Business context and reporting period
Immersion Corporation develops and licenses haptic technologies for mobile and consumer electronics, gaming, automotive, industrial and medical applications. This Form 10-Q covers the quarter and nine months ended September 30, 2011; amounts below are in millions of dollars unless stated otherwise. The company operated as one reportable segment. Its business increasingly depended on licensing and royalties following the 2010 sale of certain medical simulation product lines.
Financial performance and position
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Revenue | $6.50 | $6.55 | $22.95 | $24.73 |
| Operating loss | $(1.04) | $(0.95) | $(0.28) | $(2.86) |
| Loss from continuing operations | $(1.41) | $(1.22) | $(1.40) | $(3.75) |
| Net loss | $(1.41) | $(1.13) | $(1.33) | $(3.61) |
| Basic and diluted loss per share | $(0.05) | $(0.04) | $(0.05) | $(0.13) |
Q3 operating margin was approximately -16%; nine-month operating margin was approximately -1%. Cost of revenues was 3% of revenue in Q3 and 4% for the nine months, before separately reported intangible amortization and impairment. Royalty and license revenue was $5.88 million in Q3 (90% of revenue) and $20.11 million for the nine months (88%).
At September 30, cash and cash equivalents were $14.51 million and short-term investments were $48.98 million, totaling $63.49 million. Current assets were $65.89 million and current liabilities $8.86 million. Total liabilities were $23.67 million; the filing reports no debt balance. Stockholders’ equity was $57.28 million.
For the nine months, operating cash flow was positive $2.18 million, investing cash flow was negative $2.30 million and financing cash flow was positive $2.39 million; cash increased $2.27 million. Operating cash flow benefited in part from a $3.1 million increase in prepaid expenses and other current assets, primarily reflecting a tax refund, and included $2.7 million of noncash stock-based compensation.
Material changes versus prior comparable periods
- Q3 revenue fell 1% year over year: royalty and license revenue rose 14%, while product sales fell 72%, mainly due to weaker medical product demand and a customer’s inventory rebalancing.
- Nine-month revenue declined 7%. Royalty and license revenue increased 13%, but product sales fell 69%, principally reflecting the CAE divestiture and lower medical product sales.
- The Q3 continuing-operations loss widened to $1.41 million from $1.22 million, with management citing higher research and development expense and foreign withholding taxes.
- The nine-month continuing-operations loss narrowed to $1.40 million from $3.75 million, primarily due to lower general and administrative costs, reduced expenses following the divestiture, personnel reductions and other cost savings.
- General and administrative expense declined 21% for the nine months, while intangible amortization and impairment/abandonment expense rose 56% to $1.02 million.
Outlook, risks and unusual items
- Management expected royalty and licensing revenue to remain the primary revenue source for the rest of 2011, anticipated reduced product sales, and planned continued investment in research and development. It noted typical seasonality, with first-quarter revenue generally higher due to licensees’ holiday sales reporting.
- Management believed cash, cash equivalents and short-term investments would cover working-capital needs for at least 12 months. It expected 2011 property and equipment spending below $0.5 million and patent filing/application cost capitalization of approximately $3 million.
- The board approved resuming repurchases under the existing authorization; approximately $31.4 million remained available at September 30. The company repurchased 31,214 shares for about $188,000 during the quarter.
- The company agreed to terminate its approximately 48,000-square-foot San Jose facility lease effective December 31, 2011, conditional on vacating by that date, in exchange for $350,000. It signed a new lease for approximately 33,000 square feet through December 2016, with an extension option through December 2021.
- Income tax expense continued despite pretax losses, primarily because of foreign withholding taxes. The company maintained a full valuation allowance against deferred tax assets and reported $673,000 of unrecognized tax benefits, including interest; approximately $244,000 could affect the effective tax rate if recognized.
- Pending securities and derivative litigation remained unresolved; the company said it could not predict outcomes or estimate potential liability. It also disclosed intellectual-property claims and indemnification obligations whose maximum exposure it could not estimate.
- Key risks include customer and licensee concentration (three customers generated approximately 45% of Q3 revenue), dependence on licensees’ product sales and market acceptance, competition, litigation and intellectual-property protection, and macroeconomic and product-launch uncertainty. Management reported disclosure controls were effective and no material quarterly change in internal controls.
Important facts for investors to verify
- Whether growth in mobility and gaming royalties can offset continued medical product weakness, and how much revenue depends on a small number of customers and licensees.
- The sustainability and composition of positive operating cash flow, particularly the effect of the tax refund and changes in deferred revenue and accrued liabilities.
- Cash available after planned repurchases, patent spending, lease commitments and any future acquisitions; confirm the company’s stated 12-month liquidity assessment.
- Progress and potential exposure in the pending securities, derivative and shareholder records-inspection matters, plus any changes in tax contingencies.
- Whether planned research and development investment and patent portfolio costs translate into new design wins, licensing agreements and recurring royalties.