decline in our search solution, and market perception has not been favorable. As a result, we may have difficulty stemming this decline or otheroffsetting it by entering new markets.
For a prolonged period of time, we have experienced a decline in revenues and an increasingly negative market bias regarding our search activity. The combination of these factors presents challenges in:
| · | recruiting and retaining highly qualified employees for our current business and new businesses we are developing; and |
| · | attracting and acquiring new publishers to support and expand our business. |
If we cannot maintain the commitment of our employees, recruit new employees and make the acquisitions required to enhance our organic activity, we may not be able to stem the decline in this business and our financial results will suffer.
Our reputation has been and may continue to be negatively impacted by a number of factors, including the negative reputation associated with search assets, search setting configuration, product and service quality concerns, complaints by publishers or end users or actions brought by them or by governmental or regulatory authorities and related media coverage and data protection and security breaches. Moreover, the inability to develop and introduce monetization services that resonate with consumers and/or the inability to adapt quickly enough (and/or in a cost effective manner) to evolving changes to the Internet and related technologies, applications and devices, could adversely impact our reputation, and, in turn, our business, financial condition and our results of operations.
We rely heavily on the ability to offer our search services to our publishers and, as a result of such action, to obtain and retain the search properties of their users. Should this method of distribution be blocked, constrained, limited, materially changed, based on a change of guidelines, technology or otherwise (as has happened in the past), or made redundant by any of our search engine providers, particularly Microsoft, our ability to generate revenues from our users’ search activity could be significantly reduced.
Our search agreements with Microsoft require that we comply with certain guidelines promulgated by them for the use of the respective brands and services, including the manner in which paid listings are displayed within search results, and that we establish guidelines to govern certain activities of third parties to whom we syndicate the search services, including the manner in which those parties drive search traffic to their websites and display paid listings. Subject to certain limitations, search partners may unilaterally update their policies and guidelines, which could, in turn, require modifications to, or prohibit and/or render obsolete certain of our products, services and practices, which could be costly to address or otherwise have an adverse effect on our business, our financial condition and results of operations. Noncompliance with the search partners’ guidelines, particularly Microsoft’s, by us or by third parties to which we syndicate paid listings or by the publishers through whom we secure distribution arrangements for our products could, if not cured, result in such companies’ suspension of some or all of their services to us, or to the websites of our third party publishers, or the reimbursement of funds paid to us, or the imposition of additional restrictions on our ability to syndicate paid listings or distribute our products or the termination of the search distribution agreement by our search partners.
These guidelines, with respect to method of distribution, homepage resets and default search resets to search engine services, were changed by both Microsoft and Google numerous times in the past, having negative revenue implications. Since then, both companies have continued instituting other changes to the policies governing their relationship with search partners.
As a result, fewer and fewer substantial publishing partners are compliant with these requirements, resulting in the termination of our business relationship with them and increasing the concentration of revenues generated through each of our remaining partners. Should any of our large partnerships be deemed non-compliant, blocked or partner with another provider, it could be difficult to replace the revenues generated by that partnership and we would experience a material reduction in our revenues and, in turn, our business, financial condition and results of operations would be adversely affected.
Should the providers of the underlying platforms, particularly browsers, further block, constrain or limit our ability to offer or change search properties, or materially change their guidelines, technology or the way they operate, our ability to generate revenues from our users’ search activity could be significantly reduced.
The market related to desktop computers has accounted for substantial part of our search revenues. While the desktop usage remains stable, in recent years, there has been commoditization resulting in margin pressure in display and video advertising. If such commoditization occurs in areasa trend towards shifting Internet usage from desktop computers to mobile devices such as high impactmobile phones, tablets, etc. If this trend towards using the Internet on non-desktop devices accelerates and desktop usage will decline, our search offerings will become less relevant and may fail to attract publishers and web traffic. In addition, even if consumers do use our services, our revenue growth will still be adversely affected if we do not rapidly and successfully implement adequate revenue-generating models for mobile platforms to respond such decline in desktop.
Web (or “cloud”) based software and similar solutions do not require the user to download software and thus provide a very portable and accessible alternative for desktop computers, as compared to downloadable software. While there are advantages and disadvantages to each method and system and the markets for each of them remain large, the market for web-based systems is growing at the expense of downloadable software. Should this trend accelerate faster than our partners’ ability to provide differentiating advantages in their downloadable solutions, this could have a material adverse effect onresult in fewer downloads of their products and lower search revenues generated through the download of these products. See “Item 4.B Business Overview — Competition” for additional discussion of our business.competitive market.
Some of our products and thoseofferings are viewed by some third parties, such as anti-virus software providers, as promoting or constituting “malware” or “spamming,” or unjustly changing the user’s computer settings. As a result, our software, the software of our partners currently runpublishers, provision of search services or advertising is occasionally blocked by software or utilities designed to detect such practices. If this phenomenon increases or if we are based on Microsoft Windows operating systems. Recently Androidunable to detect and Apple have gained popularityeffectively deal with such categorization of our products, we may lose both existing and market share, particularly in the mobile market. A decline in market acceptance of Microsoft technologies or the increased acceptance of other operating systems without products that work on these competing operating systems in a timely fashion could have a material adverse effect onpotential new users and our ability to market our products. Consumers are adopting these alternative technologies in increasing numbers and are migrating to other computing technologies that we do not currently support. In addition, our products and technologies must continue togenerate revenues will be compatible with new developments in Microsoft technologies. Microsoft could introduce new features that would make it more difficult to install our search services. We cannot always maintain such compatibility and we cannot assure you that we will not incur significant expenses or losses of income in connection therewith.negatively impacted.
Risks related to our Financial Status and Operating EnvironmentCorporate Structure
If we fail to comply with the terms andor covenants of our debt obligations, our financial position may be adversely affected.
As of December 31, 2015,2018, we had convertible bonds outstanding having an aggregate principal amount of approximately ILS 143.5NIS 57.4 million (then equivalent to approximately $36.8$15.3 million). In the event that we fail to comply with the terms and/or covenants of our convertible bonds or our $19.9 million loan agreement with Bank Leumi, and cannot obtain a waiver of noncompliance, we may face certain deteriorations in the terms of the convertible bonds, including, changes in the interest rate or be required to immediately repay all of our outstanding indebtedness and the bond trustee and the bank may be entitled to exercise the remedies available under the convertible bondsapplicable agreement and applicable law.
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In addition, pursuant to the Undertone merger agreement, we are required to pay deferred considerationin December 2018, ClientConnect Ltd. entered into a new loan facility with Mizrahi Tefahot Bank Ltd., an Israeli bank, in the amount of $20$25 million bearing interest, in November 2020. In the event that we fail to comply withwhich includes certain provisions of the merger agreement, or if Undertone fails to comply with the terms and/or covenants of its $60 million secured loan agreementfinancial covenants. For further information, see “Item 5. Operating and the loan is accelerated, we may be required to immediately pay the $20 million deferred consideration under the merger agreementFinancial Review and Undertone may be required to immediately repay all of its outstanding indebtedness under the loan agreement. Prospects - Liquidity and Capital Resources - Credit facilities”.
There is no assurance that we will be able to generate the cash necessary to fund the scheduled payments from operations or from additional equity or debt financing or other funding sources or that our operating results will enable us to meet our covenants and financial ratios as of the end of each fiscal quarter. Our inability to comply with the repayment schedules, covenants or financial ratios under our debt instruments could result in a material adverse effect on us.
The terms of our credit facilities contain some restrictive covenants that may limit our business, financing and investing activities.
The terms of our credit facilities include customary covenants that impose restrictions on our business, financing and investing activities, subject to certain exceptions or the consent of our lenders including, among other things, limits on our ability to incur additional debt, create liens, enter into merger, acquisition and divestiture transactions, pay dividends and engage in transactions with affiliates. The credit facilities also contain certain customary affirmative covenants and events of default. Our ability to comply with the covenants may be adversely affected by events beyond our control, including but not limited to, economic, financial and industry conditions. A breach of any credit facility covenant that is not cured or waived may result in an event of default. This may allow our lenders to terminate the commitments under the credit facilities, declare all amounts outstanding under the credit facilities, together with accrued interest, to be immediately due and payable, and to exercise other rights and remedies. If this occurs, we may not be able to refinance the accelerated indebtedness on acceptable terms, or at all, or otherwise repay the accelerated indebtedness, which could have a material adverse effect on us.
In addition, certain covenants also limit our flexibility in planning for, or reacting to, changes in our business and our industry. Complying with these covenants limits our cash management, our ability to pay dividends and may impair our ability to finance our future operations, or acquisitions or capital needs or to engage in other favorable business activities.
A loss of the services of our senior management and other key personnel could adversely affect execution of our business strategy.
We depend on the capabilities and experience, and the continued services, of our senior management. The loss of the services of members of our senior management could create a gap in management and could result in the loss of expertise necessary for us to execute our business strategy and thereby adversely affect our business. We do not currently have “key person” life insurance with respect to any of our senior management.
Further, our ability to execute our business strategy also depends on our ability to continue to attract, retain and motivate qualified and skilled technical and creative personnel and skilled management, marketing and sales personnel, as well as third party technology vendors. Competition for well-qualified employees in our industry is intense and our continued ability to compete effectively depends, in part, upon our ability to retain existing key employees and to attract new skilled employees as well. If we cannot attract and retain additional key employees or if we lose one or more of our current key employees, our ability to develop or market our products and attract or acquire new users could be adversely affected. Although we have established programs to attract new employees and provide incentives to retain existing employees, particularly senior management, we cannot be assured that we will be able to retain the services of senior management or other key employees as we continue to integrate and develop our solutions or that we will be able to attract new employees in the future who are capable of making significant contributions. See “Item 6 Directors, Senior Management and Employees.”
We have acquired and intend tomay continue to acquire other businesses. These acquisitions divert a substantial part of our resources and management attention and have in the past and could in the future, cause further dilution to our shareholders and adversely affect our financial results.
We acquired Smilebox in August 2011, SweetIM in November 2012, ClientConnect in January 2014, Grow Mobile in July 2014, Make Me Reach in February 2015 and Undertone in November 2015, and we intend tomay continue to acquire complementary products, technologies or businesses. Seeking and negotiating potential acquisitions to a certain extent diverts our management’s attention from other business concerns and is expensive and time-consuming. New acquisitions couldAcquisitions expose us and our business to unforeseen liabilities or risks associated with the business or assets acquired or with entering new markets. In addition, we lost and might continue to lose key employees and vendors while integrating new organizations and may not effectively integrate the acquired products, technologies or businesses or achieve the anticipated revenues or cost benefits, orand we might harm our relationships with our future or current technology suppliers. Future acquisitions could result in customer dissatisfaction or vendor dissatisfaction or performance problems with an acquired product, technology or company. Paying the purchase price for acquisitions in the form of cash, debt or equity securities couldmay weaken our cash position, increase our leverage or dilute our existing shareholders, as the case may be.applicable. Furthermore, a substantial portion of the price paid for these acquisitions is typically for intangible assets. We may incur contingent liabilities, amortization expenses related to intangible assets or possible impairment charges related to goodwill or other intangible assets (which has occurred in the past) or become subject to litigation or other unanticipated events or circumstances relating to the acquisition,acquisitions, and we may not have, or may not be able to enforce, adequate remedies in order to protect our Company. Moreover, not all acquisitions result in better results of the acquiring company. All acquisitions may end up in losses, unwanted results and waste of valuable resources, time and money.
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In past years, we have recognized impairments in the carrying value of goodwill and purchased intangible assets. Additional such charges in the future could negatively affect our results of operations and shareholders’ equity.
We continue to have a substantial amount of goodwill and purchased intangible assets on our consolidated balance sheet as a result of historical acquisitions. The carrying value of goodwill represents the fair value of an acquired business in excess of identifiable assets and liabilities as of the acquisition date. The carrying value of intangible assets with identifiable useful lives represents the fair value of relationships, content, domain names and acquired technology, among other things, as of the acquisition date, and are amortized based on their economic lives. Goodwill that is expected to contribute indefinitely to our cash flows is not amortized but must be evaluated for impairment at least annually. If the carrying value exceeds current fair value as determined based on the discounted future cash flows of the related business, the goodwill or intangible asset is considered impaired and is reduced to fair value via a non-cash charge to earnings. Events and conditions that could result in impairment include adverse changes in the regulatory environment, a reduced market capitalization or other factors leading to reduction in expected long-term growth or profitability. Goodwill impairment analysis and measurement is a process that requires significant judgment. Our stock price and any control premium are factors affecting the assessment of the fair value of our underlying reporting units for purposes of performing any goodwill impairment assessment.
In 2017, we recorded an impairment charge in the total amount of approximately $85.7 million -see Item 5A “Operating and Financial Review and Prospects-Operating Results-Critical Accounting Policies and Estimates-Goodwill.” We will continue to conduct impairment analyses of our goodwill as required. Further impairment charges with respect to our goodwill would have a material adverse effect on our results of operations and shareholders’ equity in future periods.
Several shareholders may be able to control us.
As of March 10, 2019, we have several shareholders, that each beneficially holds more than 5% of our outstanding shares, including Mr. Dror Erez, who is currently a member of our board of directors. See Item 7.A for more information. To our knowledge, these shareholders are not party to a voting agreement with respect to our shares. However, should they or similar risks relatingany other shareholders decide to acquiring products, technologiesact together, they may have the power to control the outcome of matters submitted for the vote of shareholders. In addition, such share ownership may make certain transactions more difficult and result in delaying or businesses shouldpreventing a change in control of the company, unless approved by them.
Our share price has fluctuated significantly and could continue to fluctuate significantly.
The market price for our ordinary shares, as well as the prices of shares of other Internet companies, has been volatile. Between January 2018 and March 2019, our share price has fluctuated from a high of $4.05 to a low of $2.13, and the average trading volume has been relatively low. The following factors may cause significant fluctuations in the market price of our ordinary shares:
| · | negative fluctuations in our quarterly revenues and earnings or those of our competitors; |
| · | pending sales into the market due to the sale of large blocks of shares, due to, among other reasons, the expiration of any tax-related or contractual lock–ups with respect to significant amounts of our ordinary shares; |
| · | shortfalls in our operating results compared to levels forecast by us or securities analysts; |
| · | changes in our senior management; |
| · | changes in regulations or in policies of search engine companies or other industry conditions; |
| · | mergers and acquisitions by us or our competitors; |
| · | technological innovations; |
| · | the introduction of new products; |
| · | the conditions of the securities markets, particularly in the Internet and Israeli sectors; and |
| · | political, economic and other developments in Israel and worldwide. |
In addition, share prices of many technology companies in general and ad-tech companies in particular fluctuate significantly for reasons that may be unrelated or disproportionate to operating results. The factors discussed above may depress or cause volatility to our share price, regardless of our actual operating results.
Class action litigation due to share price volatility or other factors could cause us to incur substantial costs and divert our management’s attention and resources.
Historically, public companies that experience periods of volatility in the market price of their securities and/or engage in substantial transactions are sometimes the target of class action litigation. Companies in the Internet and software industry, such as ours, are particularly vulnerable to this kind of litigation as a result of the volatility of their stock prices and their regular involvement in transactional activities. In the past, we were named as a defendant in this type of litigation in connection with our acquisition of ClientConnect, and although this lawsuit was dismissed, in the future litigation of this sort could result in considerable costs and a diversion of management’s attention and resources.
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Future sales of our ordinary shares could reduce our stock price.
As of March 10, 2018, there were outstanding an aggregate of 3,554,628 options to purchase our ordinary shares. As these securities vest, the holders thereof could sell the underlying shares without restrictions, except for the volume limitations under Rule 144 applicable to our affiliates.
Sales by shareholders of substantial amounts of our ordinary shares, or the perception that these sales may occur in the future, could materially and adversely affect the market price of our ordinary shares. Furthermore, the market price of our ordinary shares could drop significantly if our executive officers, directors, or certain large shareholders sell their shares, or are perceived by the market as intending to sell them.
Exchange rate fluctuations may harm our earnings and asset base if we are not able to hedge our currency exchange risks effectively.
A significant portion of our costs, primarily personnel expenses, are incurred in NIS. Inflation in Israel may have the effect of increasing the U.S. dollar cost of our operations in Israel. Further, whenever the U.S. dollar declines in value in relation to the NIS, it will become more expensive for us to fund our operations in Israel. A revaluation of one percent of the NIS as compared to the U.S. dollar could impact our income before taxes by approximately $0.1 million. The exchange rate of the U.S. dollar to the NIS has been volatile in the past, decreasing by approximately 1% in 2016 and by approximately 10% in 2017, and increasing by approximately 8% in 2018. As of December 31, 2018, we had a foreign currency net liability of approximately $17.0 million (which number includes approximately $15.3 million in NIS denominated convertible bonds that we issued in Israel in September 2014), and our total foreign exchange gain was approximately $1.0 million for the year ended December 31, 2018. To assist us in assessing whether or not, and how to, hedge risks associated with fluctuations in currency exchange rates, we have contracted a consulting firm proficient in this area. We may incur losses from unfavorable fluctuations in foreign currency exchange rates.
We do not intend to pay cash dividends.
Although we have paid cash dividends in the past, our current policy is to retain future earnings, if any, for funding growth and reducing our debt. If we do not pay dividends, long-term holders of our shares will generate a return on their investment only if the market price of our shares appreciates between the date of purchase and the date of sale of our shares.
See “Item 8.A Consolidated Statements and Other Financial Information — Policy on Dividend Distribution” for additional information regarding the payment of dividends.
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We are subject to ongoing costs and risks associated with complying with extensive corporate governance and disclosure requirements.
As an Israeli public company, traded on Nasdaq, we incur significant legal, accounting and other expenses. We incur costs associated with our public company reporting requirements as well as costs associated with corporate governance and public disclosure requirements, including requirements under the Sarbanes-Oxley Act of 2002, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the Listing Rules of the Nasdaq Stock Market, regulations of the SEC, the provisions of the Israeli Securities Law that apply to dual listed companies (companies that are listed on the Tel Aviv Stock Exchange Ltd. (“TASE”) and another recognized stock exchange located outside of Israel) and the provisions of the Israeli Companies Law 5759-1999 (the “Companies Law”) that apply to us. For example, as a scalepublic company, we have created additional board committees and elected two external directors pursuant to the Companies Law. We have also contracted an internal auditor and a consultant for implementation of and compliance with the requirements under the Sarbanes-Oxley Act. Section 404 of the Sarbanes-Oxley Act requires an annual assessment by our management of our internal control over financial reporting of the effectiveness of these controls as of year-end. In connection with our efforts to comply with Section 404 and the other applicable provisions of the Sarbanes-Oxley Act, our management and other personnel devote a substantial amount of time, and we have hired, and may need to hire, additional accounting and financial staff to assure that we comply with these requirements. We are also required to have our independent registered public accounting firm issue an opinion on the effectiveness of our internal control over financial reporting on an annual basis. During the evaluation and testing process, if we identify one or more material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal control over financial reporting is greatereffective. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control over financial reporting, we could lose investor confidence in the accuracy and completeness of our financial reports, which could cause the price of our common stock to decline, and we may be subject to investigation or sanctions by the SEC. The additional management attention and costs relating to compliance with the foregoing requirements could adversely affect our financial results. See “Item 5 Operating and Financial Review and Prospects — Overview — General and Administrative Expenses” for a discussion of our increased expenses as a result of being a public company.
If we lose our foreign private issuer status under U.S. federal securities laws, we would incur additional expenses associated with compliance with the U.S. securities laws applicable to U.S. domestic issuers.
We are a foreign private issuer, as such term is defined under U.S. federal securities laws, and, therefore, we are not required to comply with all of the periodic disclosure and current reporting requirements applicable to U.S. domestic issuers. If we lost our foreign private issuer status, we would be required to comply with the reporting and other requirements applicable to U.S. domestic issuers, which are more extensive than the positive effects of the acquisition described above, ourrequirements for foreign private issuers and more expensive to comply with.
Our business could be materially harmed.negatively affected as a result of actions of activist shareholders, and such activism could impact the trading value of our securities.
In recent years, certain Israeli issuers listed on United States exchanges, as well as our Company, have been faced with governance-related demands from activist shareholders, as well as unsolicited tender offers and proxy contests. Although as a foreign private issuer we are not subject to U.S. proxy rules, responding to these types of actions by activist shareholders could be costly and time-consuming, disrupting our operations and diverting the attention of management and our employees. Such activities could interfere with our ability to execute our strategic plan. In addition, a proxy contest for the election of directors at our annual meeting would require us to incur significant legal fees and proxy solicitation expenses and require significant time and attention by management and our board of directors. The perceived uncertainties due to these potential actions of activist shareholders also could affect the market price and volatility of our securities.
The rights and responsibilities of our shareholders are governed by Israeli law and differ in some respects from the rights and responsibilities of shareholders under U.S. law.
We are incorporated under Israeli law. The rights and responsibilities of holders of our ordinary shares are governed by our memorandum of association, articles of association and by Israeli law. These rights and responsibilities differ in some respects from the rights and responsibilities of shareholders in typical U.S. corporations. In particular, a shareholder of an Israeli company has a duty to act in good faith in exercising his or her rights and fulfilling his or her obligations toward the company and other shareholders and to refrain from abusing his or her power in the company, including, among other things, in voting at the general meeting of shareholders on certain matters. Israeli law provides that these duties are applicable in shareholder votes at the general meeting with respect to, among other things, amendments to a company’s articles of association, increases in a company’s authorized share capital, mergers and actions and transactions involving interests of officers, directors or other interested parties which require shareholders’ approval. There is little case law available to assist in understanding the implications of these provisions that govern shareholder behavior.
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As a foreign private issuer, whose shares are listed on Nasdaq, we follow certain home country corporate governance practices instead of certain Nasdaq requirements.
As a foreign private issuer, whose shares are listed on Nasdaq, we are permitted to follow certain home country corporate governance practices instead of certain requirements contained in the Nasdaq listing rules. We follow the requirements of the Companies Law in Israel, rather than comply with the Nasdaq requirements, in certain matters, including with respect to the quorum for shareholder meetings, sending annual reports to shareholders, and shareholder approval with respect to certain issuances of securities. See “Item 16.G – Corporate Governance” in this Annual Report for a more complete discussion of the Nasdaq Listing Rules and the home country practices we follow. As a foreign private issuer listed on Nasdaq, we may also elect in the future to follow home country practice with regard to other matters as well. Accordingly, our shareholders may not be afforded the same protection as provided under Nasdaq’s corporate governance rules to shareholders of U.S. domestic companies.
Provisions of our articles of association and Israeli law may delay, prevent or make an acquisition of our Company difficult, which could prevent a change of control and, therefore, depress the price of our shares.
Israeli corporate law regulates mergers, requires tender offers for acquisitions of shares above specified thresholds, requires special approvals for transactions involving directors, officers or significant shareholders and regulates other matters that may be relevant to these types of transactions. In addition, our articles of association contain provisions that may make it more difficult to acquire our Company, such as provisions establishing a staggered board. Furthermore, Israeli tax considerations may make potential transactions unappealing to us or to some of our shareholders. See “Item 10.B Memorandum and Articles of Association — Approval of Related Party Transactions” and “Item 10.E – Taxation — Israeli Taxation” for additional discussion about some anti-takeover effects of Israeli law.
These provisions of Israeli law may delay, prevent or make difficult an acquisition of our Company, which could prevent a change of control and therefore depress the price of our shares.
If we do not satisfy the Nasdaq requirements for continued listing, our ordinary shares could be delisted from Nasdaq.
Our listing on the Nasdaq Stock Market is contingent on our compliance with the NASDAQ’s conditions for continued listing. One of such conditions is maintaining a bid price for our ordinary shares of least $1.00 per share. In March 2018 the price of our ordinary shares dropped below $1.00 per share, and in June we regained compliance with Nasdaq's minimum bid price requirement. Further, on August 26, 2018, following the approval of a special general meeting of our shareholder held on August 2, 2018, we consummated a 3-to-1 reverse share split which also increased the bid price of our ordinary shares. Nevertheless, if our ordinary shares trade for 30 consecutive business days below the $1.00 minimum closing bid price requirement, Nasdaq will send us a deficiency notice giving us 180 calendar days to regain compliance, such as by effecting another reverse share split. There is no assurance that our share price will not decrease in the future below $1.00 per share for a period of 30 consecutive business days or, if it does, that we will be able to regain compliance in a timely manner. If our ordinary shares are delisted from Nasdaq, their liquidity and price may decline.
Our ordinary shares are traded on more than one market and this may result in price variations.
Our ordinary shares are traded on the Nasdaq Global Select Market and on TASE. Trading in our ordinary shares on these markets is effected in different currencies (U.S. dollars on Nasdaq and NIS on TASE) and at different times (resulting from different time zones, different trading days per week and different public holidays in the United States and Israel). Consequently, the trading prices of our ordinary shares on these two markets often differ, resulting from the factors described above as well as differences in exchange rates and from political events and economic conditions in the United States and Israel. Any decrease in the trading price of our ordinary shares on one of these markets could cause a decrease in the trading price of our ordinary shares on the other market.
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Risks related to our Technological Environment
Our financial performance may be materially adversely affected by information technology, insufficient cyber security and other business disruptions.
Our business is constantly challenged and may be impacted by disruptions, including information technology attacks or failures. Cybersecurity attacks, in particular, are evolving and include, but are not limited to, malicious software, attempts to gain unauthorized access to data, and other electronic security breaches that could lead to disruptions in systems, unauthorized release of confidential or otherwise protected information and corruption of data and overloading our servers and systems with communications and data. Unidentified groups have hacked numerous Internet websites and servers, including our own, for various reasons, political, commercial and other. Given the unpredictability of the timing, nature and scope of such disruptions, we could potentially be subject to substantial system downtimes, operational delays, other detrimental impacts on our operations or ability to provide products and services to our customers, the compromising of confidential or otherwise protected information, destruction or corruption of data, security breaches, other manipulation or improper use of our systems and networks, financial losses from remedial actions, loss of business or potential liability, and/or damage to our reputation, any of which could have a material adverse effect on our cash flows, competitive position, financial condition and results of operations. Although these attacks cause certain difficulties, they have not had a material effect on our business, financial condition or results of operations. However, there can be no assurance that such attacks can be prevented or that any such incidents will not have a material adverse effect on us in the future.
If fraudulent or other malicious activity is perpetrated by others, and we are deemedunable to be non-compliantdetect and prevent it, the affected advertisers may experience or perceive a reduced return on their investment. High levels of invalid or fraudulent activity could lead to dissatisfaction with applicable data protection laws,our advertising services, refusals to pay, refund or are even thoughtmake-good demands, or withdrawal of future business. Any of these occurrences could damage our brand and lead to be so,a loss of our operating results could be materially affected.
Should some of our product and usetechnology vendors terminate their relationship with us, our ability to continue the development of some of our services, it is possible that these laws mayproducts could be interpreted and applied in a manner that is inconsistent with our data collection, use, and preservation practices or that it may be argued that our practices do not comply with other countries' privacy and data protection laws and regulations. In addition to the possibility of fines,adversely affected, until such a situation could result in the issuance of an order requiringtime that we change our data collectionfind adequate replacement for these vendors, or retention practices, which in turn could have a material adverse effectuntil such time that we can continue the development on our business. See "Item 4.B Business Overview — Government Regulation"own.
We may not be able to enhance our platform to keep pace with technological and market developments in our evolving industry.
To keep pace with technological developments, satisfy increasing developer requirements, maintain the attractiveness and competitiveness of our advertising solutions and ensure compatibility with evolving industry standards, we will need to regularly enhance our platform and develop and introduce new services on a timely basis. We also must update our software to reflect changes in advertising networks’ application programming interfaces (“APIs”), technological integration and terms of use. The success of any enhancement or new solution depends on several factors, including timely completion, adequate quality testing, appropriate introduction and market acceptance. Our inability, for additional discussiontechnological, business or other reasons, to timely enhance, develop, introduce and deliver compelling advertising services in response to changing market conditions and technologies or evolving expectations of applicable regulations.advertisers or consumers could hurt our ability to grow our mobile marketing business.
Our products operate in a variety of computer and device configurations and could contain undetected errors or defects that could result in product failures, lost revenues and loss of market share.
Our software and advertising products may contain undetected errors, failures or defects, especially when the products are first introduced or when new versions are released. Our customers’ computer and other device environments are often characterized by a wide variety of standard and non-standard configurations that make pre-release testing for programming or compatibility errors very difficult and time-consuming. As a result, there could be errors or failures in our products. In addition, despite testing by us and beta testing by some of our users, errors, failures or bugs may not be found in new products or releases until after commencement of commercial sales. In the past, we have discovered software errors, failures and defects in certain of our product offerings after their full introduction and have experienced delayed or lost revenues during the period required to correct these errors.
Errors, failures or defects in products released by us could result in negative publicity, product returns, makegoods,make-goods, refunds, loss of or delay in market acceptance of our products, loss of competitive position or claims by customers. Alleviating any of these problems could require significant expense and resources and could cause interruptions.interruptions to our products.
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We depend on third party Internet, telecommunication and telecommunicationhosting providers to operate our websites and web-based services. Temporary failure of these services, including catastrophic or technological interruptions, would materially reduce our revenues and damage our reputation, and securing alternate sources for these services could significantly increase our expenses and be difficult to obtain.
The introduction of new browsers and other popular software products may materially adversely affect user engagement with our search services.
Users typically install new software and update their existing software as new or updated software is introduced online by third-party developers. In addition, when a user purchases a new computing device or installs a new Internet browser, it generally uses the Internet search services that are typically pre-installed on the new device or Internet browser. Our products are distributed online and are usually not pre-installed on computing devices. Further, as many software vendors that distribute their solutions online also offer search services alongside their primary software product, users often replace our search services with those provided by these vendors in the course of installing new software or updating existing software. After users have installed search solutions offered by us, any event that results in a significant number of our users changing or upgrading their Internet browsers could result in the failure to generate the revenues that we anticipate from our users and result in a decline in our user base. Finally, although we constantly monitor the compatibility of our Internet search services and related solutions with such new versions and upgrades, we may not be able to make the required adjustments to ensure constant availability and compatibility of such solutions.
Risks related to Regulatory Changes
Regulatory, legislative, or self-regulatory developments relating to e-commerce, Internet advertising, privacy and data collection and protection, and uncertainties regarding the application or interpretation of existing laws and regulations, could harm our Solutions’ Reputation and Perception
business.Our business depends on a strong brand reputation,is conducted through the Internet and iftherefore, among other things, we are subject to the laws and regulations that apply to e-commerce and online businesses around the world. These laws and regulations are becoming more prevalent in the United States, Europe, Israel, Canada and elsewhere and may impede the growth of the Internet and consequently our services. These regulations and laws may cover user privacy, data collection and protection, location of data storage and processing, content, use of “cookies,” access changes, “net neutrality,” pricing, advertising, distribution of “spam,” intellectual property, distribution of products, protection of minors, consumer protection, taxation and online payment services.
Many areas of the law affecting the Internet remain largely unsettled, even in areas where there has been some legislative action. This uncertainty can be compounded when services hosted in one jurisdiction are directed at users in another jurisdiction. For instance, European data protection rules may apply to companies which are not ableestablished in the European Union. The General Data Protection Regulation (which became effective in May 2018) presumably have an even wider territorial scope, broadened the definition of personal data to maintaininclude location data and enhanceonline identifiers, and imposes more stringent user consent requirements. Further, it includes stringent operational requirements for companies that process personal data and will contain significant penalties for non-compliance. Also in other relevant subject matters, such as cyber security, e-commerce, copyright and cookies, new European initiatives have been announced by the European regulators. To further complicate matters in Europe, to date, member States have some flexibility when implementing European Directives and certain aspects of the General Data Protection Regulation, which can lead to diverging national rules. Similarly, there have been laws and regulations adopted in Israel and throughout the United States (including the California Consumer Privacy Act (2018) which will become effective on January 1, 2020 and may affect us) that would impose new obligations in areas such as privacy, in particular protection of personally identifiable information and implementing adequate security measures to protect such information, and liability for copyright infringement by third parties. Therefore, it is difficult to determine whether and how existing laws, such as those governing intellectual property, privacy, data collection and protection, libel, marketing, data security and taxation, apply to the Internet and our brand,business.
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Due to rapid changes in technology and the inconsistent interpretations of privacy and data protection laws, we may be required to materially change the way we do business. For example, we may be required to implement physical, administrative and technological security measures that differ from those we have now, such as different data access controls or encryption technology. In addition, we use cloud-based computing, which is not without substantial risk, particularly at a time when businesses of almost every kind are finding themselves subject to an ever- expanding range of state and federal data security and privacy laws, document retention requirements, and other standards of accountability. Compliance with such existing and proposed laws and regulations can be costly and can delay, or impede the development of new products, result in negative publicity, increase our operating costs, require significant management time and attention and subject us to inquiries or investigations, claims or other remedies, including fines or demands that we modify or cease existing business practices.
In addition to compliance with government regulations, Undertone voluntarily participates in several trade associations and resultsindustry self-regulatory groups that promulgate best practices or codes of operationsconduct relating to digital advertising, including the Internet Advertising Bureau, the Network Advertising Initiative and the Digital Advertising Alliance. We could be materially adversely affected.
For more information regarding government regulations to fraud on publisher sites on which we serve ads, service outages, product malfunctions, data protection and security issues, and exploitationare subject, see “Item 4.B Business Overview — Government Regulation” for additional discussion of applicable regulations affecting our trademarks by others without our permission. business.
If we are unabledeemed to maintainbe non-compliant with applicable data protection laws, or enhanceare even thought to be so, our Undertone brand in a cost-effective manner, our business and operating results could be materially adversely affected.
We may be unablecollect, use, and maintain certain data about our customers, partners, employees and consumers. Such collection and maintenance of information is subject to deliver advertisingdata protection laws and regulations. A failure to comply with applicable regulations could result in a brand safe environment,class actions, governmental investigations and orders, administrative fines and criminal and civil liabilities, which could materially affect our operating results. Moreover, concerns about our collection, use, sharing or handling of such data or other privacy related matters, even if unfounded, could harm our reputation and causeoperating results.
Although we strive to comply with the applicable laws and regulations and use our best efforts to comply with the evolving global standards regarding privacy and inform our customers of our business practices prior to suffer.
If one or more states or countries determine that we are required to collect sales, use, or other taxes on the services that we sell, this may result in liability to pay sales, use, and other taxes (plus interest and penalties) on prior sales and a decrease in our future sales revenue.
In general, the digital advertising business has not traditionally paid sales tax. However, a successful assertion by their customers. Unlikeone or more cities, states or countries that digital advertising in other mediums, we cannot guaranteeservices should be subject to such taxes or that online advertisements will not appear in such an environment. If we are not successfulproviding digital advertising services, but other services and should collect sales, use, or other taxes on the sale of our services, or that we have failed to do so where required in delivering adsthe past, could result in a decrease in future sales and/or substantial tax liabilities for past sales. Each state and country has different rules and regulations governing sales, use, and other taxes, and these rules and regulations are subject to varying interpretations that may change over time.
Following a US Supreme Court decision regarding the rights of individual states to tax out of state suppliers, certain states have adapted their statutes to expand taxation on out-of-state suppliers of goods and services. Some states are also pursuing legislative expansion of the scope of goods and services that are subject to sales and similar taxes as well as the circumstances in which a vendor of goods and services must collect such an environment,taxes. Furthermore, legislative proposals have been introduced in Congress that would provide states with additional authority to impose such taxes. Accordingly, it is possible that either federal or state legislative changes may require us to collect additional sales and similar taxes from our reputation could suffer and our ability to attract potential advertisers and retain and expand business with existing advertisers could be harmed, or our customers may seek to avoid payment or demand refunds, any ofclients in the future which could harmimpact our businessfuture sales, and operating results.therefore result in a material adverse effect on our revenue.
Certain countries in the European Union and elsewhere have recently proposed taxation on digital services including digital advertising, in various forms, such proposed taxes may have an impact on us.
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Under current Israeli, U.S., U.K., French and German law, we may not be able to enforce non-competition and non-solicitation covenants and, therefore, we may be unable to prevent our competitors from benefiting from the expertise of some of our former employees and/or vendors, whether current or former.
We have experienced a decline in business,entered into non-competition and market perceptionnon-solicitation agreements with many of our search business has not been favorable. Asemployees and vendors. These agreements prohibit our employees and vendors, if they terminate their relationship with us, from competing directly with us, working for our competitors, or soliciting current employees away from us for a result,limited period. Under current Israeli, U.S., U.K., French and German law, we may be unable to enforce these agreements, in whole or in part, and it may be difficult for us to restrict our competitors from gaining the expertise that our former employees gained while working for us. For example, Israeli courts have difficulty achieving revenue growth and entering new markets.
company’s confidential commercial information or its intellectual property. If we cannot maintaindemonstrate that harm would be caused to us, we may be unable to prevent our competitors from benefiting from the commitmentexpertise of our employees, recruit new employees and make the acquisitions required to enhance our organic activity, we may not return to revenue growth and our financial results will suffer.
former employees.
Risks Related to our Intellectual Property
Our proprietary information and intellectual property may not be adequately protected and thus our technology may be unlawfully copied by or disclosed to other third parties.
We generally enter into confidentiality and invention assignment agreements with our employees and contractors, and confidentiality agreements with parties with whom we conduct business, in order to limit access to, and the disclosure and use of, our proprietary information. However, we may not be successful in executing these agreements with every party who has access to our confidential information or contributes to the development of our intellectual property. In addition, those agreements that we do execute may be breached, and we may not have adequate remedies for any such breach. Further, these contractual arrangements and the other steps we have taken to protect our intellectual property may not prevent the misappropriation of our intellectual property and/or trade secrets, or deter independent development of similar intellectual property by others.
In addition, there is no assurance that any existing or future patents or trademarks will afford adequate protection against competitors and similar technologies. Our intellectual property rights may be challenged, invalidated, or circumvented by others or invalidated through administrative process or litigation. Effective trademark and patent protections are expensive to develop and maintain, as are the costs of defending our rights. Further, we cannot assure you that competitors will not infringe our patents or trademarks, or that we will have adequate resources to enforce our rights.
Third party claims of infringement or other claims against us could require us to redesign our products, seek licenses, or engage in costly intellectual property litigation, which could adversely affect our financial position and our ability to execute our business strategy.
Given the competitive and technology-driven nature of the digital advertising industry, companies within our industry companies often design and use similar products and services. At times, this can causeservices, which may lead to claims of intellectual property infringement and potentially litigation. Further,We have been, and in the appealfuture may be, the subject of some of our products is largely the result of the graphics, sound and multimedia content that we incorporate into our products. We enter into licensing arrangements with third parties for some of these uses. However, other third parties may from time to time claimclaims that our currentsolutions and underlying technology infringe or future use of content, sound and graphics infringe theirviolate the intellectual property rights and seek to prevent, limit or interfere with our ability to make, use or sell our products. We have experiencedof others. Regardless of whether such claims inhave any merit, these claims are time-consuming and costly to evaluate and defend, and the past although ultimately with no material consequence.outcome of any litigation is inherently uncertain. Our business may suffer if we are unable to resolve infringement or misappropriation claims without major financial expenditures or adverse consequences.
If it appears necessary or desirable, we may seek to obtain licenses forto use intellectual property rights that we are allegedly infringing, may infringe or desire to use. Although holders of these types of intellectual property rights often offer these licenses, we cannot assure you that licenses will be offered or that the terms of any offered licenses will be acceptable to us. Our failure to obtain a license for key intellectual property rights such as these from a third party for technology or content, sound, or graphic used by us could cause us to incur substantial liabilities and to suspend the development and sale of our products. Alternatively, we could be required to expend significant resources to re-design our products or develop non-infringing technology. If we are unable to re-design our products or develop non-infringing technology, our revenues could decrease and we may not be able to execute our business strategy.
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On December 22, 2015, Adtile Technologies Inc. filed a lawsuit against Perion and Undertone alleging, inter alia, that Undertone’s UMotion advertising format, “hand phone” image, and use of the full tilt library infringes on its intellectual property. On February 3, 2016, Adtile Technologies Inc. filed a motion for preliminary injunction to, inter alia, prevent Undertone from creating or selling motion-activated advertisements. IfOn June 23, 2016, the court denied Adtile’s motion for a preliminary injunction. On June 24, 2016, the court (i) granted Perion’s motion to dismiss and (ii) granted Undertone’s motion to stay the action and compel arbitration. As of the date of this report, Adtile had not commenced an arbitration proceeding and the court dismissed the case for administrative reasons. We believe that we have strong defenses against this lawsuit and we intend to defend against it vigorously if the case is ever resubmitted. However, if we do not prevail in this case, we may incur monetary damages and/or be prohibited from using certain intellectual property.
We may also become involved in litigation in connection with the brand name rights associated with our Company name or the names of our products. We do not know whether others will assert that our Company name or any of our brands name infringe(s) their trademark rights. In addition, names we choose for our products may be alleged to infringe names held by others. If we have to change the name of our Company or products, we may experience a loss in goodwill associated with our brand name, customer confusion and a loss of sales. Any lawsuit, regardless of its merit, would likely be time-consuming, expensive to resolve, and require additional management time and attention.
We may become subject to claims for remuneration or royalties for assigned service invention rights by our employees, which could result in litigation and adversely affect our business.
A significant portion of our intellectual property has been developed by our employees in the course of their employment for us. Under the Israeli Patent Law, 5727-1967, or the Patent Law, inventions conceived by an employee in the course and as a result of or arising from his or her employment with a company are regarded as “service inventions,” which belong to the employer, absent a specific agreement between the employee and employer giving the employee service invention rights. The Patent Law also provides that if there is no such agreement between an employer and an employee, the Israeli Compensation and Royalties Committee, or the Committee, a body constituted under the Patent Law, shall determine whether the employee is entitled to remuneration for his inventions. Case law clarifies that the right to receive consideration for “service inventions” can be waived by the employee and that in certain circumstances, such waiver does not necessarily have to be explicit. The Committee will examine, on a case-by-case basis, the general contractual framework between the parties, using interpretation rules of the general Israeli contract laws. Further, the Committee has not yet determined one specific formula for calculating this remuneration (but rather uses the criteria specified in the Patent Law). Although we generally enter into assignment-of-invention agreements with our employees pursuant to which such individuals assign to us all rights to any inventions created in the scope of their employment or engagement with us, we may face claims demanding remuneration in consideration for assigned inventions. As a consequence of such claims, we could be required to pay additional remuneration or royalties to our current and/or former employees, or be forced to litigate such claims, which could negatively affect our business.
We use certain "open source"“open source” software tools that may be subject to intellectual property infringement claims or that may subject our derivative works or products to unintended consequences, possibly impairing our product development plans, interfering with our ability to support our clients or requiring us to allow access to the source code of our products or necessitating that we pay licensing fees.
Certain of our products contain open source code and we may use more open source code in the future. In addition, certain third party software that we embed in our products contains open source code. Open source code is code that is covered by a license agreement that permits the user to liberally use, copy, modify and distribute the software without cost, provided that users and modifiers abide by certain licensing requirements. The original developers of the open source code provide no warranties on such code.
As a result of the use of open source software, we could be subject to suits by parties claiming ownership of what they believe to be their proprietary code or we may incur expenses in defending claims alleging non-compliance with certain open source code license terms. In addition, third party licensors do not provide intellectual property protection with respect to the open source components of their products, and we may be unable to be indemnified by such third partythird-party licensors in the event that we or our customers are held liable in respect of the open source software contained in such third party software. If we are not successful in defending against any such claims that may arise, we may be subject to injunctions and/or monetary damages or be required to remove the open source code from our products. Such events could disrupt our operations and the sales of our products, which would negatively impact our revenues and cash flow.
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Moreover, under certain conditions, the use of open source code to create derivative code may obligate us to make the resulting derivative code available to others at no cost. The circumstances under which our use of open source code would compel us to offer derivative code at no cost are subject to varying interpretations. If we are required to publicly disclose the source code for such derivative products or to license our derivative products that use an open source license, our previously proprietary software products may be available to others without charge. If this happens, our customers and our competitors may have access to our products without cost to them which could harm our business. Certain open source licenses require as a condition to use, modification and/or distribution of such open source that proprietary software incorporated into, derived from or distributed with such open source be disclosed or distributed in source code form, be licensed for the purpose of making derivative works, or be redistributable at no charge. The foregoing may under certain conditions be interpreted to apply to our software, depending upon the use of the open source and the interpretation of the applicable open source licenses.
We monitor our use of open source code to avoid subjecting our products to conditions we do not intend. The use of open source code, however, may ultimately subject some of our products to unintended conditions so that we are required to take remedial action that may divert resources away from our development efforts.
Risks Related to the Geographical Location of our Operations
Our business is significantly reliant on the North American market. Any material adverse change in Israelthat market could have a material adverse effect on our results of operations.
Our revenues have been concentrated within the North American market, accounting for approximately 78% of our revenues for 2018. A significant reduction in the revenues generated in such market, whether as a result of a recession that causes a reduction in advertising expenditures generally or otherwise, which causes a decrease in our North American revenues, could have a material adverse effect on our results of operations.
Our business may be materially affected by changes to fiscal and tax policies. Potentially negative or unexpected tax consequences of these policies, or the uncertainty surrounding their potential effects, could adversely affect our results of operations and share price.
We operate in a global market and are subject to tax in Israel and other jurisdictions. Our tax expenses may be affected by changes in tax laws, international tax treaties, international tax guidelines (such as the Base Erosion and Profit Shifting project of the OECD (“BEPS”)).
More specifically, the U.S. Tax Cuts and Jobs Act of 2017 (“TCJA”) was approved by Congress on December 20, 2017, and signed into law by President Donald J. Trump on December 22, 2017. This legislation makes significant changes to the U.S. Internal Revenue Code of 1986, as amended (the “Code”). Such changes include a reduction in the corporate tax rate, changes in international taxation, and limitations on certain corporate deductions and credits, among other changes.
Certain of these changes could have a negative impact on our results of operations and business. The impact of these changes is uncertain, and may not become evident for some period of time. The uncertainty surrounding the effect of the reforms on our financial results and business could also weaken confidence among investors in our financial condition. This could, in turn, have a materially adverse effect on the price of our ordinary shares. Prospective investors are urged to consult their tax advisors regarding the effect of these changes to the U.S. federal tax laws on an investment in our shares.
Our international operations involve special risks that could increase our expenses, adversely affect our operating results and require increased time and attention of our management.
A large portion of our operations are performed from outside the United States. In addition, we derive and expect to continue to derive a portion of our revenues from users outside the United States. Our international operations and sales are subject to a number of inherent risks, including risks with respect to:
| · | potential loss of proprietary information due to piracy, misappropriation or laws that may be less protective of our intellectual property rights than those of the United States; |
| · | costs and delays associated with translating and supporting our products in multiple languages; |
| · | foreign exchange rate fluctuations and economic instability, such as higher interest rates and inflation, which could make our products more expensive in those countries; |
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| · | costs of compliance with a variety of laws and regulations; |
| · | restrictive governmental actions such as trade restrictions and potential trade wars; |
| · | limitations on the transfer and repatriation of funds and foreign currency exchange restrictions; |
| · | compliance with different consumer and data protection laws and restrictions on pricing or discounts; |
| · | lower levels of adoption or use of the Internet and other technologies vital to our business and the lack of appropriate infrastructure to support widespread Internet usage; |
| · | lower levels of consumer spending on a per capita basis and fewer opportunities for growth in certain foreign market segments compared to the United States; |
| · | lower levels of credit card usage and increased payment risk; |
| · | changes in domestic and international tax regulations; and |
| · | geopolitical events, including war and terrorism. |
Political, economic and military instability in the Middle East may impede our ability to operate and harm our financial results.
Our principal executive offices are located in Israel. In addition, a number of our officers and directors are residents of Israel. Accordingly, political, economic and military conditions in Israel and the Middle Eastsurrounding region may directly affect our business directly.and operations. Since the establishment of the State of Israel in 1948, a number of armed conflicts have occurredtaken place between Israel and its Arab neighbors, Hamas (an Islamistneighboring countries, as well as terrorist acts committed within Israel by hostile elements. Any hostilities involving Israel or the interruption or curtailment of trade between Israel and its trading partners could adversely affect our operations and results of operations. During November 2012 and from July through August 2014, Israel was engaged in an armed conflict with a militia group and political party who controls the Gaza Strip, and during the summer of 2006, Israel was engaged in an armed conflict with Hezbollah, a Lebanese Islamist Shiite militia group and political party. In December 2008 and January 2009 there was an escalation in violence among Israel, Hamas, the Palestinian Authority and other groups, as well as extensive hostilities along Israel’s border with the Gaza Strip, which resulted in missiles being fired from the Gaza Strip into Southern Israel. Similar hostilities accompanied by missiles being fired from the Gaza Strip into Southern Israel, as well at areas more centrally located near Tel Aviv and at areas surrounding Jerusalem, occurred during November 2012 and July through August 2014. These conflicts involved missile strikes against civilian targets in various parts of Israel, including areas in which our employees and some of our consultants are located, and negatively affected business conditions in Israel. Since February 2011, Egypt has experienced political turbulence and an increase in terrorist activity in the Gaza Strip)Sinai Peninsula. Such political turbulence and Hezbollah (an Islamist militiaviolence may damage peaceful and diplomatic relations between Israel and Egypt, and could affect the region as a whole. Similar civil unrest and political groupturbulence has occurred in Lebanon). Recent political uprisings, social unrest and violence in variousother countries in the Middle Eastregion, including Syria, which shares a common border with Israel, and North Africa, including Israel’s neighbors Egypt and Syria, areis affecting the political stability of those countries. Since April 2011, internal conflict in Syria has escalated, and chemical weapons have been used in the region. Foreign actors have and continue to intervene in Syria. This instability and any intervention may lead to deterioration of the political and economic relationships that exist between the State of Israel and some of these countries, and may have raised concerns regarding security in the region and the potential for armed conflict.additional conflicts in the region. In addition, Iran has threatened to attack Israel and is believed tomay be developing nuclear weapons. Iran is also believed to havehas a strong influence among extremist groups in the Syrian government,region, including Hamas in Gaza, Hezbollah in Lebanon and Hezbollah.various rebel militia groups in Syria. These situations have escalated at various points in recent years and may potentially escalate in the future to more violent events, which may affect Israel and us. These situations, includingAny armed conflicts, which involved missile strikes against civilian targets in various parts of Israel, such as the Gaza conflictterrorist activities or political instability in the summer of 2014, have in the past negatively affectedregion could adversely affect business conditions and could harm our results of operations and could make it more difficult for us to raise capital. Parties with whom we do business have sometimes declined to travel to Israel during periods of heightened unrest or tension, forcing us to make alternative arrangements when necessary in Israel. Any hostilities involving Israel could have a material adverse effect onorder to meet our business operating results and financial condition. Although such hostilities did not inpartners face to face. In addition, the past have a material adverse impact on our business, we cannot guarantee that hostilities will not be renewed and have such an effect in the future. Ongoing and revived hostilities and the attempts to resolve the conflict between Israel and its Arab neighbors often results in political instability that affects the Israeli capital markets and can cause volatility in interest rates, exchange rates and stock market quotes. The political and security situation in Israel may result in parties with whom we have contractsagreements involving performance in Israel claiming that they are not obligated to perform their commitments under those agreements pursuant to force majeure provisions. These or other Israeli political or economic factors could harm our operations and product development and cause our sales to decrease. Since our headquarters are locatedprovisions in Israel, we could experience serious disruptions if acts associated with this conflict result in any serious damage to our facilities. such agreements.
Our business interruptioncommercial insurance maydoes not adequately compensate us forcover losses that may occur and anyas a result of events associated with the security situation in the Middle East. Although the Israeli government currently covers the reinstatement value of direct damages that are caused by terrorist attacks or acts of war, we cannot assure you that this government coverage will be maintained or that it will sufficiently cover our potential damages. Any losses or damages incurred by us could have a material adverse effect on our business. Any future armed conflicts or political instability in the region would likely negatively affect business conditions and could harm our results of operations and make it more difficult for us to raise capital.
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In addition, many Israeli personnelcitizens are obligated to perform several days, and in some cases more, of annual military service.
Investors and our shareholders generally may have difficulties enforcing a U.S. judgment against us, our executive officers or our directors or asserting U.S. securities laws claims in Israel.
We are incorporated under the laws of the State of Israel. Service of process on us, our Israeli subsidiaries, our directors and officers and the Israeli experts, if any, named in this annual report, substantially all of whom reside outside of the United States, may be difficult to obtain within the United States.
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Furthermore, because the majoritya significant portion of our assets and investments, and substantially all of our directors, officers and Israeli external experts are located outside the United States, any judgment obtained in the United States against us or any of them may be difficult to collect within the United States.
We have been informed by our legal counsel in Israel that it may also be difficult to assert U.S. securities laws claims in original actions instituted in Israel. Israeli courts may refuse to hear a claim based on an alleged violation of U.S. securities laws reasoning that Israel is not the most appropriate forum to bring such a claim. In addition, even if an Israeli court agrees to hear a claim, it may determine that Israeli law and not U.S. law is applicable to the claim. There is little binding case law in Israel addressing these matters. If U.S. law is found to be applicable, the content of applicable U.S. law must be proved as a fact, which can be a time-consuming and costly process. Certain matters of procedure will also be governed by Israeli law.
Subject to specified time limitations and legal procedures, under the rules of private international law currently prevailing in Israel, Israeli courts may enforce a U.S. judgment in a civil matter, including a judgment based upon the civil liability provisions of the U.S. securities laws, as well as a monetary or compensatory judgment in a non-civil matter, provided that the following key conditions are met:
| · | subject to limited exceptions, the judgment is final and non-appealable; |
| · | the judgment was given by a court competent under the laws of the state of the court and is otherwise enforceable in such state; |
| · | the judgment was rendered by a court competent under the rules of private international law applicable in Israel; |
| · | the laws of the state in which the judgment was given provide for the enforcement of judgments of Israeli courts; |
| · | adequate service of process has been effected and the defendant has had a reasonable opportunity to present his arguments and evidence; |
| · | the judgment and its enforcement are not contrary to the law, public policy, security or sovereignty of the State of Israel; |
| · | the judgment was not obtained by fraud and does not conflict with any other valid judgment in the same matter between the same parties; and |
| · | an action between the same parties in the same matter was not pending in any Israeli court at the time the lawsuit was instituted in the U.S. court. |
The tax benefits available to us for activities in Israel require us to meet several conditions and may be terminated or reduced in the future, which would increase our costs and taxes.
We have benefited and currently benefit from a variety of Israeli government programs and tax benefits with regards to our operations in Israel, that generally carry conditions that we must meet in order to be eligible to obtain any benefit. Our tax expenses and the resulting effective tax rate reflected in our financial statements may increase over time as a result of changes in corporate income tax rates, other changes in the tax laws of the countries in which we operate, non-deductible expenses, loss and timing differences, or changes in the mix of countries, where we generate profit.
If we fail to meet the conditions upon which certain favorable tax treatment is based, we would not be able to claim future tax benefits and could be required to refund tax benefits already received. Any of the following could have a material effect on our overall effective tax rate:
| · | we may be unable to meet the requirements for continuing to qualify for some programs; |
| · | these programs and tax benefits may be unavailable at their current levels; or |
| · | we may be required to refund previously recognized tax benefits if we are found to be in violation of the stipulated conditions. |
Additional details are provided in "Item“Item 5 – Operating and Financial Review and Products"Products” under the caption "Taxes“Taxes on income,"” in "Item“Item 10 – Additional Information"Information” under the caption "Israeli“Israeli taxation, foreign exchange regulation and investment programs"programs” and in note 10Note 14 to our Financial Statements.
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If we are characterized as a passive foreign investment company, our U.S. shareholders may suffer adverse tax consequences.
Non-U.S. corporations generally may be characterized as a passive foreign investment company ("PFIC"(“PFIC”) for any taxable year, if, after applying certain look through rules, either (1) 75% or more of such company’s gross income is passive income, or (2) at least 50% of the average percentage, generally determined by fair value of all such company’s assets (determined on a quarterly basis) are held for the production of, or produce, passive income. For this purpose, passive income includes, for example, dividends, interest, certain rents and royalties, and gain from the disposition of property that produces such income.
If we are characterized as a PFIC for any taxable year, our U.S. shareholders may suffer adverse tax consequences, including having gains realized on the sale of our ordinary shares taxed at ordinary income rates, rather than capital gain rates. Similar rules apply to distributions that are "excess“excess distributions."” In addition, both gains upon disposition and amounts received as excess distributions could be subject to an additional interest charge. A determination that we are a PFIC could also have an adverse effect on the price and marketability of our ordinary shares.
We do not believe that in 2015 we were a PFIC for our prior taxable year and we intend to conduct our business so that we should not be treated as a PFIC.PFIC for our current taxable year or any future taxable year. However, because the PFIC determination is highly fact intensive and made at the end of each taxable year, it is possible that we may be a PFIC for the current or any future taxable year or that the IRS may challenge our determination concerning our PFIC status. Whether we are a PFIC is based upon certain factual matters such as the valuation of our assets. In calculating the value of our assets, we value our total assets, in part, based on our total market capitalization. We believe this valuation approach is reasonable. There is no assurance whetherHowever, if the IRS will challengesuccessfully challenged our valuations. Ifvaluation of our assets, or if the IRSmarket price of our ordinary shares were to successfully challenge such valuations, we may potentially be classifiedfluctuate, it could result in our classification as a PFIC. Because the market price of our ordinary shares is likely to fluctuate and because that market price may affect the determination of whether we will be considered a PFIC, for the 2015 taxable year or prior taxable years. Furthermore, there can be no assurancewe cannot give any assurances that we will not becomebe considered a PFIC in the future. for any future taxable year.
See a discussion of our PFIC status in Item 10.E under "U.S.“U.S. Federal Income Tax Considerations – Passive Foreign Investment Company Considerations."
| A. | HISTORY AND DEVELOPMENT OF THE COMPANY |
Our History
We were incorporated in the State of Israel in November 1999 under the name Verticon Ltd., changed our name to IncrediMail Ltd. in November 2000 and in November 2011 changed our name to Perion Network Ltd..Ltd. We operate under the laws of the State of Israel. Our headquarters are located at 26 HaRokmim Street, Holon 5885849, Israel. Our phone number is 972-73-3981000.972-73-398-1000. Our website address is www.perion.com. The information on our website does not constitute a part of this annual report. Our agent for service in the United States is Intercept Interactive Inc. d/b/a Undertone, which is located at 340 Madison Avenue, 8thOne World Trade Center, 77th Floor, Suite A, New York, NY 10173-0899.10007.
We completed the initial public offering of our ordinary shares in the United States on February 3, 2006.
Since November 20, 2007, our ordinary shares are also traded on the Tel Aviv Stock Exchange.TASE.
Our SEC filings are available to as "Undertone"). See "Recent Developments".you on the SEC’s website at http://www.sec.gov. This site contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. The information on that website is not part of this annual report and is not incorporated by reference herein.
Principal Capital Expenditures
In 2013,2016 and 2017, capital expenditures consisted of $1.9$1.5 million for investmentsand $1.6 million, respectively, mainly in computer hardware, software and furnishings. In 2014, capital expenditures consisted of $10.9 million for leasehold improvements and furnishing related to our new headquarters office in Holon, as well asfrom investments in computer hardware and software. In 2015,2018, capital expenditures consisted of $2.0$ 2.0 million mainly from the acquisition ofinvestments in computer systemshardware and software applications.software.
| B. | BUSINESS OVERVIEW |
General
Perion is a global technology company that delivers high-quality advertising solutions to brands and publishers.publishers through innovative platforms that sit on top of the world's largest channels - digital advertising, social media, and search - enabling deeper and more meaningful experiences. Perion is committed to providing outstandingdata-driven execution, from high-impact ad formats, to branded search and a unified social and mobile programmatic platform.platform to branded search.
Overview
Our proprietary social and mobile marketing platform offers a single dashboard for marketers that makes mobile media buying more efficient across adon Facebook, Snapchat, Instagram, Twitter and other social networks exchanges and direct publishers. Advertising networks, agencies and mobile application developers looking to promote their applications often struggle with inefficient and disorganized practices of media buying, campaign measurement and optimization. Our advertising platform simplifies the complexity of mobile app advertising, enabling companies to rapidly acquire new customers, increase user engagement and maximize revenue. It streamlines the process of buying ads across multiple channels, with an integrated solution suite that delivers sophisticated reports for quick results analysis, performance optimization and an increased return on investment.
In addition, we are still generatingcontinue to generate a small portion of our revenues through our toolbar platform, which allows publishersconsumer products - Smilebox, a product that enables people to create, implementtell the stories of their lives—big and distribute web browser toolbars, as well as through our consumer products;small—in fun, simple and creative ways with fully customizable eCards, slideshows, invitations, collages and more, and IncrediMail, a unified messaging application that enables consumers to manage multiple email accounts in one place with an easy-to-use interface and extensive personalization features and Smilebox a leading photo sharing and social expression product.features.
Industry Overview
We generally do not enter into long term contracts with our advertising customers. We charge customers variedvariable rates based on ad format,formats, campaign complexity, and creative requirements. We then engage in a consultative sales process to determine the best planoffering for that customer. Our customers generally purchase our products based on impressions served for each ad type, either using traditional insertion orders, or alternatively, programmatically, with options for managed service or self-service.programmatically. Programmatic customers have access to the same ad formats as traditional customers but can leverage programmatic direct delivery in order to increasebenefit from increased automation, transparency and efficiency.efficiency of their campaigns. All our advertising customers receive support throughout the campaign cycle, with service and support teams including planning, client solutions, campaign management, performance, and insights. Our advertising solutions and social marketing platform address the display advertising market through direct and programmatic media sales as well as managed and self-service advertising campaign management tools. Worldwide display advertising spend, including banners, rich media, video and social, is expected to reach $172 billion during 2019 and beyond, increasing from $145 billion in 2018, according to eMarketer.
Our analytics platform enables app developers to manage their distributionsearch-related products address the search advertising market through syndication and monetization activities and better optimize their offerings. Most app developers are small businesses without analytical capabilities or the required funds to improve customer “funnel” conversion, create the necessary systems for tracking revenue per user, or implement traffic acquisition with positive return on investment. Through our analytics platform, we provide our clients with real-time analytics, custom reports, and advanced optimization and editing tools, which together act as a springboard to higher conversions and increased return on investment.
2019, increasing from $120 billion during 2018, according to eMarketer. We are currently one of the largest redistributors of search monetization in the United States and have agreements withwe generate all the majorour search engine companies. Our agreement with Microsoft, our largest search engine partner, is for a three-year term, from January 1, 2015 through December 31, 2017, and upon mutual agreement, the agreement may be renewed for an additional 12-month period, until the end of 2018. In the past, the fees payable by Microsoft under the Microsoft Agreement were payable based on either a fixed price, pay-per-search basis that is tied to the number of searches conducted by end users, or in certain instances on a share of the revenue generated as a result of searches conducted by end users who utilize the search engine that appears on toolbars created by publishersrevenues through our platform or through other search related products.relationship with Microsoft. The fees payable by Microsoft had varied annually over the term of the agreement, decreasing significantly in 2013 and 2014, as compared to 2011 and 2012. As of 2015, the fees payable by Microsoft under the Microsoft 2015 Agreement are payable based on a share of the revenue generated as a result of searches conducted by end users who utilize the search engine that appears on our product,products, the publisher’s product,publishers products, search assets and websites.
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Strategy
In 2017, Perion’s management commenced the implementation of a turnaround strategy that cut through the digital cluttercombines cost reduction and deliver messages that stand outinvestment in differentiated technology to consumers, through innovative “high impact” ad units. We define high impactdrive growth across our core activities as advertising that has a great effect on consumers, such as non-standard rich media ad units. To address all ofwe compete in dynamic markets - technology is essential for our customers’ digital advertising needs with a comprehensive solution, in addition to high impact ad units, we also offer standard and non-standard ad formats in display, video, and mobile.competitive advantage.
In orderour search solution, we leverage our relationship with Microsoft to be effective, advertisements must be delivered in media environments that reach the right audiences. We hand-picked a broad portfolio of premium media properties, that we rigorously vetted using quantitativedrive innovation and qualitative criteria. Qualified publishers are then put through a certification process to ensure proper deliveryrevenue as part of our high impact formats. Approvedongoing effort to provide comprehensive and compelling search solutions and monetization tools to diversified publishers are then placed on Undertone’s “Green List” and are subsequently continuously monitored for inappropriate content and non-human traffic.around the globe.
| · |
| · | Demand Management; |
| · | High Impact Programmatic Market Place; |
| · | Creative platform; |
| · | Data Management; |
| · | Data lake; and |
| · | AI platform. |
Supply Management:
The Supply management platform key function is to help manage relationships with our publishers by treating every impression opportunity from publishers in an optimal manner and according to business rules. That includes the understanding of what ads are allowed, what price is expected and what frequency is allowed from the point of view of the publisher. This platform also makes decisions to help meet the monetary expectations of our publishers. All components in our supply management platform are based on proprietary technology and are tailored to our specific needs and use cases.
Demand Management:
The Demand Management platform addresses the needs of brands. This involves few sub platforms including:
| a. | Smart Planning – the planning platform |
Campaign management – The planning platform |
Cross social optimization - is a proprietary social platform that helps manage social campaigns across multiple social platforms and optimizes different targeting and or creative tactics to achieve the best results. |
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| d. | Analytics Platform - is the system that helps the teams to report back to the brands on the results of their campaign investment proving the value for our customers. This is a flexible system that reports all the required data from impression delivered, budget invested, reach on the campaign, engagement with the ads etc. The analytics platform supports our data driven culture – providing business stakeholders full visibility of KPI’s on key processes. Data |
Data Management Platform
Our data management platform (DMP) is at the heart of the Synchronized Digital Branding platform as a whole. Its main functionality is to manage available data on a user level. That is what a specific user was exposed to, how such user responded, what third party can report on such user etc. The DMP is connected to all key systems to inform campaign planning, delivery, optimization, creative optimization and analytics.
Data lake platform
Data is at the core of everything we execute and operate. The data lake platform manages raw level data across various data assets. The data is collected at scale and with well-defined schemas. Data assets managed in the data lake are used to support data driven processes and services like analytics processes and AI processes.
AI platform
The AI platform uses AI and machine learning to support the various phases of campaigns. The platform provides services powered by machine learning models built on top of our data platforms. The AI services are used across campaign life cycle: planning and in flight. Based on campaign to campaign learnings the AI generates better performance for our customers and improve efficiency by automating manual operational processes.
In our search offering, we must continue to develop new solutions and services that foster consumer engagement. To accomplish this, we have in-house research and development team, known as Future Proof Labs. Future Proof Labs researches, prototypes, and tests emerging technology in order to determine how best to reach and influence consumers. The team also conducts consumer research studies to determine the potential effectiveness of innovations.differentiate ourselves by providing our publishers with three major technology-driven advantages:
| · |
| · | deliver |
| · | offer creative and flexible monetization models with scalable risk and reward, suited to |
Products under Development
Our research and development activities are primarily conducted internally, focusing on the development of new high impact ad formats and platform-based solutions that will offer developers (i) stand outstandout brand experience (ii) effective distribution tools, (iii) increased monetization capabilities through content, and (iv) enhanced optimization via powerful, reliable, and easy-to-use analytics. Additionally, we focus our research and development efforts on developing new products and improving existing products through software updates and upgraded features. Our Research & Developmentresearch and development department is divided into groups based on scientific disciplines and types of applications and products.
Breakdown of Revenues
Our search monetization solutions, advertising platforms and other, are distributed and sold throughout the world (mainly in more than 100 countries.North America and Europe). The following table shows the revenues, presented in our statement of operations, generated by territory in the years ended December 31, 2013, 20142016, 2017 and 2015. As explained in Item 5.A, as a result of the ClientConnect Acquisition, which closed on January 2, 2014, our 2014 and 2015 financial statements include ClientConnect's comparative numbers for 2013.2018.
| 2013 | 2014 | 2015 | ||||||||||||||||||||||
| Search Revenue | Advertising and Other | Search Revenue | Advertising and Other | Search Revenue | Advertising and Other | |||||||||||||||||||
| Tier 1 – North America | 70 | % | 78 | % | 78 | % | 73 | % | 78 | % | 80 | % | ||||||||||||
| Tier 2 – Europe | 23 | % | 20 | % | 17 | % | 18 | % | 19 | % | 17 | % | ||||||||||||
| Tier 3 - Other | 7 | % | 2 | % | 5 | % | 9 | % | 3 | % | 3 | % | ||||||||||||
| Total | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||||||||||||||
| Search and other Revenues | Advertising Revenues | Search and other Revenues | Advertising Revenues | Search and other Revenues | Advertising Revenues | |||||||||||||||||||
| North America | 75 | % | 89 | % | 70 | % | 86 | % | 65 | % | 91 | % | ||||||||||||
| Europe | 20 | % | 9 | % | 24 | % | 11 | % | 29 | % | 8 | % | ||||||||||||
| Other | 5 | % | 2 | % | 6 | % | 3 | % | 6 | % | 1 | % | ||||||||||||
| Total | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | ||||||||||||
Intellectual Property
Although we have a number of patents, copyrights, trademarks and trade secrets and confidentiality and invention assignment agreements to protect our intellectual property rights, we believe that our competitive advantage depends primarily on our marketing, business development, applications, know-how and ongoing research and development efforts. Accordingly, we believe that the expiration of any of our patents or patent licenses, or the failure of any of our patent applications to result in issued patents, would not be material to our business or financial position.
Part of the components of our software products were developed solely by us. We have licensed certain components of our software from third parties. Except for our agreements regarding anti-spam software and some of our content licenses, most of these licenses entailed a one-time fee or are "freeware." We believe that the components we have licensed are not material to the overall performance of our software and may be replaced without significant difficulty.
We have six issued patents in the United States and one in Israel, as well as several patent applications pending in the United States, Israel and the European Union.
All employees and consultants are required to execute confidentiality covenants in connection with their employment and consulting relationships with us. These agreements (excluding those with our German and U.K. employees) also contain assignment and waiver provisions relating to the employee'semployee’s or consultant’s rights in respect of inventions. However, there canIt should be noted that as of December 31, 2018, we have terminated our operations in Germany and the U.K and thus, as of the date of this annual report on Form 20-F we no assurance that these arrangements will provide us with adequate protection.longer employ German and U.K employees.
Competition
The markets in which we are active are subject to intense competition.
We compete with many other companies offering solutions for online publishers and developers, including search services and other software in conjunction with changing a user’s default search settings.
The advertising technology industry is highly competitive. There are a large number of digital media companies and advertising technology companies that offer services similar to those of our Undertone businessadvertising solution and that compete for finite advertiser/agency budgets and publisher inventory. There are also a large number of niche companies that are competitive with our Undertone businessadvertising solution because they provide a subset of the services that we provide (e.g., mobile in-app ad networks). Some of these companies are larger and have more financial resources than we have, including, AOL,Oath, Google, and Facebook. New entrants and companies that do not currently compete with our Undertone businessadvertising solution such as Amazon and Samsung may compete in the future given the relatively low barriers to entry in the industry.
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As a major part of our revenues stem from our offering of search properties, we compete with search engine providers themselves such as Google, Microsoft, Yahoo, AskVerizon Media, IAC and others. We also compete with many other companies offering consumer software, albeit totally different software, utilizing the same strategy, to offer their search properties, such as Interactive Corporation, AOL, BlucoraOath, System1 and others.
Our ability to attract developers is largely dependent on our ability to pay higher rates to our publishers and developers, our success in creating strong commercial relationships with developers that have successful software, websites or distribution channels, and our ability to differentiate our distribution, monetization, and optimization tools from those of our competitors.
Many of our current and potential competitors may have significantly greater financial, research and development, back-end analytical systems, manufacturing, and sales and marketing resources than we have. These competitors could potentially use their greater financial resources to acquire other companies to gain even further enhanced name recognition and market share, as well as to develop new technologies, enhanced systems and analytical capabilities, products or features that could effectively compete with our existing solutions, products and search services. Demand for our solutions, products and search services could be diminished by solutions, products, services and technologies offered by competitors, whether or not their solutions, products, services and technologies are equivalent or superior.
Government Regulation
We are subject to a number of U.S. federal and state and foreign laws and regulations that affect companies conducting business on the Internet. The manner in which existing laws and regulations will be applied to the Internet in general, and how they will relate to our business in particular is unclear. Accordingly, we cannot be certain how existing laws will be interpreted or how they will evolve in areas such as user privacy, data protection, content, use of "cookies,"“cookies,” access changes, "net“net neutrality,"” pricing, advertising, distribution of "spam,"“spam,” intellectual property, distribution, protection of minors, consumer protection, taxation and online payment services.
For example, we are subject to U.S. federal and state laws regarding copyright infringement, privacy and protection of user data, many of which are subject to regulation by the Federal Trade Commission. These laws include the Digital Millennium Copyright Act, which aims to reduce the liability of online service providers for listing or linking to third-party websites that include materials that infringe copyrights or the rights of others, and other federal laws that restrict online service providers’ collection of user information on minors as well as distribution of materials deemed harmful to minors. The California Consumer Privacy Act (2018) will become effective on January 1, 2020 and may affect us. Many U.S. states, such as California, are adopting statutes that require online service providers to report certain security breaches of personal data and to report to consumers when personal data will be disclosed to direct marketers. There are also a number of legislative proposals pending before the U.S. Congress and various state legislative bodies concerning data protection which could affect us. The interpretation of data protection laws, and their application to the Internet, is unclear and in a state of flux. There is a risk that these laws may be interpreted and applied in conflicting ways and in a manner that is not consistent with our current data protection practices.
Foreign data protection, privacy and other laws and regulations may affect our business, and such laws can be more restrictive than those in the United States. For example, in Israel, privacy laws require that any request for information for use or retention in a database be accompanied by a notice that indicates: whether a person is legally required to disclose such information or that such disclosure is subject to such person’s consent; the purpose for which the information is requested; and to whom the information is to be delivered. A breach of privacy under such laws is considered a civil wrong and subject to a significant fines and civil damages. Certain violations of the law are considered criminal offences punishable by imprisonment. In the European Union, similar data protection rules exist andas well was privacy legislation has tightened the restrictions relating torestricting the use of cookies and similar technologies. Subject to some limited exceptions, the storing of information, or the gaining of access to information already stored, in the terminal equipment of a subscriber or user is only allowed on condition that the subscriber or user concerned has given his or her informed consent. Further,Moreover, the new General Data Protection Regulation which is expected to take effect(which became effective in or by 2018, will likelyMay 2018) presumably have an even wider territorial in scope, broadened the definition of personal data to include location data and online identifiers, and imposes more stringent user consent requirements. Further, it will includeincludes stringent operational requirements for companies that process personal data and will contain significant penalties for non-compliance. Also in other relevant subject matters, such as cyber security, e-commerce, copyright and cookies, new European initiatives have been announced by the European regulators. To further complicate matters in Europe, Memberto date, member States have some flexibility when implementing European Directives and certain aspects of the General Data Protection Regulation, which can lead to diverging national rules.
Because our services are accessible worldwide, certain foreign jurisdictions may claim that we are required to comply with their laws, including in jurisdictions where we have no local entity, employees or infrastructure.
These regulations result in significant compliance costs and could result in restricting the growth and profitability of our business.
| C. | ORGANIZATIONAL STRUCTURE |
ClientConnect Ltd., our wholly owned Israeli subsidiary, owns all of the outstanding shares of common stock of ClientConnect, Inc., a Delaware corporation, and all of the outstanding ordinary shares of ClientConnect B.V., a Netherlands company.
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IncrediMail, Inc., our wholly-owned Delaware subsidiary, owns all of the outstanding shares of common stock of Smilebox Inc., a Washington corporation, all of the outstanding equity of Grow Mobile LLC., a Delaware corporation and all of the outstanding shares of common stock of IncrediTone Inc., our wholly-owned Delaware subsidiary. IncrediTone Inc. owns all of the outstanding shares of common stock of Interactive Holding Corp., a Delaware corporation, which was acquired, together with its subsidiaries, in November 2015.
Make Me Reach SAS, our wholly owned French subsidiary, was acquired in February 2015.
| D. | PROPERTY, PLANTS AND EQUIPMENT |
Our headquarters are located in Holon, Israel. WeAs of December 31, 2018 we lease approximately 101,50030,946 square feet, out ofexcluding office space which we sublease approximately 33,820 square feet.currently sublease. The lease expires in 2024,2025, with an option to extend for two additional two-year periods.periods, additionally, the lease agreement provides the Company (at its sole discretion, and by a 180-day prior written notice) with an option to terminate the lease in November 2019. Annual cost is approximately $1.7$0.6 million.
Square feet (net) | Annual Rent for 2018 in US$ in thousands (net) | Lease expires on (not including options) | ||||||||||
| New York, New York | 40,310 | $ | 1,946 | 2019 | ||||||||
| Chicago, Illinois | 3,984 | $ | 142 | 2023 | ||||||||
| Square feet | Annual Base Rent for 2016 in US$ in millions | Lease expires on (not including extension options) | ||||||||||
| New York, New York | 51,182 | $ | 2,511 | 2021 | ||||||||
| San Francisco, California | 10,674 | 856 | 2022 | |||||||||
| Redmond, Washington | 8,300 | $ | 193 | 2021 | ||||||||
| Chicago, Illinois | 7,943 | $ | 148 | 2018 | ||||||||
In June 2018, Undertone entered into a lease agreement for an office at the World Trade Center (WTC) New York. The lease expires in May 2026, and the company, at its sole discretion, may terminate the lease on 2024. This new lease agreement replaces, effective as of January 2019, the previous lease agreement of Undertone at 340 Madison avenue.
In addition, we lease offices in various locations throughout Europe. Our primary locations,location, and theirits principal terms, are as follows:follows:
| Square feet | Annual Rent for 2018 in US$ in thousands | Lease expires on (not including options) | ||||||||||
| Paris, France | 6,200 | $ | 450 | 2019 | ||||||||
| Square feet | Annual Base Rent for 2016 in US$ in millions | Lease expires on (not including extension options) | ||||||||||
| London, England | 4,252 | $ | 252 | 2019 | ||||||||
| Paris, France | 5,000 | $ | 183 | 2017 | ||||||||
In December 2018, we entered into a new lease agreement in Paris. This lease agreement will expire in March 2028, unless terminated earlier in accordance with its terms.
None.
The following discussion of our financial condition and results of operations should be read in conjunction with our Financial Statements. In addition to historical financial information, the following discussion and analysis contains forward looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Exchange Act, including, without limitation, statements regarding the Company’s expectations, beliefs, intentions, or future strategies that are signified by the words "expects," "anticipates," "intends," "believes,"“expects,” “anticipates,” “intends,” “believes,” or similar language. These forward looking statements involve risks, uncertainties and assumptions. Our actual results and timing of selected events may differ materially from those anticipated in these forward looking statements as a result of many factors, including those discussed under "Item“Item 3.D Risk Factors"Factors” and elsewhere in this annual report.
| A. | OPERATING RESULTS |
General
Perion is a global technology company that delivers high-quality advertising solutions to brands and publishers.publishers through innovative platforms that sit on top of the world's largest channels - digital advertising, social media, and search - enabling deeper and more meaningful experiences. Perion is committed to providing outstandingdata-driven execution, from high-impact ad formats, to branded search and a unified social and mobile programmatic platform.platform to branded search.
Our headquarters and primary research and development facilities are located in Israel, and we have our primary sales office in the United States and several other offices located in the United States and Europe.
The Undertone business is an advertising technology business focused on delivering standout brand experiences. We do so by developing digital advertising creatively designed to capture consumer attention and drive engagement, delivering these ads across a hand-picked portfolio of websites and mobile applications. Withfollowing describes the Undertone acquisition, we are now able to deliver standard and proprietary display, mobile, video, and high impact ad formats, leveraging proprietary technology to ensure that ads are delivered to the right audience, at the right time, and across the right websites and mobile applications. Our ad creation platform allows us to bring sophisticated high impact formats to market quickly and to streamline production of client campaigns. By using HTML5 and a responsive design, we can deliver a seamless creative experience across screens. This combination of creative capabilities and proprietary high impact cross-screen and mobile-only advertising formats enables us to differentiate our offering in the market.
Revenues
We generate our revenues primarily from two major sources: (i) search-generated and other revenues; and (ii) advertising and other.advertising. The following table shows our revenues by category (in thousands of U.S. dollars):
| Year Ended December 31, | ||||||||||||
| 2013 | 2014 | 2015 | ||||||||||
| Search | $ | 277,275 | $ | 330,757 | $ | 172,277 | ||||||
| Advertising and other | 48,233 | 57,974 | 48,673 | |||||||||
| Total Revenues | $ | 325,508 | $ | 388,731 | $ | 220,950 | ||||||
| Year Ended December 31, | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||
| Advertising | $ | 140,111 | $ | 134,481 | $ | 125,977 | ||||||
| Search and other | 172,683 | 139,505 | 126,868 | |||||||||
| Total Revenues | $ | 312,794 | $ | 273,986 | $ | 252,845 | ||||||
In 2014, revenues increased by 19% compared to 2013 due to organic growth, as well as the acquisition of Perion’s search activity. In 2015,2017, revenues decreased by 43%,12% compared to 2016, primarily asdue to the cleanup of our existing network, the churn of our legacy products and slower than expected brand spent in the first quarter of 2017 that relating to the uncertainty following the U.S. elections. In 2018, revenues decreased by 8% compared to 2017, primarily due to a result of our decision to dramatically reduce customer acquisition costs starting from the third quarter of 2014. This decision reduced the tail of revenues going into 2015, as compared to 2014, and reduced ongoing revenues from our new revenue share model.
Cost of Revenues
Cost of revenues consists primarily of salaries and related expenses, license fees amortization of acquired technology and payments for content and server maintenance. Cost of revenues as a percentagewere $24.7 million or 9% of revenues increased with the Perion acquisition in 2014, where cost2017 and $23.8 million or 9% of revenues was higher relating to the product revenues. In 2015, costin 2018. The number of revenues increased primarily due to the costs associated with Undertone’s activity in December of 2015. There were no employees included in cost of revenues in 2013, while at the endas of 2014December 31, 2016, 2017 and 2015 there2018 were 2287, 94 and 20,76, respectively.
Customer Acquisition Costs and Media Buy Costs
Our customer acquisition costs consist primarily of payments to publishers and developers who distribute our search properties together with their products, as well as the cost of distributing our own products. Customer acquisition costs are primarily based on revenue share agreements with our traffic sources. Media buy costs consist mainly of the costs of advertising inventory incurred to deliver ads. Customer acquisition costs are primarily based on fixed fee arrangements and on revenue share agreements with our traffic sources. We increased customer acquisition costs dramatically in 2013, with the aim to increase the number of product downloads, users, search queries generated by those downloading our software or that of our partners, and subsequently, revenue from search, premium subscriptions and advertising, in an effort to offset the decreasing revenue levels under our search agreement with Microsoft. As a result of changes in the marketplace, and our being more selective regarding the partners we work with, in the third quarter of 2014 we reduced our investment in customer acquisition by nearly half and have maintained a similar level of expenditure since. In order to mitigate some of the risk inherent in the lack of visibility regarding the generation of future revenues by the users of our partners' software, since the beginning of 2015 we have sought to work with our partners on revenue share agreements instead of fixed fee arrangements. This reduction was partially offset by an increase in media buy costs coming from the one month of activity included from Undertone since its acquisition. Customer acquisition and media buy costs were $185.4$130.9 million $174.6 million and $91.2 million in 2013, 2014 and 2015, respectively. We continue to work exclusively by the sharing of future revenues, rather than pay an up-front fixed fee to our partner software developers. Therefore, with the trailing offor 48% of revenues coming from the old model of prepaying for installs, revenues that were without expense in subsequent periods, the percentageand $128.4 million or 51% of revenues invested in 2017 and generated through customer acquisition will2018, respectively. In search, the increase in 2016. This is in addition to the media buy costs paid by Undertone to its publishers, increasing this cost dramatically in 2016. However, since this cost is relatively lower as a percentage of revenue in the Undertone business, we expect this expense in total as a percentage of revenues is primarily due to declinechurn of our legacy products, while in 2016.advertising, the increase is mainly attributed to product mix and due to the effect of header bidding and Chrome ad blocker.
Research and Development Expenses
Our research and development expenses consist primarily of salaries and other personnel-related expenses for employees primarily engaged in research and development activities, allocated facilities costs, subcontractors and consulting fees. Research and development expenses were $17.2 million or 6% of revenues in 2017 and $18.9 million or 7% of revenues in 2018. Our research and development expenditures in 2015 decreased2018 increased compared to the prior year, primarily as a result of the restructuringreduction of our search monetization business in November 2014, including a head count reduction as well as other cost saving measures, such as the consolidationcapitalization expenses due to development completion of our Israeli offices. In addition, in 2015, we capitalized expenses, representing mainly compensation expenses for employees engaged in the development of our Growmobile platforms. The decrease was partially offset by Undertone’s one month of expenses as a result of the acquisition.platforms during 2018.
The number of employees in research and development were 173, 217141, 117 and 221 at the end86 as of 2013, 2014December 31, 2016, 2017 and 2015,2018, respectively.
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Selling and Marketing Expenses
Our selling and marketing expenses consist primarily of salaries and other personnel-related expenses for employees primarily engaged in marketing activities, allocated facilities costs, as well as other outsourced marketing activity. This expenditure and the number of employees involved in this activity has increased and is expected to continue to increase as the Company and its various activities shift and the increasing emphasis on sellingSelling and marketing its productsexpenses were $52.7 million or 19% of revenues in 2017 and $38.9 million or 15% of revenues in 2018. The decrease was primarily due to growrestructuring efforts undertaken during 2017 and in the business, as well as a resultbeginning of 2018; the Undertone acquisition.savings resulted from reduction of headcount, close of office facilities and other cost optimizations. The number of employees in sales and marketing was 66, 115197, 167 and 227 at the end141 as of 2013, 2014December 31, 2016, 2017 and 2015,2018, respectively.
General and Administrative Expenses ("(“G&A"&A”)
Our general and administrative expenses consist primarily of salaries and other personnel-related expenses for executive and administrative personnel, allocated facilities costs, professional fees and other general corporate expenses. G&AGeneral and administrative expenses were $21.9 million or 8% of revenues in 2013 are those2017 and $16.4 million or 7% of ClientConnect priorrevenues in 2018. The decrease was primarily due to restructuring efforts undertaken during 2017 and in the acquisitionbeginning of Perion2018; the savings resulted from reduction of headcount, close of office facilities and reflect the G&A expenses of a private company, acting as a division of a larger one, focused on organic growth. G&A expenses since 2014 are reflective of an independent public company, with all of its requisite costs, managing organic activity as well as being an active acquire of other businesses. In 2015, this number increased further, primarily as result of the substantial Undertone acquisition and the costs associated with it.cost optimizations. The number of G&A employees was 55, 98110, 86 and 128 at the end60 as of 2013, 2014December 31, 2016, 2017 and 2015,2018, respectively.
Restructuring Charges
In 2014,2016, we incurred restructuring charges of $4.0 million due to the restructuring of our search monetization business, including a head count reduction as well as other cost saving measures, such as the consolidation of our Israeli offices from three floors to two in order to sublease the third floor.
In 2017, there were no restructuring charges.
In 2018, we incurred restructuring charges of $2.1 million, in connection with the restructuring plan, mainly to reduce workforce, close certain facilities, as well as other cost saving measures.
Impairment, net of change in fair value of contingent consideration
Goodwill and intangible assets has been recorded as a result of prior acquisitions. Goodwill represents the excess of the consideration over the net fair value of the assets of the businesses acquired, the fair value of intangible assets was based on the market participant approach to valuation, performed by a third-party valuation firm, using estimates and assumptions provided by management.
We determined that certain indicatorsperform tests for impairment of potential impairment that required an interim goodwill impairment analysis for our reporting units existed in 2015. These indicators included a decrease in our share price and lower than expected sales and cash flow, as well as managerial decisions to abandon certain R&D projects. Based on our goodwill assessment forintangible assets at the search monetization reporting unit and Growmobile unit, we determined that the carrying amount of the reporting units exceeds its fair value resulting in an impairment of $70.9 million and $16.2 million, respectively. We will continue to monitor our reporting units to determine whetherlevel at least annually, or more frequently if events andor changes in circumstances such as significant adverse changes in business climate or operating results, further significant decline in our market capitalization, changes in management's business strategy or changesoccur that would more likely than not reduce the fair value of management's cash flows projections, warrant further impairment testing. a reporting unit below its carrying value.
In addition, we performed2017, following an impairment review of severalour goodwill and intangible assets that were recognized in connection with the acquisition of Grow Mobile,Undertone, the Company recorded an impairment charge of $85.7 million to its capitalized software costsGoodwill and intangible assets. Following an impairment review of our goodwill and intangible assets for 2018, it was concluded that no such impairment charges should be recorded in 2018.
Depreciation and amortization
Depreciation and amortization consist primarily of depreciation of our property and equipment and the Perionamortization of our intangible assets as a result of our acquisitions. Depreciation and amortization expenses decreased by 41% from $16.6 million in 2017 to $9.7 million in 2018. This decrease is primarily attributable to the lower amortization of the acquired intangible assets from the Undertone acquisition, which resulted inas a result of an impairment of $11.9 million. The impairment charges were measured as the difference between the carrying amounts of those intangible assets and their fair values.charge in 2017.
Income Tax Expense
A significant portion of our income is taxed in Israel.Israel and, as a result of the Undertone acquisition on November 30, 2015, in the United States. The standard corporate tax rate in Israel was 26.5%24% in 20152017 and 2014 and 25.0% in 2013. In 2016 and thereafter, the rate will be 25.0%.is 23% as of 2018. For our Israeli operations we have elected to implement a tax incentive program pursuant to a 2011 Israeli tax reform, referred to as a "Preferred“Preferred Enterprise,"” according to which a reduced tax rate of 16%16.0% is applied to our preferred income in 2015.2016. In 2017 and 2018 we elected to implement the “Preferred Technological Enterprise” benefits pursuant to an amendment to the taxation laws which went into effect in 2017, under which a tax rate of 12% is applied to a portion of our income which qualifies for the benefits. Any other income which does not qualify for special benefits is subject to tax at the ordinary corporate income tax rate. With the Undertone acquisitionrespect to U.S. tax, we expect to have taxable income in the U.S. and to utilize cumulatedaccumulated losses we have from prior USU.S. acquisitions. The federal statutory income tax rate in the United States was 35.0% in 2017 and 21% starting from 2018. Subsidiaries in Europe are taxed according to the tax laws in their respective countries of residence.
On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “TCJA”). The TCJA makes broad and complex changes to the Code. The changes include, but are not limited to:
| · | A corporate income tax rate decrease from 35% to 21% effective for tax years beginning after December 31, 2017 (“Rate Reduction”); |
| · | The transition of U.S international taxation from a worldwide tax system to a territorial system by providing a 100 percent deduction to an eligible U.S. shareholder on foreign sourced dividends received from a foreign subsidiary (“100% Dividend Received Deduction”); |
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| · | A one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings as of December 31, 2017; |
| · | Taxation of global intangible low-taxed income (“GILTI”) earned by foreign subsidiaries beginning after December 31, 2017. The GILTI tax imposes a tax on foreign income in excess of a deemed return on tangible assets of foreign corporations; and |
| · | Taxation of base erosion and anti-abuse (“BEAT”) payments made by U.S. corporations to foreign related parties. The BEAT tax applies only to corporation with average gross domestic sales of $500 million over three successive years. |
The Company recognizes that the IRS, the Financial Accounting Standards Board and the SEC are continuing to publish and finalize ongoing guidance with respect to the TCJA which may modify accounting interpretation for the TCJA, the Company will account for these impacts in the period in which any changes are enacted.
Due to the aggregated accumulated deficits of our foreign subsidiaries, we believe we are not subject to any transition tax under this provision of the TCJA.
Because of the complexity of the new GILTI tax rules, we have not yet completed our analysis of the GILTI tax rules and are not yet able to reasonably estimate the effect of this provision of the TCJA or make an accounting policy election for the ASC 740 treatment of the GILTI tax.
We should not be subject to BEAT during 2019 due to the gross domestic sales threshold.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operation are based on our financial statements, which have been prepared in conformity with U.S. GAAP. The preparation of these 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 evaluate these estimates on an on-going basis. We base our estimates on our historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying amount values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Under U.S. GAAP, when more than one accounting method or policy or its application is generally accepted, our management selects the accounting method or policy that it believes to be most appropriate in the specific circumstances. Our management considers some of these accounting policies to be critical.
A critical accounting policy is an accounting policy that management believes is both most important to the portrayal of our financial condition and results and requires management’s most difficult subjective or complex judgment, often as a result of the need to make accounting estimates about the effect of matters that are inherently uncertain. While our significant accounting policies are discussed in Note 2 of the Financial Statements, we believe the following accounting policies to be critical:
Stock-Based Compensation
We account for share-based payment awards made to employees and directors in accordance with ASC 718, "Compensation“Compensation – Stock Compensation"Compensation”, which requires the measurement and recognition of compensation expense based on estimated fair values. Determining the fair value of stock-based awards at the grant date requires the exercise of judgment, as well as the determination of the amount of stock-based awards that are expected to be forfeited. We adopted ASU 2016-09 on January 1, 2017, and chose to continue to use the current method of estimating forfeitures each period rather than accounting for forfeitures as they occur. The adoption of the new standard had no material impact on our consolidated financial statements. If actual forfeitures differ from our estimates, stock-based compensation expense and our results of operations would be impacted. Expense is recognized for the value of the awards, which have graded vesting based on service conditions, using the straight linestraight-line method, over the requisite service period of each of the awards, net of estimated forfeitures. Estimated forfeitures are based on actual historical pre-vesting forfeitures. For performance-based stock units, expense is recognized for the value of such awards, if and when we conclude that it is probable that a performance condition will be achieved. We are required to reassess the probability of the vesting at each reporting period for awards with performance conditions and adjust compensation cost based on its probability assessment.
We account for changes in award terms as a modification in accordance with ASC 718. A modification to the terms of an award should be treated as an exchange of the original award for a new award with total compensation cost equal to the grant-date fair value of the original award plus the incremental value measured at the same date. Under ASC 718, the calculation of the incremental value is based on the excess of the fair value of the new (modified) award based on current circumstances over the fair value of the original award measured immediately before its terms are modified based on current circumstances.
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In order to keep our competitive hiring position in the industry, following the Board approval in December 2017, we effected in 2018 an option repricing plan. Under the repricing plan, among others, options granted to all of our employees, with certain limited exceptions and other than our directors, were adjusted to have an exercise price per share equal to $3.24, which was the weighted average price of our ordinary shares on Nasdaq in the last 90 days prior to the date of approval of the plan by our board of directors as well as have a new vesting schedule. The total incremental fair value of these repriced options amounted to $1.5 million, and was determined based on the binomial pricing options model.
Total stock-based compensation expense recorded during 20152018 was $7.4$2.7 million, of which $0.2$0.1 million was included in cost of revenues, $1.0$0.5 million was included in research and development costs, $1.9$0.8 million in selling and marketing expenses, $4.3and $1.3 million in general and administrative expenses.
As of December 31, 2015,2018, the maximum total compensation cost related to options, and restricted stock units ("RSUs"), granted to employees and directors not yet recognized amounted to $8.9$3.0 million. This cost is expected to be recognized over a weighted average period of 1.251.43 years.
We estimate the fair value of standard stock options granted using the Binomial method option-pricing model. The option-pricing model requires a number of assumptions, of which the most significant is expected stock price volatility. Expected volatility was calculated based upon actual historical stock price movements of our stock. The risk-free interest rate is based on the yield from U.S. Treasury zero-coupon bonds with an equivalent term. The fair value of RSUs is based on the market value of the underlying shares at the date of grant.
Taxes on Income
We are subject to income taxes primarily in Israel and the United States. Significant judgment is required in evaluating our uncertain tax positions and determining our provision for income taxes. Based on the guidance in ASC 740 "Income Taxes"“Income Taxes”, we use a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settlement.
Although we believe we have adequately reserved for our uncertain tax positions, no assurance can be given that the final tax outcome of these matters will not be different. We adjust these reserves in light of changing facts and circumstances, such as the closing of a tax audit, the refinement of an estimate or changes in tax laws. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made. The provision for income taxes includes the impact of reserve provisions and changes to reserves that are considered appropriate. Interest is recorded within finance income, net.
Accounting for tax positions requires judgments, including estimating reserves for potential uncertainties. We also assess our ability to utilize tax attributes, including those in the form of carry forwards for which the benefits have already been reflected in the financial statements. We record valuation allowances for deferred tax assets that we believe are not more likely than not to be realized in future periods. While we believe the resulting tax balances as of December 31, 20152018 are appropriately accounted for, the ultimate outcome of such matters could result in favorable or unfavorable adjustments to our consolidated financial statements and such adjustments could be material. See Note 1314 of the Financial Statements for further information regarding income taxes. We have filed or are in the process of filing local and foreign tax returns that are subject to audit by the respective tax authorities. The amount of income tax we pay is subject to ongoing audits by the tax authorities, which often result in proposed assessments. We believe that we adequately provided for any reasonably foreseeable outcomes related to tax audits and settlement. However, our future results may include favorable or unfavorable adjustments to our estimated tax liabilities in the period the assessments are made or resolved, audits are closed or when statutes of limitation on potential assessments expire.
Business Combinations
We allocate the fair value of purchase consideration to the tangible assets acquired, liabilities assumed and intangible assets acquired based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable assets and liabilities is recorded as goodwill. When determining the fair values of assets acquired and liabilities assumed, management makes significant estimates and assumptions, especially with respect to intangible assets.
Critical estimates in valuing certain intangible assets include but are not limited to future expected cash flows from customer relationships and acquired patents and developed technology; and discount rates. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates.
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Goodwill
Goodwill is allocated to reporting units expected to benefit from thea business combination. We test goodwillperform tests for impairment of goodwill at the reporting unit level at least annually, or more frequently if events or changes in circumstances occur that would more likely than not reduce the fair value of a reporting unit below its carrying value. Goodwill impairment tests require judgment, including the identification of reporting units, assignment of assets and liabilities to reporting units, assignment of goodwill to reporting units, and determination of the fair value of each reporting unit. In 2015,
During 2017 we incurreddetermined that certain indicators of potential impairment chargesexisted, which triggered goodwill impairment analysis for our reporting units. These indicators included a decrease in the Company’s share price and a miss of $87.0the targeted budget due to lower sales and higher media buy as a percentage of revenues. Accordingly, we determined that the carrying amount of the Undertone reporting unit exceeds its fair value and thus we recorded in 2017 an impairment charge of $65.7 million related to goodwill associated with the monetization and Growmobile reporting units.goodwill. No such impairment charges were recorded in 2018.
Impairment of Long-Lived Assets
We are required to assess the impairment of tangible and intangible long-lived assets subject to amortization, under ASC 360 "Property,“Property, Plant and Equipment"Equipment”, on a periodic basis and when events or changes in circumstances indicate that the carrying value may not be recoverable. Impairment indicators include any significant changes in the manner of our use of the assets or the strategy of our overall business, significant negative industry or economic trends and significant decline in our share price for a sustained period.
Upon determination that the carrying value of a long-lived asset may not be recoverable based upon a comparison of aggregate undiscounted projected future cash flows from the use of the asset or asset group to the carrying amount of the asset, an impairment charge is recorded for the excess of carrying amount over the fair value. We measure fair value using discounted projected future cash flows. We base our fair value estimates on assumptions we believe to be reasonable, but these estimates are unpredictable and inherently uncertain. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for our tangible and intangible long-lived assets subject to amortization. In 2014,2017, we incurred impairment charges of $19.9$20.0 million related to intangible assets associated with desktop technologies acquired in the acquisition of Perion that were determined during the process of integration with Perion to be redundant to the technology of ClientConnect. This impairment was also a result of our shifting future growth strategy towards mobile platforms and discontinuing some of the consumer products developed.reporting units. In 2015, we incurred2018, no such impairment charges of $11.9 million related to intangible assets and capitalized software costs associated with our Growmobile and monetization reporting units.were recorded.
Derivative and Hedge Accounting
During fiscal 20152016, 2017 and 2014,2018, approximately 18%13%, 9% and 15%9%, respectively, of our operating expenses, respectively, were denominated in new Israeli shekels (“ILS”).NIS. In order to mitigate the potential adverse impact on cash flows resulting from fluctuations in the NIS exchange rate, of the ILS, we started to hedge portions of our NIS forecasted expenses with optionsderivatives contracts. TheWe implement hedge accounting under ASC-815, therefore, the effective portion of the gain or losschange in fair value on the derivativederivatives is reported as a component of other comprehensive income and gains or losses are reclassified into earningsthe relevant period earnings. We recognize in “financial income, net” the same period, or periods, during which the hedged transaction affects earnings. The ineffective portion of a derivative’sderivative change in fair value, if any, is recognized in earnings, as well as gains and losses from a derivative’sthe change in fair value that are not designated as hedges are recognized in earnings immediately.of all non-designated under hedge accounting derivatives. We have also entered into a cross currency interest rate SWAP agreement in order to transform cash flow in ILS into USD of interest payments and principal as derived fromtranslate our convertible debt conditions(principal and interests) NIS cash flow into USD (see note 9)Note 8 and Note 10 of the Financial Statements). The SWAP contracts were not designated as hedging instruments and therefore gains or losses resulting from the change of their fair value are recognized in "financial“financial income, net"net”. We estimate the fair value of such derivative contracts by reference to spot rates quoted in active markets.
Establishing and accounting for foreign exchange contracts involve judgments, such as determining the fair value of the contracts, determining the nature of the exposure, assessing its amount and timing, and evaluating the effectiveness of the hedging arrangement.
Although we believe that our estimates are accurate and meet the requirement of hedge accounting, if actual results differ from these estimates, such difference could cause fluctuation of our recorded revenue and expenses.
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Recent Accounting Standards
In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2016-02 (Topic 842) "Leases." Topic 842 supersedes the lease requirements in Accounting Standards Codification (ASC) Topic 840, "Leases." Under Topic 842, lessees are required to recognize assets and liabilities on the balance sheet for most leases and provide enhanced disclosures. Leases will continue to be classified as either finance or operating. This ASU is effective for annual periods beginning after December 15, 2018. The provisions of ASU 2016-02 are to be applied using a modified retrospective approach. In July 2018, the FASB issued Accounting Standards Update 2018-11, Leases (Topic 842). This update provides entities with an additional (and optional) transition method to adopt the new leases standard. Under this method, an entity initially applies the new leases standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Consequently, the prior comparative period’s financials will remain the same as those previously presented. The Company has elected to apply the guidance at the beginning of the period of adoption and not restate comparative periods.
The Company expects that the adoption of this standard will have a material effect on its consolidated financial statements. While the Company continues to assess all the effects of adoption, it currently believes that the most significant impact will be reflected in: (i) the recognition of new ROU assets and lease liabilities on the consolidated balance sheet for its operating leases of buildings, and vehicles, and (ii) the requirement to provide significant new disclosures regarding the Company's leasing activities. The Company, however, does not expect a material impact to its consolidated statements of income and consolidated statements of cash flow since the expense recognition under this new standard will be similar to current practice. The Company's financial income (expenses), net will be impacted by the revaluation of the lease liabilities in non-USD denominated currencies.
Following adoption of the new standard, the Company expects to recognize additional operating liabilities of $25.8 million, with corresponding ROU assets of approximately the same amount based on the present value of the remaining minimum rental payments under current leasing standards for existing operating leases.
The Company expects to elect the short-term lease recognition exemption for all leases that qualify. This means, for those leases, the Company will not recognize ROU assets or lease liabilities.
In August 2017, the FASB issued ASU 2016-02, Leases. ASU 2016-02 requires that long-term lease arrangementsNo. 2017-12 (Topic 815) Derivatives and Hedging — Targeted Improvements to Accounting for Hedging Activities, which expands an entity's ability to hedge financial and nonfinancial risk components and amends how companies assess effectiveness as well as changes the presentation and disclosure requirements. The new standard is to be recognizedapplied on the balance sheet. The standarda modified retrospective basis and is effective for interim and annual periods beginning after December 15, 2018, andwith early adoption is permitted. The Company is currently evaluating the impact of adoption on itsthe consolidated financial statements.
In September 2015,February 2018, the FASB issued ASU 2015-16, Simplifying2018-02 “Income Statement—Reporting Comprehensive Income—Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income”. The guidance allows reclassification of stranded tax effects resulting from the Accounting for Measurement-Period Adjustments (Topic 805): Business Combinations, which requires that an acquirer recognize adjustmentsTax Cuts and Jobs Act from accumulated other comprehensive income to provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. The standardretained earnings. This guidance is effective for fiscal years beginning after December 15, 2015, including interim periods within those fiscal years.2018. The adoption of this guidance has no material impact on the Company’s consolidated financial statements.
In June 2018, the FASB issued ASU 2018-07 “Improvement to Nonemployee Share-Based Payments Accounting”. This guidance simplifies the accounting for non-employee share-based payment transactions. The amendments specify that ASC 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The guidance is to be applied prospectively to adjustments to provisional amounts that occureffective for fiscal years beginning after the effective date of the standard, with earlier application permitted for financial statements that have not been issued.December 31, 2018. The Company does not expect that the adoption of this ASUguidance will have a significant impact its consolidated financial statements.
In November 2015,August 2018, the FASB issued Accounting Standards Update No. 2015-17 (ASU 2015-17) “Income TaxesASU 2018-13 “Fair Value Measurement (Topic 740): Balance Sheet Classification820)—Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement”. This guidance removes certain disclosure requirements related to the fair value hierarchy, modifies existing disclosure requirements related to measurement uncertainty and adds new disclosure requirements. The new disclosure requirements include disclosing the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of Deferred Taxes”. ASU 2015-17 simplifies the presentationreporting period and the range and weighted average of deferred income taxessignificant unobservable inputs used to develop Level 3 fair value measurements. Certain disclosures required by eliminating the separate classification of deferred income tax liabilitiesthis guidance must be applied on a retrospective basis and assets into current and noncurrent amounts in the consolidated balance sheet statement of financial position.others on a prospective basis. The amendments in the update require that all deferred tax liabilities and assetsguidance will be classified as noncurrent in the consolidated balance sheet. The amendments in this update are effective for annual periodsfiscal years beginning after December 15, 2016, and interim periods therein and may be applied either prospectively or retrospectively to all periods presented. Early2019, although early adoption is permitted. WeThe Company is currently evaluating this guidance to determine the impact it may have early adopted this standard in the fourth quarter of 2015 on a retrospective basis. Prior periods have been retrospectively adjusted.
our continuing operations, by category (in thousands of U.S. dollars):
| Year ended December 31, | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||
| Cost of revenues | $ | 25,924 | $ | 24,659 | $ | 23,757 | ||||||
| Customer acquisition costs and media buy | 140,210 | 130,885 | 128,351 | |||||||||
| Research and development | 25,221 | 17,189 | 18,884 | |||||||||
| Selling and marketing | 54,559 | 52,742 | 38,918 | |||||||||
| General and administrative | 28,827 | 21,911 | 16,450 | |||||||||
| Depreciation and amortization | 25,977 | 16,591 | 9,719 | |||||||||
| Restructuring costs | 728 | - | 2,075 | |||||||||
| Impairment, net of change in fair value of contingent consideration | - | 85,667 | - | |||||||||
| Total Costs and Expenses | $ | 301,446 | $ | 349,644 | $ | 238,154 | ||||||
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The following table sets forth, for the periods indicated, our statements of operations expressed as a percentage of total revenues (the percentages may not equal 100% because of the effects of rounding):
| Year Ended December 31, | ||||||||||||
| 2013 | 2014 | 2015 | ||||||||||
| Revenues: | ||||||||||||
| Search | 85 | % | 85 | % | 78 | % | ||||||
| Advertising and Other | 15 | 15 | 22 | |||||||||
| Total revenues | 100 | % | 100 | % | 100 | % | ||||||
| Costs and expenses: | ||||||||||||
| Cost of revenues | 2 | % | 7 | % | 7 | % | ||||||
| Customer acquisition and media buy costs | 57 | 45 | 41 | |||||||||
| Research and development | 7 | 11 | 12 | |||||||||
| Selling and marketing | 3 | 7 | 13 | |||||||||
| General and administrative | 6 | 10 | 14 | |||||||||
| Restructuring charges | - | 1 | -(* | ) | ||||||||
| Impairment, net of change in fair value of contingent consideration | - | 5 | 42 | |||||||||
| Total costs and expenses | 75 | 86 | 130 | |||||||||
| Operating income (loss) | 25 | 14 | (30 | ) | ||||||||
| Financial income (expense), net | 1 | (1 | ) | (1 | ) | |||||||
| Income (loss) before taxes on income | 26 | 13 | (31 | ) | ||||||||
| Income tax expense | 7 | 2 | -(* | ) | ||||||||
| Income (loss) from continuing operations | 19 | 11 | (31 | ) | ||||||||
| Loss from discontinuing operations, net | (10 | ) | - | - | ||||||||
| Net income | 9 | % | 11 | % | (31 | )% | ||||||
| Year Ended December 31, | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||
| Revenues: | ||||||||||||
| Advertising | 45 | % | 49 | % | 50 | % | ||||||
| Search and other | 55 | 51 | 50 | |||||||||
| Total revenues | 100 | % | 100 | % | 100 | % | ||||||
| Costs and expenses: | ||||||||||||
| Cost of revenues | 8 | % | 9 | % | 9 | % | ||||||
| Customer acquisition costs and media buy | 45 | 48 | 51 | |||||||||
| Research and development | 8 | 6 | 7 | |||||||||
| Selling and marketing | 17 | 19 | 15 | |||||||||
| General and administrative | 9 | 8 | 7 | |||||||||
| Depreciation and amortization | 8 | 6 | 4 | |||||||||
| Restructuring charges | (* | ) | (* | ) | 1 | |||||||
| Impairment, net of change in fair value of contingent consideration | - | 31 | - | |||||||||
| Total costs and expenses | 96 | 127 | 94 | |||||||||
| Operating income (loss) | 4 | (27 | ) | 6 | ||||||||
| Financial expenses, net | 3 | 2 | 2 | |||||||||
| Income (loss) before taxes on income | 1 | (29 | ) | 4 | ||||||||
| Income tax expense (benefit) | (* | ) | (3 | ) | 1 | |||||||
| Loss from continuing operations | (1 | ) | (26 | ) | 3 | |||||||
| Loss from discontinuing operations, net | 1 | - | - | |||||||||
| Net Income (loss) | (* | )% | (26 | )% | 3 | % | ||||||
(*) less than 11%
Year Ended December 31, 20152018 Compared to Year Ended December 31, 20142017
Revenues. Revenues decreased by 43%8%, from $388.7$274.0 million in 2014,2017, to $221.0$252.8 million in 2015.2018.
Search revenues. Search revenues decreased by 48% in 2015, from $330.8 million in 2014, to $172.3 million in 2015. This decrease was primarily a result of our decision to dramatically reduce customer acquisition costs starting from the third quarter of 2014. This decision reduced the tail of revenues going into 2015, as compared to 2014, and also reduced ongoing revenues from our new revenue share model. Our search revenues have substantially been stable since the second quarter of 2015, albeit at a lower level than previously, and as a result, we expect them to continue and contribute a substantial part of our revenues in 2016.
Advertising revenues. Advertising revenues decreased by 6% in 2018, from $134.5 million in 2017, to $126.0 million in 2018. This decrease is primarily attributable to these revenues being substantially a side product ofinsufficient programmatic inventory to meet our search revenue monetization model and declined together with search as we decided to reducedemand for our investment in customer acquisition. This decrease was partially offset by the revenues recorded from one month of Undertone’s activity, as the acquisition closed on November 30, 2015. As a result of this acquisition, we expect advertising revenues to increase dramatically in 2016 as compared to 2015, greatly diversifying our revenue sources.programmatic high-impact ad units.
| Year ended December 31 | ||||||||||||
| 2013 | 2014 | 2015 | ||||||||||
| Cost of revenues | $ | 6,104 | $ | 27,817 | $ | 16,195 | ||||||
| Customer acquisition and media buy costs | 185,355 | 174,575 | 91,217 | |||||||||
| Research and development | 22,394 | 44,129 | 26,377 | |||||||||
| Selling and marketing | 10,298 | 25,388 | 28,270 | |||||||||
| General and administrative | 19,115 | 37,605 | 31,520 | |||||||||
| Restructuring charges | - | 3,981 | 1,052 | |||||||||
| Impairment, net of change in fair value of contingent consideration | - | 19,941 | 92,340 | |||||||||
| Total Costs and Expenses | $ | 243,266 | $ | 333,436 | $ | 286,971 | ||||||
Cost of revenues. Cost of revenues decreased by $11.6 million, or 42%4%, from $27.8$24.7 million in 2014,2017, to $16.2$23.8 million in 2015. The decrease was primarily attributable to an $8.5 million decrease2018. Cost of revenues remained stable in amortizationterms of intangible assets, as a resultthe percentage of an impairmentrevenues, representing 9% of certain intangible assetsrevenues in the fourth quarter of 20142017 and to lesser extent in 2015. In addition, our hosting expenses decreased by approximately $2.7 million due to the reduction in our search revenue volume.2018.
Customer acquisition costs (“CAC”) and media buy costs. DecreasedCAC and media buy decreased by $83.42%, from $130.9 million or 48%, from $174.6 million in 2014, compared to $91.2 million in 2015. This decrease was a result of our decision to be more selective regarding our partners, coupled with the transition of our agreements from a prepayment per install method in 2014 to paying our partners a portion of the revenues generated as they are generated. In addition, $16.7 million of CAC associated to search revenues presented on net basis, was deducted directly from revenues in 2015. This reduction was partially offset by2017, to $128.4 million or 51% of revenues in 2018. In search, the increase in media buy costs of Undertone for the one month since the acquisition. As a result of our stabilizing our CAC in the search business and the acquisition of Undertone and consolidating its media buying costs in the latter part of 2015, we expect this expenditure to increase in 2016, while it may not increase as a percentage of revenues as these costs are a lower percentage at Undertone.is primarily due to churn of our legacy products, while in advertising, the increase is mainly attributed to product mix and due to the effect of header bidding and Chrome ad blocker.
Research and development expenses ("(“R&D"&D”). R&D increase by 10%, from $17.2 million in 2017, to $18.9 million in 2018. The increase was primarily as a result of reduction of capitalization expenses due to development completion of platform during 2018.
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Selling and marketing expenses (“S&M”). S&M expenses decreased by $17.826%, from $52.7 million in 2015, or 40%2017, to $38.9 million in 2018. The decrease was primarily as a result of restructuring efforts undertaken during 2017 and in the beginning of 2018; the savings resulted from reduction of headcount, close of office facilities and other cost optimizations.
General and administrative expenses (“G&A”). G&A decreased by 25%, from $44.1$21.9 million in 2014,2017, to $26.4$16.5 million in 2015.2018. The decrease is primarily due to restructuring efforts undertaken during 2017 and in the beginning of 2018; the savings resulted from reduction of headcount, close of office facilities and other cost optimizations.
Restructuring costs. In 2018, the Company incurred a restructuring costs of $2.1 million in connection with the restructuring plan, mainly to reduce workforce, close certain facilities, as well as other cost saving measures. In 2017, no restructuring charges were recorded.
Depreciation and amortization. Depreciation and amortization expenses decreased by 41%, from $16.6 million in 2017, to $9.7 million in 2018. Depreciation and amortization consist primarily of depreciation of our property and equipment and the amortization of our intangible assets as a result of our acquisitions. The decrease is primarily attributable to the restructuringlower amortization of our search monetization business in November 2014, including a head count reduction as well as other cost saving measures, such as the consolidation of our Israeli offices. In addition, in 2015, $4.0 million was capitalized, representing mainly compensation expenses for employees engaged in the development of our mobile advertising platform with an emphasis on the self-service offering and a platform for optimizing and increasing the retention and subsequent monetizationacquired intangible assets from the users of our partners' mobile apps. These costs were in addition to the ongoing development effort required in our desktop monetization offering; to adapt to and maintain compatibility with the ever-changing software landscape in which we operate. With theUndertone acquisition, of Undertone in the latter part of 2015, we expect R&D to increase for the full year of 2016, but we do not expect it will increase as a percentage of revenues.
Impairment, net of change in fair value of contingent consideration. WeIn 2017, the Company recorded an impairment charge of $85.7 million, classified as “Impairment charges” in the consolidated statements of income. No further impairment charges were recorded in 2018.
Taxes on income (benefit). Taxes on income increased by $11.6 million from a tax benefit of $(8.8) million in 2017, to a tax expense of $2.8 million in 2018. The increase was primarily a result of the decrease of deferred taxes on intangible assets in 2017.
Net income (loss) from continuing operations. Net income (loss) from continuing operations increased by $80.9 million, from a net gainloss of $6.6$72.8 million comprisedin 2017 to a net income of $8.1 million in 2018. The increase resulted primarily from the non-recurring impairment charge of $85.7 million that recorded in 2017.
Year Ended December 31, 2017 Compared to Year Ended December 31, 2016
Revenues. Revenues decreased by 12%, from $312.8 million in 2016, to $274.0 million in 2017.
Search and other revenues. Search and other revenues decreased by 19% in 2017, from $172.7 million in 2016, to $139.5 million in 2017. This decrease was primarily due to the cleanup of our existing network and the churn of our legacy products.
Advertising revenues. Advertising revenues decreased by 4% in 2017, from $140.1 million in 2016, to $134.5 million in 2017. This decrease is attributable to slower than expected brand spend in the first quarter of 2017 relating to the uncertainty following the U.S. elections.
Cost of revenues. Cost of revenues decreased by 5%, from $25.9 million in 2016, to $24.7 million in 2017. Cost of revenues remained stable in terms of the percentage of revenues, representing 8% and 9% of revenues in 2016 and 2017, respectively.
Customer acquisition costs (“CAC”) and media buy. CAC and media buy decreased by 7%, from $140.2 million or 45% of revenues in 2016, to $130.9 million or 48% of revenues in 2017. In search, there was an increase as a percentage of revenues is primarily due to churn of our legacy products, while in advertising, the increase is mainly attributed to product mix and increased programmatic revenues with lower margins.
Research and development expenses (“R&D”). R&D decreased by 32%, from $25.2 million in 2016, to $17.2 million in 2017. The decrease was primarily as a result of a decrease in headcount which reflects our efforts in adapting and maintaining compatibility with the ever-changing business landscapes and automation of our platforms and operating systems.
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Selling and marketing expenses (“S&M”). S&M expenses decreased by 3%, from $54.6 million in 2016, to $52.7 million in 2017. The decrease was primarily as a result of decrease in stock based compensation expenses mostly due to our share price and a decrease in headcount.
General and administrative expenses (“G&A”). G&A decreased by 24%, from $28.8 million in 2016, to $21.9 million in 2017. The decrease is primarily due to corporate expense reductions and lower stock based compensation expenses due to our share price.
Restructuring costs. In 2016 and 2017, we incurred restructuring costs of $0.7 million and $0 million, respectively.
Depreciation and amortization. The decrease in depreciation and amortization is primarily attributable to the impairment of the acquired intangible assets from the Undertone acquisition.
Impairment, net of change in fair value of the previously accrued contingent payment, associated with the Grow Mobile acquisition, in the amount of $9.1 million, net of the $2.5 million accrual of the Release Payment.consideration
Taxes on income.income (benefit). Taxes on income decreased by $8.9$9.0 million from $9.6$0.2 million in 20142016 to $0.7 million in 2015. The decrease in the tax expenses is linked to the decrease in our income before tax as a result of the decrease in revenues as aforementioned. In addition, we have recorded a tax benefit of $7.1$(8.8) million asin 2017. The decrease was primarily a result of reversalimpairment charges which resulted in a decrease of a valuation allowance in respect of net operating losses which after the acquisition of Undertone, it is more likely than not they will be utilized in future periods.deferred taxes.
Net income (loss(loss) from continuing operations). Net income (loss) from continuing operations decreased by $111.5$75.6 million, from net income of $42.8$2.8 million in 2014,2016, to net loss of $68.9$72.8 million in 2015.2017. The decrease resulted primarily from increase inthe impairment costs incharge of $85.7 million.
Net loss from discontinued operations. In March 2016, we decided to discontinue the amount of $79.0 million in 2015, the decrease in our revenues, net of CAC and media buying, in the amount of $84.4 million, partially offset by a change in fair value of contingent consideration in the amount of $6.6 million, a decrease in the amortization of intangible assets of $9.9 million, a decrease in our share based compensation expenses of $7.5 million, decrease in tax expenses of $8.9 million, decrease in restructuring costs of $2.9 million and other significant cost saving measures, mostly attributable to the restructuringmobile self-serve side of our search monetization business in November 2014 and the consolidation ofput up for sale our Israeli offices.
| Year ended December 31, | ||||||||
| 2013 | 2014 | |||||||
| Cost of revenues | $ | 6,104 | $ | 27,817 | ||||
| Customer acquisition costs | 185,355 | 174,575 | ||||||
| Research and development | 22,394 | 44,129 | ||||||
| Selling and marketing | 10,298 | 25,388 | ||||||
| General and administrative | 19,115 | 37,605 | ||||||
| Impairment and restructuring charges | - | 23,922 | ||||||
| Total costs and expenses | $ | 243,266 | $ | 333,436 | ||||
| B. | LIQUIDITY AND CAPITAL RESOURCES |
As of December 31, 2015,2018, we had $60.0$43.1 million in cash, cash equivalents and short-term deposits, compared to $116.2$37.5 million at December 31, 2014.2017. The $56.2$5.6 million decreaseincrease is primarily the result of cash paid, net of cash acquired, for the acquisition of Make Me Reach and Undertone in the amounts of $5.3 million and $81.7 million, respectfully, partially offset by $17.5$32.8 million cash provided by operating activities $10.0offset by $23.0 million from the issuancerepayment of sharesour short and long term debt and $4.2 million used in a private placement.other investing activities.
For 2013, 20142016, 2017 and 2015,2018, our cash flows were as follows (in thousands of U.S. dollars):
| Year ended December 31 | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||
| Net cash provided by continuing operating activities | $ | 33,784 | $ | 36,013 | $ | 32,801 | ||||||
| Net cash used in discontinued operating activities | (3,329 | ) | - | - | ||||||||
| Net cash provided by (used in) investing activities | 28,084 | (4,851 | ) | (1,822 | ) | |||||||
| Net cash used in financing activities | (52,607 | ) | (23,840 | ) | (23,009 | ) | ||||||
| $ | 5,932 | $ | 7,322 | $ | 7,970 | |||||||
| Year ended December 31 | ||||||||||||
| 2013 | 2014 | 2015 | ||||||||||
| Net cash provided by operating activities | $ | 61,352 | $ | 72,042 | $ | 17,569 | ||||||
| Net cash used in investing activities | (76,975 | ) | (6,984 | ) | (120,446 | ) | ||||||
| Net cash provided by (used in) continuing financing activities | (64,159 | ) | 35,176 | 19,199 | ||||||||
| Effect of exchange rate changes on cash and cash equivalents | - | - | 14 | |||||||||
| $ | (79,782 | ) | $ | 100,234 | $ | (83,664 | ) | |||||
Net cash provided by continuing operating activities
In 2015,2018, our operating activities provided cash in the amount of $17.6$32.8 million, primarily as a result of net lossincome in the amount of $68.9$8.1 million, decreased by non-cash expenses, depreciation and amortization of $12.0$9.7 million, impairment expenses of $98.9 million, non-cash share-based compensation expenses of $7.4$2.7 million offset by a decreaseand net change of $5.6 million in the payment obligation related to an acquisition and by net changes of $26.5$12.8 million in operating assets and liabilities.
In 2014,2017, our operating activities provided cash in the amount of $72.0$36.0 million, primarily due toas result of net incomeloss in the amount of $42.8$72.8 million, increaseddecreased by non-cash expenses including, impairment charge of $85.7 million, depreciation and amortization and impairment expenses of $42.0$16.6 million, non-cash stock-basedshare-based compensation expenses of $15.1 million, other non-cash expenses of $3.5$2.1 million and an increase in accounts payable and accrued expensesnet change of $12.0 million, offset by a net increase of $13.9$4.4 million in deferred tax assets, an increase in accounts receivable of $23.6 million and changes of $5.9 million in other operating assets and liabilities.
In 2013,2016, our continuing operating activities provided cash in the amount of $85.3$33.8 million, primarily due toas a result of net income from continuing operations in the amount of $62.4$2.8 million, increaseddecreased by non-cash expenses including, depreciation and amortization of $2.1$26.0 million non-cash stock-basedand share-based compensation expenses of $10.4$6.8 million, other non-cash expenses of $1.2, a decrease in accounts receivables of $18.0 million and an increase in accounts payable of $8.7 million,partially offset by a decreasenet changes of $1.9 million in deferred revenues of $6.2 million and changes in other operating assets and liabilities of $11.3 million.
liabilities. Net cash provided by (used in) investing activities
In 2018, we used in investing activities
In 2017, we used in our investing activities $4.9 million cash, primarily due to $5.8 million invested in development costs that were capitalized.
capitalized, $2.5 million of proceeds from maturities of short-term bank deposits and $1.6 million invested in the purchase of property and equipment. In 2014,2016, our investing activities usedprovided $28.0 million cash, in the amount of $7.0 million, primarily due to $10.9$34.0 million of proceeds from maturities of short-term bank deposits, partially offset by $4.6 million invested in capitalized development costs and $1.4 million invested in the purchase of property and equipment, $4.3net of proceeds from sale.
Net cash used in financing activities
In 2018, we used in our financing activities $23.0 million cash, primarily due to $36.5 million in cashrepayments of long-term loans, $8.2 million repayment of our convertible bonds and $3.3 million used for the acquisitionrepayment of Grow Mobile and a deposit of $15.0 million in short term bank deposits,obligations related to the SweetIM acquisition, partially offset by cash acquired through$25.0 million proceeds from long-term loans following the acquisition of Perion in the amount of $23.4 million.new Mizrahi Credit facilities.
In 2013,2017, we used in our continuing investingfinancing activities used$23.8 million cash, in the amount of $77.9 million, primarily due to investments$11.4 million in short term investments,repayments of long-term loans, $7.9 million repayment of our convertible bonds, $7.0 million repayments of short-term loans, net and $2.5 million used for the repayment of obligations related to the Undertone acquisition, partially offset by $5.0 million proceeds of $76.0 million and purchase of property and equipment of $1.9 million.
from long-term loans.In 2015, our financing activities provided2016, we used $52.6 million cash, in the amount of $19.2 million, primarily due to $29.5 million used for the $13.0repayment of obligations related to the Undertone acquisition, $9.5 million proceeds from a short-term loan and proceeds from issuancerepayments of shares in the amount of $10.0 million, partially offset by $1.5 million of payment made in connection with prior acquisition and $2.3long-term loans, $7.6 million repayment of long-term bankour convertible bonds, and $6.0 million repayments of short-term loans,
net. Credit Facilitiesfacilities
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On November 30, 2015, concurrentlyconcurrent with the closing of the Undertone acquisition, Undertone entered into a new secured credit agreement with SunTrust Bank, Silicon Valley Bank and Comerica Bank, for $50 million, due(Comerica Bank having been replaced in quarterly installments2016 by Cadence Bank). This facility was repaid in full from March 2016the proceeds of the Bank Mizrahi facility. See “Bank Mizrahi credit facility” below.
Bank Mizrahi credit facility
On May 10, 2017, ClientConnect executed a credit facility with Mizrahi Tefahot Bank Ltd. (“Bank Mizrahi”), an Israeli bank, pursuant to November 2019. The installments startwhich ClientConnect was permitted to borrow up to $17.5 million. This facility was repaid in full from the proceeds of the new Bank Mizrahi facility.
On December 17, 2018, ClientConnect executed a new loan facility with Bank Mizrahi in the amount of $0.6 million, increase$25 million. Proceeds of the loan facility were applied to $1.25 millionthe refinancing of existing debt of ClientConnect with Bank Mizrahi as well as existing debt of Undertone with SunTrust Bank.
Principal on the loan is payable in twelve equal quarterly instalments beginning in March 2018 and require a final payment upon maturity in2019. Interest on the amountloan at the rate of $35 million. The outstanding principal amount bears interest atthree-month LIBOR plus 5.5%5.7% per year andannum is payable quarterly. The credit facility is scheduled to mature on December 31, 2021.
The credit facility is secured by substantially allliens on the assets ClientConnect of and Undertone and is guaranteed by Perion and Undertone. Each such guarantee is limited in amount to $33 million. Financial covenants for the companies inloan facility are tested at the Undertone group and by guaranteeslevel of such companies. Perion on a consolidated basis.
The loan is required to be prepaid by Undertone in certain circumstances, such as from proceeds of asset sales or casualty insurance policies, debt or equity offerings, or from excess cash flow inmajor financial covenants under the event that Undertone's total leverage ratio exceeds specified targets, and a pro rata portion of indemnification payments (or offset of the holdback amount) under our merger agreement with Undertone.
| · |
| · | ratio |
| · | twelve-month EBITDA at the end of each quarter of not less than 40% of original aggregate principal amount of the bonds (not applicable after repayment in full of the Bonds); and |
| · |
As of December 31, 2015,2018, we had bank loans outstandingwere in compliance with all of the amount of $63.6 million to be paid over the next one to four years, including $46.9 million classified as long-term debt and $16.7 million as current maturities.foregoing covenants.
Series L Convertible Bonds
On September 23, 2014, we completed a public offering in Israel of Series L Convertible Bonds (the "Bonds"“Bonds”). The Bonds have an aggregate principal amount of approximately ILSNIS 143.5 million (approximately 36.8$ million$39.2 million), of which, as of December 31, 2015) at a price of ILS 965 per unit of ILS 1,000 par value.2018, approximately NIS 57.4 million are outstanding (approximately $15.3 million). The Bonds, which are listed on the Tel Aviv Stock Exchange,TASE, are convertible into an aggregate of approximately 4.274.3 million ordinary shares, at a conversion price of ILS 33.605NIS 100.815 per share (approximately $8.6$26.9 per share as of December 31, 2015)2018). The principal of the Bonds areis repayable in five equal annual installments commencingcommenced on March 31, 2016, with a final maturity date of March 31, 2020. The Bonds bear interest at the rate of 5% per year, subject to increase toincreases up to 6%, in the event of downgrades of our debt rating. On February 28, 2019, Standard & Poor’s Maalot Ratings Services reaffirmed our corporate credit rating of ilA-, with a stable outlook. The interest is payable semi-annually on March 31 and September 30 of each of the years 2015 through 2019, as well as a final payment on March 31, 2020.
In December 2014, we executed a cross-currency and interest swap transaction with one of the banks in order to mitigate the potential impact of the fluctuations in the NIS and US$ exchange rate in regard to the future interest and principal payments of our convertible bonds (described below), which are denominated in NIS.
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Under the terms of our Bonds, our ability to make distributions is subject to various limitations. In addition, we are required to maintain and comply with the following financial covenants:
| · |
| · | ratio of net financial indebtedness to twelve-month EBITDA of not more than 2.5 at the end of each quarter; |
| · | twelve-month EBITDA at the end of each quarter of not less than 40% of original aggregate principal amount of the bonds; and |
| · | cash and cash equivalents of at least $10 million (and, six months prior to each principal payment date, a sufficient amount to repay the principal and interest then due). |
As of December 31, 2015,2018, we were in compliance with all of the foregoing covenants.
The Company may redeem the Bonds upon delisting of the Bonds from the TASE, subject to certain conditions. In addition, the Company may redeem the Bonds or any part thereof at its discretion, subject to certain conditions.
Private placement
On December 3, 2015, we completed a private placement of 4,436,8981,478,966 ordinary shares for gross proceeds of $10.1 million ($10.0$10 million, net of legal fees)fees, pursuant to a securities purchase agreement with J.P. Morgan Investment Management Inc., as investment advisor to the National Council for Social Security Fund and 522 Fifth Avenue Fund L.P. (collectively referred to as the "Investors"“Investors”). The purchase price per share was $2.282$6.846 per share, which was the average closing price of an ordinary share on the Nasdaq Global Select Market for the 30 trading days ending on December 1, 2015. InAccording to a one-time price adjustment mechanism in the event thatsecurities purchase agreement, on September 1, 2016, the 15-trading day weighted average price of an ordinary share is less than $2.624, the per share purchase price will bewas adjusted downward 1% for each whole 1% that it is lower than such price, up to a maximum adjustment ofby 15%, and we will issueissued to the Investors such number of260,993 additional ordinary shares as is necessary so that each of the Investors will receive such number of ordinary shares in total that it would have purchased at the closing of the private placement at such lower price.shares.
We believe that our current working capital and cash flow from operation are sufficient to meet our operating cash requirements for at least the next twelve months, including payments required under our existing bank loans and convertible bonds.
C. RESEARCH, DEVELOPMENT, PATENTS AND LICENSES, ETC.
Our research and development activities are conducted internally by a 221 person research and development staff.86 persons at December 31, 2018. Research and development expenses were $22.4$25.2 million, $44.1$17.2 million and $26.4$18.9 million in the years ended December 31, 2013, 20142016, 2017 and 2015,2018, respectively. In 2015,2018, our efforts were focused onin adapting and maintaining compatibility with the ever-changing business landscapes and automation of our software products to adapt with changes toplatforms and operating systems, browsers or other underlying platforms. Additionally, we continued to focus our research and development efforts on developing the new mobile advertising platform-based solutions that will offer developers (i) effective distribution tools, (ii) increased monetization capabilities, and (iii) enhanced optimization via powerful, reliable, and easy-to-use analytics.systems.
For a discussion of our intellectual property and how we protect it, see "Business“Business Overview—Intellectual Property"Property” under Item 4.B above.
| D. | TREND INFORMATION |
Industry trends expected to affect our revenues, income from continuing operations, profitability and liquidity or capital resources:
| 1. | The digital advertising environment is |
| 2. | The digital advertising environment is |
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| 3. | Our search monetization revenue |
| 4. | In |
For more information on uncertainties, demands, commitments or events that are reasonably likely to have a material effect on our business, see Item 3 "Key“Key Information—Risk Factors."”
For additional trend information, see the discussion in "Item“Item 5.A Operating and Financial Review and Prospects – Operating Results."”
We do not have off-balance sheet arrangements (as such term is defined by applicable SEC regulations) that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial conditions, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.
| F. | TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS |
The following table summarizes our contractual commitments as of December 31, 20152018 and the effect those commitments are expected to have on our liquidity and cash flow in future periods. All numbers below are in US dollars in thousands.
Payments Due by Period(****) | ||||||||||||||||||||
| Contractual Commitments as of December 31, 2018 | Total | Less than 1 year | 1-3 Years | 3-5 Years | More than 5 Years | |||||||||||||||
Long-term debt, including current portion (*) | $ | 25,000 | $ | 8,333 | $ | 16,667 | $ | - | $ | - | ||||||||||
Accrued severance pay (**) | 1,676 | - | - | - | 1,676 | |||||||||||||||
Uncertain tax positions (ASC-740) | 3,487 | - | - | - | 3,487 | |||||||||||||||
Convertible debt (*) | 15,313 | 7,657 | 7,656 | - | - | |||||||||||||||
| Payment obligation related to acquisitions (***) | 1,813 | 1,813 | - | - | - | |||||||||||||||
| Operating leases | 36,520 | 5,102 | 11,753 | 9,743 | 9,922 | |||||||||||||||
| Total | $ | 80,322 | $ | 22,904 | $ | 36,076 | $ | 9,743 | $ | 11,598 | ||||||||||
Payments Due by Period (U.S. dollars in thousands) (****) | ||||||||||||||||||||
| Contractual Commitments as of December 31, 2015 | Total | Less than 1 year | 1-3 Years | 3-5 Years | More than 5 Years | |||||||||||||||
Long-term debt, including current portion (*) | $ | 64,950 | $ | 17,050 | $ | 9,150 | $ | 38,750 | $ | - | ||||||||||
Accrued severance pay (**) | 1,491 | - | - | - | 1,491 | |||||||||||||||
Convertible debt (*) | 36,772 | 7,354 | 14,709 | 14,709 | - | |||||||||||||||
| Payment obligation related to acquisitions(***) | 48,970 | 11,970 | 17,000 | 20,000 | - | |||||||||||||||
| Operating leases | 38,632 | 5,953 | 11,784 | 11,782 | 9,114 | |||||||||||||||
| Total | $ | 190,816 | $ | 42,327 | $ | 52,643 | $ | 85,241321 | $ | 10,605 | ||||||||||
| (*) | Long-term debt and convertible debt obligations represent maximum repayment of principal and do not include interest payments due thereunder. |
| (**) |
(***) | Payment obligation related to acquisitions, represents the maximum cash payments we will be obligated to make under consideration arrangements with former owners of certain entities we acquired. |
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The following table sets forth information regarding our executive officers and directors as of March 1, 2016:10, 2019:
| Name | Age | Position | |||
| Chairman of the Board of Directors | |||||
| 58 | Chief Executive Officer; Director | ||||
| Chief Financial Officer | |||||
| Dror Erez | 49 | Director | |||
Sarit Firon*(1)(3)(4) | 52 | External Director | |||
Rami Schwartz* (1) (3) | 61 | Director | |||
Daniel E. Aks*(2)(3)(4) | 59 | External Director | |||
Michael Vorhaus*(2) (4) | 61 | Director | |||
| Miki Kolko | Chief Technology Officer | ||||
| General Manager, CodeFuel | |||||
| Ran Cohen | 48 | Senior Vice President, | |||
| * |
| (1) | Member of the investment committee. |
| (2) | Member of the nominating and governance committee. |
| (3) | Member of the compensation committee. |
| (4) | Member of the audit committee. |
There are no arrangements or understandings between any of our directors or executive officers and any other person pursuant to which our directors or executive officers were selected.
Eyal Kaplan has been the chairman of the board of directors of the Company since May 2018. Mr. Kaplan is also the Chairman of Expand Investments, an advisory and consulting firm focusing on growth-through-innovation and corporate strategies. Prior to that, he was Managing General Partner with Walden Israel, a venture capital firm, during which time he was Director and Chairman of numerous portfolio companies. In 1990 he co-founded Geotek Communications, an international wireless communications company, and served as senior vice president with broad strategic, managerial and operational responsibilities until 1995. Mr. Kaplan has been a member of the Technion (Israel Institute of Technology) Council (executive board) since January 2014, where he chairs the Finance Committee and is a member of the Endowment Investment Committee. Since 2012 he has been a member of the Technion Board of Governors, a body of some 300 high-profile visionaries and decision makers with outstanding achievements in the fields of science, technology, economy, industry, culture and society. From 2007 to 2012, Mr. Kaplan was a member of the Advisory Committee of Caesarea Center for Capital Markets & Risk Management, and from 2005 to 2014, he was a member of the Advisory Committee of the Global Consulting Practicum at the Wharton School of the University of Pennsylvania. Mr. Kaplan holds an MBA from the Wharton School of the University of Pennsylvania, a Master of Arts in International Studies from the Lauder Institute of the University of Pennsylvania, and a Bachelor of Science degree (with Honors) in economics and management from the Technion - Israel Institute of Technology.
Maoz Sigron has been the Chief Financial Officer of the Company since February 2018. Prior to that, since September 2017 until February 2018, Mr. Sigron served as our VP Finance. Previously, he served in various finance leadership and senior accounting positions at Tnuva Dairy Corporation, Allot Communications Ltd. (Nasdaq:ALLT) and Stratasys Ltd. (Nasdaq:SSYS) as well served as a director from January 2011 to January 2014. From 1995 to 2010,CPA with PwC. Mr. Mandelbaum served in various positions at American Greetings Corporation (NYSE: AM), including as Chief Executive Officer of the AG Intellectual Properties group, from 2000 to 2010 and as Senior Vice President of the Sales and Business Development of the AG Interactive group, from 1998 to 2000. Mr. MandelbaumSigron holds a B.A.B.A in accounting and Economics from Yeshiva University and an M.B.A. from the Weatherhead SchoolCollege of Management at Case Western Reserve University.Management.
Dror Erez has been a director of the Company since January 2014. In 2005, Mr. Erez co-founded Conduit and has served as its Chief Technology Officer until January 2014, when he became Conduit'sConduit’s President. Mr. Erez is also a member of the Conduit board of directors. Prior to founding Conduit, he served in various executive roles in private technology companies. He holds a B.A. in Physics and Computer Science from Bar Ilan University.University.
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Rami Schwartz has joined The Portland Trust as Managing Director of the Tel Aviv office in April 2018. Mr. Schwartz also serves as an advisory board member of Algosec. Previously, Mr. Schwartz was the President of the Amdocs Products and Amdocs Delivery groups for 7 years. Prior to joining Amdocs, Mr. Schwartz was the Chairman of Olive Software (acquired by ESW Capital), and Comply, the co-founder and CEO of Zizio and DigiHOO, and an EIR at Cedar Fund. Mr. Schwartz was CEO and director of Exanet (acquired by Dell) and General Manager of Precise Software (acquired by Veritas software) and an EIR at Cedar Fund. Mr. Schwartz holds a B.Sc. in excellence, in Mathematics and Computer Science from the Hebrew University in Jerusalem.
Michael Vorhaus has been a director of the Company since April 2015. Since Starting December of 2018, Mr. Vorhaus has founded Vorhaus Advisors and is CEO of the firm. From 1994 to November 2018, he has served as President was in a variety of positions at of Frank N. Magid Associates, Inc., a research-based strategic consulting firm. From 1994 to 2008, he served as its Senior Vice President and Managing Director and sincefrom 2008 to 2018 he has served as the President of Magid Advisor, a unit of Magid Associates. From 2013-2014,2013 to 2014, Mr. Vorhaus served as a director of Grow Mobile. In 1987, he founded Vorhaus Investments. Mr. Vorhaus holds a B.A. in Psychology from Wesleyan University and completed the Management Development Program at the University of California, Berkeley'sBerkeley’s Haas School of Business.
Miki Kolko has been ourthe Chief Technology Officer of the Company since January 2015. From 2012 to 2014 Mr. Kolko served as the Company VP of the Data Services Group. Previously, Mr. Kolko served as vice president of data at LivePerson (NASDAQ:LSPN)(Nasdaq:LPSN), a global leader of digital engagement technology. Prior to his work at LivePerson, Mr. Kolko served in various engineering executive management positions and was a founder and chief technology officer of 3 startups in enterprise software and Internet B2C. Mr. Kolko holds aan M.Sc. in computer science from Tel Aviv University and a B.A. in mathematics and computer science from Bar Ilan University.
There are no family relationships between any of our directors or executive officers.
| B. | COMPENSATION |
The aggregate direct compensation we paid to our officers as a group (9(including our former officers, 11 persons) for the year ended December 31, 2015,2018, was approximately $7.9$5.7 million, which included approximately $0.2$0.3 million that was set aside or accrued to provide for pension, retirement, severance or similar benefits. This amount includes bonuses paid to our officers pursuant to our executive bonus plan based on company performance measures, in accordance with our Compensation Policy for Directors and Officers. This amount does not include expenses we incurred for other payments, including dues for professional and business associations, business travel and other expenses, and other benefits commonly reimbursed or paid by companies in Israel. We did not pay our officers who also serve as directors any separate compensation for their directorship during 2015.
The aggregate compensation we paid to our directors who are not officers for their services as directors as a group for the year ended December 31, 20152018 was approximately $0.3 million. In addition, our directors are reimbursed for expenses incurred in order to attend board or committee meetings.
In the year ended December 31, 2015,2018, we granted (i) options to purchase 757,500283,667 ordinary shares to our directors and officers, at a weighted average exercise price of $ 3.14$3.13 per share, and the latest expiration date for such options is December 2020, and (ii) performance base options to purchase 2,200,000 ordinary shares to our officers and senior employees at an exercise price of $2.28 per share, and expiration date is November 2020.October 2025. These options were granted under our Equity Incentive Plan, as amended, formerly known as the 2003 Israeli Share Option Plan (the "Incentive Plan"“Incentive Plan”).
In 2015,2018, we paid each of our non-executive directors $40,000$50,000 per year, subject to adjustment for changes in the Israeli consumer price index and applicable changes in the Israeli regulations governing the compensation of external directors. Each of our non-executive directors also received, an annual grant of options to purchase 10,0008,333 ordinary shares under the Incentive Plan. Each option is exercisable for a term of five years at an exercise price per share equal to the closingaverage stock market price of our ordinary shares on the date of90 days prior to the annual meeting of shareholders on which such option was granted, as reported by the NASDAQNasdaq Stock Market. The options vest in three equal installments on each anniversary of date of grant. Following termination or expiration of the applicable director'sdirector’s service with the Company, provided that the termination or expiration is not for "cause"“cause” and is not a result of the director'sdirector’s resignation, the options would retain their original expiration dates and, with respect to each grant, the upcoming tranche of options that are scheduled to vest immediately subsequent to the termination date, if any, will automatically vest and become exercisable. All unvested options held by the director will automatically vest and become exercisable upon a change of control of the Company, which is defined for this purpose as (i) a merger, acquisition or reorganization of the Company with one or more other entities in which the Company is not the surviving entity, (ii) a sale of all or substantially all of the assets of the Company; (iii) a transaction or a series of related transactions as a result of which more than 50% of the outstanding shares or the voting rights of the Company are beneficially owned by one person or group (as defined in the SEC rules). At our annual meeting of shareholders held on December 31, 2015, our directors' compensation was increased to $50,000 per year and an annual grant of options to purchase 25,000 ordinary shares, on the terms set forth above.
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The table below reflects the compensation granted to our five most highly compensated office holders during or with respect to the year ended December 31, 2015.2018. We refer to the five individuals for whom disclosure is provided herein as our "Covered“Covered Executives."”
For purposes of the table below, "compensation"“compensation” includes salary cost, bonuses, equity-based compensation, retirement or termination payments, benefits and perquisites such as car, phone and social benefits and any undertaking to provide such compensation. All amounts reported in the table are in terms of cost to the Company, as recognized in our financial statements for the year ended December 31, 2015,2018, including the compensation paid to such Covered Executive following the end of the year in respect of services provided during the year. Each of the Covered Employees was covered by our D&O liability insurance policy and was entitled to indemnification and exculpation in accordance with applicable law and our articles of association. All numbers below are in US Dollars in thousands.
Name and Principal Position (1) | Salary Cost (2) | Bonus (3) | Equity-Based Compensation (4) | Total | ||||||||||||
| Doron Gerstel, Chief Executive Officer | 438 | 290 | 498 | 1,226 | ||||||||||||
| Michael Pallad, former President, Undertone | 671 | 121 | 231 | 1,023 | ||||||||||||
| Mike Glover, former General Manager, CodeFuel Business Unit | 440 | 350 | 133 | 923 | ||||||||||||
| Ran Cohen, Senior Vice President, Product | 455 | 110 | 42 | 607 | ||||||||||||
| Miki Kolko, Chief Technology Officer | 303 | 67 | 187 | 557 | ||||||||||||
Name and Principal Position (1) | Salary Cost (2) | Bonus (3) | Equity-Based Compensation (4) | Total | ||||||||||||
| Josef Mandelbaum, CEO | 637 | 315 | 1,793 | 2,745 | ||||||||||||
| Amir Nahmias, General Manager, CodeFuel Division | 496 | 438 | 626 | 1,560 | ||||||||||||
| Yacov Kaufman, CFO | 407 | 120 | 565 | 1,092 | ||||||||||||
| Shai Gottesdiener, General Manager, Growmobile Division | 313 | 109 | 307 | 729 | ||||||||||||
| Limor Gershoni Levy, Senior Vice President, General Counsel | 239 | 80 | 339 | 658 | ||||||||||||
| (1) | Unless otherwise indicated herein, all Covered Executives are employed on a full-time (100%) basis. |
| (2) | Salary cost includes the Covered |
| (3) |
| (4) | Represents the equity-based compensation expenses recorded in our consolidated financial statements for the year ended December 31, |
Compensation Terms of our Chief Executive Officer
Mr. Gerstel is also entitled for up to a base salarymaximum of ILS 140,000 per month. Henine (9) monthly salaries, based on the Company’s achievement of its annual EBITDA and revenue targets, as determined by the Board of Directors for the applicable fiscal year. One-half of the bonus will be payable if the EBITDA target is entitled to an annual salary increase at a rate equalfully achieved and the other one-half of the bonus will be payable if the revenue target is fully achieved, subject to the average ratefollowing:
· No bonus will be payable if less than 75% of the increaseEBITDA target is achieved;
· To the extent that 90% of a given target is achieved (but less than 100%), a reduced bonus in annual salariesrespect of our senior managementsuch target will be payable based on a 1:2 ratio, i.e., a reduction of 2% per each shortfall of 1%. For example, if 95% of the EBITDA target is achieved and 100% of the revenue target is achieved, then 95% of the maximum bonus would be payable (90% in respect of the applicable year. EBITDA target and 100% in respect of the revenue target); and
· To the extent that the achievement of one target is more than 100% and the other is less than 100% (but at least 90%), the bonus shall be increased for the over-achievement based on a 1:1 ratio, subject to the aforesaid maximum bonus. For example, if 95% of the EBITDA target is achieved and 105% (or more) of the revenue target is achieved, then 100% of the maximum bonus would be payable.
In addition, Mr. Mandelbaum is entitledGerstel was granted with two stock option grants under the Company’s Incentive Plan: (i) option to an annual bonus equal topurchase up to 50%387,278 ordinary shares at an exercise price per share of his base salary, subject to our meeting our annual targets for revenue and EBIT set by our Board of Directors. Half$4.98 (which was the approximate market price per ordinary shares on the Nasdaq Stock Market on the date of the bonus depends on meetingemployment agreement); and (ii) option to purchase up to 387,278 ordinary shares at an exercise price per share of $7.89 (together, the revenue target and half on meeting the EBIT target.“Options”).
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The Options are exercisable for cash or on a “cashless” basis, at the election of Mr. Mandelbaum 200,000 RSUs on November 18, 2013 and 232,400 RSUs on January 2, 2014. These RSUs were granted under the Incentive PlanGerstel, and have a purchase priceterm of ILS 0.01 per share. Theysix years, which will not be reduced in the event that employment terminates prior thereto, except in the event of termination for “Cause” (as defined in the employment agreement). The Options vest during the term of employer-employee relations, in quarterly installments, over a period of three years, subjectfour years. The vesting schedule of the Options will fully accelerate (i) upon the closing of a “Transaction” (as defined below) or (ii) if the employee is terminated without “Cause” or if he resigns as a result of being demoted or relocated, in each case, within 12 months following a “Change of Control” (as defined below).
Each grant constitutes approximately 1.5% of the outstanding ordinary shares as of March 10, 2019.
At the annual general meeting of our shareholders held on February 15, 2018, and as part of a cross-company repricing plan designed mainly to continuedkeep our competitive hiring position in the industry, the repricing of options granted to Mr. Gerstel was approved. The first tranche of 387,278 options was adjusted to have an exercise price per of $3.24 (which is equal to the weighted average price of our ordinary shares on Nasdaq in the last 90 days prior to the date of approval of the repricing plan by our board of directors) (the “Adjusted Exercise Price”), and the second tranche of 387,278 options was adjusted to have an exercise price per share equal to $4.23, which is 130% of the Adjusted Exercise Price.
For the purpose of Mr. Gerstel’s employment agreement, “Transaction” means the occurrence and closing, in a single transaction or in a series of related transactions, of any one or more of the following events pursuant to the approval or recommendation of the Board of Directors: (i) a sale or other disposition of 90% or more of the consolidated assets of the Company and its subsidiaries; (ii) a sale or other disposition of 90% of more of the outstanding securities of the Company resulting in a Change of Control; or (iii) a merger, consolidation or similar transaction involving 90% of more of the outstanding securities of the Company, resulting in a Change of Control.
“Change of Control” will occur if any person or “group” of persons becomes the “beneficial owner” (as such terms are used for purposes of Section 13(d) of the U.S. Securities Exchange Act of 1934, as amended), directly or indirectly, of 35% or more of the outstanding share capital of the Company, excluding a reorganization resulting in the Company being held by an entity beneficially owned by the holders of the Company’s share capital immediately prior to the transaction or any Change in Board Event (as defined below).
“Change in Board Event” shall mean any time at which individuals who, as of April 2, 2017, constitute the board of directors (the “Incumbent Board”) cease for any reason to constitute at least a majority of the board of directors; provided, however, that any individual becoming a director subsequent to April 2, 2017 whose election, or nomination for election by the Company’s shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened (in writing) election contest with 20%respect to the election or removal of each grant vestingdirectors or other actual or threatened (in writing) solicitation of proxies or consents by or on behalf of a person other than the board of directors.
The agreement also includes customary covenants regarding confidentiality, IP assignment, non-competition and non-solicitation.
The employment term is for an indefinite period. During the first anniversary24 months of the applicable grant date, 30% on the second anniversary and 50% on the third anniversary.
We also have employment agreements with our other executive officers. These agreements usually do not contain any change of control provisions and otherwise contain salary, benefit and non-competition provisions that we believe to be customary in our industry.
At an extraordinary meeting of our shareholders scheduled to take place on April 11, 2019, the following changes to Mr. Gerstel’s compensation are standing for a vote and approval of our shareholders:
| (a) | A time-limited increase of the base monthly salary by a gross monthly amount of NIS 36,270, following of which the gross monthly salary will be NIS 131,270. Subject to the approval of the shareholders, Mr. Gerstel’s amendment of the base monthly salary will become effective as of January 15, 2019 and will continue for a period of one (1) year following the date of the shareholders meeting; | |
| (b) | An annual bonus of up to 12 monthly salaries (instead of 9 monthly salaries), subject to performance matrix to be approved by the Company’s compensation committee and board of directors on an annual basis, while up to 25% of such annual bonus may be discretionary and not subject to measurable performance indexes; and |
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| (c) | A one-time grant of options to purchase 150,000 Ordinary Shares, with a 3-year vesting schedule (the options will vest on a quarterly basis in equal tranches over a three-year period), commencing on January 15, 2019 (in this section (c), the “Option”). The exercise price per share for the shares underlying the Option will be as follows: (i) the first 75,000 of shares underlying the Option will be exercised at a price per share equal to $2.87, which is the weighted average closing price of our ordinary shares on Nasdaq in the last 90 days prior to the date of approval of the grant by our board of directors on February 12, 2019, as reported by the Nasdaq Stock Market (the “Base PPS”); and (ii) the remaining 75,000 of shares underlying the Option will be exercised at a price per share equal to $3.30 which is a price15% higher than the Base PPS. The Option will be subject to the terms and conditions of our Equity Incentive Plan, as amended (in this section (c), the “Plan”) and the terms of the option agreement to be issued to Mr. Gerstel pursuant to the Plan, which Mr. Gerstel will be required to sign as a condition to receiving the Option. The vesting schedule of the Option will fully accelerate in accordance of the acceleration provisions of the options previously granted to Mr. Gerstel (with change in the board event measured as of the date of the shareholders meeting). |
C. BOARD PRACTICES
Corporate Governance Practices
We are incorporated in Israel and therefore are subject to various corporate governance practices under the Companies Law, relating to such matters as external directors, the audit committee, the internal auditor and approvals of interested party transactions. These matters are in addition to the ongoing listing conditions of NASDAQNasdaq and other relevant provisions of U.S. securities laws. Under the NASDAQNasdaq Listing Rules, a foreign private issuer may generally follow its home country rules of corporate governance in lieu of the comparable NASDAQNasdaq requirements, except for certain matters such as composition and responsibilities of the audit committee. For further information, see "Item“Item 16.G – Corporate Governance."”
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Nasdaq Requirements
See Item "16.G“16.G – Corporate Governance"Governance” for exemptions that we have taken from certain NASDAQNasdaq Listing Rule requirements.
Israeli Companies Law
Board of Directors
According to the Companies Law and our articles of association, our board of directors is responsible, among other things, for:
| · | establishing our policies and overseeing the performance and activities of our chief executive officer; |
| · | convening shareholders’ meetings; |
| · | approving our financial statements; |
| · | determining our plans of action, principles for funding them and the priorities among them, our organizational structure and examining our financial status; and |
| · | issuing securities and distributing dividends. |
Our board of directors may exercise all powers and may take all actions that are not specifically granted to our shareholders. Our board of directors also appoints and may remove our chief executive officer and may appoint or remove other executive officers, subject to any rights that the executive officers may have under their employment agreements.
If the number of directors constituting our board of directors is changed, any increase or decrease shall be apportioned among the classes so as to maintain the number of directors in each class as nearly equal as possible, but in no case will a decrease in the number of directors constituting our board of directors reduce the term of any then current director.
Our board of directors may appoint any other person as a director, whether to fill a vacancy or as an addition to the then current number of directors, provided that the total number of directors shall not, at any time, exceed seven directors. Any director so appointed shall hold office until the annual meeting of shareholders at which the term of his class expires, unless otherwise determined by our board of directors. There is no limitation on the number of terms that a non-external director may serve.
Shareholders may remove a non-external director from office by a resolution passed at a meeting of shareholders by a vote of the holders of more than two-thirds of our voting power.
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A resolution proposed at any meeting of our board of directors is deemed adopted if approved by a majority of the directors present and voting on the matter. Under the Companies Law, our board of directors must determine the minimum number of directors having financial and accounting expertise, as defined in the regulations that our board of directors should have. In determining the number of directors required to have such expertise, the board of directors must consider, among other things, the type and size of the company and the scope and complexity of its business and operations. Our board of directors has determined that we require at least one director with the requisite financial and accounting expertise and that Mr. David JutkowitzMs. Sarit Firon has such expertise.
Under the Companies Law, a person, who is, directly or indirectly subordinated to the chairpersonchief executive officer of a public company, may not serve as the chairman of its board of directors. In addition, neither the chief executive officer nor his relative is eligible to serve as chairman of the board of a company is not permitted to hold another position in the company or a subsidiary thereof other than chairperson or director of a subsidiary or, ifdirectors (and vice versa), unless such nomination was approved by a special majority of the company’s shareholders chief executive officerfor a term not exceeding three years, and either: (i) such majority included the majority of the company. voting shareholders (shares held by abstaining shareholders are not considered) which are not controlling shareholders and have not personal interest regarding the decision; or (ii) the aggregate number of shares voting against the proposal did not exceed 2% of company voting shareholders. The term can be extended for additional three year terms, in the same manner.
External Directors
Under the Companies Law, Israeli companies whose shares have been offered to the public in or outside of Israel are required to appoint at least two individuals to serve as external directors. Our external directors under the Companies Law are, Ms. Sarit Firon, whose initial three-year term commenced on January 6, 2017 and Mr. Avichay Nissenbaum,Daniel E. Aks, whose thirdinitial three-year term commenced on September 27, 2015, and Mr. David Jutkowitz, whose third three-year term commenced on September 2, 2013.28, 2018.
External directors are required to possess independence and professional qualifications as set out in the Companies Law and regulations promulgated thereunder. Each committee of a company'scompany’s board of directors that is authorized to exercise any powers of the board of directors is required to include at least one external director. The audit committee and the compensation committee must include all the external directors.
External directors aremay be elected at our annual general meeting or a special meeting of our shareholders in a number and manner stipulated by a majority vote at a shareholders’ meeting, as long as either:
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An external director is entitled to compensation as provided in regulations under the Companies Law and is otherwise prohibited from receiving any other compensation, directly or indirectly from us. We do not have, nor do our subsidiaries have, any directors’ service contracts granting to the directors any benefits upon termination of their service in their capacity as directors.
Committees of the Board of Directors
Our board of directors has established an audit committee, a compensation committee, an investment committee and a nominating and governance committee.
Audit Committee
Our audit committee is comprised of Mr. David Jutkowitz (Chairman)Ms. Sarit Firon (Chairperson), Mr. Avichay Nissenbaum Daniel E. Aksand Ms. Osnat Ronen,Mr. Michael Vorhaus, and operates pursuant to a written charter.
Under the listing requirements of the NASDAQNasdaq Stock Market, a foreign private issuer is required to maintain an audit committee that has certain responsibilities and authority. authority. The NASDAQNasdaq Listing Rules require that all members of the audit committee must satisfy certain independence requirements.requirements, subject to certain limited exceptions. We have adopted an audit committee charter as required by the NASDAQNasdaq Listing Rules. Our audit committee assists the board of directors in fulfilling its responsibility for oversight of the quality and integrity of our accounting, auditing and financial reporting practices and financial statements. Our audit committee is also responsible for the establishment of policies and procedures for review and pre-approval by the committee of all audit services and permissible non-audit services to be performed by our independent auditor, in order to ensure that such services do not impair our auditor’s independence. For more information see Item "16.C“16.C – Principal Accountant Fees and Services."” Under the NASDAQNasdaq Listing Rules, the approval of the audit committee is also required to effect related-party transactions that would be required to be disclosed in our annual report.
Companies Law Requirements
Under the Companies Law, the board of directors of a public company must establish an audit committee. The audit committee must consist of at least three directors who meet certain independence criteria and must include all of the external directors. The chairperson of the audit committee must be an external director. The responsibilities of the audit committee under the Companies Law include to identify and address problems in the management of the company, review and approve interested party transactions, establish whistleblower procedures and procedures for considering controlling party transactions and oversee the company’s internal audit system and the performance of the internal auditor.
Compensation Committee
Our compensation committee is comprised of Ms. Sarit Firon (Chairperson), Mr. David Jutkowitz (Chairman), Daniel E. Aks and Mr. Michael Vorhaus and Mr. Avichay Nissenbaum,Rami Schwartz, all of whom satisfy the respective "independence"“independence” requirements of the Companies Law, SEC and NASDAQNasdaq Listing Rules for compensation committee members. Our compensation committee meets at least once each quarter, with additional special meetings scheduled when required.
Our compensation committee is authorized to, among other things, review, approve and recommend to our board of directors base salaries, incentive bonuses, including the specific goals and amounts, stock option grants, employment agreements, and any other benefits, compensation or arrangements of our executive officers and directors. Pursuant to the Companies Law, our compensation committee must be comprised of at least three directors, include all of the external directors, its other members must satisfy certain independence standards under the Companies Law, and the chairman is required to be an external director. In addition, our compensation committee is required to propose for shareholder approval by a special majority, a compensation policy governing the compensation of office holders based on specified criteria, to review, from time to time, modifications to the said compensation policy and examine its implementation; and to approve the actual compensation terms of office holders prior to approval thereof by the board of directors. Our shareholders approvedre-approved our Compensation Policy for Directors and Officers on November 18, 2013.January 5, 2017 and approved an amendment to such policy on February 15, 2018. Our compensation committee also oversees the administration of our equity based incentive plan.
Investment Committee
Our investment committee is comprised of Mr. Alan GelmanEyal Kaplan (Chairperson), Mr. David Jutkowitz,Ms. Sarit Firon and Mr. Roy Gen.Dror Erez. The Investment Committee is responsible for formulating the overall investment policies of the Company, and establishing investment guidelines in furtherance of those policies. The Committee monitors the management of the portfolio for compliance with the investment policies and guidelines and for meeting performance objectives over time as well as assist the board of directors in fulfilling its oversight responsibility for the investment of assets of the company.
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Nominating and Governance Committee
Our nominating and governance committee is comprised of Mr. Alan GelmanMichael Vorhaus (Chairperson), Mr. Michael Vorhaus,Eyal Kaplan, and Mr. Avichay Nissenbaum,Ms. Sarit Firon, and operates pursuant to a written charter. It is responsible for making recommendations to the board of directors regarding candidates for directorships and the size and composition of the board. In addition, the committee is responsible for overseeing our corporate governance guidelines and reporting and making recommendations to the board concerning corporate governance matters. Under the Companies Law, the nominations for director are generally made by our board of directors but may be made by one or more of our shareholders. However, any shareholder or shareholders holding at least 5% of the voting rights in our issued share capital may nominate one or more persons for election as directors at a general meeting only if a written notice of such shareholder’s intentpursuant to make such nomination or nominations has been given to our secretaryapplicable law and each such notice sets forth all the details and information as required to be provided under our articles of association.
Internal Auditor
Under the Companies Law, the board of directors of a public company must appoint an internal auditor nominated in accordance withbased on the audit committee’s recommendation. The role of the internal auditor is to examine whether a company’s actions comply with the law and proper business procedure. The internal auditor may be an employee of the company employed specifically to perform internal audit functions but may not be an interested party or office holder, or a relative of any interested party or office holder, and may not be a member of the company’s independent accounting firm or its representative. The Companies Law defines an interested party as a substantial shareholder of 5% or more of the shares or voting rights of a company, any person or entity that has the right to nominate or appoint at least one director or the general manager of the company or any person who serves as a director or as the general manager of a company. The internal auditor’s term of office shall not be terminated without his or her consent, nor shall he or she be suspended from such position unless the board of directors has so resolved after hearing the opinion of the audit committee and after giving him or herthe internal auditor a reasonable opportunity to present his or her position to the board and to the audit committee. Our internal auditor is Mrs. Linur Dloomy, CPA, of Brightman Almagor Zohar & Co., a member of Deloitte Touche Tohmatsu.
| D. | EMPLOYEES |
The breakdown of our employees, by department, as of the end of each of the past three fiscal years is as follows:
| December 31, | December 31, | |||||||||||||||||||||||
| 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | |||||||||||||||||||
| Management and administration | 55 | 97 | 128 | |||||||||||||||||||||
| Support | - | 19 | 20 | |||||||||||||||||||||
| Cost of sales | 87 | 94 | 76 | |||||||||||||||||||||
| Research and development | 173 | 217 | 221 | 141 | 117 | 86 | ||||||||||||||||||
| Selling and marketing | 66 | 106 | 277 | 197 | 167 | 141 | ||||||||||||||||||
| General and administration | 110 | 86 | 60 | |||||||||||||||||||||
| Total | 203 | 439 | 646 | 535 | 464 | 363 | ||||||||||||||||||
As of December 31, 2015, 3082018, 129 of our employees were located in Israel, 55184 of our employees were located in Europethe United States and 28350 employees were located in the United States.Europe.
In Israel we are subject to certain labor statutes and national labor court precedent rulings, as well as to some provisions of the collective bargaining agreement between the Histadrut, which is the General Federation of Labor in Israel, and the Coordination Bureau of Economic Organizations, including the Industrialist’s Association of Israel.agreements. These provisions of collective bargaining agreements apply to our Israeli employees by virtue of extension orders issued in accordance with relevant labor laws by the Israeli Ministry of Economy and Industry, and which apply such agreement provisions under the extension orders to certain or all Israeli employees including our employees even though they are not directly part of a union that has signed a collective bargaining agreement. The laws and labor court rulings that apply to our employees principally concern, among others, minimum wage laws, procedures for dismissing employees, determination of severance pay, leaves of absence (such as annual vacation or maternity leave), sick pay and other conditions for employment. The extension orders which apply to our employees principally concern, among others, the requirement for the length of the workday and the work-week, annual recuperation pay and commuting expenses, compensation for working on the day before and after a holiday and payments to pension funds and other conditions for employment. Furthermore, these provisions provide that the wages of most of our employees are adjusted automatically. The amount and frequency of these adjustments are modified from time to time. Additionally,funds. As mentioned above, we are required to insure all of our employees by a comprehensive pension plan or a managers'managers’ insurance according to the terms and the rates detailed in the order. In addition, Israeli law determineslaws determine minimum wages for workers, minimum paid leave or vacation, sick leave, working hours and days of rest, insurance for work-related accidents, determination of severance pay, the duty to give notice of dismissal or resignation and other conditionsbenefits and terms of employment. In addition, certain laws prohibit or limit the employer’s ability to dismiss its employees in special circumstances. We have never experienced a work stoppage, and we believe our relations with our employees are good.
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Israeli law generally requires the payment of severance by employers upon the retirement or death of an employee or upon termination of employment by the employer or, in certain circumstances, by the employee. Most of our agreements with employees in Israel arecontain an arrangement made in accordance with Section 14 of the Severance Pay Law, 1963 (“Section 14”), where our contributions for severance pay are paid in lieu of any severance liability. Upon termination of employment, for any reason, and subject to contribution of the full amount of the employee'semployee’s entire monthly salary, and release of the policy to the employee, no additional severance payments are required to be made by us to the employee. Additionally, the related obligation and amounts deposited pursuant to such obligation are not stated on the balance sheet, as we are legally released from any obligation to employees once the deposit amounts have been paid. Our liability for severance pay to employees not under Section 14 is calculated pursuant to Israel'sIsrael’s Severance Pay Law based on the employees'employees’ most recent monthly salaries,salary, multiplied by the number of years of their employment, or a portion thereof, as ofless the balance sheet date. Thisamounts accumulated in the employees' severance fund. The severance liability with respect to employees that are not subject to Section 14 is provided for bypartially covered under the monthly deposits into accountsseverance funds for the benefit of the employees and by an accrual. The deposited funds include profits (losses) accumulated up to the balance sheet date. As of December 31, 2015,2018, our net accrued unfunded severance obligations totaled $1.2 million.$115 thousand.
Furthermore, Israeli employees and employers are required to pay predetermined sums to the National Insurance Institute, which covers, amongst other benefits, payments for state retirement benefits and survivor benefits (similar to the United States Social Security Administration), as well as state unemployment benefits. These amounts also include payments for national health insurance. The payments to the National Insurance Institute can equal up to approximately 18.5%19.6% of wages subject to a cap if an employee’s monthly wages exceed a specified amount, of which the employee contributes up to approximately 12% and the employer contributes approximately 6.75%7.6%.
| E. | SHARE OWNERSHIP |
Security Ownership of Directors and Executive Officers
The following table sets forth information regarding the beneficial ownership of our ordinary shares as of
March 1, 201610, 2019 by all of our directors and executive officers as a group and by each officer and director who beneficially owns 1% or more of our outstanding ordinary shares.
Beneficial ownership of shares is determined in accordance with the rules of the SEC and generally includes any shares over which a person exercises sole or shared voting or investment power. Ordinary shares that are subject to warrants, RSUs or stock options that are vested or will vest within 60 days of a specified date are deemed to be outstanding and beneficially owned by the person holding the stock options for the purpose of computing the percentage ownership of that person, but are not treated as outstanding for the purpose of computing the percentage of any other person.
Except as indicated in the footnotes to this table, each shareholderofficer and director in the table has sole voting and investment power for the shares shown as beneficially owned by them. Percentage ownership is based on 76,322,08526,009,971 ordinary shares outstanding as of March 1, 2016.10, 2018.
| Name | Number of Ordinary Shares Beneficially Owned | Percentage of Ordinary Shares Outstanding | ||||||
Dror Erez (1) | 1,558,546 | 6.0 | % | |||||
All directors and officers as a group (11 persons) (2) | 2,104,360 | 8.1 | % | |||||
Name | Number of Ordinary Shares Beneficially Owned | Percentage of Ordinary Shares Outstanding | ||||||
| Dror Erez (1) | 9,175,642 | 12.0 | % | |||||
| All directors and officers as a group (16 persons) (2) | 10,188,211 | 13.2 | % | |||||
Employee Benefit Plans
The Incentive Plan, our current equity incentive plan, was initially adopted in 2003, providing certain tax benefits in connection with share-based compensation under the tax laws of Israel and the United States. The term of the Incentive Plan will expire on December 9, 2022. Please also see Note 1112 to our Financial Statements for information on the options issued under the Incentive Plan.
Under the Incentive Plan, as amended from time to time, we may grant to our directors, officers, employees, consultants, advisers, service providers and controlling shareholders options to purchase our ordinary shares, restricted shares and RSUs. As of December 31, 2015,2018, a total of 9,709,6573,961,472 ordinary shares were subject to the Incentive Plan. As of March 1, 2016, RSUs and10, 2019, options to purchase a total of 9,687,0293,554,628 ordinary shares were outstanding under our Incentive Plan, of which RSUs and options to purchase a total of 3,976,6911,592,117 ordinary shares were held by our directors and officers (16(11 persons) as a group. The outstanding RSUs have a purchase price of ILS 0.01 per share, and outstanding options are exercisable at purchase prices which range from $0.34$2.25 to $13.54$14.67 per share. Any expired or cancelled options are available for reissuance under the Incentive Plan.
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Our Israeli employees and directors may be granted awards under Section 102 ("(“Section 102"102”) of the Israeli Income Tax Ordinance (the "Tax Ordinance"“Tax Ordinance”), which provides them with beneficial tax treatment, and non-employees (such as service providers, consultants and advisers) and controlling shareholders may only be granted awards under another section of the Tax Ordinance, which does not provide for similar tax benefits. To be eligible for tax benefits under Section 102, the securities must be issued through a trustee, and if held by the trustee for the minimum required period, the employees and directors are entitled to defer any taxable event with respect to the award until the earlier of (i) the transfer of securities from the trustee to the employee or director or (ii) the sale of securities to a third party. Our board of directors has resolved to elect the "Capital“Capital Gains Route"Route” (under Section 102) for the grant of awards to Israeli grantees under the Incentive Plan. Based on such election, and subject to the fulfillment of the conditions of Section 102, under the Capital Gains Route, gains realized from the sale of shares issued pursuant to the Incentive Plan will generally be taxed at the capital gain rate of 25%, provided the trustee holds the securities for 24 months following the date of grant of the award. To the extent that the market price of the ordinary shares at the time of grant exceeds the exercise price of the award or if the conditions of Section 102 are not met, tax will be payable at the time of sale at the marginal income tax rate applicable to the employee or director (up to 50% in 2015)2018). We are not entitled to recognize a deduction for Israeli tax purposes on the capital gain recognized by the award holder upon the sale of shares pursuant to Section 102. The voting rights of any shares held by the trustee under Section 102 remain with the trustee.
The Incentive Plan contains a U.S. addendum that provides for the grant of awards to U.S. citizens and resident aliens of the United States for U.S. tax purposes. Pursuant to the approval of our board of directors and shareholders, stock options granted to U.S. citizens and resident aliens may be either incentive stock options under the U.S. Internal Revenue Code of 1986, as amended (the "Code") or options that do not qualify as incentive stock options. Subject to the fulfillment of the conditions of the Code, an incentive stock option may provide tax benefits to the holder in that it converts ordinary income into income taxed at long-term capital gain rates and defers the tax until the sale of the underlying share. In that event, we would not recognize a tax deduction with respect to such capital gain.
Our board of directors has the authority to administer, and to grant awards, under the Incentive Plan. However, the compensation committee appointed by the board provides recommendations to the board with respect to the administration of the plan. Generally, RSUs and options granted under the Incentive Plan vest in two or three installments on each anniversary of the date of grant.
See "Item“Item 6.B Compensation"Compensation” for a description of awards granted under the Incentive Plan to our directors and officers in 2013.
| A. | MAJOR SHAREHOLDERS |
The following table sets forth information regardingwith respect to the beneficial ownership of our ordinary shares as of March 1, 201610, 2019, by each person or group of affiliated persons that we knowentity known by us to beneficially ownsown 5% or more than 5% of our outstanding ordinary shares. Other than with respect to our directors and officers, we have relied on public filings with the SEC.Ordinary Shares.
Beneficial ownership of shares is determined in accordance with the Exchange Act and the rules promulgated thereunder, and generally includes any shares over which a person exercises sole or shared voting or investment power. Ordinary sharesShares that are issuable upon the exercise of warrants, RSUs or stock options that are vested or will vestpursuant to an outstanding right within 60 days of a specified date are deemed to be outstanding and beneficially owned by the person holding the stock options or warrantsright for the purpose of computing the percentage ownership of that person, but are not treated as outstanding for the purpose of computing the percentage ownership of any other person.
For the purpose of calculating the percentage of shares beneficially owned by any shareholder, this table lists the applicable percentage ownership based on 26,009,971 Ordinary Shares issued and outstanding as of March 10, 2019 (such amount excludes 115,339 Ordinary Shares held by the Company).
Except as indicated in the footnotes to this table, to our knowledge, each shareholder in the table has solehave voting and investment power for the shares shown as beneficially owned by such shareholder.shareholder, except to the extent the power is shared by spouses under community property law. Our major shareholders do not have different voting rights than our other shareholders.
Name | Number of Ordinary Shares Beneficially Owned | Percentage of Ordinary Shares Outstanding (1) | ||||||
Benchmark Israel II, L.P. and affiliates (2) | 9,576,772 | 12.5 | % | |||||
Dror Erez (3) | 9,175,642 | 12.0 | % | |||||
Ronen Shilo (4) | 8,858,847 | 11.6 | % | |||||
J.P. Morgan Investment Management Inc.(5) | 8,639,965 | 11.3 | % | |||||
Zack and Orli Rinat (6) | 6,484,347 | 8.5 | % | |||||
| Name of Beneficial Owner | Shares Beneficially Owned | |||||||
| Number | Percentage | |||||||
Benchmark Israel II, L.P.(1) | 3,096,296 | 11.90 | % | |||||
Zack and Orli Rinat(2) | 2,161,449 | 8.31 | % | |||||
EA2K Ltd.(3) | 1,800,000 | 6.92 | % | |||||
Dror Erez(4) | 1,538,547 | 5.92 | % | |||||
Ronen Shilo(5) | 1,462,644 | 5.62 | % | |||||
J.P. Morgan Investment Management Inc.(6) | 1,401,022 | 5.39 | % | |||||
(1) |
| Based solely upon, and qualified in its entirety with reference to, a Schedule 13G/A filed with the SEC on February |
| (2) |
| Based solely upon, and qualified in its entirety with reference to, a Schedule 13G filed with the SEC on January 16, 2014, by Zack and Orli Rinat. The Ordinary Shares are held by Zack Rinat and Orli Rinat as community property. The address of Zack and Orli Rinat is 26319 Esperanza Drive Los Altos Hills, CA. |
(3) | Based solely upon, and qualified in its entirety with reference to, a Schedule 13G/A filed with the SEC on January 30, 2019, by EA2K Ltd. (“EA2K”). Baruch Erlich controls EA2K, and by reason of such control may be deemed to have shared power to vote and dispose of the 1,800,000 Ordinary Shares directly held by EA2K. The Address of each ofEA2K and Baruch Erlich is12 Mevo Habustan St. Har Adar 90836, Israel. |
| (4) | Based solely upon, and qualified in its entirety with reference to, a Schedule 13D/A filed with the SEC on February 20, 2019. Mr. Erez serves as a director of the Company. The Address of Mr. Erez is Dror Erez c/o Conduit Ltd., 2 Ilan Ramon St. Ness-Ziona 7403635, Israel. |
| (5) | Based solely upon, and qualified in its entirety with reference to, a Schedule 13D/A filed with the SEC on February 20, 2019. The Address of Mr. Shilo is Ronen Shilo c/o Conduit Ltd., 2 Ilan Ramon St. Ness-Ziona 7403635, Israel. |
| (6) | Based solely upon, and qualified in its entirety with reference to, a Schedule 13G/A filed with the SEC on December 11, 2017, by JPMIM, DGF, and Condor. Consists of 1,401,022 Ordinary Shares directly held by Project Condor LLC (“Condor”). PEG Digital Growth Fund L.P. (“DGF”) owns 98.75% of the membership interests of Condor. As the holder of the majority of the membership interests of Condor, DGF manages Condor and has shared voting or dispositive power over the 1,401,022 Ordinary Shares held by Condor. J.P. Morgan Investment Management Inc. (“JPMIM”) serves as investment advisor to DGF. The address for JPMIM, DGF and Condor is 320 Park Avenue, New York, New York 1002. |
To our knowledge, there has not been any significant changes in the percentage of ownership held by our major shareholders during the past three years preceding the date of this annual report on Form 20-F.
To our knowledge, as of March 1, 2016,10, 2019, we had 2210 shareholders of record of which 13 (including9 (excluding the Depository Trust Company) were registered with addresses in the United States. These U.S. holders were, as of such date, the holders of record of approximately 93.75%5.18% of our outstanding shares. The number of record holders in the United States is not representative of the number of beneficial holders nor is it representative of where such beneficial holders are resident since many of these ordinary shares were held of record by brokers or other nominees.
| B. | RELATED PARTY TRANSACTIONS |
It is our policy that transactions with office holders or transactions in which an office holder has a personal interest will be on terms that, on the whole, are no less favorable to us than could be obtained from independent parties.
See "Item“Item 10.B Memorandum and Articles of Association — Approval of Related Party Transactions"Transactions” for a discussion of the requirements of Israeli law regarding special approvals for transactions involving directors, officers or controlling shareholders.
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Agreement with Conduit Shareholders
As a condition precedent to the closing of ClientConnect Acquisition on January 2, 2014, Conduit andspun off its ClientConnect effected the Conduit Split and entered into the ancillary agreements described below.business. As a result of the ClientConnect Acquisition, two office holders of Conduit – Dror Erez and Roy Gen – became members of our Board of Directors and the major shareholders of Conduit also became major shareholders of the Company. For information about additional agreementsa registration rights agreement we entered into in connection with the ClientConnect Acquisition, see Item 10.C "Additional“Additional Information—Material Contracts—Agreements Relating to the ClientConnect Acquisition."” Such directors and major shareholders are parties to or otherwise bound by some of such agreements, as described therein.agreement.
We have entered into indemnification and exculpation agreements with each of our current office holders and directors exculpating them to the entire activitiesfullest extent permitted by the law and operations,our articles of association and related assets and liabilities, of the ClientConnect business were transferred by Conduit to ClientConnect on a cash-free and debt-free basis and the Conduit shareholders became the shareholders of ClientConnect in proportion to their ownership of Conduit (the "Conduit Split"). The assets of Conduit were transferred on an "as is" basis for no consideration. Certain liabilities were retained by Conduit, such as pre-closing taxes and litigation matters. The parties agreedundertaking to indemnify each other with respectthem to any damages incurredthe fullest extent permitted by one partythe law and our articles of association, including with respect to liabilities resulting from this annual report, to the extent such liabilities are not covered by insurance. See also “Item 10B. — Exculpation, Insurance and Indemnification of the other. During a transitional period, Conduit is entitled to use the transferred intellectual propertyDirectors and third party intellectual property licenses (subject to their terms), create derivative worksOfficers.” in respect thereof and integrate, sell and license such intellectual property with Conduit’s retained business, subject to non-competition provisions. In addition, during a transitional period, ClientConnect is entitled to use domains and URL addresses that use the word "conduit" for new downloads or installs.this annual report on Form 20-F.
| C. | INTERESTS OF EXPERTS AND COUNSEL |
Not applicable.
| A. | CONSOLIDATED STATEMENTS AND OTHER FINANCIAL INFORMATION |
Our Financial Statements are included in this annual report pursuant to Item 18. As described in Item 3.A above, since 2014, the ClientConnect Acquisition has been reflected in our financial statements as a reverse acquisition of all of our outstanding shares and options by ClientConnect in accordance with Accounting Standards Codification Topic 805, "Business Combinations" ("ASC 805"), using the acquisition method of accounting whereby ClientConnect is the deemed accounting acquirer and Perion is the deemed accounting acquiree. In accordance with the ASC 805 presentation requirements, our financial statements include ClientConnect’s comparative numbers, but not Perion's comparative numbers, for 2013.
Legal Proceedings
On November 7, 2012, we entered into a Share Purchase Agreement with SweetIM Ltd., SweetIM Technologies Ltd., the shareholders of SweetIM and Nadav Goshen, as Shareholders'Shareholders’ Agent, according to which we purchased 100% of the issued and outstanding shares of SweetIM Ltd. Under the terms of the Share Purchase Agreement, among other things, a third payment of up to $7.5 million in cash was due in May 2014, if certain milestones were met. The milestones are based on our revenues in the fiscal year of 2013 and the absence of certain changes in the industry in which we operate. We believe that that the terms of the Share Purchase Agreement require us to pay only $2.5 million with respect to the contingent payment, which we have paid. However, the Shareholders'Shareholders’ Agent has demanded payment of an additional $5.0 million. We believe that the claim is without merit and plan to defendwe are defending against it vigorously. Until this dispute is resolved, we will maintain the $5.0 million liability in our financial statements that we recorded at the time that we entered into the Share Purchase Agreement. In April 2015, pursuant to the Share Purchase Agreement, an arbitration process with respect to this claim was commenced in Israel. Based on the August 2018 ruling of the arbitrator, the remaining balance of the Contingent Payment shall be paid to SweetIM's shareholders in 3 equal installments. As of December 31, 2018, the Company maintains a $1,667 liability in its financial statements, which was fully paid during January 2019.
On December 22, 2015, Adtile Technologies Inc. ("Adtile"(“Adtile”) filed a lawsuit against Perion and its wholly-owned subsidiary, Intercept Interactive Inc. (“Intercept”) in the United States District Court for the District of Delaware. The lawsuit alleges various causes of action against Perion and Intercept related to Intercept’s alleged unauthorized use and misappropriation of Adtile’s proprietary information and trade secrets. Adtile is seeking injunctive relief and unspecified monetary damages. We are unable to predict the outcome or range of possible loss at this stage. On June 23, 2016, the court denied Adtile’s motion for a preliminary injunction. On June 24, 2016, the court (i) granted Perion’s motion to dismiss and (ii) granted Intercept’s motion to stay the action and compel arbitration. As of the date of this report, Adtile had not commenced an arbitration proceeding and the court dismissed the case for administrative reasons. We believe that we have strong defenses against this lawsuit and we intend to defend against it vigorously.vigorously if the case is ever resubmitted.
Policy on Dividend Distribution
It is currently our policy not to distribute dividends.
| B. | SIGNIFICANT CHANGES |
Since the date of our audited Financial Statements incorporated by reference in this report, there have not been any significant changes other than as set forth in this report under Item 4.A. – "Recent Developments."note 20 to our Financial Statements.”
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| A. | OFFER AND LISTING DETAILS |
Our ordinary shares have been listed on the NASDAQ Capital Market from January 31, 2006 to June 26, 2007, on the NASDAQ Global Market from June 27, 2007 to December 31, 2013, and on the NASDAQ Global SelectNasdaq Stock Market since January 2, 2014.2006. Our ordinary shares commenced trading on the Tel Aviv Stock ExchangeTASE on December 4, 2007. Our trading symbol on NASDAQNasdaq is "PERI"“PERI” and on the TASE is "PERION."“PERION.”
| NASDAQ | TASE | |||||||||||||||
High ($) | Low ($) | High ($) | Low ($) | |||||||||||||
| Five most recent full financial years | ||||||||||||||||
| 2015 | 4.52 | 2.05 | 4.56 | 2.06 | ||||||||||||
| 2014 | 14.33 | 4.26 | 14.33 | 4.31 | ||||||||||||
| 2013 | 14.94 | 8.19 | 14.90 | 8.21 | ||||||||||||
| 2012 | 10.50 | 3.68 | 10.45 | 3.85 | ||||||||||||
| 2011 | 8.25 | 3.45 | 8.20 | 3.41 | ||||||||||||
| Financial quarters during the past two recent full financial years and any subsequent period | ||||||||||||||||
| Fourth Quarter 2015 | 3.94 | 2.08 | 3.69 | 2.07 | ||||||||||||
| Third Quarter 2015 | 2.92 | 2.05 | 2.98 | 2.06 | ||||||||||||
| Second Quarter 2015 | 3.91 | 2.75 | 3.94 | 2.75 | ||||||||||||
| First Quarter 2015 | 4.52 | 3.11 | 4.56 | 3.07 | ||||||||||||
| Fourth Quarter 2014 | 6.45 | 4.26 | 6.33 | 4.31 | ||||||||||||
| Third Quarter 2014 | 10.48 | 5.53 | 10.47 | 5.57 | ||||||||||||
| Second Quarter 2014 | 11.45 | 9.55 | 11.49 | 9.76 | ||||||||||||
| First Quarter 2014 | 14.33 | 10.65 | 14.33 | 10.56 | ||||||||||||
| Most recent six months | ||||||||||||||||
| February 2016 | 2.42 | 1.98 | 2.52 | 2.03 | ||||||||||||
| January 2016 | 3.25 | 2.22 | 3.71 | 2.22 | ||||||||||||
| December 2015 | 3.94 | 2.27 | 4.00 | 2.19 | ||||||||||||
| November 2015 | 2.63 | 2.11 | 2.56 | 2.09 | ||||||||||||
| October 2015 | 2.55 | 2.08 | 2.49 | 2.07 | ||||||||||||
| September 2015 | 2.49 | 2.05 | 2.54 | 2.06 | ||||||||||||
| B. | PLAN OF DISTRIBUTION |
Not applicable.
See “—Listing Details” above.
D. SELLING SHAREHOLDERS
Not applicable.
E. DILUTION
Not applicable.
F. EXPENSES OF THE ISSUE
Not applicable.
| A. | SHARE CAPITAL |
Not applicable
| B. | MEMORANDUM AND ARTICLES OF ASSOCIATION |
Registration Number and Purposes
Our registration number with the Israeli Companies Registrar is 51-284949-8. Pursuant to Section 3 of our articles of association, our objectives are the development, manufacture and marketing of software and any other objective as determined by our board of directors.
Authorized Share Capital
The Board of Directors
Under the Companies Law and our articles of association, our board of directors may exercise all powers and take all actions that are not required under the Companies Law or under our articles of association to be exercised or taken by another corporate body, including the power to borrow money for the purposes of our Company. Our directors are not subject to any age limit requirement, nor are they disqualified from serving on our board of directors because of a failure to own a certain amount of our shares. For more information about our Board of Directors, see Item 6.C "Board“Board Practices."”
Dividend and Liquidation Rights
The holders of the ordinary shares are entitled to their proportionate share of any cash dividend, share dividend or dividend in kind declared with respect to our ordinary shares on or after the date of this annual report. We may declare dividends out of profits legally available for distribution. Under the Companies Law, a company may distribute a dividend only if the distribution does not create a reasonable risk that the company will be unable to meet its existing and anticipated obligations as they become due. Furthermore, a company may only distribute a dividend out of the company’s profits, as such are defined under the Companies Law. If the company does not meet the profit requirement, a court may allow it to distribute a dividend, as long as the court is convinced that there is no reasonable risk that such distribution might prevent the company from being able to meet its existing and anticipated obligations as they become due.
Under the Companies Law, the declaration of a dividend does not require the approval of the shareholders of a company unless the company’s articles of association provide otherwise. Our articles of association provide that the board of directors may declare and distribute dividends without the approval of the shareholders. In the event of our liquidation, holders of our ordinary shares have the right to share ratably in any assets remaining after payment of liabilities, in proportion to the paid-up par value of their respective holdings.
These rights may be affected by the grant of preferential liquidation or dividend rights to the holders of a class of shares that may be authorized in the future.
Voting, Shareholder Meetings and Resolutions
Holders of ordinary shares have one vote for each ordinary share held on all matters submitted to a vote of shareholders. This right may be changed if shares with special voting rights are authorized in the future.
Our articles of association and the laws of the State of Israel (subject to anti-terror legislations) do not restrict the ownership or voting of ordinary shares by non-residents of Israel.
Under the Companies Law, an annual meeting of our shareholders should be held once every calendar year, but no later than 15 months from the date of the previous annual meeting. The quorum required under our articles of association for a general meeting of shareholders consists of at least two shareholders present in person or by proxy holding in the aggregate at least 33-1/3% of the voting power. According to our articles of association a meeting adjourned for lack of a quorum generally is adjourned to the same day in the following week at the same time and place or any time and place as the chairperson of the board of directors designates in a notice to the shareholders with the consent of the holders of the majority voting power represented at the meeting voting on the question of adjournment. In the event of a lack of quorum in a meeting convened upon the request of shareholders, the meeting shall be dissolved. At the adjourned meeting, if a legal quorum is not present after 30 minutes from the time specified for the commencement of the adjourned meeting, then the meeting shall take place regardless of the number of members present and in such event the required quorum shall consist of any number of shareholders present in person or by proxy.
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Our board of directors may, in its discretion, convene additional meetings as "special“Extraordinary general meetings." Special” Extraordinary general meetings may also be convened upon shareholder request in accordance with the Companies Law and our articles of association. The chairperson of our board of directors presides at each of our general meetings. The chairperson of the board of directors is not entitled to a vote at a general meeting in his capacity as chairperson.
Most shareholders’ resolutions, including resolutions to:
| · | amend our articles of association (except as set forth below) or our memorandum of association; |
| · | make changes in our capital structure such as a reduction of capital, increase of capital or share split, merger or consolidation; |
| · | authorize a new class of shares; |
| · | elect directors, other than external directors; or |
| · | appoint auditors |
will be deemed adopted if approved by the holders of a majority of the voting power represented at a shareholders’ meeting, in person or by proxy, and voting on that resolution. Except as set forth in the following sentence none of these actions require the approval of a special majority. Amendments to our articles of association relating to the election and vacation of office of directors and the composition and size of the board of directors and the insurance, indemnification and release in advance of the company’s office holders with respect to certain liabilities incurred by them require the approval at a general meeting of shareholders holding more than two-thirds of the voting power of the issued and outstanding share capital of the company.
Notices
Under the Companies Law, shareholders’ meetings generally require prior notice of at least 21 days, or 35 days ifin the meetingevent that the issue(s) to be resolved is adjourned foran issue subject to the purposeIsraeli proxy rules. Notwithstanding the foregoing, and unless otherwise required by the Companies Law, the Company is not required to send notice to its registered holders of voting on any meeting of the following matters:
Modification of Class Rights
The Companies Law provides that, unless otherwise provided by the articles of association, the rights of a particular class of shares may not be adversely modified without the vote of a majority of the affected class at a separate class meeting.
Election of Directors
Our ordinary shares do not have cumulative voting rights in the election of directors. Therefore, the holders of ordinary shares representing more than 50% of the voting power at the general meeting of the shareholders, in person or by proxy, have the power to elect all of the directors whose positions are being filled at that meeting, to the exclusion of the remaining shareholders. ExternalThe election and re-election of external directors, requires the affirmative vote of a majority of the shares and in addition either that (i) a majority of the shares held by shareholders who are electednot controlling shareholders or a have personal interest in the election (other than a personal interest unrelated to the controlling shareholders) attending in person or represented by proxy have voted in favor of the proposal (shares held by abstaining shareholders are not be considered) or (ii) the aggregate number of shares voting against the proposal held by such shareholders has not exceeded 2% of the company’s voting shareholders. In the event a shareholder holding 1% or more of the voting rights or the external director proposed the reelection of the external director, the reelection has to be approved by a majority vote atof the votes cast by the shareholders of the company, excluding the votes of controlling shareholders and those who have a shareholders’ meeting,personal interest in the matter as a result of their relations with the controlling shareholders, provided that either:
See "Item“Item 6.C Board Practices"Practices” regarding our staggered board.
Transfer Agent and Registrar
American Stock Transfer and Trust Company is the transfer agent and registrar for our ordinary shares.
Approval of Related Party Transactions
Office Holders
The Companies Law codifies the fiduciary duties that office holders owe to a company. An office holder is defined in the Companies Law as any general manager, chief business manager, deputy general manager, vice general manager, or any other person assuming the responsibilities of any of these positions regardless of that person’s title, as well as a director, or a manager directly subordinate to the general manager.
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Fiduciary duties. An office holder’s fiduciary duties consist of a duty of loyalty and a duty of care. The duty of loyalty requires the office holder to act in good faith and to the benefit of the company, to avoid any conflict of interest between the office holder’s position in the company and any other of his or her positions or personal affairs, and to avoid any competition with the company or the exploitation of any business opportunity of the company in order to receive personal advantage for himself or others. This duty also requires him or her to reveal to the company any information or documents relating to the company’s affairs that the office holder has received due to his or her position as an office holder. The duty of care requires an office holder to act with a level of care that a reasonable office holder in the same position would employ under the same circumstances. This includes the duty to use reasonable means to obtain information regarding the advisability of a given action submitted for his or her approval or performed by virtue of his or her position and all other relevant information pertaining to these actions.
Compensation. Every Israeli public company must adopt aPursuant to the Companies Law, the compensation policy recommended by the compensation committee, andmust be approved by the company’s board of directors andafter reviewing the recommendations of the compensation committee. The compensation policy also requires the approval of the general meeting of the shareholders, in that order. The shareholderwhich approval requiresmust satisfy one of the following (the “Majority Requirement”): (i) the majority should include at least a majority of the votes cast byshares of the voting shareholders excluding any controlling shareholder and those who are non-controlling shareholders or do not have a personal interest in the matter (similarapproval of the compensation policy (in counting the total votes of such shareholders, abstentions are not be taken into account) or (ii) the total number of votes against the proposal among the shareholders mentioned in paragraph (i) does not exceed two percent of the aggregate voting power in the company. Under certain circumstances and subject to certain exceptions, the board of directors may approve the compensation policy despite the objection of the shareholders, provided that the compensation committee and the board of directors determines that it is for the benefit of the company, following an additional discussion and based on detailed arguments.
The Companies Law provides that the compensation policy must be re-approved (and re-considered) every three years, in the manner described above. Moreover, the board of directors is responsible for reviewing from time to time the compensation policy and deciding whether or not there are any circumstances that require an adjustment to the threshold described below under " – Shareholders"company’s compensation policy. When approving the compensation policy, the relevant organs must take into consideration the goals and objectives listed in the Companies Law, and include reference to specific issues listed in the Companies Law. Such issues include, among others (the “Compensation Policy Mandatory Criteria”). In general, all office holders’: (i) the relevant person’s education, qualifications, professional experience and achievements; (ii) such person’s position within the company, the scope of his responsibilities and previous compensation arrangements with the company; (iii) the proportionality of the employer cost of such person in relation to the employer cost of other employees of the company, and in particular, the average and median pay of other employees in the company, including contract workers, and the impact of the differences between such person’s compensation and the other employees’ compensation on the labor relations in the company; (iv) the authority, at the board of director’s sole discretion, to lower any variable compensation components or set a maximum limit (cap) on the actual value of the non-cash variable components, when paid; and (v) in the event that the terms of compensation – including fixed remuneration, bonuses, equity compensation, retirement orengagement include any termination payments indemnification, liability insurance- the term of employment of the departing person, the company’s performance during that term, and the grantdeparting person’s contribution to the performance of an exemption from liability – must comply with the company's compensation policy. company.
In addition, the Companies Law provides that the following matters must be included in the compensation terms of directors,policy (the “Compensation Policy Mandatory Provisions”): (i) other than with respect to officers reporting to the chief executive officer, and any employee or service provider who is considered a controlling shareholder generallythe award of variable components must be approved separately bybased on long term and measurable performance criteria (other than non-material variable components, which may be based on non-measurable criteria taking into account the relevant person’s contribution to the performance of the company); (ii) the company must set a ratio between fixed and variable pay, set a cap on the payment of any cash variable compensation components as of the payment of such components, and set a cap on the maximum cash value all non-cash variable components as of their grant date; (iii) the compensation committee,policy must include a provision requiring the boardrelevant person to return to the company any compensation that was awarded on the basis of financial figures that were subsequently restated; (iv) equity based variable compensation components should have an appropriate minimum vesting periods, which should be linked to long term performance objectives; and (v) the company must set a clear limit on termination payments.
Pursuant to the Companies Law, any transaction with an office holder (except directors and the shareholderschief executive officer of the company, in that order. Thecompany) with respect to such office holder’s compensation arrangements and terms of other officers requireengagement, requires the approval of the compensation committee and the board of directors. Such transaction must be consistent with the provisions of the company’s compensation policy, provided that the compensation committee and the board of directors may, under special circumstances, approve such transaction that is not in accordance with the company’s compensation policy, if both of the following conditions are met: (i) the compensation committee and the board of directors discussed the transaction in light of the roles and objectives of the compensation committee and after taking into consideration the Compensation Policy Mandatory Criteria and including in such transaction the Compensation Policy Mandatory Provisions; and (ii) the company’s shareholders approved the transaction, provided that in public companies the approval must satisfy the Majority Requirement. Notwithstanding the above, the compensation committee and the board of directors may, under special circumstances, approve such transaction even if the shareholders’ meeting objected to its approval, provided that (i) both the compensation committee and the board of directors re-discussed the transactions and decided to approve it despite the shareholder’s objection, based on detailed arguments, and (ii) the company is not a ‘Public Pyramid Held Company’. For the purpose hereof, a “Public Pyramid Held Company” is a public company that is controlled by another public company (including companies that issued only debentures to the public), which is also controlled by another public company (including companies that issued only debentures to the public) that has a controlling shareholder.
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Transactions between public companies (including companies that have issued only debentures to the public) and their chief executive officer, with respect to his or her compensation arrangement and terms of engagement, require the approval of the compensation committee, the board of directors and the shareholder’s meeting, provided that the approval of the shareholders’ meeting must satisfy the Majority Requirement. Notwithstanding the above, the compensation committee and the board of directors may, under special circumstances, approve such transaction with the chief executive officer even if the shareholders’ meeting objected to its approval, provided that (i) both the compensation committee and the board of directors re-discussed the transactions and decided to approve it despite the shareholder’s objection, based on detailed arguments, and (ii) the company is not a Public Pyramid Held Company. Such transaction with the chief executive officer must be consistent with the provisions of the company’s compensation policy, provided that the compensation committee and the board of directors may, under special circumstances, approve such transaction that is not in accordance with the company’s compensation policy, if both of the following conditions are met: (i) the compensation committee and the board of directors discussed the transaction in light of the roles and objectives of the compensation committee and after taking into consideration the Compensation Policy Mandatory Criteria and including in such transaction the Compensation Policy Mandatory Provisions; and (ii) the company’s shareholders approved the transaction, provided that in public companies the approval must satisfy the Majority Requirement. In addition, the compensation committee may determine that such transaction with the CEO does not have to be approved by the shareholders of the company, provided that: (i) the chief executive officer is independent based on criteria set forth in the Companies Law; (ii) the compensation committee determined, based on detailed arguments, that bringing the transaction to the approval of the shareholders may compromise the chances of entering into the transaction; and (iii) the terms of the transaction are consistent with the provisions of the company’s compensation policy. Under the Companies Law, non-material amendments of transactions relating to the compensation arrangement or terms of engagement of office holders (including the chief executive officer), require only the approval of the compensation committee.
With respect to transactions relating to the compensation arrangement and terms of engagements of directors in public companies (including companies that have issued only debentures to the public), the Companies Law provides that such transaction is subject to the approval of the compensation committee, the board of directors and the shareholders’ meeting. Such transaction must be consistent with the provisions of the company’s compensation policy, provided that the compensation committee and the board of directors may, under special circumstances, approve such transaction that is not in accordance with the company’s compensation policy, if both of the following conditions are met: (i) the compensation committee and the board of directors discussed the transaction in light of the roles and objectives of the compensation committee and after taking into consideration the Compensation Policy Mandatory Criteria and including in such transaction the Compensation Policy Mandatory Provisions; and (ii) the company’s shareholders approved the transaction, provided that in public companies the approval must satisfy the Majority Requirement.
Our compensation policy was approved by our shareholders in January 2017 and was further amended in March 2017 and February 2018.
Approvals. The Companies Law provides that a transaction with an office holder or a transaction in which an office holder has a personal interest may not be approved if it is adverse to the company’s interest. In addition, such a transaction generally requires board approval, unless the transaction is an extraordinary transaction, in which case it requires audit committee approval prior to the approval of the board of directors. A person, including a director, who has a personal interest in a matter that is considered at a meeting of the board of directors or the audit committee may not attend that meeting or vote on that matter; however, an office holder who has a personal interest in a transaction may be present during the presentation of the matter if the board or committee chairman determined that such presence is necessary for the presentation of the matter. A director with a personal interest in a matter that is considered at a meeting of the board of directors or the audit committee may attend that meeting or vote on that matter if a majority of the board of directors or the audit committee also has a personal interest in the matter; however, if a majority of the board of director has a personal interest, shareholder approval is also required.
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Shareholders
Approval of the audit committee, the board of directors and our shareholders is required for extraordinary transactions with a controlling shareholder or in which a controlling shareholder has a personal interest. For these purposes, a controlling shareholder is any shareholder that has the ability to direct the company’s actions, including any shareholder holding 25% or more of the voting rights if no other shareholder owns more than 50% of the voting rights in the company. The shareholdings of two or more shareholders with a personal interest in the approval of the same transaction are aggregated for this purpose.
The shareholder approval must include the majority of shares voted at the meeting. In addition, either:
| · | the majority must include at least a majority of the shares of the voting shareholders who have no personal interest in the transaction voted at the meeting; or |
| · | the total shareholdings of those who have no personal interest in the transaction and who vote against the transaction must not represent more than 2% of the aggregate voting rights in the company. |
Under the Companies Law, a shareholder has a duty to act in good faith towards the company and other shareholders and to refrain from abusing his or her power in the company including, among other things, when voting in a general meeting of shareholders or in a class meeting on the following matters:
| · | any amendment to the articles of association; |
| · | an increase in the company’s authorized share capital; |
| · | a merger; or |
| · | approval of related party transactions that require shareholder approval. |
A shareholder has a general duty to refrain from depriving any other shareholder of their rights as a shareholder. In addition, any controlling shareholder, any shareholder who knows that it possesses the power to determine the outcome of a shareholder or class vote and any shareholder who, pursuant to the company’s articles of association has the power to appoint or prevent the appointment of an office holder in the company, is under a duty to act with fairness towards the company.
Anti-Takeover Provisions; Mergers and Acquisitions
Merger. The Companies Law permits merger transactions with the approval of each party’s board of directors and shareholders.
Under the Companies Law, a merging company must inform its creditors of the proposed merger. Any creditor of a party to the merger may seek a court order to delay or block the merger, if there is a reasonable concern that the surviving company will not be able to satisfy all of the obligations of the parties to the merger. Moreover, a merger may not be completed until all of the required approvals have been filed by both merging companies with the Israeli Registrar of Companies and (i) 30 days have passed from the time both companies’ shareholders resolved to approve the merger, and (ii) at least 50 days have passed from the time that the merger proposal was filed with the Israeli Registrar of Companies.
Tender Offer. The Companies Law requires a purchaser to conduct a tender offer in order to purchase shares in publicly held companies, if as a result of the purchase the purchaser would hold 25% or more than 25% of the voting rights of a company in which no other shareholder holds 25% or more than 25% of the voting rights, or the purchaser would hold more than 45% of the voting rights of a company in which no other shareholder holds more than 45% of the voting rights. The tender offer must be extended to all shareholders, but the offeror is not required to purchase more than 5% of the company’s outstanding shares, regardless of how many shares are tendered by shareholders. The tender offer generally may be consummated only if (i) at least 5% of the voting rights in the company will be acquired by the offeror and (ii) the number of shares tendered in the offer (excluding shares held by the controlling shareholders, shareholders who have personal interest in the offer, shareholders who own 25% or more of the voting rights in the company, relatives or representatives of any of the above or the bidder and corporations under their control) exceeds the number of shares whose holders objected to the offer. The requirement to conduct a tender offer shall not apply to (i) the purchase of shares in a private placement, provided that such purchase was approved by the company’s shareholders for this purpose; ; (ii) a purchase from a holder of 25% or more than 25% of the voting rights of a company that results in a person becoming a holder of 25% or more than 25% of the voting rights of a company, and (iii) a purchase from the holder of more than 45% of the voting rights of a company that results in a person becoming a holder of more than 45% of the voting rights of a company.
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Under the Companies Law, a person may not purchase shares of a public company if, following the purchase of shares, the purchaser would hold more than 90% of the company’s shares, unless the purchaser makes a tender offer to purchase all of the target company’s shares. If, as a result of the tender offer, the purchaser would hold more than 95% of the company’s shares and more than half of the offerees that have no personal interest have accepted the offer, the ownership of the remaining shares will be transferred to the purchaser. Alternatively, the purchaser will be able to purchase all shares if the percentage of the offerees that did not accept the offer constitute less than 2% of the company’s shares. If the purchaser is unable to purchase 95% or more of the company’s shares, the purchaser may not own more than 90% of the shares of the target company.
Tax Law. Israeli tax law treats some acquisitions, such as a stock-for-stock swap between an Israeli company and a foreign company, less favorably than U.S. tax law. For example, Israeli tax law may subject a shareholder who exchanges his ordinary shares for shares in a foreign corporation to immediate taxation. Please see "Item“Item 10.E Taxation — Israeli Taxation."”
Exculpation, Indemnification and Insurance of Directors and Officers
Our articles of association allow us to indemnify, exculpate and insure our office holders, which includes our directors, to the fullest extent permitted by the Companies Law (other than with respect to certain expenses in connection with administrative enforcement proceedings under the Israeli Securities Law), provided that procuring this insurance or providing this indemnification or exculpation is duly approved by the requisite corporate bodies (as described above under "Related“Related Party Transactions—Compensation"Compensation”).
Under the Companies Law, a company may indemnify an office holder in respect of some liabilities, either in advance of an event or following an event. If a company undertakes to indemnify an office holder in advance against monetary liability incurred in his or her capacity as an office holder, whether imposed in favor of another person pursuant to a judgment, a settlement or an arbitrator’s award approved by a court, the indemnification must be limited to foreseeable events in light of the company’s actual activities at the time of the indemnification undertaking and to a specific sum or a reasonable criterion under such circumstances, as determined by the board of directors.
Under the Companies Law, only if and to the extent provided by its articles of association, a company may indemnify an office holder against the following liabilities or expenses incurred in his or her capacity as an office holder:
| · | any monetary liability whether imposed on him or her in favor of another person pursuant to a judgment, a settlement or an arbitrator’s award approved by a court; |
| · | reasonable litigation expenses, including attorneys’ fees, incurred by him or her as a result of an investigation or proceedings instituted against him or her by an authority empowered to conduct an investigation or proceedings, which are concluded either (i) without the filing of an indictment against the office holder and without the levying of a monetary obligation in lieu of criminal proceedings upon the office holder, or (ii) without the filing of an indictment against the office holder but with levying a monetary obligation in substitute of such criminal proceedings upon the office holder for a crime that does not require proof of criminal intent; |
| · | reasonable litigation expenses, including attorneys’ fees, in proceedings instituted against him or her by the company, on the company’s behalf or by a third-party, or in connection with criminal proceedings in which the office holder was acquitted, or as a result of a conviction for a crime that does not require proof of criminal intent, or in connection with an administrative enforcement proceeding or financial sanction instituted against him; and |
| · | reasonable litigation expenses, including attorneys’ fees, incurred by him or her as a result of an administrative enforcement proceeding instituted against him or her. |
Under the Companies Law, a company may obtain insurance for an office holder against liabilities incurred in his or her capacity as an office holder, if and to the extent provided for in its articles of association. These liabilities include a breach of duty of care to the company or a third-party, a breach of duty of loyalty, any monetary liability imposed on the office holder in favor of a third-party, and reasonable litigation expenses, including attorney fees, incurred by an office holder as a result of an administrative enforcement proceeding instituted against him.
A company may, in advance only, exculpate an office holder for a breach of the duty of care, except in connection with a distribution of dividends or a repurchase of the company’s securities. A company may not exculpate an office holder from a breach of the duty of loyalty towards the company.
Under the Companies Law, however, an Israeli company may only indemnify or insure an office holder against a breach of duty of loyalty to the extent that the office holder acted in good faith and had reasonable grounds to assume that the action would not prejudice the company. In addition, an Israeli company may not indemnify, insure or exculpate an office holder against a breach of duty of care if committed intentionally or recklessly, or an action committed with the intent to derive an unlawful personal gain, or for a fine or forfeit levied against the office holder.
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We have purchased liability insurance and entered into indemnification and exculpation agreements for the benefit of our office holders in accordance with the Companies Law and our articles of association.
| The maximum indemnification amount set forth in such agreements is limited to the higher of (i) $50,000,000 and (ii) 25% of the Company’s shareholders’ equity set forth on the Company’s most recent consolidated balance sheet at the time that the obligation to indemnify hereunder is incurred. Such maximum amount is in addition to any amount paid (if paid) under insurance and/or by a third-party pursuant to an indemnification arrangement. In the opinion of the SEC, indemnification of directors and office holders for liabilities arising under the Securities Act, however, is against public policy and therefore unenforceable. We have obtained directors’ and officers’ liability insurance for the benefit of our office holders and intend to continue to maintain such coverage and pay all premiums thereunder to the fullest extent permitted by the Companies Law. C. | MATERIAL CONTRACTS |
Search Services Agreement with Microsoft Online Inc.
Registration Rights Undertaking in connection with ClientConnect Acquisition
Pursuant to the Registration Rights Undertaking, dated January 2, 2014, which we entered into with certain former shareholders of ClientConnect with respect to our ordinary shares issued to them in the ClientConnect Acquisition, we have the following general obligations:
| · | Form F-3 Shelf Registration Rights. We were required to file a |
| · | Piggyback Registration Rights. If we effect a registered offering of securities, the holders of registrable securities consisting of at least 3% of our outstanding share capital at the relevant time (or 2% in the case of W Capital Engage, L.P.) or a holder whose resale of registrable securities would otherwise be subject to volume limitations set forth in SEC Rule 144 will have the right to include its shares in the registration effected pursuant to such offering. The number of piggyback registrations is unlimited. |
| · | All reasonable expenses incurred in connection with any such registrations, other than underwriting discounts and commissions, will be borne by us. We are subject to customary indemnification undertakings with respect to any registration effected pursuant to the Registration Rights Undertaking. |
Undertone Merger Agreement
On November 30, 2015, we entered into a Merger Agreement with IncrediTone Inc., our indirectly wholly owned subsidiary, Or Merger, Inc., which was wholly owned by IncrediTone, Interactive Holding Corp. (d/b/a Undertone), and Fortis Advisors LLC, as agent of the participating holders of Undertone, pursuant to which Or Merger, Inc. merged with and into Undertone on the same day, resulting in Undertone becoming a wholly owned subsidiary of IncrediTone. We paid approximately $91 million in cash at the closing and retained $16 million as a holdback to cover potential claims until May 2017. We arewere also required to pay $3 million in installments over the period endingended May 2017 and another $20 million, bearing interest, in November 2020. The Merger Agreement contains customary representations, warranties, covenants and indemnification provisions. On August 2, 2016, we executed an amendment to the Merger Agreement, pursuant to which we paid $22 million and eliminated approximately $36 million of obligations.
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Undertone Secured Credit Agreement
On November 30, 2015, Concurrentlyconcurrently with the closing of the Undertone Merger Agreement, Undertone entered into a new secured credit agreement with its existing lenders for $50$50.0 million, due in quarterly installments from March 2016 to November 2019. The credit agreement is not guaranteed by Perion, but it is secured by a pledge on Perion'sPerion’s indemnification rights under the Undertone Merger Agreement.
On March 4, 2016, Undertone entered into an amendment to the secured credit agreement. The amendment to the credit agreement adds a $10.0 million revolving loan facility (which includes a $3.0 million swing line loan commitment and a $3.0 million letter of credit commitment). Additionally, the amendment postpones the commencement date of a few of Undertone’s undertaking and covenants and increases Undertone’s ability to invest in some of its subsidiaries.
On November 30, 2015, weMay 8, 2016, Undertone entered into a securities purchase agreement (the “J.P. Morgan Securities Purchase Agreement”) with J.P. Morgan Investment Management Inc., as investment advisorsecond amendment to the National Councilsecured credit agreement further postponing the commencement of some of Undertone’s undertakings. Furthermore, on October 7, 2016, Undertone entered into a third amendment reducing the revolving loan facility amount to $2.5 million and amending financial covenants. In March 2018, Undertone entered into a fourth amendment adjusting the financial covenants and providing for Social Security Funda waiver of the financial covenant defaults of the quarter ending December 31, 2017. As of December 31, 2017, the balance of the loan was $32.3 million, out of which $27.7 million classified as long term debt and 522 Fifth Avenue Fund L.P.$4.3 million as current maturities.
In December 2018 the outstanding balance under the credit agreement was fully repaid.
Bank Mizrahi credit facility
On May 10, 2017, ClientConnect executed a credit facility with Mizrahi Tefahot Bank Ltd. (“ (collectively referredBank Mizrahi”), an Israeli bank, pursuant to aswhich ClientConnect was permitted to borrow up to $17.5 million. This facility was repaid in full from the "Investors"). In accordance with the agreement, on December 3, 2015, we completed a private placement to the Investors of 4,436,898 ordinary shares for gross proceeds of $10.125 million. The purchase price per share was $2.282, which was the average closing price of an ordinary share on the Nasdaq Global Select Market for the 30 trading days ended on December 1, 2015. If, on September 1, 2016, the 15-trading day weighted average price of an ordinary share is less than $2.624, the per share purchase price of $2.282 will be adjusted downward 1% for each whole 1% that the September 1, 2016 calculated price is lower than $2.282, up to a maximum adjustment of 15%, and we will issue to the two aforesaid parties such number of additional ordinary shares as is necessary so that each will receive such number of ordinary shares in total that it would have purchased at the closing of the private placement at such lower price.
On December 3, 2015,17, 2018, ClientConnect executed a new loan facility with Bank Mizrahi in connection with the J.P. Morgan Securities Purchase Agreement, we entered into a registration rights agreement withamount of $25 million. Proceeds of the Investors, pursuant to which we grantedloan facility were applied to the Investors certain registration rights relatedrefinancing of existing debt of ClientConnect with Bank Mizrahi as well as existing debt of Undertone with SunTrust Bank.
Principal on the loan is payable in twelve equal quarterly instalments beginning in March 2019. Interest on the loan at the rate of three-month LIBOR plus 5.7% per annum is payable quarterly. The credit facility is scheduled to mature in December 2021.
The credit facility is secured by liens on the ordinary shares issued per the J.P. Morgan Securities Purchase Agreement. We were requiredassets ClientConnect of and Undertone and is guaranteed by Perion and Undertone. Each such guarantee is limited in amount to file a registration statement on Form F-3$33 million. Financial covenants for the resaleloan facility are tested at the level of Perion on a consolidated basis.
The major financial covenants under the ordinary shares within 30 days following December 3, 2015, which we did on December 29, 2015, and to use our reasonable efforts to cause such registration statement to be declared effective within 120 days following December 3, 2015. We may incur liquidated damages if we do not meet our registration obligations. We also agreed to other customary obligations regarding registration, including indemnification and maintenance of the applicable registration statement.Bank Mizrahi credit facility are as follows:
| · | shareholders’ equity of at least $120 million at the end of each quarter (at least $80 million after repayment in full of the Bonds); |
| · | ratio of net financial indebtedness to twelve-month EBITDA of not more than 2.5 at the end of each quarter (less than 2.25 after repayment in full of the Bonds); |
| · | twelve-month EBITDA at the end of each quarter of not less than 40% of original aggregate principal amount of the bonds (not applicable after repayment in full of the Bonds); and |
| · | maintenance at all times of cash and cash equivalents in an amount equal to the lesser of (i) $10 million and (ii) the amount of the following payment of principal and interest. |
As of December 31, 2018, the balance of the loan was $25.0 million out of which $16.7 million was classified as long-term debt and $8.3 million as current maturities.
As of December 31, 2018, we were in compliance with all of the foregoing covenants.
D. EXCHANGE CONTROLS
Non-residents of Israel who hold our ordinary shares are able to receive any dividends, and any amounts payable upon the dissolution, liquidation and winding up of our affairs, freely repatriable in non-Israeli currency at the rate of exchange prevailing at the time of conversion. However, Israeli income tax is required to have been paid or withheld on these amounts. In addition, the statutory framework for the potential imposition of exchange controls has not been eliminated, and may be restored at any time by administrative action.
73 E. | TAXATION |
The following is a general summary only and should not be considered as income tax advice or relied upon for tax planning purposes.
ISRAELI TAXATION
THE FOLLOWING DESCRIPTION IS NOT INTENDED TO CONSTITUTE A COMPLETE ANALYSIS OF ALL TAX CONSEQUENCES RELATING TO THE OWNERSHIP OR DISPOSITION OF OUR ORDINARY SHARES. YOU SHOULD CONSULT YOUR OWN TAX ADVISOR CONCERNING THE TAX CONSEQUENCES OF YOUR PARTICULAR SITUATION, AS WELL AS ANY TAX CONSEQUENCES THAT MAY ARISE UNDER THE LAWS OF ANY STATE, LOCAL, FOREIGN OR OTHER TAXING JURISDICTION.
The following is a summary of the material Israeli tax laws applicable to us, and some Israeli Government programs benefiting us. This section also contains a discussion of some Israeli tax consequences to persons acquiring our ordinary shares. This summary does not discuss all the actsaspects of Israeli tax law that may be relevant to a particular investor in light of his or her personal investment circumstances or to some types of investors subject to special treatment under Israeli law. Examples of this kind of investor include residents of Israel or traders in securities who are subject to special tax regimes not covered in this discussion. Since some parts of this discussion are based on new tax legislation that has not yet been subject to judicial or administrative interpretation, we cannot assure you that the appropriate tax authorities or the courts will accept the views expressed in this discussion.
The discussion below should not be construed as legal or professional tax advice and does not cover all possible tax considerations. Potential investors are urged to consult their own tax advisors as to the Israeli or other tax consequences of the purchase, ownership and disposition of our ordinary shares, including, in particular, the effect of any foreign, state or local taxes.
General Corporate Tax Structure in Israel
Taxable income of Israeli companies is generally subject to corporate tax at the rate of 26.5%24% for the 20152017 tax year. In January 2016,Under an amendment to the Israeli parliament approved the reduction ofIncome Tax Ordinance, the corporate tax rate was decreased to 25%, starting from January 1, 2016.23% for 2018 and thereafter. However, the effective tax rate payable by a company that derives income from a Preferred Enterprise (as further discussed below) may be considerably lower.
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Foreign Currency Regulations
We are permitted to measure our Israeli taxable income in U.S. dollars pursuant to regulations published by the Israeli Minister of Finance, which provide the conditions for doing so. We believe that we meet and will continue to meet, the necessary conditions and as such, we measure our results for tax purposes based on the U.S. dollar/ILSNIS exchange rate as of December 31st of each year.
Law for the Encouragement of Capital Investments, 1959
The Law for Encouragement of Capital Investments, 1959 (the "Investment Law"“Investment Law”) provides tax benefits for income of Israeli companies meeting certain requirements and criteria. The Investment Law has undergone certain amendments and reforms in recent years.
The Israeli parliament enacted a reform to the Investment Law, effective January 2011. According to the reform, a flat rate tax applies to companies eligible for the "Preferred Enterprise"“Preferred Enterprise” status. In order to be eligible for Preferred Enterprise status, a company must meet minimum requirements to establish that it contributes to the country’s economic growth and is a competitive factor for the Gross Domestic Product (a competitive enterprise).
We elected "Preferred Enterprise"“Preferred Enterprise” status commencing in 2011. We believe that our Israeli subsidiary qualified as a “Preferred Technological Enterprise” in 2017 and 2018 and was subject to a lower tax rate of 12% Amendment 73 to the Law, as described below.
Benefits granted to a Preferred Enterprise include reduced tax rates. In peripheral regions (Development Area A) the reduced tax rate was 9% in 2014, 9% in 2015 and will be 9%2016. Under an amendment to the Investment Law enacted in 2016.December 2016, the reduced tax rate was decreased to 7.5% starting from 2017 and thereafter. In other regions the tax rate was 16% in 2014, 16% in 2015 and will be 16% in 2016.thereafter. Preferred Enterprises in peripheral regions will be eligible for Investment Center grants from the Israeli Authority for Investments and Development of the Industry and Economy (the “Investment Center”), as well as the applicable reduced tax rates.
A distribution from a Preferred Enterprise out of the "Preferred Income"“Preferred Income” would be subject to 15%20% withholding tax for Israeli-resident individuals and non-Israeli residents (subject(or a reduced rate under an applicable double tax treaty subject to applicable treaty rates), or 20%the receipt in advance of a valid certificate from the ITA allowing for dividends which are distributed on or after January 1, 2014 and from preferred income that was produced or accrued after such date.a reduced tax rate). Upon a distribution of a dividend to an Israeli company, no withholding tax is remitted.
A distribution from a Preferredincome derived from Approved or Beneficiary Enterprise outare subject, under certain conditions, to withholding at the rate of the "Preferred Income" would be exempt from withholding tax for an Israeli-resident company. A15%. Nonetheless, a company electing to waive its Beneficiary Enterprise or Approved Enterprise status, which relate to tax incentive programs afforded under previous versions of the Investment Law, through June 30, 2015, maywill be entitled to distribute "Approved Income" or "Beneficiary Income" subjectincome generated by the Approved/Beneficiary Enterprise to 15% withholding tax forits Israeli resident individuals and non-Israeli residents (subject to applicable treaty rates) andcorporate shareholders exempt from withholding tax for an Israeli-resident company. Nonetheless, atax. A distribution from income exempt under Beneficiary Enterprise and Approved Enterprise programs will subject the exempt income to tax at the reduced corporate income tax rates pertaining to the Beneficiary Enterprise and Approved Enterprise programs upon distribution, or complete liquidation in the case of a Beneficiary Enterprise’s exempt income.
Pursuant to an amendment to the Investments Law which became effective on November 12, 2012 (“Amendment 69”), a company that elects by November 11, 2013 to pay a corporate tax rate as set forth in that amendment (rather than the regular corporate tax rate applicable to Approved Enterprise or Beneficiary Enterprise income) with respect to undistributed exempt income accumulated by the company up until December 31, 2011, will be entitled to distribute a dividend from such income without being required to pay additional corporate tax with respect to such dividend. A company that has so elected must make certain qualified investments in Israel over the five-year period commencing in 2013. A company that has elected to apply the amendment cannot withdraw from its election.
During 2013, we applied the provisions of Amendment 69 to all undistributed exempt profits accrued prior to 2011 by us and our Israeli subsidiary. Consequently, we paid ILSNIS 6.3 million (approximately $1.8 million) corporate tax on exempt income of ILSNIS 63.2 million (approximately $17.9 million). This income is available to be distributed as dividends in future years with no additional corporate tax liability. As a result, we are required to invest ILS(and have already invested) NIS 4.7 million (approximately $1.2 million) in our industrial enterprises in Israel over a five year period. Such investment may be in the form of the acquisition of industrial assets (excluding real estate assets), investment in R&D in Israel, or payroll payments to new employees to be hired by the enterprise.
In December 2016, the Economic Efficiency Law (Legislative Amendments for Applying the Economic Policy for the 2017 and 2018 Budget Years), 2016, which includes Amendment 73 to the Law for the Encouragement of Capital Investments, was published. Amendment 73 prescribes special tax routes for technological enterprises as described below, and is in addition to the other existing tax beneficial programs under the Investment Law.
New Tax benefits under Amendment 73 that became effective on January 1, 2017.
Amendment 73 was enacted as part of the Economic Efficiency Law that was published on December 29, 2016, and was effective as of January 1, 2017. Amendment 73 provides new tax benefits for two types of “Technology Enterprises”, as described below, and is in addition to the other existing tax beneficial programs under the Investment Law.
Amendment 73 provides that a technology company satisfying certain conditions will qualify as a “Preferred Technology Enterprise” and will thereby enjoy a reduced corporate tax rate of 12% on income that qualifies as “Preferred Technology Income,” as defined in the Investment Law. The tax rate is further reduced to 7.5% for a Preferred Technology Enterprise located in development zone A. In addition, a Preferred Technology Company will enjoy a reduced corporate tax rate of 12% on capital gain derived from the sale of certain “Benefitted Intangible Assets” (as defined in the Investment Law) to a related foreign company if the Benefitted Intangible Assets were acquired from a foreign company on or after January 1, 2017 for at least NIS 200 million, and the sale receives prior approval from the National Authority for Technological Innovation (previously known as the Israeli Office of the Chief Scientist), to which we refer as IIA.
Amendment 73 further provides that a technology company satisfying certain conditions will qualify as a “Special Preferred Technology Enterprise” and will thereby enjoy a reduced corporate tax rate of 6% on “Preferred Technology Income” regardless of the company’s geographic location within Israel. In addition, a Special Preferred Technology Enterprise will enjoy a reduced corporate tax rate of 6% on capital gain derived from the sale of certain “Benefitted Intangible Assets” to a related foreign company if the Benefitted Intangible Assets were either developed by the Special Preferred Technology Enterprise or acquired from a foreign company on or after January 1, 2017, and the sale received prior approval from NATI. A Special Preferred Technology Enterprise that acquires Benefitted Intangible Assets from a foreign company for more than NIS 500 million will be eligible for these benefits for at least ten years, subject to certain approvals as specified in the Investment Law.
Dividends distributed by a Preferred Technology Enterprise or a Special Preferred Technology Enterprise, paid out of Preferred Technology Income, are generally subject to withholding tax at source at the rate of 20% or such lower rate as may be provided in an applicable tax treaty (subject to the receipt in advance of a valid certificate from the Israel Tax Authority allowing for a reduced tax rate). However, if such dividends are paid to an Israeli company, no tax is required to be withheld. If such dividends are distributed to a foreign company and other conditions are met, the withholding tax rate will be 4% (or a lower rate under a tax treaty, if applicable, subject to the receipt in advance of a valid certificate from the Israel Tax Authority allowing for a reduced tax rate).
We believe that our Israeli subsidiary qualifies as a “Preferred Technological Enterprise” in 2017 and 2018 and was subject to a lower tax rate of 12% according to Amendment 73 to the Law, as described above.
Law for the Encouragement of Industry (Taxes), 1969
We believe that we currently qualify as an "Industrial Company"“Industrial Company” within the meaning of the Law for the Encouragement of Industry (Taxes), 1969, or the Industry Encouragement Law. The Industry Encouragement Law defines "Industrial Company"“Industrial Company” as a company resident of Israel which was incorporated in Israel, of which 90% or more of its income in any tax year, other than of income from defense loans, capital gains, interest and dividends, is derived from an "Industrial Enterprise"“Industrial Enterprise” owned by it.it and located in Israel or in the “Area”, in accordance with the definition in the section 3a of the Ordinance. An "Industrial Enterprise"“Industrial Enterprise” is defined as an enterprise whose major activity in a given tax year is industrial production.
The following corporate tax benefits, among others, are available to Industrial Companies:
| · | amortization of the cost of purchased know-how and patents, which are used for the development or advancement of the company, over an eight-year period; |
| · | accelerated depreciation rates on equipment and buildings; |
| · | under specified conditions, an election to file consolidated tax returns with additional related Israeli Industrial Companies; and |
| · | expenses related to a public offering are deductible in equal amounts over three years. |
Eligibility for the benefits under the Industry Encouragement Law is not subject to receipt of prior approval from any governmental authority. We cannot assure that we qualify or will continue to qualify as an "Industrial Company"“Industrial Company” or that the benefits described above will be available in the future.
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Transfer Pricing
In accordance with Section 85A of the Israeli Tax Ordinance, if in an international transaction (where at least one party is a non-Israeli or all or part of the income from such transaction is to be taxed abroad as well as in Israel) there is a special relationship between the parties (including but not limited to family relationship or a relationships of control between companies), and due to this relationship the price set for an asset, right, service or credit was determined or other conditions for the transaction were set such that a smaller profit was realized than what would have been expected to be realized from a transaction of this nature, then such transaction shall be reported in accordance with customary market conditions and tax shall be charged accordingly. The assessment of whether a transaction falls under the aforementioned definition shall be implemented in accordance with one of the procedures mentioned in the regulations and is based, among others, on comparisons of characteristics which portray similar transactions in ordinary market conditions, such as profit, the area of activity, nature of the asset, the contractual conditions of the transaction and according to additional terms and conditions specified in the regulations.
Taxation of our Shareholders
Israeli resident corporations are generally exempt from Israeli corporate tax for dividends paid on shares of Israeli resident corporations.
Capital Gains Taxes Applicable to Israeli Resident Shareholders. An individual is subject to a 25% tax rate on real capital gains derived from the sale of shares, as long as the individual is not a "substantial shareholder" (generally a shareholder with 10% or more of the right to profits, right to nominate a director and voting rights)“substantial shareholder” in the company issuing the shares.
A substantial shareholder will be subject to tax at a rate of 30% in respect of real capital gains derived from the sale of shares (that were purchased after January 1, 2012, whether listed on a stock exchange or not) issued by a company in which he or she is a substantial shareholder. The determinationshareholder at the time of whether the individual is a substantial shareholder will be made on the date on which the securities are sold. In addition, the individual will be deemed to be a substantial shareholder ifsale or at any time during the preceding 12 months preceding the date of sale, he or she was a substantial shareholder.period.
Israeli corporations are generally subject to the corporate tax rate (26.5%(23% in 20152018 and 25.0% commencing on January 1, 2016)thereafter) on capital gains derived from the sale of shares.
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Capital Gains Taxes Applicable to Non-Israeli Resident Shareholders. Shareholders that are not Israeli residents are generally exempt from Israeli capital gains tax on any gains derived from the sale, exchange or disposition of our ordinary shares, provided that (1) such shareholders did not acquire their shares prior to our initial public offering, (2) the shares are listed for trading on the Tel Aviv Stock ExchangeTASE and/or a foreign exchange, and (3) such gains did not derive from a permanent establishment of such shareholders in Israel. However, non-Israeli corporations will not be entitled to the foregoing exemptions if Israeli residents (i) have a controlling interest of more than 25% in such non-Israeli corporation, or (ii) are the beneficiaries of or are entitled to 25% or more of the revenues or profits of such non-Israeli corporation, whether directly or indirectly. In certain instances, where our shareholders may be liable to Israeli tax on the sale of their ordinary shares, the payment of the consideration may be subject to the withholding of Israeli tax at the source.
Under the U.S.-Israel Tax Treaty, the sale, exchange or disposition of our ordinary shares by a shareholder who is a U.S. resident (for purposes of the U.S.-Israel Tax Treaty) holding the ordinary shares as a capital asset is exempt from Israeli capital gains tax unless either (i) the shareholder holds, directly or indirectly, shares representing 10% or more of our voting capital during any part of the 12-month12‑month period preceding such sale, exchange or disposition, or (ii) the capital gains arising from such sale are attributable to a permanent establishment of the shareholder located in Israel.Israel, or (iii) the seller, if an individual, has been present in Israel for 183 days or more than (in the aggregate), during the taxable year.
The purchaser of the securities, the stockbrokers who effected the transaction or the financial institution holding the traded securities through which payment to the seller is made are obligated to withhold Israeli tax at source from such payment. Shareholders may be required to demonstrate that they are exempt from tax on their capital gains in order to avoid withholding at source at the time of sale. Specifically, in transactions involving a sale of all of the shares of an Israeli resident company, in the form of a merger or otherwise, the ITA may require from shareholders who are not liable for Israeli tax to sign declarations in forms specified by this authority or obtain a specific exemption from the ITA to confirm their status as non-Israeli resident.
Taxation of Non-Israeli Shareholders on Receipt of Dividends. Non-residents of Israel are generally subject to Israeli income tax on the receipt of dividends paid on our ordinary shares at the rate of 25%, 30% for a substantial shareholder, or 20% if the dividend is distributed from income attributed to Preferred Enterprise, which tax will be withheld at source, unless a different rate is provided in a treaty between Israel andsource. Such rates may be reduced by the shareholder’s country of residence. With respect to a substantial shareholder (which is someone who alone, or together with another person, holds, directly or indirectly, at least 10% in one or all of anyapplication of the meansprovisions of controlapplicable double tax treaties (subject to the receipt in advance of a valid certificate from the corporation atITA allowing for a reduced tax rate). If the timedividend is attributable partly to income derived from a Preferred Enterprise, and partly to other sources of distribution or at any time duringincome, the preceding 12 months period), the applicable taxwithholding rate will be 30%.a blended rate reflecting the relative portions of the two types of income.
Under the U.S.-Israel Tax Treaty, the maximum rate of tax withheld in Israel on dividends paid to a holder of our ordinary shares who is a U.S. resident (for purposes of the U.S.-Israel Tax Treaty) is 25%. However, generally, the maximum rate of withholding tax on dividends, not generated by our Approved, Beneficiary or Preferred Enterprises that are paid to a U.S. corporation holding 10% or more of our outstanding voting capital throughout the tax year in which the dividend is distributed as well as the previous tax year, is 12.5%. The lower 12.5% rate does not apply if the company has more than 25% of its gross income derived from certain types of passive income. Furthermore, dividends paid from income derived from our Approved, Beneficiary or Preferred Enterprise are subject, under certain conditions, to withholding at the rate of 15% or 20%. We cannot assure you that we will designate the profits that are being distributed in a way that will reduce shareholders’ tax liability. A non-resident of Israel who receives dividends from which tax was withheld is generally exempt from the duty to file returns in Israel in respect of such income, provided such income was not derived from a business conducted in Israel by the taxpayer, and the taxpayer has no other taxable sources of income in Israel.Israel and the taxpayer is not obliged to pay excess tax (as further explained below).
Excess Tax. Individuals who are subject to tax in Israel, whether as an Israeli resident or a non-Israeli resident, are also subject to an additional tax at a rate of 3% on annual taxable income exceeding 640,000 in 2017 and NIS 641,880 in 2018, which amount is linked to the Israeli consumer price index, including, but not limited to, dividends, interest and capital gain.
U.S. FEDERAL INCOME TAX CONSIDERATIONS
The following discussion is a description of certain U.S. federal income tax considerations applicable to an investment in our ordinary shares by U.S. Holders (defined below) who acquire our ordinary shares and hold them as capital assets for U.S. federal income tax purposes (generally, for investment). As used in this section, the term "U.S. Holder"“U.S. Holder” means a beneficial owner of an ordinary share who is:
| · | an individual citizen or resident of the United States; |
| · | a corporation (or entity classified as a corporation for U.S. federal income tax purposes) created or organized in or under the laws of the United States, any state of the United States or the District of Columbia; |
| · | an estate, the income of which is subject to U.S. federal income taxation regardless of its source; or |
| · | a trust if (i) a court within the United States is able to exercise primary supervision over its administration and one or more U.S. persons have the authority to control all of its substantial decisions or (ii) the trust has in effect a valid election under applicable U.S. Treasury Regulations to be treated as a U.S. person. |
The term "Non-U.S. Holder"“Non-U.S. Holder” means a beneficial owner of an ordinary share other than a partnership or other pass-through entity who is not a U.S. Holder. The tax consequences to a Non-U.S. Holder may differ substantially from the tax consequences to a U.S. Holder. Certain limited aspects of U.S. federal income tax considerations relevant to Non-U.S. Holders of an ordinary share are also discussed below.
This discussion is based on provisions of the Code, current and proposed U.S. Treasury Regulations and administrative and judicial interpretations, each in effect as of the date hereof, all of which are subject to change, possibly on a retroactive basis. This description does not discuss all aspects of U.S. federal income taxation that may be applicable to investors in light of their particular circumstances or to investors who are subject to special treatment under U.S. federal income tax laws, including:
| · | insurance companies; |
| · | dealers in stocks, securities or currencies; |
| · | financial institutions and financial services entities; |
| · | regulated investment companies or real estate investment trusts; |
| · | grantor trusts; |
| · | S corporations; |
| · | persons that acquire ordinary shares upon the exercise of employee stock options or otherwise as compensation; |
| · | tax-exempt organizations; |
| · | persons that hold ordinary shares as a position in a straddle or as part of a hedging, conversion or other integrated instrument; |
| · | individual retirement and other tax-deferred accounts; |
| · | certain former citizens or long-term residents of the United States; |
| · | persons (other than Non-U.S. Holders) having a functional currency other than the U.S. dollar; and |
| · | persons that own directly, indirectly or constructively 10% or more of our voting shares. |
Additionally, the tax treatment of persons who are, or hold our ordinary shares through, a partnership or other pass-through entity is not discussed, and such persons should consult their advisor as to their tax consequences. The possible application of the alternative minimum tax, U.S. federal estate or gift taxes and any aspect of state, local or non-U.S. tax laws are also not considered in this discussion.
We urge you to consult with your own tax advisor regarding the tax consequences of investing in the ordinary shares, including the effects of U.S. federal, state, local, and foreign or other tax laws.
Distributions Paid on the Ordinary Shares
Subject to the discussion below under "Passive“Passive Foreign Investment Company Considerations,"” a U.S. Holder generally will be required to include in gross income as ordinary dividend income the amount of any distributions paid by us on the ordinary shares, including the amount of any non-U.S. income taxes withheld, to the extent that those distributions are paid out of our current or accumulated earnings and profits as determined for U.S. federal income tax purposes. Distributions in excess of our earnings and profits will be treated first as a non-taxable return of capital and will reduce the U.S. Holder’s tax basis in its ordinary shares to the extent thereof and, to the extent distributions exceed such tax basis, then will be treated as gain from a sale or exchange of those ordinary shares. Our dividends generally will not qualify for the dividends-received deduction applicable, in some cases, to U.S. corporations. Dividends paid in ILS,NIS, including the amount of any non-U.S. income taxes withheld, will be includible in the income of a U.S. Holder in a U.S. dollar amount calculated by reference to the exchange rate in effect on the date they are included in income by the U.S. Holder, regardless of whether the payment in fact is converted into U.S. dollars. A U.S. holder that receives distributions paid in ILSNIS (or any other foreign currency) and converts the ILSNIS (or other foreign currency) into dollars after the date such distributions are included in income may have foreign exchange gain or loss based on any appreciation or depreciation in the value of the ILSNIS (or other foreign currency) against the dollar, which will generally be U.S. source ordinary income or loss.
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A non-corporate U.S. holder’s "qualifiedHolder’s “qualified dividend income"income” may be taxed at reduced rates (currently, a maximum rate of 20% applies). For this purpose, subject to the limitations discussed below, "qualified“qualified dividend income"income” generally includes dividends paid by a non-U.S. corporation if either:
| (a) | the stock of that corporation with respect to which the dividends are paid is readily tradable on an established securities market in the United States, or |
| (b) | that corporation is eligible for the benefits of a comprehensive income tax treaty with the United States which includes an information exchange program and is determined to be satisfactory by the United States Secretary of the Treasury. The Internal Revenue Service has determined that the United States-Israel Tax Treaty is satisfactory for this purpose. |
No dividend income received by a U.S. Holder will be qualified dividend income (1) unless such U.S. Holder generally has held its ordinary shares for at least 61 days during the 121-day period beginning on the date that is 60 days prior to the ex-dividend date with respect to such dividend, excluding for this purpose, under the rules of Code section 246(c), any period during which the U.S. Holder has an option to sell, is under a contractual obligation to sell, has made and not closed a short sale of, is the grantor of a deep-in-the-money or otherwise nonqualified option to buy, or has otherwise diminished its risk of loss by holding other positions with respect to, such ordinary share (or substantially identical securities) or (2) to the extent such U.S. Holder is under an obligation (pursuant to a short sale or otherwise) to make related payments with respect to positions in property substantially similar or related to the ordinary share with respect to which the dividend is paid.
In addition, a non-corporate U.S. Holder will be able to take a qualified dividend into account in determining its deductible investment interest (which is generally limited to its net investment income) only if it elects to do so; in such case the dividend will be taxed at ordinary income tax rates. Dividends paid by a non-U.S. corporation will not be qualified dividend income and thus, not qualify for reduced rates, if such corporation is, for the tax year in which the dividend is paid or the preceding tax year, a "passive“passive foreign investment company"company” for U.S. federal income tax purposes.
Subject to certain conditions and limitations, non-U.S. income tax withheld on dividends may be deducted from taxable income or credited against a U.S. Holder’s U.S. federal income tax liability. The limitation on foreign taxes eligible for credit is calculated separately with respect to specific classes of income. Dividends paid by us generally will be foreign source "passive income"“passive income” for U.S. foreign tax credit purposes. U.S. Holders that do not elect to claim a foreign tax credit may generally instead claim a deduction for the non-U.S. income taxes withheld if such U.S. Holders itemize their deductions for U.S. federal income tax purposes. The rules relating to the determination of foreign source income and the foreign tax credit are complex, and the availability of a foreign tax credit depends on numerous factors. U.S. holdersHolders should consult their tax advisors regarding the application of the foreign tax credit rules.
A U.S. holderHolder will be denied a foreign tax credit for non-U.S. income taxes withheld from a dividend received on the ordinary shares (i) if the U.S. holderHolder has not held the ordinary shares for at least 16 days of the 31-day period beginning on the date which is 15 days before the ex-dividend date with respect to such dividend or (ii) to the extent the U.S. holderHolder is under an obligation (whether pursuant to a short sale or otherwise) to make related payments with respect to positions in substantially similar or related property. Any days during which a U.S. holderHolder has substantially diminished its risk of loss on the ordinary shares are not counted toward meeting the required 16-day holding period.
Disposition of Ordinary Shares
Upon the sale or other disposition of ordinary shares (other than with respect to certain non-recognition transactions), subject to the discussion below under "Passive“Passive Foreign Investment Company Considerations,"” a U.S. Holder generally will recognize capital gain or loss equal to the difference between the amount realized on the disposition and the holder’s adjusted tax basis in the ordinary shares. Gain or loss upon the disposition of the ordinary shares will be treated as long-term if, at the time of the sale or disposition, the ordinary shares were held for more than one year. Long-term capital gains realized by non-corporate U.S. Holders generally are subject to reduced rates of tax (currently, a maximum rate of 20% applies). The deductibility of capital losses by a U.S. Holder is subject to limitations.limitations.
A U.S. holderHolder that uses the cash method of accounting calculates the dollar value of the proceeds received on the sale as of the date that the sale settles. However, a U.S. holderHolder that uses the accrual method of accounting is required to calculate the value of the proceeds of the sale as of the trade date and may therefore realize foreign currency gain or loss between the trade date and the settlement date. A U.S. holderHolder may avoid realizing foreign currency gain or loss by electing to use the settlement date to determine the proceeds of sale for purposes of calculating the foreign currency gain or loss. In addition, a U.S. holderHolder that receives foreign currency upon disposition of ordinary shares and converts the foreign currency into dollars after the settlement date or trade date (whichever date the U.S. holderHolder is required to use to calculate the value of the proceeds of sale) may have foreign exchange gain or loss based on any appreciation or depreciation in the value of the foreign currency against the dollar, which will generally be U.S. source ordinary income or loss.
Net Investment Income Tax
Non-corporate U.S. Holders may be subject to an additional 3.8% surtax on all or a portion of the "net“net investment income,"” which generally may include dividends on, or capital gains recognized from the disposition of, our ordinary shares. U.S. Holders are urged to consult their own tax advisors regarding the applicability of the net investment income tax to their investment in our shares.
Passive Foreign Investment Company Considerations
Special U.S. federal income tax rules apply to U.S. Holders owning shares of a passive foreign investment company or "PFIC."“PFIC.” A non-U.S. corporation will be considered a PFIC for any tax year in which, after applying certain look-through rules, 75% or more of its gross income consists of specified types of passive income, or 50% or more of the average value of its assets (determined on a quarterly basis) consists of passive assets, which generally means assets that generate, or are held for the production of, passive income.
If we were classified as a PFIC, a U.S. Holder could be subject to increased tax liability upon the sale or other disposition of ordinary shares or upon the receipt of amounts treated as "excess“excess distributions."” Under these rules, the excess distribution and any gain from the sale or disposition would be allocated ratably over the U.S. Holder’s holding period for the ordinary shares, and the amount allocated to the current taxable year and any taxable years prior to the first taxable year in which we were a PFIC would be taxed as ordinary income. The amount allocated to each of the prior taxable years in which we were a PFIC would be subject to tax at the highest marginal rate in effect for the applicable class of taxpayer for that year, and an interest charge for the deemed deferral benefit would be imposed on the resulting tax allocated to such prior taxable years. The tax liability with respect to the amount allocated to taxable years prior to the year of the disposition, or "excess“excess distribution,"” cannot be offset by any net operating losses. In addition, holders of stock in a PFIC may not receive a "step-up"“step-up” in basis on shares acquired from a decedent. U.S. Holders who hold ordinary shares during a period when we are a PFIC will be subject to the foregoing rules even if we cease to be a PFIC. Unless otherwise provided by the IRS, if a non-U.S. corporation is a PFIC, a U.S. Holder generally is required to file an annual informational return with the IRS.
As an alternative to the tax treatment described above, a U.S. Holder could elect to treat us as a "qualified“qualified electing fund" ("QEF"fund” (“QEF”), in which case the U.S. Holder would be required to include in income, for each taxable year that we are a PFIC, its pro rata share of our ordinary earnings as ordinary income and its pro rata share of our net capital gains as capital gain, subject to a separate election to defer payment of taxes where such deferral is subject to an interest charge. A QEF election is made on a shareholder-by-shareholder basis, applies to all ordinary shares held or subsequently acquired by an electing U.S. Holder and can only be revoked with consent of the IRS. A U.S. Holder may make a QEF election only if we furnish such U.S. Holder with certain tax information. We currently do not provide this information, and we do not intend to take any actions that would be necessary to permit U.S. Holders to make a QEF election in the event we become a PFIC.
As an alternative to making a QEF election, a U.S. Holder of PFIC stock which is "marketable stock"“marketable stock” (e.g., "regularly traded"“regularly traded” on the Nasdaq Global Select Market) may in certain circumstances avoid certain of the tax consequences generally applicable to holders of stock in a PFIC by electing to mark the stock to market as of the beginning of such U.S. Holder’s holding period for the ordinary shares. As a result of such election, in any taxable year that we are a PFIC, a U.S. Holder generally would be required to report gain or loss to the extent of the difference between the fair market value of the ordinary shares at the end of the taxable year and such U.S. Holder’s tax basis in its ordinary shares at that time. Any gain under this computation, and any gain on an actual disposition of the ordinary shares in a year in which we are a PFIC, would be treated as ordinary income. Any loss under this computation, and any loss on an actual disposition of the ordinary shares in a year in which we are a PFIC, generally would be treated as ordinary loss to the extent of the cumulative net-mark-to-market gain previously included. Any remaining loss from marking ordinary shares to market will not be allowed, and any remaining loss from an actual disposition of ordinary shares generally would be capital loss. A U.S. Holder’s tax basis in its ordinary shares is adjusted annually for any gain or loss recognized under the mark-to-market election. There can be no assurances that there will be sufficient trading volume with respect to the ordinary shares in order for the ordinary shares to be considered "regularly traded"“regularly traded” or that our ordinary shares will continue to trade on the Nasdaq Global Select Market. Accordingly, there are no assurances that our ordinary shares will be marketable stock for these purposes. As with a QEF election, a mark-to-market election is made on a shareholder-by-shareholder basis, applies to all ordinary shares held or subsequently acquired by an electing U.S. Holder and can only be revoked with consent of the IRS (except to the extent the ordinary shares no longer constitute "marketable stock"“marketable stock”).
Based on our income, assets, activities and market capitalization, we do not believe that we were a PFIC for the taxable year ended December 31, 20152018 for U.S. federal income tax purposes. Our belief that we were not a PFIC for the 20152018 taxable year is based on our estimate of the fair market value of our assets, including our intangible assets and goodwill, which are not reflected in our financial statements under U.S. GAAP. In calculating the value of our assets, we value our total assets, in part, based on our total market capitalization. We believe this valuation approach is reasonable. However, there can be no assurances that the IRS could not successfully challenge our valuations or methods, which could result in our classification as a PFIC. While we intend to manage our business so as to avoid PFIC status, to the extent consistent with our other business goals, we cannot predict whether our business plans will allow us to avoid PFIC status or whether our business plans will change in a manner that affects our PFIC status determination. In addition, because the market price of our ordinary shares is likely to fluctuate and because that market price may affect the determination of whether we will be considered a PFIC, we cannot be certain that we will not be a PFIC in 20162019 or become a PFIC in any other future taxable year.
The rules applicable to owning shares of a PFIC are complex, and each prospective purchaser who would be a U.S. Holder should consult with its own tax advisor regarding the consequences of investing in a PFIC.
Tax Consequences for Non-U.S. Holders of Ordinary Shares
Except as described in "Information“Information Reporting and Back-up Withholding"Backup Withholding” below, a Non-U.S. Holder of our ordinary shares will not be subject to U.S. federal income or withholding tax on the payment of dividends on, and the proceeds from the disposition of, our ordinary shares, unless, in the case of U.S. federal income taxes:
| · | the item is effectively connected with the conduct by the Non-U.S. Holder of a trade or business in the United States and (i) in the case of a resident of a country which has a treaty with the United States, the item is attributable to a permanent establishment, or (ii) in the case of an individual, the item is attributable to a fixed place of business in the United States; or |
| · | the Non-U.S. Holder is an individual who holds the ordinary shares as a capital asset and is present in the United States for 183 days or more in the taxable year of the disposition, and certain other conditions are met. |
Information Reporting and Backup Withholding
U.S. Holders generally are subject to information reporting requirements with respect to dividends on, or proceeds from the disposition of, our ordinary shares. In addition, a U.S. Holder may be subject, under certain circumstances, to backup withholding (currently, at a rate of up to 28%) with respect to dividends paid on, or proceeds from the disposition of, our ordinary shares unless the U.S. Holder provides proof of an applicable exemption or correct taxpayer identification number, and otherwise complies with the applicable requirements of the backup withholding rules. A U.S. Holder of our ordinary shares who provides an incorrect taxpayer identification number may be subject to penalties imposed by the IRS. Amounts withheld under the backup withholding rules are not an additional tax and may be refunded or credited against the U.S. Holder’s U.S. federal income tax liability, provided the required information is timely furnished to the IRS.
Non-U.S. Holders generally are not subject to information reporting or backup withholding, provided that the Non-U.S. Holder provides a taxpayer identification number, certifies to its foreign status, or establishes another exemption to the information reporting or backup withholding requirements.
Certain U.S. holdersHolders (and to the extent provided in IRS guidance, certain non-U.S. holders)Non-U.S. Holders) who hold interests in "specified“specified foreign financial assets"assets” (as defined in Section 6038D of the Code) are generally required to file an IRS Form 8938 as part of their U.S. federal income tax returns to report their ownership of such specified foreign financials assets, which may include our common shares, if the total value of those assets exceed certain thresholds. Substantial penalties may apply to any failure to timely file IRS Form 8938. In addition, in the event a holder that is required to file IRS Form 8938 does not file such form, the statute of limitations on the assessment and collection of U.S. federal income taxes of such holder for the related tax year may not close until three years after the date that the required information is filed. Holders should consult their own tax advisors regarding their tax reporting obligations.
| F. | DIVIDENDS AND PAYING AGENTS |
Not applicable.
| G. | STATEMENT BY EXPERTS |
Not applicable.
82
H. DOCUMENTS ON DISPLAY
Our filings with the SEC filings are also available to the public fromthrough the SEC’s website at http://www.sec.gov.
Not applicable.
Exchange Rate Risk. A portion of our revenues and expenses are denominated in foreign currencies. As a result, numerous balances are denominated or linked to these currencies. Foreign currency related fluctuations resulted in $1.2$0.8 million net losses in 2016, $0.2 million net gains in 2013, $2.72017 and $1.0 million net lossesgains in 2014 and $0.6 million net losses in 2015.2018, respectively. These gains and losses are included in financial income (expense),expenses, net, as presented in our statements of income.
As of December 31, 2015,2018, balance sheet financial items in U.S. dollars, our functional currency, and those currencies other than the U.S. dollars were as follows:
| U.S. dollars | ILS | Other Currencies | Total | U.S. dollars | NIS | Other Currencies | Total | |||||||||||||||||||||||||
| In thousands of U.S. dollars | In thousands of U.S. dollars | |||||||||||||||||||||||||||||||
| Current assets | 127,054 | 5,979 | 7,794 | 140,827 | 96,510 | 2,773 | 5,509 | 103,892 | ||||||||||||||||||||||||
| Long-term assets | 13,682 | 476 | 42 | 14,200 | 4,978 | 63 | 317 | 5,357 | ||||||||||||||||||||||||
| Current liabilities | 85,733 | 17,760 | 3,135 | 106,628 | (61,840 | ) | (11,354 | ) | (3,920 | ) | (77,114 | ) | ||||||||||||||||||||
| Long-term liabilities | 104,699 | 30,123 | 1,014 | 135,836 | (20,809 | ) | (8,507 | ) | (1,235 | ) | (30,552 | ) | ||||||||||||||||||||
Total | 331,168 | 54,338 | 11,985 | 397,491 | 17,939 | (17,025 | ) | 670 | 1,584 | |||||||||||||||||||||||
The fair value of the outstanding derivative instruments and the notional amount of the hedged instrumentsdesigned and not designed as hedging as of December 31, 20152018 were as follows:
Notional Amount | Fair Value | Notional Amount | Fair Value | |||||||||||||
| In thousands of U.S. dollars | In thousands of U.S. dollars | |||||||||||||||
| Cross currency SWAP | 36,772 | 366 | 15,313 | 860 | ||||||||||||
| Zero-cost collar contracts to hedge payroll expenses | 20,280 | 28 | 563 | (11 | ) | |||||||||||
In addition, in territories where our prices are based on local currencies, fluctuations in the dollar exchange rate could affect our gross profit margin. We may compensate for such fluctuations by changing product prices accordingly. We also hold a small part of our financial investments in other currencies, mainly ILSNIS and Euro. The dollar value of those investments may decline. A revaluation of 1% of the foreign currencies (i.e. other than U.S. dollar) would not have a material effect on our income before taxes possibly reducing it by less than $0.5$0.1 million.
A significant portion of our costs, including salaries and office expenses are incurred in ILS.NIS. Inflation in Israel may have the effect of increasing the U.S. dollar cost of our operations in Israel. If the U.S. dollar declines in value in relation to the New Israeli Shekel, it will become more expensive for us to fund our operations in Israel. A revaluation of 1% of the New Israeli Shekel will affect our income before tax by less than one percent (1%)approximately 10%. The exchange rate of the U.S. dollar to the New Israeli Shekel, based on exchange rates published by the Bank of Israel, was as follows:
| Year Ended December 31, | ||||||||||||
| 2013 | 2014 | 2015 | ||||||||||
| Average rate for period | 3.609 | 3.577 | 3.884 | |||||||||
| Rate at year-end | 3.471 | 3.889 | 3.902 | |||||||||
| Year Ended December 31, | ||||||||||||
| 2016 | 2017 | 2018 | ||||||||||
| Average rate for period | 3.840 | 3.599 | 3.597 | |||||||||
| Rate at year-end | 3.845 | 3.467 | 3.748 | |||||||||
Not applicable.
| ITEM 13. | DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES None.
None.
Our interim chief executive officer and chief financial officer, after evaluating the effectiveness of our disclosure controls and procedures as of December 31,
Our management is responsible for establishing and maintaining adequate internal control over our financial reporting and has assessed the effectiveness of our internal control over financial reporting as of December 31,
During the period covered by this report, no changes in our internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) have occurred that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Our board of directors has determined that
Our board of directors has adopted a code of business conduct and ethics (which was
Fees for the professional services rendered by our independent accountants Kost Forer Gabbay & Kasierer, a member of Ernst & Young Global, for each of the last two fiscal years were as follows (in thousands):
Audit fees include fees for professional services rendered by our principal accountant in connection with the annual audit, review of quarterly consolidated financial data, internationally required statutory audits, consents and assistance with review of documents filed with the SEC. Audit-related fees principally include Tax fees include services related to tax compliance All other fees principally include advisory services. Our audit committee None.
Not applicable.
Not applicable. We are a foreign private issuer whose ordinary shares are listed on the Shareholder Approval. Although the 86 In addition, rather than follow the
Shareholder Quorum. The Executive Sessions. While the Approval of Related Party Transactions. Although the Compensation Committee. The
Not applicable. Not applicable. The following financial statements and related auditors’ report are filed as part of this annual report: 88 PERION NETWORK LTD. AND ITS SUBSIDIARIES CONSOLIDATED FINANCIAL STATEMENTS AS OF DECEMBER 31, 2018 IN U.S. DOLLARS INDEX
We have audited the accompanying consolidated balance sheets of Perion Network Ltd. and subsidiaries ("the Company") In our opinion, the consolidated financial statements We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion. /s/ KOST FORER GABBAY & KASIERER A Member of Ernst & Young Global We have served as the Company‘s auditor since 2004. Tel-Aviv, Israel March 19, 2019 F - 2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We have audited Perion Network Ltd. and We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 2018, and the related notes, and our report dated March 19, 2019 expressed an unqualified opinion thereon. Basis for Opinion The We conducted our audit in accordance with the standards of the Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. F - 3
Definition and Limitations of Internal Control Over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. /s/ KOST FORER GABBAY & KASIERER F -
U.S. dollars in thousands (except share data)
The accompanying notes are an integral part of the consolidated financial statements. F - PERION NETWORK LTD. AND ITS SUBSIDIARIES U.S. dollars in thousands (except share and per share data)
The accompanying notes are an integral part of the consolidated financial statements.
The accompanying notes are an integral part of the consolidated financial statements. F - PERION NETWORK LTD. AND ITS SUBSIDIARIES U.S. dollars in thousands (except share data)
The accompanying notes are an integral part of the consolidated financial statements. *) Less than $1
U.S. dollars in thousands
The accompanying notes are an integral part of the consolidated financial statements. F - PERION NETWORK LTD. AND ITS SUBSIDIARIES U.S. dollars in thousands
The accompanying notes are an integral part of the consolidated financial statements. F -
U.S. dollars in thousands (except share and per share data) NOTE 1: GENERAL
Basis of consolidation The consolidated financial statements include the accounts of Perion and its wholly owned subsidiaries. All Use of estimates The preparation of the consolidated financial statements in conformity with U.S. Generally Accepted Accounting Principles (“GAAP”) requires management to make estimates, judgments and assumptions that affect the amounts reported and disclosed in the financial statements and the accompanying notes. Actual results could differ materially from those estimates. On an ongoing basis, the Company's management evaluates its estimates, including those related to Financial statements in U.S. dollars The reporting currency of the Company is the U.S. dollar (“USD”). Major parts of the Company’s operations are carried out by the Company and its subsidiaries in the United States and Israel. The functional currency of these entities is the Management believes that the USD is the currency of the primary economic environment in which the Company operates. The financial statements of other subsidiaries, whose functional currency is determined to be their local currency, have been translated into F - 11 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Cash and cash equivalents and short-term deposits The Company considers all short-term, highly liquid and unrestricted cash balances, with stated maturities of three months or less from date of purchase, as cash equivalents. Short-term deposits are bank deposits with maturities of more than three months but less than one year. The short-term deposits as of December 31, Restricted cash Restricted cash is comprised primarily of security deposits that are held to secure the Company’s hedging activity, lease obligations and certain The Company adopted ASU 2016-18 “Statement of Cash Flows: Restricted Cash”, starting January 1, 2018 in accordance with the retrospective transition method. According to the ASU amounts generally described as restricted cash Accounts receivable and allowance for doubtful accounts Trade accounts receivables are stated at realizable value, net of an allowance for doubtful accounts. The Company Property and equipment Property and equipment are stated at cost, net of accumulated depreciation and amortization. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets at the following annual rates:
Leasehold improvements are amortized using the straight-line method over the term of the lease or the estimated useful life of the improvements, whichever is shorter. Impairment of long-lived assets and intangible assets subject to amortization Property and equipment and intangible assets subject to amortization are reviewed for impairment in accordance with ASC 360, "Accounting for the Impairment or Disposal of Long-Lived Assets", whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. The recoverability of these assets is measured by comparing the carrying amounts to the future undiscounted cash flows the assets are expected to generate. If property and equipment and intangible assets are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the asset exceeds its fair market value. F - 12 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) In determining the fair values of long-lived assets for the purpose of measuring impairment, the Company's assumptions include those that market participants will consider in valuations of similar assets. In Goodwill Goodwill reflects the excess of the purchase price of business acquired over the fair value of net assets acquired. Goodwill is not amortized but instead is tested for impairment, in accordance with ASC 350, “Intangibles – Goodwill and Other”, at the reporting unit level, at least annually at December 31 each year, or more frequently if events or changes in circumstances indicate that the carrying value may be impaired. The majority of the inputs used in the discounted cash flow model to determine the fair value of the reporting units are unobservable and thus are considered to be Level 3 inputs. Intangible assets that are not considered to have an indefinite useful life are amortized over their estimated useful lives. The Deferred Financing Costs Direct and incremental costs related to the issuance of debt are capitalized as deferred financing costs and are deducted from the carrying amount of that debt in the consolidated balance sheets. The Company amortizes deferred financing costs using the effective-interest method and records such amortization as interest expense. Revenue recognition The Company applies the provisions of Accounting Standards Codification 606, Revenue from Contracts with Customers ("ASC 606" or "Topic 606") The Company adopted the provisions of ASC 606 effective January 1, 2018 using the modified retrospective application method for all uncompleted contracts as of that date. The adoption of ASC 606 did not have a material impact on the Company’s consolidated financial statements. In addition, the adoption of ASC 606 had no impact on the Company's accounts receivable and deferred revenues balance as of December 31, 2018 or on the Company's revenues, cost of sales or its operating expenses during 2018, compared to ASC 605. F - 13 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) The Company applies the practical expedient for incremental costs of obtaining contracts when the associated revenues is recognized over less than one year. The Company generates revenues primarily from two major sources: Search Revenues - the Company obtains Advertising Revenues - the Company primarily generates The Company general payments terms are less than one year. Therefore, no finance component is recognized. The Company evaluates whether Search and Advertising Revenues should be presented on a gross basis, which is the amount that a customer pays for the service, or on a net basis, which is the amount of the customer payment less amounts the Company pays to The evaluation of these factors is subject to significant judgment and subjectivity. Generally, Remaining performance obligations (RPOs) represent amounts collected on contracted revenues that had not yet been recognized. As of December 31, 2018, the aggregate amount of the RPOs was $3,794. The Company Contract balances are presented separately on the consolidated balance sheets as either Accounts receivable or deferred revenues. The Company does not have Accounts receivable includes amounts billed and currently due from customers. Deferred revenues are Revenues recognized during 2018 from amounts included within the deferred revenues balance at the beginning of the period amounted to $5,270. F - 14 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Cost of revenues Cost of revenues consists primarily of expenses associated with the operation of the Company’s data centers, including depreciation, labor, energy and bandwidth costs, Customer acquisition costs and media buy Customer acquisition costs and media buy Research and development costs Research and development costs are charged to the statement of income as incurred, except for certain costs relating to internally developed software, which are capitalized. The Company capitalizes certain internal and external software development costs, consisting primarily of direct labor associated with creating the internally developed software. Software development projects generally include three stages: (i) the preliminary project stage (all costs expensed as incurred); (ii) the application development stage (costs are capitalized) and (iii) the post implementation/operation stage (all costs expensed as incurred). The costs capitalized in the application development stage primarily include the costs of designing the application, coding and testing of the system. Capitalized costs are amortized Capitalized software development costs, net of accumulated amortization, of $9,195 and $8,212 are included in property and equipment in the consolidated balance sheets as of December 31, 2017 and 2018, respectively (see Note 5). Income taxes The Company accounts for income taxes in accordance with ASC 740, "Income Taxes". This Statement prescribes the use of the liability method, whereby deferred tax asset and liability account balances are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. To the extent necessary, the Company provides a valuation allowance to reduce deferred tax assets to their estimated realizable value. The Company accounts for uncertain tax positions in accordance with ASC 740, which contains a two-step approach for recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position taken or expected to be taken in a tax return by determining if the weight of available evidence indicates that it is more likely than not that the tax position will be sustained on audit, including resolution of any related appeals or litigation processes. The second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. The Company accrued interest and penalties related to unrecognized tax benefits in its financial expenses. F - 15 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Severance pay liability that would otherwise be payable under the law as aforementioned. Upon contribution to a fund, based on the full amount of the employee's monthly salary, and release of the The Company's liability for severance pay to its Israel-based employees not under Section 14, is calculated pursuant to Israel's Severance Pay Law based on the most recent monthly salaries of such employees, multiplied by the number of years of their employment, or a portion thereof, as of the balance sheet date. This liability is fully provided for by monthly deposits in insurance policies and by an accrual. The deposited funds include profits and losses accumulated up to the balance sheet date and they may be withdrawn only upon the fulfillment of the obligation pursuant to Israel's Severance Pay Severance expenses from continuing operations for the years ended December 31, Employee benefit plan The Company’s U.S. operations maintain a retirement plan (the “U.S. Plan”) that qualifies as a deferred salary arrangement under Section 401(k) of the Internal Revenue Code. Participants in the U.S. Plan may elect to defer a portion of their pre-tax earnings, up to the Internal Revenue Total employer 401(k) contributions for the years ended December 31, Comprehensive income (loss) The Company accounts for comprehensive income (loss) in accordance with ASC 220, "Comprehensive Income". This statement establishes standards for the reporting and display of comprehensive income and its components in a full set of general purpose financial statements. Comprehensive income generally represents all changes in shareholders' equity during the period except those resulting from investments by, or distributions to, shareholders. The Company determined that its other comprehensive income (loss) relates to hedging derivative instruments and foreign currency F - 16 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Net earnings per share In accordance with ASC 260, "Earnings Per Share", basic net earnings per share ("Basic EPS") is computed by dividing net earnings attributable to ordinary shareholders by the weighted average number of ordinary shares outstanding during the period. Diluted net earnings per share ("Diluted EPS") reflects the potential dilution that could occur if The weighted average number of ordinary shares related to the outstanding options, restricted shares, convertible debt and warrants excluded from the calculations of diluted net earnings per ordinary share, as these securities are anti-dilutive, was Concentrations of credit risk Financial instruments, The majority of the Company’s cash and cash equivalents, bank deposits and restricted cash are invested in USD instruments with major banks in the U.S. and Israel. Deposits in the U.S. may be in excess of insured limits and are not insured in other jurisdictions. Generally, these deposits may be redeemed upon demand and, therefore, bear minimal risk. The Company’s major customers are financially sound, and the Company believes low credit risk is associated with these customers. To date, the Company has not experienced any material bad debt losses. Total expenses for doubtful debts during The Company accounts for The Company recognizes compensation expenses for the value of its awards, which have graded vesting based on service conditions, using the F - 17 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) The Company accounted for changes in award terms as a modification in accordance with ASC 718. A modification to the terms of an award should be treated as an exchange of the original award for a new award with total compensation cost equal to the grant-date fair value of the original award plus the incremental value measured at the same date. Under ASC 718, the calculation of the incremental value is based on the excess of the fair value of the new (modified) award based on current circumstances over the fair value of the original award measured immediately before its terms are modified based on current circumstances. The following table presents the various assumptions used to estimate the fair value of the Company's
The share. The expected option term represents the period that the Company’s The risk-free interest rate is based on the yield from U.S. Treasury zero-coupon bonds, with a term which is equivalent to the expected term of the The fair value of restricted In March 2016, the FASB issued ASU 2016-09, Compensation - Stock Compensation (Topic 718), Improvements to Employee Share-Based Payment Accounting. The Company adopted ASU 2016-09 on January 1, 2017 and chose to continue to use the current method of estimating forfeitures each period rather than accounting for forfeitures as they occur. The adoption of the new standard had no material impact on the Company's consolidated financial statements. Derivative instruments The Company accounts for derivatives and hedging based on ASC 815, "Derivatives and Hedging", which requires recognizing all derivatives on the balance sheet at fair value. If the derivatives meet the definition of a cash flow hedge and are so designated, depending on the nature of the hedge, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income and reclassified into earnings in the same period, or periods, during which the hedged transaction affects earnings. The ineffective portion of a derivative’s change in fair value, if any, is recognized in earnings, as well as gains and losses from a derivative’s change in fair value that are not designated as hedges are recognized in earnings immediately. PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) In order to mitigate the potential adverse impact on cash flows resulting from fluctuations in the exchange rate of the new Israeli shekels (“ILS”), the Company To protect against the increase in value of forecasted foreign currency cash flow resulting mainly from salaries and related benefits and taxes paid in ILS during the year, the Company hedges portions of its anticipated payroll denominated in ILS for a period of one to twelve months with forward and options contracts (the “Hedging Contracts”). Accordingly, when the USD strengthens against the ILS, the decline in present value of future ILS currency expenses is offset by losses in the fair value of the Hedging Contracts. Conversely, when the USD weakens, the increase in the present value of future ILS expenses is offset by gains in the fair value of the Hedging Contracts. These Hedging Contracts are designated as cash flow hedges. The Additionally, in order to mitigate the potential adverse impact of the fluctuations in the ILS-USD exchange rate in connection with the convertible debt (see Note 10), the Company has entered into a cross currency interest rate SWAP agreement (the “SWAP”) in order to hedge the future interest and principal payments, which are all denominated in ILS. However, since the convertible debt is measured at fair value at each reporting date, the SWAP does not qualify and was not designated as In order to limit the Company’s interest expenses derived from the secured credit agreement in which the Company entered concurrently with the closing of the Undertone acquisition (see Note 4), the Company has purchased a Cap Option for the interest amounts expected to be paid till June 2018. The cap option is designated as cash flow hedge under ASC 815. The notional value of the Company’s derivative instruments as of December 31, Fair value of financial instruments The carrying amounts of financial instruments carried at cost, including cash and cash equivalents, short-term deposits, restricted cash, accounts receivable, prepaid expenses and other assets, accounts payable, accrued expenses and other liabilities approximate their fair value due to the short-term maturities of such instruments. F - 19 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) The Company follows the provisions of ASC No. 820, “Fair Value Measurement” (“ASC 820”), which defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In determining a fair value, the Company uses various valuation approaches. ASC 820 establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing an asset or liability, based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect assumptions that market participants would use in pricing an asset or liability, based on the best information available under given circumstances. The hierarchy is broken down into three levels, based on the observability of inputs and assumptions, as follows:
Treasury shares In the past, the Company repurchased its ordinary shares on the open market. The Company holds Business combinations The Company accounted for business combination in accordance with ASC 805, "Business Combinations". ASC 805 requires recognition of assets acquired, liabilities assumed, and any non-controlling interest at the acquisition date, measured at their fair values as of that date. Any excess of the fair value of net assets acquired over purchase price is allocated to goodwill and any subsequent changes in estimated contingencies are to be recorded in earnings. In addition, changes in valuation allowance related to acquired deferred tax assets and in acquired income tax position are to be recognized in earnings. Acquisition related costs are expensed to the statement of income in the period incurred. Discontinued operations Under ASC 205, "Presentation of Financial Statements - Discontinued Operation", when a component of an entity, as defined in ASC 205, has been disposed of or is classified as held for sale, the results of its operations, including the gain or loss on its disposal are classified as discontinued operations and the assets and liabilities of such component are classified as assets and liabilities attributed to discontinued F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Depreciation expenses from discontinued operations totaled $71 and $0 and $0, for the years ended December 31, 2016, 2017 and 2018, respectively. (*) Represent the results of the discontinued operations until their disposal. Reclassifications Certain items of expense have been reclassified to conform to current year financial statement presentation. Recent Accounting Pronouncements not yet adopted In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2016-02 (Topic 842) "Leases." Topic 842 supersedes the lease requirements in Accounting Standards Codification (ASC) Topic 840, "Leases." Under Topic 842, lessees are required to recognize assets and liabilities on the balance sheet for most leases and provide enhanced disclosures. Leases will continue to be classified as either finance or operating. This ASU is effective for annual periods beginning after December 15, 2018. The provisions of ASU 2016-02 are to be applied using a modified retrospective approach. In July 2018, the FASB issued Accounting Standards Update 2018-11, Leases (Topic 842). This update provides entities with an additional (and optional) transition method to adopt the new leases standard. Under this method, an entity initially applies the new leases standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Consequently, the prior comparative period’s financials will remain the same as those previously presented. The Company has elected to apply the guidance at the beginning of the period of adoption and not restate comparative periods. The Company expects that the adoption of this standard will have a material effect on its consolidated financial statements. While the Company continues to assess all the effects of adoption, it currently believes that the most significant impact will be reflected in: (i) the recognition of new ROU assets and lease liabilities on the consolidated balance sheet for its operating leases of buildings, and vehicles, and (ii) the requirement to provide significant new disclosures regarding the Company's leasing activities. The Company, however, does not expect a material impact to its consolidated statements of income and consolidated statements of cash flow since the expense recognition under this new standard will be similar to current practice. The Company's financial income (expenses), net will be impacted by the revaluation of the lease liabilities in non-USD denominated currencies. F - 21 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Following adoption of the new standard, the Company expects to recognize additional operating liabilities of $25,800, with corresponding ROU assets of approximately the same amount based on the present value of the remaining minimum rental payments under current leasing standards for existing operating leases. The Company expects to elect the short-term lease recognition exemption for all leases that qualify. This means, for those leases, the Company will not recognize ROU assets or lease liabilities. In August 2017, the FASB issued ASU In In June 2018, the FASB issued ASU 2018-07 “Improvement to Nonemployee Share-Based Payments Accounting”. This guidance simplifies the accounting for non-employee share-based payment transactions. The amendments specify that ASC 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The guidance is In August 2018, the FASB issued ASU 2018-13 “Fair Value Measurement (Topic 820)—Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement”. This guidance removes certain disclosure requirements related to the fair value hierarchy, modifies existing disclosure requirements related to measurement uncertainty and adds new disclosure requirements. The new disclosure requirements include disclosing the changes in unrealized gains and losses for the period included in other comprehensive income for recurring Level 3 fair value measurements held at the end of the reporting period and the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements. Certain disclosures required by this guidance must be applied on a retrospective basis and others on a prospective basis. The guidance will be effective for fiscal years beginning after December 15, 2019, although early adoption is permitted. The Company is currently evaluating this guidance to determine the impact it may have on its consolidated financial statements. F - 22 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The following table present assets and liabilities measured at fair value on a recurring basis as of December 31, 2018:
The following table present assets and liabilities measured at fair value on a recurring basis as of December 31, 2017:
On November 30, 2015, F - 23 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
On February 10, 2015, the Company consummated the acquisition of 100% of the shares of Make Me Reach SAS, a private French
Depreciation and amortization During 2017 and 2018, the Company capitalized software development costs of $5,756 (including $31 of share-based compensation) and $1,756, respectively. Amortization expense for the F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
The changes in the net carrying amount of goodwill in
Goodwill has been recorded as a result of prior acquisitions and represents excess of the consideration over the net fair value of the assets of the businesses acquired. As of December 31, 2018, the Company has two reporting units – Undertone and Search monetization. The Company performs tests for impairment of goodwill at the reporting unit level at least annually, or more frequently if events or changes in circumstances occur that would more likely than not reduce the fair value of a reporting unit below its carrying value. In 2017 the Company recorded an impairment charge of $65,686, classified as “Impairment charges” in the consolidated statements of income. No such impairment charges were recorded in 2018. F - 25 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
The following is a summary of intangible assets as of December 31,
The following is a summary of intangible assets as of December 31,
*) Calculated based on the Income approach (discounted cash flow model), using a discount rate of 15.7% F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The estimated useful life of the intangible assets are as follows:
Amortization of intangible assets, net, in each of the succeeding five years and thereafter is estimated as follows:
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The fair value of the Company’s outstanding derivative instruments is as follows:
The net losses reclassified from accumulated other comprehensive
F - 28 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
According to the credit agreement, Undertone had the option for prepayment to be applied to principal installments as specified by Undertone. In each of 2016 and 2017, Undertone prepaid $5,000 (together $10,000), which were applied to the final principal upon maturity. In November 2017, Undertone opted to exercise its equity cure right to cure certain financial covenant defaults for the fiscal quarter ending September 30, 2017. To this extent, Undertone paid $1,580 which was applied to subsequent amortization payments in the direct order of maturity. In connection with the exercise of the equity cure, Undertone paid an additional $264 which was amortized in the same manner as the debt issuance costs.
F - 29 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) As of December 31,
In September 2014, the Company completed a public offering in Israel of its Series L Convertible Bonds (the "Bonds"), with an aggregate par value of approximately ILS 143,500, The Bonds are convertible, at the election of each holder, into the Company’s ordinary shares at a conversion price of ILS The Company may redeem the Bonds upon delisting of the Bonds from the TASE, subject to certain conditions. In addition, the Company may redeem the Bonds or any part thereof at its discretion after December 1, 2014, subject to certain conditions. The Company elected to apply the fair value option in accordance with ASC 825, “Financial Instruments”, to the Bonds and therefore all unrealized gains and losses are recognized in earnings. As of December 31, F - 30 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) The changes of the long-term convertible debt in
In order to mitigate the potential adverse impact of the fluctuations in the ILS-USD exchange rate, the Company As of December 31, As of December 31,
In January 2014, the Company entered into a lease agreement for new corporate offices in Holon, Israel. The lease expires in January 2025, with an option by the Company to extend for two additional terms of 24 months each. Additionally, the Company may exercise an early termination of the lease in November 2019 and will pay the amount of the construction budget which was utilized. In June 2018, Undertone entered into a lease agreement for its office at World Trade Center (WTC) New York. The lease expires in May 2026. Additionally, the Company may choose an early termination in 2023. Certain other facilities of the Company are rented under operating lease agreements, which expire on various dates, the latest of which is in F - 31 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) Furthermore, the Company leases motor vehicles for employees under operating lease agreements. Aggregate minimum lease commitments under the aforesaid non-cancelable operating leases as of December 31,
Facilities leasing expenses from continued operations in the years
On November 30, 2012, the Company completed the acquisition of 100% of Sweet IM’s shares. Pursuant to the terms of the Share Purchase Agreement (“SPA”) between the Company and SweetIM, the Company was obligated to pay SweetIM's shareholders, among other payments, a payment of up to On December 22, 2015, Adtile Technologies Inc. filed a lawsuit against the Company and Intercept Interactive Inc. (“Intercept”), a subsidiary of Interactive Holding Corp., in the United States District Court for the District of Delaware. The lawsuit alleges various causes of action against Perion and Undertone related to Undertone’s alleged unauthorized use and misappropriation of Adtile’s proprietary information and trade secrets. Adtile is seeking injunctive relief and, unspecified monetary damages. On June 23, 2016, the court denied Adtile’s motion for a preliminary injunction. On June 24, 2016, the court (i) granted the Company’s motion to dismiss, and (ii) granted Intercept’s motion to stay the action and compel arbitration. In November 2017, the court dismissed the case for administrative reasons, since Adtile had not commenced arbitration proceedings. The Company is still unable to predict the outcome or range of possible loss as of the date of these financial statements, since to date Adtile had not commenced arbitration procedures. Regardless, the Company believes it has strong defenses against this lawsuit and intends to defend against it vigorously. F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
On August 2, 2018 the Company's Shareholders' approved a 3:1 “Reverse Share Split” of its Ordinary shares, which became effective on August 26, 2018. The accompanying consolidated financial statements and notes give retroactive effect to the reverse share split for all periods presented. All fractional shares created by the Reverse Share Split have been rounded down to the nearest whole share.
On December 3, 2015 (the “Effective date”), the Company completed a private placement of 4,436,898 ordinary shares for gross proceeds of $10,125 pursuant to a Securities Purchase Agreement (the “SPA”) with On November 30, 2015, the Company entered into a Registration Rights Agreement (the "Agreement") with the F - 33 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
The contractual term of the As of December 31, The following table summarizes the activities for the Company’s service-based
The weighted-average grant-date fair value of options granted during the years ended December 31, The aggregate intrinsic value of the outstanding The number of options expected to vest F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes the activities for the Company’s performance-based
The performance based The number of options expected to vest The following table summarizes additional information regarding outstanding and exercisable
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The Company recognized share-based compensation expenses related to its
As ofDecember 31,
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Income (Loss) before taxes on income is comprised as follows:
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Taxes on income are comprised as follows:
Taxes on income by jurisdiction were as follows:
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The significant components of the Company’s deferred tax assets and liabilities are as follows:
The $462 change in the total valuation allowance for the year ended December 31, 2018, relates to the increase in deferred taxes on operating loss carry-forwards and temporary differences for which a full valuation allowance was recorded. F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
A reconciliation between the theoretical tax expense, assuming all income is taxed at the statutory tax rate applicable to income of the Company, and the actual tax expense as reported in the statement of income is as follows:
Taxable income of Israeli companies Non-Israeli subsidiaries are taxed according to the tax laws in their respective countries of residence. The amount of undistributed earnings of foreign subsidiaries is immaterial. F - 40 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
The Law for Encouragement of Capital Investments, 1959 (the "Investment Law") provides tax benefits for The Israeli parliament enacted a reform to the Investment Law, effective January The Company’s Israeli operations elected “Preferred Enterprise” status, Benefits granted to a Preferred Enterprise include reduced tax rates. A distribution from a Preferred Enterprise out of the "Preferred Income" would be subject to 15% withholding tax for Israeli-resident individuals and non-Israeli residents (subject to applicable treaty rates), or 20% for dividends which are distributed on or after January 1, 2014 and from
In Any dividends distributed deriving from income from the The Company assessed the criteria for qualifying to a “Preferred Technological Enterprise,” status and concluded that the Israeli entity is entitled to the above-mentioned benefits. The Company implemented the new incentives in F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
The
The Company believes that it has adequately provided for any reasonably foreseeable outcome related to tax audits and The Company’s tax assessments in Israel and the U.S. for tax years prior to
As of December 31, Net operating losses in the U.S. may be carried forward through periods which will expire in the years starting from As of December 31, As of December 31, 2018, Perion F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data)
On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “TCJA”). The TCJA makes broad and complex changes to the Code. The changes include, but are not limited to:
In March 2018, the FASB issued Accounting Standards Update No. 2018-05, "Income Taxes Topic (740): Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118" ("ASU 2018-05") to address situations when a registrant does not have the necessary information available, prepared or analyzed (including computations) in reasonable detail to complete the accounting for certain income tax effects of the TCJA. The Company included a $836 provisional estimate for the expected impact of the TCJA as of December 31, 2017, mainly in respect of the corporate rate reduction. During 2018, the Company completed its analysis of the impacts of the Act with an immaterial impact . F - 43 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) NOTE 15: EARNINGS PER SHARE The table below presents the computation of basic and diluted net earnings per common share:
F - PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
NOTE
NOTE 17: MAJOR CUSTOMERS A substantial portion of the Company's revenue is derived from search fees and online advertising, the market for which is highly competitive and rapidly changing. Significant changes in this industry or in customer buying behavior The following table sets forth the customers that
NOTE 18: GEOGRAPHIC INFORMATION The Company operates as one operating segment. Operating segments are defined as components of an enterprise for which separate financial information is evaluated regularly by the The following table presents the total revenues for the years ended December 31,
F - 45 PERION NETWORK LTD. AND ITS SUBSIDIARIES NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS U.S. dollars in thousands (except share and per share data) The total revenues are attributed to geographic areas based on the location of the end-users. The following table presents the locations of the Company’s property and equipment as of December 31,
F - 46
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SIGNATURES The registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual report on its behalf.
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