e10vk
UNITED
STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-K
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(Mark One)
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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For the fiscal year ended
December 31, 2008.
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OR
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
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Commission File Number:
000-24643
DIGITAL RIVER, INC.
(Exact name of registrant as
specified in its charter)
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DELAWARE
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41-1901640
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(State or other jurisdiction
of
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(I.R.S. Employer
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Incorporation or
organization)
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Identification No.
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9625 WEST 76TH STREET
EDEN PRAIRIE, MINNESOTA 55344
(Address of principal
executive offices)
(952) 253-1234
(Registrants telephone
number, including area code)
Securities registered pursuant to Section 12(b) of the
Act:
Name of each Exchange on which registered:
Common Stock $0.01 par value Nasdaq Global Select
Market
Securities registered pursuant to Section 12(g) of the
Act:
None
Indicate by checkmark if the registrant is a well-known seasoned
issuer as defined in Rule 405 of the Securities
Act. Yes þ No o
Indicated by checkmark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act. Yes o No þ
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been
subject to filing requirements for the past
90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of registrants knowledge, in definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. o
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated
filer, or a smaller reporting company. See the definitions of
large accelerated filer, accelerated
filer and smaller reporting company in
Rule 12b-2
of the Exchange Act. (Check one):
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Large accelerated
filer þ
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Accelerated
filer o
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Non-accelerated
filer o
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Smaller reporting
company o
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(Do not check if a smaller reporting company)
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Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the
Act). Yes o No þ
As of June 30, 2008, there were 36,959,613 shares of
Digital River, Inc. common stock, issued and outstanding. As of
such date, based on the closing sales price as quoted by The
Nasdaq Global Select Market, 36,352,219 shares of common
stock, having an aggregate market value of approximately
$1,402,469,000 were held by non-affiliates. For purposes of the
above statement only, all directors and executive officers of
the registrant are assumed to be affiliates.
The number of shares of common stock outstanding at
February 2, 2009 was 37,034,913 shares.
DOCUMENTS
INCORPORATED BY REFERENCE
Certain sections of the Registrants definitive Proxy
Statement for the 2009 Annual Meeting of Stockholders are
incorporated by reference in Part III of this
Form 10-K
to the extent stated herein.
CAUTIONARY
STATEMENT PURSUANT TO THE PRIVATE SECURITIES LITIGATION REFORM
ACT OF 1995
This Annual Report on
Form 10-K
contains certain forward-looking statements within the meaning
of Section 27A of the Securities Act of 1933, as amended,
and Section 21E of the Securities Exchange Act of 1934, as
amended. All statements, other than statements of historical
fact, regarding our strategy, future operations, financial
position, estimated revenue, projected costs, projected savings,
prospects, plans, opportunities and objectives constitute
forward-looking statements. The words
may, will, expect,
plan, anticipate, believe,
estimate, potential, or
continue and similar types of expressions identify
forward-looking statements, although not all such statements
contain these identifying words. These
forward-looking
statements are based upon information that is currently
available to us
and/or
managements current expectations, speak only as of the
date hereof, and are subject to risks and uncertainties. We
expressly disclaim any obligation, except as required by law, or
undertaking to update or revise any forward-looking statements
contained or incorporated by reference herein to reflect any
change or expectations with regard thereto or to reflect any
change in events, conditions, or circumstances on which any such
forward-looking statement is based, in whole or in part. Our
actual results may differ materially from the results discussed
in or implied by such forward-looking statements. We are subject
to a number of risks, some of which may be similar to those of
other companies of similar size in our industry, including
pre-tax losses, rapid technological changes, competition,
limited number of suppliers, customer concentration, failure to
successfully integrate acquisitions, adverse government
regulations, failure to manage international activities, and
loss of key individuals. Risks that may affect our operating
results include, but are not limited to, those discussed in
Part I Item 1A, titled Risk Factors.
Readers should carefully review the risk factors described in
this document and in other documents that we file from time to
time with the Securities and Exchange Commission.
PART I
Overview
We provide end-to-end global
e-commerce
solutions to a wide variety of companies in software, consumer
electronics, computer games, video games, and other markets. We
were incorporated in 1994 and began building and operating
online stores for our clients in 1996. We offer our clients a
broad range of services that enable them to quickly and cost
effectively establish an online sales channel capability and to
subsequently manage and grow online sales on a global basis
while mitigating risks. Our services include design, development
and hosting of online stores and shopping carts, store
merchandising and optimization, order management, denied parties
screening, export controls and management, tax compliance and
management, fraud management, digital product delivery via
download, physical product fulfillment, subscription management,
multi-lingual customer service, online marketing including
e-mail
marketing, management of paid search programs, payment
processing services, website optimization, web analytics and
reporting, and CD production and delivery.
Our products and services allow our clients to focus on
promoting and marketing their brands while leveraging our
investments in technology and infrastructure to facilitate the
purchase of products through their online websites. When
shoppers visit one of our clients branded websites and
purchase goods, they are transferred to an
e-commerce
store and /or shopping cart operated by us on our
e-commerce
platforms. Once on our system, shoppers can browse for products
and make purchases online. We typically are the seller of record
for transactions through our client branded stores. After a
purchase is made, we either deliver the product digitally via
download over the Internet or transmit instructions to a third
party for physical fulfillment of the order. We also process the
buyers payment as the merchant of record, including
collection and remittance of applicable taxes, and can provide
customer service in multiple languages to handle order-related
questions. We believe we are an example of a trend known as
Software as a Service (SaaS). We have invested
substantial resources to develop our
e-commerce
software platforms and we provide access and use of
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our platforms to our clients as a service as opposed to selling
the software to be operated on their own in-house computer
hardware.
In addition to the services we provide that facilitate the
completion of an online transaction, we also offer services
designed to increase traffic to our clients websites and
the associated online stores and to improve the sales
productivity of those stores. Our services include paid search
advertising, search engine optimization, affiliate marketing,
store optimization, multi-variant testing, web analytic services
and e-mail
optimization. All of our services are designed to help our
clients acquire customers more effectively, sell to those
customers more often and more efficiently, and increase the
lifetime value of each customer.
Our clients include many of the largest software, consumer
electronics, computer and video game companies, including
Absolute Software Corporation, Adobe Systems, Inc., Aspyr Media,
Inc., Autodesk, Inc., Canon Europa N.V., Computer Associates,
Cyber Patrol, LLC, Eastman Kodak Company, Electronic Arts, Inc.,
Lexmark, Inc., Microsoft Corporation, Nuance Communications Inc,
SanDisk Corporation, Smith Micro Software, Inc., Symantec
Corporation, and Trend Micro, Inc.
We were incorporated in Delaware in February 1994. Our
headquarters are located at 9625 West 76th Street,
Eden Prairie, Minnesota and our telephone number is
952-253-1234.
General information about us can be found at
www.digitalriver.com under the Company/Investor
Relations link. Our annual report on
Form 10-K,
quarterly reports on
Form 10-Q
and current reports on
Form 8-K,
as well as any amendments or exhibits to those reports, are
available free of charge through our website as soon as
reasonably practicable after we file them with the Securities
and Exchange Commission.
Industry
Background
Growth of the Internet and
E-Commerce. E-Commerce
sales continue to grow. The U.S. Commerce Department
reported that
e-commerce
sales in 2008 rose 4.6% compared to 2007. We believe there are a
number of factors that are contributing to the continued growth
of
e-commerce:
(i) adoption of the Internet continues to increase
globally; (ii) broadband technology is increasingly being
used to deliver Internet service enabling the delivery of richer
content as well as larger files to consumers;
(iii) Internet users are becoming increasingly comfortable
with the process of buying products online; (iv) the
functionality of online stores continues to improve, offering a
broader assortment of payment options with more promotion
alternatives; (v) businesses are placing more emphasis on
their online channel, reaching a larger audience at
comparatively lower costs than other methods; and
(vi) concerns about conflicts between online and
traditional sales channels continue to subside. Additionally, we
believe that current economic conditions have led to increased
retail store closings which should drive more shoppers online as
they shift to other channels, filling the void created by retail
downsizings and bankruptcies.
Growing Interest in Direct Sales of Products to
Consumers. Increasingly, companies are selling
their products directly to consumers via online sales channels.
This is due to increased competition for shelf space in the
traditional retail channels as well as recognition that direct
sales channels can co-exist with traditional sales channels.
There is also a growing recognition of the value inherent in
developing behavioral or personalized marketing campaigns
relevant to a consumers interests.
Opportunities for Outsourced
E-Commerce. We
believe the market for outsourced
e-commerce
will continue to grow as there are advantages to outsourced
e-commerce
that will continue to make it an attractive alternative to
building and maintaining this capability in-house. These
advantages include: (i) eliminating the substantial
up-front and ongoing costs of computer hardware, network
infrastructure, specialized application software and training
and support costs; (ii) reducing the time it takes to get
online stores live and productive; (iii) shifting the
ongoing technology, financial, personal information security
protections, regulatory and compliance risks to a proven service
provider; (iv) leveraging the direct marketing expertise of
an
e-commerce
service provider to accelerate growth of an online business; and
(v) allowing businesses to focus on their specific core
competencies.
Once an online store is established, it is immediately
accessible to Internet users around the world. Web pages must be
presented and customer service inquiries handled in multiple
languages, and a variety of
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currencies and payment options must be accepted. The appropriate
taxes must be collected and paid, payment fraud risk mitigated,
fulfillment provided, and assurances made that products are not
shipped to banned locations. These and other requirements of a
global
e-commerce
system make it an expensive and potentially risky undertaking
for any business. These factors also make a comprehensive
outsourced offering, such as that provided by Digital River, an
attractive alternative.
Shift from Physical to Electronic Delivery of
Software. Consumers have grown increasingly
comfortable with the electronic delivery of digital products,
such as software,
e-books,
computer games, video games, music, and video. This shift from
physical to electronic delivery is being driven by benefits to
both buyers and sellers of these products. For buyers,
downloaded products are immediately available for use and a
wider variety of products are available than can be found in
most retail stores. For sellers, electronic delivery eliminates
inventory-stocking requirements, shipping, handling, storage and
inventory-carrying costs as well as the risk of product
obsolescence.
The
Digital River Solution
Our solution combines a robust
e-commerce
technology platform and a suite of services to help businesses
worldwide grow their online revenues and avoid the costs and
risks of running an integrated global
e-commerce
operation in-house. We offer a comprehensive
e-commerce
solution that operates seamlessly as part of a clients
website. We provide services that facilitate
e-commerce
transactions and drive traffic to our clients online
stores. Our services include design, development and hosting of
online stores, merchandising, order management, fraud prevention
screening, popular online payment methods, export controls and
management, denied parties screening, tax compliance and
management, digital product delivery via download, physical
product fulfillment, CD production, multi-lingual customer
service, subscription management, online marketing services
including email marketing, paid search program management,
website optimization, web analytics and reporting. We also
provide our clients with increased product visibility and sales
opportunities through our large network of online channel
partners, including retailers and affiliates. We generate a
significant proportion of our revenue on a revenue-share basis,
meaning that we are paid a percentage of the selling price of
each product sold at a clients online store that is being
managed by Digital River. We believe this revenue share model
aligns our interests with those of our clients.
Benefits
to Clients
Reduced
Total Cost of Ownership and Risk
Utilizing the Digital River solution, businesses can
dramatically reduce or eliminate upfront and ongoing hardware,
software, maintenance and support costs associated with
developing, customizing, deploying, maintaining and upgrading an
in-house global
e-commerce
solution. They can have a global
e-commerce
presence without assuming the costs and risks of internal
development and leverage the investments we make in our
e-commerce
system. In addition, we help mitigate the risks of global
e-commerce,
including risks associated with payment fraud, data security,
tax compliance, and regulatory compliance. Our ongoing
investments in the latest technologies and
e-commerce
functionality help ensure our clients maintain pace with
industry advances.
Revenue
Growth
We can assist our clients in growing their online businesses by
(i) facilitating the acquisition of new customers,
improving the retention of existing customers, and increasing
the lifetime value of each customer; (ii) extending their
businesses into international markets; and (iii) expanding
the visibility and sales of their products through new online
sales channels. We have developed substantial expertise in
online marketing and merchandising which we apply to help our
clients increase traffic to their online stores, and improve
order close ratios, average order sizes and repeat purchases,
all of which result in higher revenues for our clients and
Digital River.
We provide the technology and services required to establish,
grow and support international sales, both for U.S-based clients
seeking to reach customers overseas, and
non-U.S.-based
clients looking to access the
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U.S. and other markets. Our technology platform enables
transactions to be completed in numerous currencies using a
variety of payment methods. In addition, we provide localized
online content and payment methods, and offer customer service
in a variety of languages, extending our clients reach
beyond their home markets.
Through our large online affiliate network marketplace, which we
call
oneNetworkDirecttm,
we provide our clients access to a new sales channel which can
help grow their online businesses. Clients can offer any part of
their product catalogs to our network of online channel
partners, including online retailers and affiliates. This
increases the exposure these products receive and can result in
higher sales volumes. Our channel partners benefit because we
eliminate the need for each of them to manage hundreds of
relationships with product developers, while increasing the
depth and breadth of products they can sell, all without
requiring the management of physical product inventory.
Deployment
Speed
Businesses can reduce the time required to develop an
e-commerce
presence by utilizing our outsourced business model. Typically,
a new client can have an online store live in a matter of weeks
compared with months or longer if they decide to build, test
deploy and integrate the
e-commerce
capability in-house. Once they are operational on our platform,
most clients can utilize our remote control toolset to make
real-time changes to their online store, allowing them to take
advantage of opportunities without technical assistance from
Digital River.
Focus on
Core Competency
By utilizing our outsourced
e-commerce
services, clients can focus on developing, marketing and selling
their products rather than devoting time and resources to
building and maintaining an
e-commerce
infrastructure. This allows client management time to focus on
what they know best while ensuring they have access to the
latest technologies, tools and expertise for running a
successful
e-commerce
operation.
Benefits
to Buyers
Our solution emphasizes convenience as it enables products to be
purchased online at anytime from anywhere in the world via a
connection to the Internet. In the case of software, video games
and other digital products, buyers can immediately download
their purchase and, depending on file size, begin using it in a
matter of minutes. Search technology allows shoppers to browse
our entire catalog to find the products they are looking for
quickly and easily. Our extended download service, which
guarantees replacement of products accidentally destroyed
through computer error or malfunction, and our 24/7 customer
service provided on behalf of our clients, offer shoppers
additional assurance that their
e-commerce
experience will be a positive one. Our CD2Go service gives
buyers the ability to obtain, for a fee, a copy of the product
they have purchased and downloaded on a CD.
Strategy
Our objective is to be the global leader in outsourced
e-commerce
activities for software and digital products developers,
high-tech product and computer manufacturers, and video game
publishers. Our strategy for achieving this objective includes
the following key components:
Attract New Clients and Expand Relationships with Existing
Clients. We have focused our efforts on securing
new clients and expanding our relationships with existing
clients primarily in the software, consumer electronics,
computer game and video game markets. Our clients include
software publishers, other digital content providers, high-tech
product manufacturers, and online channel partners. In 2008, we
entered into more than 100 new contracts with new and existing
clients.
We believe we can attract new clients and gain additional
business with existing clients by expanding the range of
services we offer. This includes services to enhance the
e-commerce
transaction as well as additional online marketing and payment
services. We believe that by expanding the size and breadth of
the catalog of products we offer, we will attract additional
online retailers and affiliates seeking to offer
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their customers a wide range of quality products. We currently
provide
e-commerce
services for thousands of software and digital products
publishers, high-tech products manufacturers, game publishers
and affiliates.
Expand International Sales. We believe there
is a substantial opportunity to grow our business by enabling
our clients to expand their sales through international online
stores. Internet adoption and broadband deployment continue to
increase rapidly, especially in the European and Asia Pacific
regions. We have seen significant growth in sales for clients
that have created international online stores. We intend to
continue to enhance our technology platform, payment options and
localized service offerings to increase sales in international
markets.
Provide Clients with Strategic Marketing
Services. We proactively develop and deliver new
strategic marketing services that are designed to help our
clients improve customer acquisition and retention and maximize
the lifetime value of customers. These services currently
include paid search advertising, search engine optimization,
affiliate marketing, store optimization, web analytics, and
e-mail
marketing and optimization. In general, we manage these programs
for our clients and have achieved significant increases in
client revenue,
return-on-investment
or both, compared to what clients experienced when running these
programs and supporting technologies in-house or through other
service providers. We intend to continue to develop
and/or
acquire new value-added strategic marketing services and
technologies to create additional sources of revenue for our
clients and for Digital River.
Maintain Technology Leadership. We believe our
technology platform and infrastructure afford us a competitive
advantage in the market for outsourced
e-commerce
solutions. We intend to continue to invest in and enhance our
platform to improve scalability, efficiency, reliability,
security and performance. By leveraging our infrastructure, we
can improve our ability to provide low-cost, high-value services
while continuing to deploy the latest technologies.
Additionally, we plan to continue investing in our
infrastructure to enable our clients to further penetrate
international markets, enhance their relationships with their
customers, better manage the
return-on-investment
across all their online marketing activities, successfully adopt
new selling models such as subscriptions, SaaS, trial programs
and volume licensing programs.
Continue to Seek Strategic
Acquisitions. Historically, we have been an
active acquirer of businesses, and we expect to continue
actively pursuing acquisitions that further our business
strategy. Some of the strategic factors we consider when
evaluating an acquisition opportunity include: expanding our
base of clients, improving the breadth and depth of our product
offering, improving the catalog of content, extending our
strategic marketing and other services offerings, expanding our
geographic reach and diversifying our revenue stream into
complementary or adjacent market segments.
Services
We provide a broad range of services to our clients, including
design, development and hosting of online stores, merchandising,
order management, fraud prevention screening, popular localized
online payment methods, export controls and management, denied
parties screening, tax compliance and management, digital
product delivery via download, physical product fulfillment, CD
production, multi-lingual customer service, subscription
management, online marketing services including email marketing,
paid search program management, website optimization, web
analytics and reporting. Most of these offerings can be managed
through client-facing, remote control self-service tools that
are easily used by business users without specialized training.
Since clients utilize our centralized system and processes, we
can consistently offer best practices across our entire client
base.
Store Design, Development and Hosting. We
offer our clients website design services utilizing our
experience and expertise to create efficient and effective
online stores. Our
e-commerce
solutions can be deployed quickly and implemented in a variety
of ways from fully-functioning shopping carts through completely
merchandised online stores. The online stores we operate for our
clients often match their branding and website design to provide
a seamless experience for shoppers. When a shopper navigates
from a clients website (operated by them) to their store
(operated by us), the transition is seamless and the customer is
unaware they are then being served by our technology platform.
We manage the order process through
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payment processing, fraud screening, and fulfillment (either
digital or physical) and notify the buyer via
e-mail once
the transaction is completed. Transaction information is
captured and stored in our database systems, an increasingly
valuable source of information used to create highly targeted
merchandising programs,
e-mail
marketing campaigns, product offers and test marketing programs.
For many of our clients, the solution we provide is critical to
their businesses and therefore we operate global data centers
that perform and scale for continuous
e-commerce
operation in a high-demand environment. We operate multiple data
centers globally, which feature fully redundant high-speed
connections to the Internet, server capacity to handle
unpredictable spikes in traffic and transactions, 24/7 security
and monitoring,
back-up
electric generators and dedicated power supplies.
Store Merchandising. Our technology platforms
support a wide range of merchandising activities. This enables
our clients to effectively execute promotions, up-sell, and
cross-sell activities and to feature specific products and
services during any phase of the shopping process. From the home
page of our clients online stores through the checkout and
thank you pages, our solution allows clients to
deliver targeted offers designed to increase order close ratios
and average order sizes.
Order Management and Fraud Screening. We
manage all phases of a shoppers order on our clients
e-commerce
stores. We process payment transactions for orders placed
through our technology platform and support a wide variety of
payment types, including credit cards, wire transfers, purchase
orders, money orders, direct debit cards and many other payment
methods popular both in the United States and around the world.
As part of the payment process, we ensure that the correct taxes
are displayed, collected, remitted and reported.
The fraud screening component of our platform uses both
rules-based and heuristic scoring methods which use observations
of known fraudulent activities to make a determination regarding
the validity of the order, buyer and payment information. As the
order is entered, hundreds of data reviews can be processed in
real time. We also provide denied-parties screening and export
controls, which are designed to ensure that persons
and/or
organizations appearing on government denied-parties lists are
blocked from making purchases through our system. Once a
transaction is approved and the digital product has been
delivered via download or the physical product(s) has been
shipped, we submit the transaction for payment.
Digital and Physical Fulfillment Services. We
provide both digital and physical fulfillment services to our
clients. We offer our clients a broad array of electronic
delivery capabilities that enable delivery of digital products
directly to customers computers via the Internet. Delivery
is completed when a copy of the purchased digital product is
made from a master generally stored on our technology platform
and then securely downloaded to the purchaser. Optionally,
buyers can, for an additional fee, request that a CD be created
and shipped as a backup for their order.
In addition to electronic fulfillment via download, we offer
physical distribution services to our clients as well. We have
contracted with third-party fulfillment agents that maintain
inventories of physical products for shipment to buyers. These
products are held by the fulfillment agent on consignment from
our clients. We provide notification of product shipment to the
buyer as well as shipment tracking, order status, and inventory
information. We also provide a service called Physical on
Demand (POD), which utilizes robotic systems to create a
client-branded product CD and packaging materials after a POD
order has been placed. This eliminates the requirement for
inventory to be stored in a warehouse as physical product is
created only when needed. We provide extended download services
for digital products for an additional fee, which enables buyers
to download the products they have purchased more than once in
the event of a computer failure or other unexpected problem. We
believe physical fulfillment services are important to providing
a complete
e-commerce
solution to our clients, particularly for non-digital products
market where digital fulfillment is not possible.
In connection with the sales of consumer electronic goods, we
offer management services relating to regulatory matters such as
the Waste Electronics and Electrical Equipment laws.
Customer Service. At our clients option
and for an additional fee, we provide telephone and
e-mail
customer support for products sold through our platforms. We
provide assistance to buyers regarding ordering
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and delivery questions on a 24/7 basis in multiple languages. We
continue to invest in technology and infrastructure to provide
fast and efficient responses to customer inquiries as well as
provide online self-help options.
Advanced Reporting and Analytics. We capture
and store detailed information about visitor traffic for sales
in the online stores we manage for our clients. This information
is stored in our database systems where it is available for
analysis and reporting. We provide clients access to a large
collection of standard and customizable reports via our web
analytics technology. This enables our clients to track and
analyze sales, products, transactions, customer behavior and the
results of marketing campaigns so they can optimize their
marketing efforts to increase traffic, order close ratios and
average order values. We also believe this information is
valuable in establishing a metric for the lifetime value of the
customer.
Strategic Marketing Services. We offer a range
of strategic marketing services designed to increase customer
acquisition, improve customer retention and enhance the lifetime
value of each customer. Through a combination of web analytics,
analytics-based statistical testing, optimization and proven
direct marketing practices, our team of strategic marketing
experts develops, delivers and manages programs such as paid
search advertising, search engine optimization, affiliate
marketing, store optimization and
e-mail
optimization on behalf of our clients. We generally charge an
incremental percentage of the selling price of merchandise for
sales driven by our strategic marketing services activities. We
believe our ability to capture and analyze integrated traffic
and
e-commerce
sales data enhances the value of our strategic marketing
services as we can precisely determine the effectiveness of
specific marketing activities, website changes, and other
actions taken by our clients.
Financial Services. We offer full service
payment provider solutions for online merchants around the
world. We connect businesses to the local payment methods that
their customers prefer and support businesses to expand into new
markets through enabling the acceptance and processing of a
diverse range of payment methods and options. We offer a broad
range of back office payment reconciliation services that result
in a highly cost efficient and secure program for
e-payments.
We sell and market these services through a direct sales channel
located in offices in the United States and Europe. Our
technology platform provides for high transaction throughput in
a highly secure and data sensitive environment. These services
are provided either via a direct API interface between the
clients commerce system and our payment services platform
or via a PCI compliant wrapped secure web based payment page
that is served to the clients commerce system on a
transaction by transaction basis.
Clients
We serve distinct groups of clients: (1) software, consumer
electronics, and computer and video game product manufacturers;
and (2) online channel partners including retailers and
affiliates. We believe that the breadth of our catalog of
products is a competitive advantage in selling
e-commerce
services to online channel partners as they can access a huge
volume of products to sell without negotiating contract terms
with every product provider. At the same time, we believe the
breadth of our channel partner group is attractive to product
manufacturers since it provides access to distribution through a
single source.
Sales and
Marketing
We sell products and services primarily to consumers through the
Internet. We sell and market our services for clients through a
direct sales force located in offices in the United States,
Europe and Asia Pacific. These offices include staff dedicated
to pre-sales, sales and sales support activities. Our client
sales organization sells to executives within software, consumer
electronics, computer and game manufacturers and online channel
partners who are looking to create or expand their online
businesses. During the sales process, our sales staff deliver
demonstrations, presentations, collateral material,
return-on-investment
analyses, proposals and contracts.
We also design, implement and manage marketing and merchandising
programs to help our clients drive traffic to their online
stores and increase order close ratios, average order values and
repeat purchases at those stores. Our strategic
e-marketing
team delivers a range of marketing and merchandising programs
such as paid
9
search advertising, search engine optimization, affiliate
marketing, site and store optimization,
e-mail
marketing and optimization and site merchandising, which
includes promotions, cross-sells and up-sells. This team
integrates their marketing domain expertise with our suite of
technology, including reporting, analytics, optimization and
e-mail to
drive increased sales for our clients.
We market our products and services directly to clients and
prospective clients. We focus our efforts on generating
awareness of our brand and capabilities, establishing our
position as a global leader in
e-commerce
outsourcing, generating leads in our target markets, and
providing sales tools for our direct sales force. We conduct a
variety of highly integrated marketing programs to achieve these
objectives in an efficient and effective manner. We currently
market our products and services to clients and prospects via
direct marketing, print and electronic advertising, trade shows
and events, public relations, media events and speaking
engagements.
Technology
We deliver our outsourced
e-commerce
solutions on several platforms, each of which has been
architected to solve our clients multi-faceted
e-commerce
needs. The following is a brief description of the technology
standards utilized by the family of Digital River
e-commerce
platforms:
Architecture. Our platforms are highly
scalable and designed to handle tens of thousands of individual
e-commerce
stores and millions of products available for sale within those
stores. These platforms consist of Digital River developed
proprietary software applications running on multiple pods of
Sun Microsystems and Dell servers that serve dynamic web pages
using Oracle, SQL server and MySQL databases, .net Microsoft IIS
and Oracle 9iAS application servers. Our platforms are designed
to support growth by adding servers, CPUs, memory and bandwidth
without substantial changes to the software applications. We
believe this level of scalability is a competitive advantage.
The application software is written in modular layers, enabling
us to quickly respond to industry changes, payment processing
changes, changes to international requirements for taxes and
export screening, banking procedures, encryption technologies,
and new and emerging web technologies, including AJAX, Web
Services, DHTML, and web Caches.
The platforms include search capabilities that allow shoppers to
search for items across millions of products and thousands of
categories based on specific product characteristics or
specifications while maintaining page response times acceptable
to the user. We use database indexing combined with a dynamic
cache system to provide flexibility and speed. The platforms
have been designed to index, retrieve and manage all transaction
data that flows through the system, including detailed commerce
transactions and consumer interaction data. This enables us to
create proprietary market profiles of each shopper and groups of
shoppers that can then be used to create merchandising campaigns
that are relevant to the end consumer and more successful. We
also use our platforms internally for fraud detection and
prevention, management of physical shipping, return
authorizations, backorder processing, transaction auditing and
reporting.
E-Commerce
System Maintenance. Our platforms have a
centralized maintenance management system that we use to build
and manage our clients
e-commerce
systems. Changes that affect all of our clients
e-commerce
sites or groups of
e-commerce
sites can be made centrally, dramatically reducing maintenance
time and complexity. Most of our clients
e-commerce
sites include a central store and many have additional web pages
where highly targeted traffic is routed. Clients also may choose
to link specific locations on their
e-commerce
stores to detailed product or category information within their
stores to more effectively address a shoppers specific
areas of interest.
Security. We have security systems in place to
control access to our internal systems and commerce data.
Log-ins and passwords are required for all systems with
additional levels of log-in, password and Internet Protocol
security in place to control access on an individual basis.
Access only is granted to commerce areas for which an individual
is responsible. Multiple levels of firewalls prevent
unauthorized access from the outside or access to confidential
data from the inside. Our security system does not allow direct
access to any client or customer data. We license certain
encryption and authentication technology
10
from third parties to provide secure transmission of
confidential information such as credit card data. The security
system is designed not to interfere with the consumers
experience on our clients
e-commerce
sites.
Data Center Operations. Continuous data center
operations are crucial to our success. We currently maintain
major data center operations in six facilities: California,
Minnesota and Utah, USA; and Germany, Ireland and Sweden. All
major data center locations are currently processing
transactions and serving downloads.
All data centers currently utilize multiple levels of redundant
systems, including load balancers managing traffic volumes
across web and application server farms, database servers, and
enterprise disk storage arrays. For the majority of these
systems, we have automatic failover procedures in place such
that when a fault is detected, a process automatically takes
that portion of the system offline and processing continues on
the remaining redundant portions of the system, or in an
alternate datacenter. In the event of an electrical power
failure, we have redundant power generators and uninterruptible
power supplies that protect our facilities. Fire suppression
systems are present in each data center.
Our network software constantly monitors our clients
e-commerce
sites and internal system functions, and notifies systems
engineers if any unexpected conditions arise. We lease multiple
lines from diverse Internet service providers and maintain a
policy of adding additional capacity if more than
40 percent of our capacity is consistently utilized.
Accordingly, if one line fails, the other lines are able to
assume the traffic load of the failed line. We also utilize
content distribution networks operated by our vendors to serve
appropriate types of traffic; currently, the majority of our
image traffic and a substantial portion of our download traffic
is served via the Akamai, Limelight and Mirror Image networks.
Product
Research and Development
Our primary product research and development strategy is to
maintain our technology and feature set for our commerce
platforms and related technologies. To this end, we continually
have numerous development projects in process, including ongoing
enhancement of our commerce platforms, improvements in our
remote control capabilities, enhanced international support,
advanced product distribution capabilities, sophisticated
reporting functionality and new marketing technologies.
We believe that the functionality and capabilities of our
commerce platforms are a competitive advantage and that we must
continue to invest in them to maintain our competitive position.
The Internet and
e-commerce,
in particular, are subject to rapid technological change,
changes in user and client requirements and expectations, new
technologies and evolving industry standards. To remain
successful, we must continually adapt to these and other
changes. We rely on internally developed, acquired and licensed
technologies to maintain the technological sufficiency of our
e-commerce
platforms.
Competition
The market for
e-commerce
solutions is highly competitive. We compete with
e-commerce
solutions that our customers develop internally or contract with
third parties to develop on their behalf. We also compete with
other outsourced
e-commerce
providers. The competition we encounter includes:
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In-house development of
e-commerce
capabilities using tools or applications from companies such as
Art Technology Group, Inc. and IBM Corporation;
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E-Commerce
capabilities custom-developed by companies such as IBM Global
Services and Accenture, Inc.;
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Other providers of outsourced
e-commerce
solutions, such as GSI Commerce, Inc., asknet Inc. and Arvato, a
division of Bertelsmann AG;
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Providers of technologies, services or products that support a
portion of the
e-commerce
process, such as payment processing, including CyberSource
Corporation and PayPal Corp.;
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Companies that offer various online marketing services,
technologies and products, including ValueClick, Inc. and
aQuantive, Inc.;
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High-traffic branded websites that generate a substantial
portion of their revenue from
e-commerce
and may offer or provide to others the means to offer products
for sale, such as Amazon.com, Inc. and Buy.com, Inc.; and
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Web hosting, web services and infrastructure companies that
offer portions of our solution and are seeking to expand the
range of their offerings, such as Network Solutions, LLC, Akamai
Technologies, Inc., Yahoo! Inc. and eBay Inc.
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We believe that the principal competitive factors in our market
are the breadth of consumer products and services offered, the
number of clients and online channel partnerships, brand
recognition, system reliability and scalability, price, customer
service, ease of use, speed to market, convenience, and quality
of delivery. Some of the companies described above are clients
or potential clients, but they may also choose to compete with
us by adopting a similar business model.
Intellectual
Property
We believe the protection of our trademarks, copyrights, trade
secrets and other intellectual property is critical to our
success. We rely on patent, copyright and trademark enforcement,
contractual restrictions, service mark and trade secret laws to
protect our proprietary rights. We have entered into
confidentiality and invention assignment agreements with our
employees and contractors, and nondisclosure agreements with
certain parties with whom we conduct business in order to limit
access to and disclosure of our proprietary information. We also
seek to protect our proprietary position by filing U.S. and
foreign patent applications related to our proprietary
technology, inventions and improvements that are important to
our business. We currently have seventeen U.S. patents issued
with six to fifteen years remaining prior to expiration. We also
have over seventy U.S. and foreign patent applications
pending. We pursue the registration of our trademarks and
service marks in the U.S. and internationally. We have a
number of registered trademarks in the U.S., European Union and
other countries.
Government
Regulation
We are subject to a number of foreign and domestic laws and
regulations that affect companies conducting business on the
internet. In addition, laws and regulations relating to user
privacy, information security and intellectual property rights
are being debated and considered for adoption by many countries
throughout the world. We face risks from some of the proposed
legislation that could be passed in the future.
A range of laws and new interpretations of existing laws could
have an impact on our business. For example, the Digital
Millennium Copyright Act has provisions that limit, but do not
necessarily eliminate, our liability for listing, linking or
hosting third-party content that includes materials that
infringe copyrights. The Child Online Protection Act and the
Childrens Online Privacy Protection Act restrict the
distribution of materials considered harmful to children and
impose additional restrictions on the ability of online services
to collect information from children under 13. In the area of
data protection, many states have passed laws requiring
notification to users when there is a security breach for
personal data, such as Californias Information Practices
Act. The costs of compliance with these laws may increase in the
future as a result of changes in interpretation. Furthermore,
any failure on our part to comply with these laws may subject us
to significant liabilities.
We are also subject to federal, state and foreign laws regarding
privacy and protection of user data. We post on our web site our
privacy policies and practices concerning the use and disclosure
of user data. Any failure by us to comply with our posted
privacy policies or privacy-related laws and regulations could
result in proceedings against us by governmental authorities or
others, which could potentially harm our business. In addition,
the interpretation of data protection laws, and their
application to the internet, in Europe and other foreign
jurisdictions is unclear and in a state of flux. There is a risk
that these laws may be interpreted and applied in conflicting
ways from country to country and in a manner that is not
consistent with our current
12
data protection practices. Complying with these varying
international requirements could cause us to incur additional
costs. Further, any failure by us to protect our users
privacy and data could result in a loss of user confidence in
our services.
Employees
As of February 2, 2009, we employed 1,335 associates. We
also employ independent contractors and other temporary
employees. None of our employees are represented by a labor
union, and we consider our employee relations to be good.
Competition for qualified personnel in our industry is intense.
We believe that our future success will continue to depend, in
part, on our continued ability to attract, hire and retain
qualified personnel.
Executive
Officers
The following table sets forth information regarding our
executive officers at February 2, 2009:
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Name
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Age
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Position
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Joel A. Ronning
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52
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Chief Executive Officer
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Thomas M. Donnelly
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44
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Chief Financial Officer
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Kevin L. Crudden
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53
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VP/General Counsel
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Mr. Ronning founded Digital River in February 1994
and has been our Chief Executive Officer and a director since
that time. From February 1994 to July 1998, Mr. Ronning
served as President of Digital River.
Mr. Donnelly joined Digital River in February 2005
as Vice President of Finance and Treasurer and was named Chief
Financial Officer and Secretary in July 2005. From March 1997 to
May 2004, he held various positions, including President, Chief
Operating Officer and Chief Financial Officer with Net
Perceptions, Inc., a developer of software systems used to
improve the effectiveness of various customer interaction
systems.
Mr. Crudden joined Digital River in January 2006 as
Vice President, General Counsel and Corporate Secretary. From
1987 until joining Digital River, Mr. Crudden was with the
law firm of Robins, Kaplan, Miller & Ciresi L.L.P.,
Minneapolis, Minnesota, and served as a partner practicing in
the areas of corporate finance, mergers and acquisitions, and
corporate governance.
The risks described below are not the only ones facing our
company. Additional risks not presently known to us or that we
currently deem immaterial also may impair our business
operations. Our business, financial condition or results of
operations could be materially adversely affected by any of
these risks and the value of our common stock could decline due
to any of these risks. This annual report also contains
forward-looking statements that involve risks and uncertainties.
Our actual results could differ materially from those
anticipated in these forward-looking statements as a result of
certain factors, including the risks faced by us described below
and elsewhere in this report.
We may
experience significant fluctuations in our revenues, operating
results, growth rate, and stock price.
Our quarterly and annual revenues, operating results, and growth
rate have fluctuated significantly in the past and are likely to
do so in the future due to a variety of factors, some of which
are outside our control. As a result, we believe that
quarter-to-quarter and year-to-year comparisons of our revenue
and operating results are not necessarily meaningful, and that
these comparisons may not be accurate indicators of future
performance. If our annual or quarterly operating results fail
to meet the guidance we provide to securities analysts and
investors or otherwise fail to meet their expectations the
trading price of our common stock may be impacted.
The stock market as a whole and the trading prices of companies
in the electronic commerce industry in particular, has been
notably volatile. The operating results of companies in the
electronic commerce industry
13
have experienced significant quarter-to-quarter fluctuations.
This broad market and industry volatility could significantly
reduce the price of our common stock at any time, without regard
to our own operating performance. In addition, our stock price
may be impacted by the short sales and actions of other parties
who may disseminate misleading information about us in an effort
to profit from fluctuations in our stock price.
Factors that may affect our revenues, operating results,
continued growth, and our stock price include the risks
described elsewhere in this Item 1A, as well as the
following:
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Client Development and Retention. We generate
revenue by providing services to a wide variety of companies,
primarily in the software and high-tech products markets.
Therefore, it is important to our ongoing success that we
maintain our key client relationships and, at the same time,
develop new client relationships. If we cannot develop and
maintain satisfactory relationships with software and digital
products publishers, manufacturers of consumer electronics and
other goods, online retailers and online channel partners on
acceptable commercial terms, we will likely experience a decline
in revenue and operating profit. We also depend on our clients
creating and supporting products that consumers will purchase.
If we are unable to obtain sufficient quantities of products for
any reason, or if the quality of service provided by these
publishers and manufacturers falls below a satisfactory level,
we could also experience a decline in revenue, operating profit
and consumer satisfaction, and our reputation could be harmed.
Our contracts with our clients are generally one to two years in
duration, with an automatic renewal provision for additional
one-year periods, unless we are provided with a written notice
before the end of the contract. We have no material long-term or
exclusive contracts or arrangements with any clients that
guarantee the availability of products. Clients that currently
supply products to us may not continue to do so, and we may be
unable to establish new relationships with clients to supplement
or replace existing relationships.
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Sales of products for one client, Symantec Corporation,
accounted for approximately 24.3% of our revenue in 2008. In
addition, revenues derived from proprietary Digital River
services sold to Symantec consumers and sales of Symantec
products through our
oneNetworkDirecttm
retail and affiliate channel together accounted for
approximately 9.4% of total Digital River revenue in 2008. In
addition, a limited number of other software and physical goods
clients contribute a large portion of our annual revenue. If any
one of these key contracts is not renewed or otherwise
terminates, or if revenues from these clients decline for any
other reason (such as competitive developments), our revenue
would decline and our ability to sustain profitability would be
impaired. If our contract with Symantec is not renewed,
renegotiated or otherwise terminated, or if revenues from
Symantec and Symantec-related services decline for any other
reason, our revenue and our ability to sustain profitability
could be materially adversely impaired.
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Fluctuations in Demand. Our quarterly and
annual operating results are subject to fluctuations in demand
for the products or services offered by us or our clients, such
as anti-virus software and anti-spyware software and consumer
electronics. In particular, sales of anti-virus software
represented a significant portion of our revenues in recent
years, and continue to be very important to our business. Demand
for anti-virus software is subject to the unpredictable
introduction of significant computer viruses. To the extent that
software publishers successfully introduce products or services
not sold through our platform that are competitive with the
products and services offered by our current clients (including
anti-virus products and services), our revenues could be
materially adversely affected. In addition, revenue generated by
our software and digital commerce services is likely to
fluctuate on a seasonal basis that is typical for the software
publishing market, consumer electronics market, and computer and
video games markets. Softening or weakening of traditionally
high-volume periods, such as the holiday season, can materially
adversely affect our revenues and operating results.
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Changes in the
E-commerce
Industry. The nature of our business and the
e-commerce
industry in which we operate has undergone, and continues to
undergo, rapid development and change. Thus, our chances of
financial and operational success should be evaluated in light
of the risks, uncertainties, expenses, delays and difficulties
associated with operating a business in a relatively rapidly
changing industry. If we are unable to address these issues, we
may not be financially or operationally successful.
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Dependence on Key Personnel. Our future
success significantly depends on our ability to continue to
identify, attract, hire, train, retain and motivate highly
skilled personnel, including the continued services and
performance of our senior management. Competition for these
personnel is intense, particularly in the Internet industry. Our
performance also depends on our ability to retain and motivate
our key technical employees who are skilled in maintaining our
proprietary technology platforms. The loss of the services of
any of our executive officers or key employees could harm our
business if we are unable to effectively replace that officer or
employee, or if that person should decide to join a competitor
or otherwise directly or indirectly compete with us. Further, we
may need to incur additional operating expenses and divert other
management time in order to search for a replacement.
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Operating Expenses. Our operating expenses are
based on our expectations of future revenue. These expenses are
relatively fixed in the short-term. If our revenue for a quarter
falls below our expectations and we are unable to quickly reduce
spending in response, our operating results for that quarter
would be harmed.
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Infrastructure. The introduction by us of new
websites, web stores or services, and the continued upgrading,
development and maintenance of our systems and infrastructure to
meet emerging market needs, leverage technical innovations, and
remain competitive in our service and product offerings, may
require a substantial investment of our resources and result in
significant capital expenditures and operating costs.
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Other Factors. Additional factors that may
affect our revenues, operating results, continued growth, and
our stock price include:
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Competitive developments, including the introduction of new
products and services and the announcement of new client and
strategic relationships by our competitors;
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General macroeconomic conditions, including severe downturns or
recessions in the United States and elsewhere, global unrest,
terrorist activities, and particularly those economic conditions
affecting the
e-commerce
and retailer industries;
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Changes that affect our clients or the viability of their
product lines, and client decisions to delay new product
launches or to invest in
e-commerce
initiatives;
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Conditions or trends in the Internet and online commerce
industries in the United States and around the world, including
slower-than-anticipated growth of the online market as a vehicle
for the purchase of software products, changes in consumer
confidence in the safety and security of online commerce, and
changes in the usage of the Internet and
e-commerce;
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The cost of compliance with U.S. and foreign laws, rules
and regulations relating to our business, including the
potential effect of new laws, rules and regulations, or
interpretations of existing laws, rules and regulations, that
affect our business operations or otherwise restrict or affect
online commerce
and/or the
Internet as a whole, as well as our compliance with the rules
and policies of entities whose services are critical for our
continued operations, such as banks and credit card associations;
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Our announcement of significant acquisitions, strategic
partnerships, joint ventures or capital commitments or results
of operations or other developments related to those
acquisitions, and our ability to successfully integrate and
manage acquired businesses;
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Required changes in generally accepted accounting principles and
disclosures; and
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Sales or other transactions involving our common stock or our
convertible notes.
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Failure
to properly manage and sustain our expansion efforts could
strain our management and other resources.
Through acquisitions and organic growth, we are rapidly and
significantly expanding our operations, both domestically and
internationally. We will continue to expand further to pursue
growth of our service offerings
15
and customer base. This expansion increases the complexity of
our business and places a significant strain on our management,
operations, technical performance, financial resources, and
internal financial control and reporting functions, and there
can be no assurance that we will be able to manage it
effectively. Our personnel, systems, procedures and controls may
not be adequate to effectively manage our future operations,
especially as we employ personnel in multiple domestic and
international locations. We may not be able to hire, train,
retain and manage the personnel required to address our growth.
Failure to effectively manage our growth opportunities could
damage our reputation, limit our future growth, negatively
affect our operating results and harm our business.
Our
international expansion efforts may not be successful in
generating additional revenue.
We sell products and services to consumers outside the United
States and we intend to continue expanding our international
presence. In 2008, our sales to international consumers
represented approximately 42.8% of our total sales. Expansion
into international markets, particularly the European and
Asia-Pacific regions, requires significant resources that we may
fail to recover through generating additional revenue.
Conducting business outside of the United States is subject to
risks, including:
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Changes in regulatory requirements and tariffs;
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Uncertainty of application of local commercial, tax, privacy and
other laws and regulations;
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Reduced protection of intellectual property rights;
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Difficulties in physical distribution for international sales;
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Higher incidences of credit card fraud and difficulties in
accounts receivable collection;
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The burden and cost of complying with a variety of foreign laws,
rules and regulations;
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The possibility of unionization of our workforce outside the
United States, particularly in Europe;
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Political, social and economic instability and constraints on
international trade; and
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Import and export license requirements and restrictions of the
United States and every other country in which we operate.
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Any of the factors described above, as well as other risks of
doing business outside the United States, may have a material
adverse effect on our ability to increase or maintain foreign
sales.
We may be unable to successfully and cost-effectively market,
sell and distribute our services in foreign markets. Doing so
may be more difficult or take longer than anticipated especially
due to international challenges, such as language barriers,
currency exchange issues and the fact that the Internet
infrastructure in some foreign countries may be less advanced
than the U.S. Internet infrastructure. If we are unable to
successfully expand our international operations, or manage this
expansion, our operating results and financial condition could
be harmed.
New
obligations to collect or pay transaction taxes could
substantially increase the cost to us of doing
business.
Many of the laws and regulations regarding the application of
sales, use, value added tax (VAT) or other similar transaction
taxes predate the growth of the Internet and online commerce.
The application of transaction taxes to interstate and
international sales over the Internet is complex and evolving.
We currently collect taxes with respect to electronic software
download and physical delivery of products in tax jurisdictions
where we have taxable presence. A successful assertion by one or
more tax jurisdictions that we should collect or were obligated
to collect transaction taxes on the products we sell could harm
our results of operations. The imposition by state and local
governments of various taxes upon Internet commerce and related
e-commerce
activities could create administrative burdens for us, put us at
a competitive disadvantage if they do not impose similar
obligations on all of our online competitors, and decrease our
future sales.
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We
could be liable for fraudulent, improper or illegal uses of our
platforms and services.
In recent years revenues from our remote control
platforms have grown as a percentage of our overall business,
and we plan to continue to emphasize our self service
e-commerce
solutions. These platforms typically have an automated structure
that allows customers to sign up for and use our
e-commerce
services without significant participation from Digital River
personnel. Despite our efforts to contractually prohibit the
sale of inappropriate and illegal goods and services and our
efforts to detect the same, the remote control nature of these
platforms increases the risk that transactions involving the
sale of unlawful goods or services or the violation of the
proprietary rights of others may occur before we become aware of
them. Furthermore, unscrupulous individuals may offer for sale,
or attempt to purchase, illegal products via such platforms
under innocuous names, further frustrating our attempts to
prevent inappropriate use of our services. Failure to detect
inappropriate or illegal uses of our platforms by third parties
could expose us to a number of risks, including fines, increased
fees or termination of services by payment processors or credit
card associations, risks of lawsuits, and civil and criminal
penalties.
Loss
of our credit card acceptance privileges, or changes to payment
networks, fees, rules or practices, would seriously hamper our
ability to process the sale of merchandise.
The payment by consumers for the purchase of digital or physical
goods that we process is typically made by credit card or
similar payment method. As a result, we must rely on banks or
payment processors to process transactions, and must pay a fee
for this service. From time to time, credit card associations
may increase the interchange fees that they charge for each
transaction using one of their cards. Any such increased fees
will increase our operating costs and reduce our profit margins.
We also are required by our processors to comply with credit
card association operating rules, and we have agreed to
reimburse our processors for any fines they are assessed by
credit card associations as a result of processing payments for
us. The credit card associations and their member banks set and
interpret the credit card rules. Visa, MasterCard,
American Express, Discover, or other card associations
could adopt new operating rules or re-interpret existing rules
that we, or our processors, might find difficult to follow. We
have had payment processing agreements with certain of our
payment processors terminated due to violations of their rules,
and although we have been able to successfully migrate to new
processors, such migrations require significant attention from
our personnel, and often result in higher fees and customer
dissatisfaction. Any disputes or problems associated with our
payment processors could impair our ability to give customers
the option of using credit cards to fund their payments. If we
were unable to accept credit cards or other widely accepted
forms of payment, our business would be seriously damaged. We
also could be subject to fines or increased fees from MasterCard
and Visa if we fail to detect that merchants are engaging in
activities that are illegal or activities that are considered
high risk, primarily the sale of certain types of
digital content. We may be required to expend significant
capital and other resources to monitor these activities.
Implementing
our acquisition strategy could result in dilution and operating
difficulties leading to a decline in revenue and operating
profit.
A key element of our business strategy involves expansion
through the acquisitions of businesses, assets, products or
technologies that allow us to complement our existing product
offerings, expand our market coverage, increase our engineering
workforce or enhance our technological capabilities. Between
January 1, 1999 and December 31, 2008, we acquired
30 companies. We continually evaluate and explore strategic
opportunities as they arise, including business combination
transactions, strategic partnerships, and the purchase or sale
of assets, including tangible and intangible assets such as
intellectual property. We have acquired, and intend to continue
engaging in strategic acquisitions of businesses, technologies,
services and products. Since December 2007, we have acquired
three businesses, IA Users Club d.b.a. CustomCD, Inc.,
DigitalSwift Corporation, and THINK Subscription, Inc.
Acquisitions may require significant capital infusions,
typically entail many risks, and could result in unforeseen
difficulties and expenditures in assimilating and integrating
the operations, personnel, technologies, products and
information systems of acquired companies or businesses. We have
in the past and may in the future experience delays in the
timing and successful integration of an acquired companys
technologies and
17
product development, unanticipated costs and expenditures,
changing relationships with customers, suppliers and strategic
partners, or contractual, intellectual property or employment
issues. Integration of an acquired business also may disrupt our
ongoing business, distract management and make it difficult to
maintain standards, controls and procedures. These challenges
are magnified as the size of the acquisition increases.
Furthermore, these challenges would be even greater if we
acquired a business or entered into a business combination
transaction with a company that was larger and more difficult to
integrate than the companies we have historically acquired.
Moreover, the anticipated benefits of any acquisition may not be
realized. If a significant number of clients of the acquired
businesses cease doing business with us, we would experience
lost revenue and operating profit, and any synergies from the
acquisition may be lost. In addition, key personnel of an
acquired company may decide not to work for us. The acquisition
of another company or its products and technologies may also
require us to enter into a geographic or business market in
which we have little or no prior experience. Future acquisitions
could result in potentially dilutive issuances of equity
securities, the incurrence of debt, contingent liabilities,
amortization of intangible assets or impairment of goodwill.
Acquisitions could also result in a dilutive impact to our
earnings.
We may
need to raise additional capital to achieve our business
objectives, which could result in dilution to existing investors
or increase our debt obligations.
We require substantial working capital to fund our business. In
January 2005, we filed a registration statement to increase our
available shelf registration amount and we have $82 million
available for future use. In addition, we filed an acquisition
shelf for up to approximately 1.5 million shares. In
February 2006, we filed a shelf registration that would allow us
to sell an undetermined amount of equity or debt securities in
accordance with the recently approved rules applying to
well-known seasoned issuers. If additional funds are
raised through the issuance of equity securities, the percentage
ownership of our stockholders will be reduced and these equity
securities may have rights, preferences or privileges senior to
those of our common stock. In June 2004, we issued 1.25%
convertible notes which require us to make interest payments and
will require us to pay principal when the notes become due in
2024 or in the event of acceleration under certain
circumstances, unless the notes are converted into our common
stock prior to that. On January 5, 2009, we announced that
holders of 95.5% of these notes exercised the option to require
us to repurchase those notes on January 2, 2009, at a
purchase price of 100.25% of the principal amount of each
tendered note for a total of approximately $187.9 million,
which includes accrued interest of $1.2 million. Notes with
an aggregate principal amount of $8,805,000 remain outstanding.
For a thirty day period ending January 1, 2014, the
remaining note holders have the right to have the debt redeemed
at 100.25% of principal face amount. We may not have sufficient
capital to service this or any future debt securities that we
may issue, further, the conversion of the remaining notes into
our common stock would result in further dilution to our
stockholders. Our capital requirements depend on several
factors, including the rate of market acceptance of our
products, the ability to expand our client base, the growth of
sales and marketing, and opportunities for acquisitions of other
businesses. We have experienced significant operating losses and
negative cash flow from operations during our operating history
and may do so in the future. Additional financing may not be
available when needed, on terms favorable to us or at all. If
adequate funds are not available or are not available on
acceptable terms, we may be unable to develop or enhance our
services, take advantage of future opportunities or respond to
competitive pressures, which would harm our operating results
and adversely affect our ability to sustain profitability.
Security
breaches could hinder our ability to securely transmit
confidential information and could materially affect our
reputation, business operations, operating results and financial
condition.
Our business depends in large part on the secure transmission of
confidential information over public networks, including
customers credit card and other payment account
information, and the secure storage of confidential information.
We rely on encryption and authentication technology licensed
from third parties to provide the security and authentication
necessary for secure transmission of confidential information,
such as customer credit and debit card numbers. While we take
significant steps to protect the security of confidential
information in our possession, we cannot guarantee our security
measures will prevent security breaches, or that future advances
in computer and software capabilities and encryption technology,
new cryptography tools
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and discoveries, and other events will enable us to prevent the
breach or compromise of our security even if implemented by us.
Further, the technology utilized in credit and debit cards, and
the systems used for the transmission of payment card
transactions, are controlled by the payment card industry, and
vulnerabilities in these systems and technology can place
payment card data at risk.
Any breach or compromise of our security could have a material
adverse effect on our reputation, business, operating results
and financial condition, dissuade existing and new clients from
using our services, dissuade customers from transacting business
through our systems, and expose us to significant costs, fines,
losses, litigation, governmental investigations, and
liabilities. A party who circumvents our security measures could
misappropriate proprietary information or interrupt our
operations. We may be required to expend significant capital and
other resources to protect against security breaches or address
problems caused by such breaches. Concerns over the security of
the Internet and other online transactions and the privacy of
users could deter people from using the Internet to conduct
transactions that involve transmitting personally identifiable
and other confidential information, thereby inhibiting the
growth of our business.
Protecting
our intellectual property is critical to our
success.
We regard the protection of our trademarks, copyrights, trade
secrets and other intellectual property as critical to our
success. We rely on a combination of patent, copyright,
trademark, service mark and trade secret laws and contractual
restrictions to protect our proprietary rights. We have entered
into confidentiality and invention assignment agreements with
our employees and contractors, and nondisclosure agreements with
parties with whom we conduct business, in order to limit access
to and disclosure of our proprietary information. These
contractual arrangements and the other steps taken by us to
protect our intellectual property may not prevent
misappropriation of our technology or deter independent
third-party development of similar technologies. We also seek to
protect our proprietary position by filing U.S. patent
applications related to our proprietary technology, inventions
and improvements that are important to the development of our
business. Proprietary rights relating to our technologies will
be protected from unauthorized use by third parties only to the
extent they are covered by valid and enforceable patents or are
effectively maintained as trade secrets. We pursue the
registration of our trademarks and service marks in the
U.S. and internationally. However, effective trademark,
service mark, copyright and trade secret protection may not be
available in every country in which our services are made
available online.
The steps we have taken to protect our proprietary rights may be
inadequate and third parties may infringe or misappropriate our
trade secrets, trademarks and similar proprietary rights. Any
significant failure on our part to protect our intellectual
property could make it easier for our competitors to offer
similar services and thereby adversely affect our market
opportunities. In addition, litigation may be necessary in the
future to enforce our intellectual property rights, to protect
our trade secrets or to determine the validity and scope of the
proprietary rights of others. Litigation could result in
substantial costs and diversion of management and technical
resources.
Claims
against us related to infringement of other parties
intellectual property rights, or the products we deliver, could
require us to expend significant resources, enter into
unfavorable licenses or require us to change our business
plans.
From time to time, we are named as a defendant in lawsuits
claiming that we have, in some way, violated the intellectual
property rights of others. From time to time we are notified of
several potential patent disputes, and expect that we will
increasingly be subject to the assertion of patent infringement
claims against us as our services expand in scope and
complexity. Any assertions or prosecutions of claims like these
could require us to expend significant financial and managerial
resources. The defense of any claims, with or without merit,
could be time-consuming, result in costly litigation and
diversion of technical and management personnel, cause product
enhancement delays or require that we develop non-infringing
technology or enter into royalty or licensing agreements.
Royalty or licensing agreements, if required, may be unavailable
on terms acceptable to us or at all. In the event of a
successful claim of infringement against us and our failure or
inability to develop non-infringing technology or license the
infringed or similar technology on a timely basis, we may be
unable to pursue our current business plan. We expect that we
will increasingly be subject to patent
19
infringement claims as our services expand in scope and
complexity, and our results of operations and financial
condition could be materially adversely affected.
We may become more vulnerable to third party claims as laws such
as the Digital Millennium Copyright Act, the Lanham Act and the
Communications Decency Act are interpreted by the courts. Claims
may be made against us for negligence, copyright or trademark
infringement, products liability or other theories based on the
nature and content of software products or tangible goods that
we deliver electronically and physically. Because we did not
create these products, we are generally not in a position to
know the quality or nature of the content of these products.
Although we carry general liability insurance and require that
our customers indemnify us against consumer claims, our
insurance and indemnification measures may not cover potential
claims of this type, may not adequately cover all costs incurred
in defense of potential claims, or may not reimburse us for all
liability that may be imposed. Any costs or imposition of
liability that are not covered by insurance or indemnification
measures could be expensive and time-consuming to address,
distract management and delay product deliveries, even if we are
ultimately successful in the defense of these claims.
If our
internal control over financial reporting or disclosure controls
and procedures are not effective, there may be errors in our
financial statements that could require a restatement or our
filings may not be timely and investors may lose confidence in
our reported financial information, which could lead to a
decline in our stock price.
Section 404 of the Sarbanes-Oxley Act of 2002 requires us
to evaluate the effectiveness of our internal control over
financial reporting as of the end of each year, and to include a
management report assessing the effectiveness of our internal
control over financial reporting in each Annual Report on
Form 10-K.
Section 404 also requires our independent registered public
accounting firm to attest to, and report on, managements
assessment of our internal control over financial reporting.
Our management, including our Chief Executive Officer and Chief
Financial Officer, does not expect that our internal control
over financial reporting will prevent all error and all fraud. A
control system, no matter how well designed and operated, can
provide only reasonable, not absolute, assurance that the
control systems objectives will be met. Further, the
design of a control system must reflect the fact that there are
resource constraints, and the benefits of controls must be
considered relative to their costs. Controls can be circumvented
by the individual acts of some persons, by collusion of two or
more people, or by management override of the controls. Over
time, controls may become inadequate because changes in
conditions or deterioration in the degree of compliance with
policies or procedures may occur. Because of the inherent
limitations in a cost-effective control system, misstatements
due to error or fraud may occur and not be detected.
As a result, we cannot assure you that significant deficiencies
or material weaknesses in our internal control over financial
reporting will not be identified in the future. Any failure to
maintain or implement required new or improved controls, or any
difficulties we encounter in their implementation, could result
in significant deficiencies or material weaknesses, cause us to
fail to timely meet our periodic reporting obligations, or
result in material misstatements in our financial statements.
Any such failure could also adversely affect the results of
periodic management evaluations and annual auditor attestation
reports regarding disclosure controls and the effectiveness of
our internal control over financial reporting required under
Section 404 of the Sarbanes-Oxley Act of 2002 and the rules
proclaimed after that. The existence of a material weakness
could result in errors in our financial statements that could
result in a restatement of financial statements, cause us to
fail to timely meet our reporting obligations and cause
investors to lose confidence in our reported financial
information, leading to a decline in our stock price.
Political
and economic conditions, and current turmoil in United States
and global markets, may adversely affect our revenue and results
of operations, and stock price.
Our revenue and growth is dependent on the continued growth in
demand for our clients products. Therefore, our operations
and performance depend significantly on general geopolitical
economic and business conditions, conditions in the financial
services markets, the overall demand for consumer goods and
services,
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and general political and economic developments. A decrease in
demand for our clients products, whether due to conditions
in the economies where we sell products or changes in consumer
spending resulting from the macroeconomic and political climate,
could result in a decline in our revenue and impair our ability
to sustain profitability. The effect of the macroeconomic and
political climate could also negatively impact our clients, such
as causing delays in new product introductions, changes in
clients outsourcing behavior, increasing our difficulty in
collecting client receivables, and increasing the risk of client
bankruptcies
and/or
interruption or cessation of business, which may have a negative
impact on our business, operating results, and financial
condition.
Recent turmoil in U.S. and foreign credit markets, equity
markets, and in the global financial services industry,
including the bankruptcy, failure, collapse or sale of various
financial institutions, the tightening in credit markets, and an
unprecedented level of intervention from the U.S. and
foreign governments, may continue to place pressure on the
global economy and affect overall consumer spending and the
availability of credit to us, our clients, and our customers.
This turmoil increases the risk that the actual amounts realized
in the future on our financial instruments and investments may
significantly differ from the fair values currently assigned to
them. If conditions in the global economy, U.S. economy or
other key vertical or geographic markets remain uncertain or
weaken further, they may have a material adverse effect on our
business, operating results, and financial condition. Continued
uncertainty in general geopolitical economic and business
conditions may result in increased or continued volatility in
our stock price.
Because
the
e-commerce
industry is highly competitive and has low barriers to entry, we
may be unable to compete effectively.
The market for
e-commerce
solutions is extremely competitive and we may find ourselves
unable to compete effectively. Because there are relatively low
barriers to entry in the
e-commerce
market, we expect continued intense competition as current
competitors expand their product offerings and new competitors
enter the market. In addition, our clients and partners may
become competitors in the future. Increased competition is
likely to result in price reductions, reduced margins, longer
sales cycles and a decrease or loss of our market share, any of
which could negatively impact our revenue and earnings. We face
competition from the following sources:
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In-house development of
e-commerce
capabilities using tools or applications from companies, such as
Art Technology Group, Inc. and IBM Corporation;
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E-Commerce
capabilities custom-developed by companies, such as IBM Global
Services and Accenture, Inc.;
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Other providers of outsourced
e-commerce
solutions, such as GSI Commerce, Inc., and asknet Inc.;
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Companies that provide technologies, services or products that
support a portion of the
e-commerce
process, such as payment processing, including CyberSource
Corporation and PayPal Corp.;
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Companies that offer various online marketing services,
technologies and products, including ValueClick, Inc. and
aQuantive, Inc.;
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High-traffic, branded websites that generate a substantial
portion of their revenue from
e-commerce
and may offer or provide to others the means to offer their
products for sale, such as Amazon.com, Inc.; and
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Web hosting, web services and infrastructure companies that
offer portions of our solution and are seeking to expand the
range of their offering, such as Network Solutions, LLC, Akamai
Technologies, Inc., Yahoo!, Inc., eBay, Inc. and Hostopia.com,
Inc.
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We believe that the principal competitive factors for a
participant in our market are the breadth of products and
services offered, proven global platforms, the number of clients
and online channel partnerships a participant has, brand
recognition, system reliability and scalability, price, customer
service, ease of use, speed to market, convenience and quality
of delivery. The online channel partners and the other companies
described above may compete directly with us by adopting a
similar business model. Moreover, while some of these
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companies also are clients or potential clients of ours, they
may compete with our
e-commerce
outsourcing solution to the extent that they develop
e-commerce
systems or acquire such systems from other software vendors or
service providers.
Many of our competitors have, and new potential competitors may
have, more experience developing Internet-based software and
e-commerce
solutions, larger technical staffs, larger customer bases, more
established distribution channels and customer relationships,
greater brand recognition and greater financial, marketing and
other resources than we have. In addition, competitors may be
able to develop services that are superior to our services,
achieve greater customer acceptance or have significantly
improved functionality as compared to our existing and future
products and services. Our competitors may be able to respond
more quickly to technological developments and changes in
customers needs. Our inability to compete successfully
against current and future competitors could cause our revenue
and earnings to decline.
Compliance
with laws, rules and regulations, and changes in applicable
laws, rules and regulations, may substantially increase our
costs of doing business, limit our Internet activities, or
otherwise adversely affect our ability to offer our
services.
We are subject to the same international, federal, state and
local laws as other companies conducting business over the
Internet. We are subject to United States laws governing the
conduct of business with other countries, such as export control
laws, which prohibit or restrict the export of goods, services
and technology to designated countries, denied persons or denied
entities from the United States. Violation of these laws could
result in fines or other actions by regulatory agencies and
result in increased costs of doing business and reduced profits.
In addition, any significant changes in these laws, particularly
an expansion in export control laws, will increase our costs of
compliance and may further restrict our overseas client base.
Because our services are accessible worldwide, and we facilitate
sales of products to customers worldwide, international
jurisdictions may claim that we are required to comply with
their laws. Laws regulating Internet companies outside of the
United States may be less favorable than those in the
United States, giving greater rights to consumers, content
owners and users. Compliance with international, federal, state
and local laws may be costly or may require us to change our
business practices or restrict our service offerings relative to
those provided in the United States. Any failure to comply with
foreign laws could subject us to penalties ranging from fines to
bans on our ability to offer our services.
As our services are available over the Internet in multiple
states and foreign countries, these jurisdictions may claim that
we are required to qualify to do business as a foreign
corporation in each state or foreign country. We
and/or our
subsidiaries are qualified to do business only in certain
states. Failure to qualify as a foreign corporation in a
required jurisdiction could subject us to taxes and penalties
and could result in our inability to enforce contracts in these
jurisdictions.
Today, there are relatively few laws specifically directed
towards conducting business over the Internet. The adoption or
modification of laws related to the Internet could harm our
business, operating results and financial condition by
increasing our costs and administrative burdens. Due to the
increasing popularity and use of the Internet, many laws and
regulations relating to the Internet are being debated at the
international, federal and state levels. These laws and
regulations could cover issues such as:
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User privacy with respect to adults and minors;
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Our ability to collect
and/or share
necessary information that allows us to conduct business on the
Internet;
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Export compliance;
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Pricing, taxation, and regulatory fees;
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Fraud;
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Advertising;
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Intellectual property rights;
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Information security;
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Quality of products and services;
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Taxes; and
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Recycling of consumer products.
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Applicability to the Internet of existing laws, rules and
regulations governing issues such as property ownership,
copyrights and other intellectual property issues, taxation,
libel, obscenity and personal privacy, continue to be
interpreted by the courts, and the applicability and reach of
such laws are therefore uncertain. The vast majority of these
laws were adopted prior to the advent of the Internet, and do
not contemplate or address the unique issues raised thereby.
Developments in the applicability of existing laws, rules and
regulations, and the impact of new laws, rules and regulations,
to our business could harm our operating results and
substantially increase the cost to us of doing business. Any
change in laws, rules or regulations applicable to the Internet
and to our business might require significant management and
other resources to respond appropriately.
We are
subject to regulations relating to consumer
privacy.
We collect and maintain customer data from our customers, which
subjects us to increasing international, federal and state
regulations related to online privacy and the use of personal
user information. Congress has enacted anti-SPAM legislation
with which we must comply when providing email campaigns for our
clients. Legislation and regulations are pending in various
domestic and international governmental bodies that address
online privacy protections. Several governments have proposed,
and some have enacted, legislation that would limit the use of
personal user information or require online services to
establish privacy policies. In addition, the U.S. Federal
Trade Commission, or FTC, has urged Congress to adopt
legislation regarding the collection and use of personal
identifying information obtained from individuals when accessing
websites. In the past, the emphasis has been on information
obtained from minors. Focus has now shifted to include online
privacy protection for minors and adults.
Even in the absence of laws requiring companies to establish
these procedures, the FTC has settled several proceedings
resulting in consent decrees in which Internet companies have
been required to establish programs regarding the manner in
which personal information is collected from users and provided
to third parties. We could become a party to a similar
enforcement proceeding. These regulatory and enforcement efforts
could limit our collection of
and/or
ability to share with our clients demographic and personal
information from customers, which could adversely affect our
ability to comprehensively serve our clients.
The European Union has adopted a privacy directive that
regulates the collection and use of information that identifies
an individual person. These regulations may inhibit or prohibit
the collection and sharing of personal information in ways that
could harm our clients or us. Failure to comply with member
state implementations of these directives may result in fines,
private lawsuits and enforcement actions. These enforcement
actions can include interruption or shutdown of operations
relating to the collection and sharing of information pertaining
to citizens of the European Union.
Failure
to develop our technology to accommodate increased traffic could
reduce demand for our services and impair the growth of our
business.
We periodically enhance and expand our technology and
transaction-processing systems, network infrastructure and other
technologies to accommodate increases in the volume of traffic
on our technology platforms. The volume of traffic on our
technology platforms is affected by a variety of factors,
including new product launches by existing clients, the launch
of commerce websites on our technology platforms for new
clients, and seasonal fluctuations in customer demand. Any
inability to add software and hardware or to develop and upgrade
existing technology, transaction-processing systems or network
infrastructure to manage increased traffic and traffic spikes on
our technology platforms may cause unanticipated systems
disruptions, slower response times and degradation in client
services, including impaired quality and speed of order
fulfillment. Failure to manage increased traffic and traffic
spikes could harm our reputation and significantly reduce demand
for our services, which would impair the growth of our business.
We may be unable to improve and increase the capacity of our
network infrastructure sufficiently or anticipate and react to
expected increases in the use of the platform to handle
increased volume. Further, additional network capacity may not
be available from third-party suppliers when we need it. Our
network and our suppliers networks may be unable to
maintain an acceptable data transmission capability, especially
if demands on the platform increase.
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To remain competitive, we must continue to enhance and improve
the responsiveness, functionality and features of our
e-commerce
platforms and the underlying network infrastructure. If we incur
significant costs without adequate results, or are unable to
adapt rapidly to technological changes, we may fail to achieve
our business plan. The Internet and the
e-commerce
industry are characterized by rapid technological changes,
changes in user and client requirements and preferences,
frequent new product and service introductions embodying new
technologies and the emergence of new industry standards and
practices that could render our technology and systems obsolete.
To be successful, we must adapt to rapid technological changes
by licensing and internally developing leading technologies to
enhance our existing services, developing new products, services
and technologies that address the increasingly sophisticated and
varied needs of our clients, and responding to technological
advances and emerging industry standards and practices on a
cost-effective and timely basis. The development of our
proprietary technologies involves significant technical and
business risks. We may fail to use new technologies effectively
or fail to adapt our proprietary technology and systems to
client requirements or emerging industry standards.
System
failures could reduce the attractiveness of our service
offerings.
We provide commerce, marketing and delivery services to our
clients and consumers through our proprietary technology
transaction processing and client management systems. These
systems also maintain an electronic inventory of products and
gather consumer marketing information. The satisfactory
performance, reliability and availability of the technology and
the underlying network infrastructure are critical to our
operations, level of client service, reputation and ability to
attract and retain clients. We have experienced periodic
interruptions, affecting all or a portion of our systems, which
we believe will continue to occur from time-to-time. Any systems
damage or interruption that impairs our ability to accept and
fill client orders could result in an immediate loss of revenue
to us, and could cause some clients to purchase services offered
by our competitors. In addition, frequent systems failures could
harm our reputation.
Although we maintain system redundancies in multiple physical
locations, our systems and operations are vulnerable to damage
or interruption from:
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Fire, flood and other natural disasters;
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Operator negligence, improper operation by, or supervision of,
employees, physical and electronic break-ins, misappropriation,
computer viruses and similar events; and
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Power loss, computer systems failures, denial-of-service
attacks, and Internet and telecommunications failure.
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We may not carry sufficient business interruption insurance to
fully compensate us for losses that may occur.
We may
become liable to clients who are dissatisfied with our
services.
We design, develop, implement and manage
e-commerce
solutions that are crucial to the operation of our clients
businesses. Defects in the solutions we develop could result in
delayed or lost revenue, adverse consumer reaction,
and/or
negative publicity, which could require expensive corrections.
Clients who experience these adverse consequences either
directly or indirectly by using our services could bring claims
against us for substantial damages. Any claims asserted could
exceed the level of any insurance coverage that may be available
to us. The successful assertion of one or more large claims that
are uninsured, that exceed insurance coverage or that result in
changes to insurance policies, including future premium
increases, could adversely affect our operating results or
financial condition.
Our
clients sales cycles and the implementation process for
our commerce solution are time-consuming, which may cause us to
incur substantial expenses and expend management time without
generating corresponding consumer revenue, which would impair
our cash flow.
We market our services directly to software publishers, online
retailers, consumer electronics companies and other prospective
customers. These relationships are typically complex and take
time to finalize. Due to operating procedures in many
organizations, a significant amount of time may pass between
selection of our products and services by key decision-makers,
the signing of a contract, and the launch of a revenue-
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generating commerce store. The period between the initial client
sales call and the signing of a contract with significant sales
potential is difficult to predict and typically ranges from six
to twelve months. The implementation period between the signing
of a contract and the launch of a revenue-generating commerce
store for our larger clients is dependent on the features and
functionality implemented in the commerce solution and typically
ranges from one to four months. If at the end of a sales effort
a prospective client does not purchase our products or services,
we may have incurred substantial expenses and expended
management time that cannot be recovered and that will not
generate corresponding revenue. As a result, our cash flow and
our ability to fund expenditures incurred during the sales cycle
and implementation process may be impaired. We can incur
substantial front-end cost to launch client sites and it may
require a substantial time before those costs are recouped by us.
The
listing of our network addresses on anti-spam lists could harm
our ability to service our clients and deliver goods over the
Internet.
Certain privacy and anti-email proponents have engaged in a
practice of gathering, and publicly listing, network addresses
that they believe have been involved in sending unwanted,
unsolicited emails commonly known as spam. In response to user
complaints about spam, Internet service providers have, from
time to time, blocked such network addresses from sending emails
to their users. If our network addresses mistakenly end up on
these spam lists, our ability to provide services for our
clients and consummate the sales of digital and physical goods
over the Internet could be harmed.
We are
exposed to foreign currency exchange risk.
Sales outside the United States accounted for approximately
42.8% of our total sales in 2008. A significant portion of our
cash and marketable securities are held in non-U.S domiciled
countries. The results of operations of, and certain of our
intercompany balances associated with, our internationally
focused websites are exposed to foreign exchange rate
fluctuations. Upon translation, net sales and other operating
results from our international operations may differ materially
from expectations, and we may record significant gains or losses
on the remeasurement of intercompany balances. If the
U.S. dollar weakens against foreign currencies, the
translation of these foreign-currency-denominated transactions
will result in increased net revenues and operating expenses.
Similarly, our net revenues and operating expenses will decrease
if the U.S. dollar strengthens against foreign currencies.
As we have expanded our international operations, our exposure
to exchange rate fluctuations has become more pronounced. We may
enter into short-term currency forward contracts to offset the
foreign exchange gains and losses generated by the
re-measurement of certain assets and liabilities recorded in
non-functional currencies. The use of such hedging activities
may not offset more than a portion of the adverse financial
impact resulting from unfavorable movements in foreign exchange
rates. See Item 7A of Part II, for information
demonstrating the effect on our consolidated statements of
income from changes in exchange rates versus the
U.S. dollar.
Changes
in our tax rates could affect our future results.
Our future effective tax rates could be favorably or unfavorably
affected by changes in the mix of earnings in countries with
differing statutory tax rates, changes in the valuation of our
deferred tax assets and liabilities, or by changes in tax laws
or their interpretation. In addition, we are subject to the
continuous examination of our income tax returns by the Internal
Revenue Service and other tax authorities. We regularly assess
the likelihood of adverse outcomes resulting from these
examinations to determine the adequacy of our provision for
income taxes. There can be no assurance that the outcomes from
these continuous examinations will not have an adverse effect on
our results of operations and financial condition.
Developments
in accounting standards may cause us to increase our recorded
expenses, which in turn would jeopardize our ability to
demonstrate sustained profitability.
In January 2002, we adopted Statement of Financial Accounting
Standard No. 142, Goodwill and Other Intangible
Assets (SFAS No. 142). The statement generally
establishes that goodwill and intangible assets with indefinite
lives are not amortized, but are to be tested on an annual basis
for impairment and, if impaired, are recorded as an impairment
charge in income from operations. As of December 31, 2008,
we had goodwill with an indefinite life of $273.8 million
from our acquisitions. If our goodwill is determined for any
reason to
25
be impaired, the subsequent accounting of the impaired portion
as an expense would lower our earnings and jeopardize our
ability to demonstrate sustained profitability. In January 2008,
we adopted Statement of Financial Accounting Standard
No. 157 Fair Value Measurements. The Statement
requires the reporting of assets at 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. The fair value of assets can shift
significantly and can cause a permanent or temporary impairment.
Provisions
of our charter documents, other agreements and Delaware law may
inhibit potential acquisition bids for us.
Certain provisions of our amended and restated certificate of
incorporation, bylaws, other agreements and Delaware law could
make it more difficult for a third party to acquire us, even if
a change in control would be beneficial to our stockholders.
The
investment of our substantial cash balance and our investments
in marketable debt securities are subject to risks which may
cause losses and affect the liquidity of these
investments.
As of December 31, 2008, Digital River held
$109.5 million of investments at par value,
$93.2 million fair value, in auction-rate securities (ARS),
all are AAA/Aaa-rated and
105-115 over
collateralized by student loans guaranteed by the
U.S. government. All the securities are 100% guaranteed by
the Department of Education or the Federal Family Education Loan
Program (FFELP) with the exception of two securities which are
82.5% and 99% guaranteed by FFELP.
All of these securities continue to fail at auction due to
illiquid market conditions. Because of this, we have recorded a
$16.3 million temporary fair value reduction to Other
Comprehensive Income in 2008. The investment principal
associated with failed auctions will not be accessible until
successful auctions occur, a buyer is found outside of the
auction process, the issuers establish a different form of
financing to replace these securities, or final payments come
due according to the contractual maturities of the debt issues.
If none of these events occur or if the credit markets
deteriorate, we may in the future be required to take a larger
fair value discount and may be required to take a permanent
impairment resulting in a reduction of earnings and liquidity.
We intend to hold our auction-rate securities until we can
recover the full principal amount and have the ability to do so
based on our other sources of liquidity. Based on our expected
operating cash flows, and our other sources of cash, we do not
anticipate the potential lack of liquidity on these investments
will affect our ability to execute our current business plan.
|
|
ITEM 1B.
|
UNRESOLVED
STAFF COMMENTS
|
None.
The following table summarizes the various facilities that we
lease for our business operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
Square
|
|
|
|
Description of Use
|
|
Primary Locations
|
|
Footage(1)
|
|
|
Lease Expirations
|
|
Corporate Office Facilities
|
|
Minnesota
|
|
|
162,500
|
|
|
2011
|
Other U.S. Office Facilities
|
|
California, Colorado, Illinois, Georgia, Nebraska, Ohio, Oregon,
Pennsylvania, Utah
|
|
|
75,688
|
|
|
From 2009 to 2011
|
Non-U.S.
Office Facilities
|
|
China, Germany, Ireland, Japan, Korea, Luxembourg, Sweden,
Taiwan, United Kingdom
|
|
|
71,127
|
|
|
From 2009 to 2014
|
Off Site U.S. Data Centers
|
|
California, Minnesota, Utah
|
|
|
1,668
|
|
|
From 2009 to 2010
|
Off Site non U.S. Data Centers
|
|
Germany, Ireland, Sweden
|
|
|
800
|
|
|
From 2009 to 2011
|
|
|
|
(1) |
|
Includes sub-leased space. |
We believe our properties are suitable and adequate for our
present needs. We periodically evaluate whether additional
facilities are necessary.
26
|
|
ITEM 3.
|
LEGAL
PROCEEDINGS
|
DDR Holdings, LLC has brought a claim against us and several
other defendants regarding US Patents No. 6,629,135 (the
135 patent) and 6,993,572 (the 572
patent), which are owned by DDR Holdings. These patents
claim
e-commerce
outsourcing systems and methods relating to the provision of
outsourced
e-commerce
support pages having a common look and feel with a hosts
website. The case was filed in the U.S. District Court for
the Eastern District of Texas on January 31, 2006. The
complaint seeks injunctive relief, declaratory relief, damages
and attorneys fees. We have denied infringement of any
valid claim of the
patents-in-suit,
and have asserted counter-claims which seek a judicial
declaration that the patents are invalid and not infringed. In
September 2006, DDR Holdings filed an application for
reexamination of its patents based upon the prior art produced
by us and the other defendants in the case. As part of that
application, DDR Holdings asserted that this prior art raised a
substantial question as to the patentability of the inventions
claimed in the patents. In December 2006, the Court stayed the
litigation pending a decision on the reexamination application.
In February 2007, the US Patent and Trademark Office ordered
reexamination of DDRs patents. On September 4, 2008,
the US Patent and Trademark Office issued a non-final office
action rejecting the claims in the 572 patent which were
subject to reexamination. A further office action on the
572 patent is pending following an interview of DDR
Holdings by the patent examiner on December 18, 2008.
Should the stay of litigation be lifted, we intend to vigorously
defend ourselves in this matter. On January 5, 2009, the US
Patent and Trademark Office issued a final office action
rejecting the claims in the 135 patent which were subject
to reexamination.
We are subject to legal proceedings, claims and litigation
arising in the ordinary course of business. While the final
outcome of these matters is currently not determinable, we
believe there is no litigation pending against us that is likely
to have, individually or in the aggregate, a material adverse
effect on our consolidated financial position, results of
operations or cash flows. Because of the uncertainty inherent in
litigation, it is possible that unfavorable resolutions of these
lawsuits, proceedings and claims could exceed the amount we have
currently reserved for these matters.
Third parties have from time-to-time claimed, and others may
claim in the future, that we have infringed their intellectual
property rights, or that certain products and services we resell
infringed their intellectual property rights. We have been
notified of several potential intellectual property disputes,
and expect that we will increasingly be subject to intellectual
property infringement claims as our services expand in scope and
complexity. We have in the past been forced to litigate such
claims in some instances. We also may become more vulnerable to
third-party claims as laws, such as the Digital Millennium
Copyright Act, the Lanham Act and the Communications Decency Act
are interpreted by the courts and as we expand geographically
into jurisdictions where the underlying laws with respect to the
potential liability of online intermediaries like ourselves are
either unclear or less favorable. These claims, whether
meritorious or not, could be time-consuming and costly to
resolve, cause service upgrade delays, require expensive changes
in our methods of doing business, or could require us to enter
into costly royalty or licensing agreements.
|
|
ITEM 4.
|
SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS
|
None.
27
PART II
|
|
ITEM 5.
|
MARKET
FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
|
Price
Range of Common Stock
Our common stock is traded on the Nasdaq Global Select Market
under the symbol DRIV. The following table sets
forth, for the periods indicated, the high and low sale price
per share of our common stock on that market. These
over-the-counter market quotations reflect inter-dealer prices,
without retail
mark-up,
markdown or commission, and may not necessarily represent actual
transactions.
|
|
|
|
|
|
|
|
|
2007
|
|
High
|
|
|
Low
|
|
|
First Quarter
|
|
$
|
58.67
|
|
|
$
|
47.80
|
|
Second Quarter
|
|
$
|
60.30
|
|
|
$
|
43.70
|
|
Third Quarter
|
|
$
|
49.71
|
|
|
$
|
41.71
|
|
Fourth Quarter
|
|
$
|
53.52
|
|
|
$
|
32.38
|
|
2008
|
|
|
|
|
|
|
|
|
First Quarter
|
|
$
|
39.48
|
|
|
$
|
29.17
|
|
Second Quarter
|
|
$
|
42.62
|
|
|
$
|
30.68
|
|
Third Quarter
|
|
$
|
45.45
|
|
|
$
|
31.36
|
|
Fourth Quarter
|
|
$
|
34.02
|
|
|
$
|
16.88
|
|
Holders
As of February 2, 2009, there were approximately 339
holders of record of our common stock. On February 2, 2009,
the last sale price reported on The Nasdaq Global Select Market
for our common stock was $24.07 per share.
Dividend
Policy
We have never declared or paid any cash dividends on our capital
stock. We intend to retain any future earnings to support
operations and to finance the growth and development of our
business and do not anticipate paying cash dividends for the
foreseeable future.
Issuer
Purchases of Equity Securities
In June 2007 our Board of Directors authorized a new stock
buyback program to repurchase up to an aggregate of
$200 million of our common stock. This buyback program
superseded the prior buyback program.
During 2008, 4,239,312 shares were repurchased under the
2007 Repurchase Program, including 3,876,612 shares
repurchased pursuant to the accelerated share repurchase
program. None of the repurchased shares have been retired.
The Accelerated Share Repurchase (ASR) agreement was entered
into with Goldman Sachs (GS) on February 7, 2008 and called
for GS to repurchase $127 million of Digital River, Inc.
stock between February 7, 2008 and June 20, 2008.
Based on the agreement, Digital River received a final share
count based on a discount of the Volume Weighted Average Price
of Digital River stock from February 21, 2008, through the
end of the contract. On June 20, 2008, GS had concluded the
ASR program with a final share delivery of 327,767 shares.
The aggregate number of shares repurchased pursuant to the ASR
program was 3,876,612 shares at an average price of $32.76
per share. The ASR agreement terminated upon completion of the
ASR program on June 20, 2008 in accordance with its terms.
With the conclusion of the ASR program, we have completed the
2007 Repurchase Program.
28
Securities
Authorized for Issuance under Equity Compensation
Plans
The information required in the table of Securities Authorized
for Issuance under Equity Compensation Plans is incorporated by
reference to our Proxy Statement in connection with our 2009
Annual Meeting to be filed in accordance with
Regulation 14A under the Securities Exchange Act of 1934,
as amended.
Securities
Performance Measurement
Comparison1
The SEC requires a comparison on an indexed basis of cumulative
total stockholder return for the Company, a relevant broad
equity market index and a published industry line-of-business
index. The following graph shows a total stockholder return of
an investment of $100 in cash on December 31, 2003 for
(i) the Companys Common Stock; (ii) the CRSP
Total Return Index for the Nasdaq Stock Market
(U.S. companies) (the Nasdaq Composite Index);
and (iii) the RDG Technology Composite Index. The RDG
Technology Composite Index is composed of approximately 500
technology companies in the semiconductor, electronics, medical
and related technology industries. Historic stock price
performance is not necessarily indicative of future stock price
performance. All values assume reinvestment of the full amount
of all dividends.
COMPARISON
OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Digital River, Inc., The NASDAQ Composite Index
And The RDG Technology Composite Index
|
|
|
* |
|
$100 invested on
12/31/03 in
stock or index-including reinvestment of dividends. |
Fiscal year ending December 31.
1 This
Section is not soliciting material, is not deemed
filed with the SEC and is not to be incorporated by
reference in any filing of the Company under the Securities Act
or the Exchange Act whether made before or after the date hereof
and irrespective of any general incorporation language in any
such filing.
29
|
|
ITEM 6.
|
SELECTED
FINANCIAL DATA
|
The information set forth below is not necessarily indicative of
results of future operations, and should be read in conjunction
with Item 7, Managements Discussion and
Analysis-Financial Condition and Results of Operations and
the consolidated financial statements and related notes thereto
included in Item 8 of this
Form 10-K
to fully understand factors that may affect the comparability of
the information presented below.
The financial information that has been previously filed or
otherwise reported for these periods is superseded by the
information in this Annual Report on
Form 10-K,
and the financial statements and related financial information
contained in previously-filed reports should no longer be relied
upon.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
|
(In thousands)
|
|
|
Balance Sheet Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current Assets
|
|
$
|
603,686
|
|
|
$
|
774,814
|
|
|
$
|
704,046
|
|
|
$
|
413,623
|
|
|
$
|
315,499
|
|
Current Liabilities
|
|
|
443,662
|
|
|
|
245,102
|
|
|
|
206,159
|
|
|
|
168,976
|
|
|
|
116,752
|
|
Working capital
|
|
|
160,024
|
|
|
|
529,712
|
|
|
|
497,887
|
|
|
|
244,647
|
|
|
|
198,747
|
|
Total assets
|
|
|
1,070,252
|
|
|
|
1,127,744
|
|
|
|
1,006,263
|
|
|
|
669,549
|
|
|
|
504,521
|
|
Long-term obligations
|
|
|
24,517
|
|
|
|
206,362
|
|
|
|
196,345
|
|
|
|
195,022
|
|
|
|
195,000
|
|
Total stockholders equity
|
|
$
|
602,073
|
|
|
$
|
676,280
|
|
|
$
|
603,759
|
|
|
$
|
305,551
|
|
|
$
|
192,769
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
|
(In thousands, except per share data)
|
|
|
Statement of Income Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
394,226
|
|
|
$
|
349,275
|
|
|
$
|
307,632
|
|
|
$
|
220,408
|
|
|
$
|
154,130
|
|
Costs and expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct cost of services
|
|
|
16,417
|
|
|
|
10,243
|
|
|
|
7,709
|
|
|
|
5,063
|
|
|
|
5,167
|
|
Network and infrastructure
|
|
|
41,040
|
|
|
|
32,309
|
|
|
|
29,250
|
|
|
|
19,817
|
|
|
|
15,164
|
|
Sales and marketing
|
|
|
150,118
|
|
|
|
134,401
|
|
|
|
113,462
|
|
|
|
69,371
|
|
|
|
52,083
|
|
Product research and development
|
|
|
51,184
|
|
|
|
39,179
|
|
|
|
32,341
|
|
|
|
20,690
|
|
|
|
14,293
|
|
General and administrative
|
|
|
39,525
|
|
|
|
38,937
|
|
|
|
34,158
|
|
|
|
21,484
|
|
|
|
17,006
|
|
Depreciation and amortization
|
|
|
15,980
|
|
|
|
12,706
|
|
|
|
10,983
|
|
|
|
8,833
|
|
|
|
8,203
|
|
Amortization of acquisition related intangibles
|
|
|
8,391
|
|
|
|
7,586
|
|
|
|
12,134
|
|
|
|
8,730
|
|
|
|
8,269
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses
|
|
|
322,655
|
|
|
|
275,361
|
|
|
|
240,037
|
|
|
|
153,988
|
|
|
|
120,185
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
71,571
|
|
|
|
73,914
|
|
|
|
67,595
|
|
|
|
66,420
|
|
|
|
33,945
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Income
|
|
|
18,019
|
|
|
|
32,167
|
|
|
|
22,836
|
|
|
|
9,668
|
|
|
|
3,166
|
|
Other income (expense), net
|
|
|
(3,319
|
)
|
|
|
(3,006
|
)
|
|
|
(949
|
)
|
|
|
(4,701
|
)
|
|
|
(1,525
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income tax expense
|
|
|
86,271
|
|
|
|
103,075
|
|
|
|
89,482
|
|
|
|
71,387
|
|
|
|
35,586
|
|
Income tax expense
|
|
|
22,676
|
|
|
|
32,261
|
|
|
|
28,672
|
|
|
|
14,875
|
|
|
|
1,079
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
63,595
|
|
|
$
|
70,814
|
|
|
$
|
60,810
|
|
|
$
|
56,512
|
|
|
$
|
34,507
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share basic
|
|
$
|
1.72
|
|
|
$
|
1.75
|
|
|
$
|
1.58
|
|
|
$
|
1.64
|
|
|
$
|
1.07
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share diluted
|
|
$
|
1.55
|
|
|
$
|
1.58
|
|
|
$
|
1.40
|
|
|
$
|
1.41
|
|
|
$
|
0.94
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per-share calculation basic
|
|
|
37,016
|
|
|
|
40,444
|
|
|
|
38,593
|
|
|
|
34,536
|
|
|
|
32,328
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per-share calculation diluted
|
|
|
42,106
|
|
|
|
45,914
|
|
|
|
44,642
|
|
|
|
41,448
|
|
|
|
38,532
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
30
|
|
ITEM 7.
|
MANAGEMENTS
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATION
|
The discussion in this Annual Report contains forward-looking
statements that involve risks and uncertainties. Our actual
results could differ materially from those discussed below.
Additional factors that could cause or contribute to such
differences include, but are not limited to, those identified
below, and those discussed in the section entitled Risk
Factors, included elsewhere in this Annual Report. When
used in this document, the words believes,
expects, anticipates,
intends, plans, and similar expressions,
are intended to identify certain of these forward-looking
statements. However, these words are not the exclusive means of
identifying such statements. In addition, any statements that
refer to expectations, projections or other characterizations of
future events or circumstances are forward-looking statements.
The cautionary statements made in this document should be read
as being applicable to all related forward-looking statements
wherever they appear in this document.
Overview
We provide
e-commerce
solutions globally to a wide variety of companies primarily in
software, consumer electronics, and computer games and video
games markets. We offer our clients a broad range of services
that enable them to mitigate their risk and effectively build,
manage, and grow online sales on a global basis. Our services
include design, development and hosting of online stores,
merchandising, order management, fraud prevention screening,
popular online payment methods, export controls and management,
denied parties screening, tax compliance and management, digital
product delivery via download, physical product fulfillment, CD
production, multi-lingual customer service, subscription
management, online marketing services including email marketing,
paid search program management, website optimization, web
analytics , affiliate marketing and reporting.
Acquisitions
and Comparability of Results
We acquired Direct Response Technologies, Inc. (now DR Marketing
Solutions, Inc.) in January 2006, MindVision, Inc. in June 2006,
NetGiro Systems AB in September 2007, IA Users Club, Inc. d.b.a.
CustomCD and DigitalSwift Corporation in January 2008 and THINK
Subscription, Inc. in September 2008. The results of these
acquisitions must be factored into any comparison of our 2008
results to the results for 2007 or 2006. See Note 4 of our
consolidated financial statements for the year ended
December 31, 2008, for pro forma financial information as
if these entities had been acquired on January 1, 2007.
Critical
Accounting Policies
We prepare our consolidated financial statements in conformity
with accounting principles generally accepted in the United
States of America. As such, we are required to make certain
estimates, judgments and assumptions that we believe are
reasonable based upon the information available. These estimates
and assumptions affect the reported amounts of assets and
liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the periods
presented. The significant accounting policies that we believe
are the most critical in fully understanding and evaluating our
reported financial results are the following:
Revenue Recognition. We recognize revenue in
accordance with Staff Accounting Bulletin No. 104,
Revenue Recognition, from services rendered once all
the following criteria for revenue recognition have been met:
(1) persuasive evidence of an agreement exists;
(2) the services have been rendered; (3) the fee is
fixed and determinable; and (4) collection of the amounts
due is reasonably assured.
We evaluate the criteria outlined in Emerging Issues Task Force,
(EITF) Issues
No. 99-19,
Reporting Revenue Gross as a Principal versus Net as an Agent,
in determining whether it is appropriate to record the gross
amount of product sales and related costs or the net amount
earned as net revenue. We act as the merchant of record on most
of the transactions processed and have contractual relationships
with our clients, which obligate us to pay to the client a
specified percentage of each sale. We derive our revenue
primarily from transaction fees based on a percentage of the
products sale price and fees from services
31
rendered associated with the
e-commerce
and other services provided to our clients and end customers.
Our revenue is recorded as net as generally our clients are
subject to inventory risks and control customers product
choices. We sell both physical and digital products. Revenue is
recognized upon fulfillment and based upon when products are
shipped and title and significant risk of ownership passes to
the customer.
We also provide customers with various proprietary software
backup services. We recognize revenue for these backup services
based upon historical usage within the contract period of the
digital backup services when this information is available.
Digital backup services are recognized straight-line over the
life of the backup service when historical usage information is
unavailable. Shipping revenues are recorded net of any
associated costs.
We also, to a lesser extent, provide fee-based client services,
which include website design, custom development and
integration, analytical marketing, affiliate marketing and email
marketing services. If we receive payments for fee-based
services in advance of delivery, these amounts, if significant,
are deferred and recognized over the service period.
Provisions for doubtful accounts and transaction losses and
authorized credits are made at the time of revenue recognition
based upon our historical experience. The provision for doubtful
accounts and transaction losses are recorded as charges to
operating expense, while the provision for authorized credits is
recognized as a reduction of net revenues.
In June 2006, the EITF reached a consensus on EITF Issue
No. 06-3,
How Taxes Collected from Customers and Remitted to
Governmental Authorities Should Be Presented in the Income
Statement (That is, Gross versus Net Presentation)
(EIFT
06-3).
EITF 06-3
provides that the presentation of taxes assessed by a
governmental authority that is directly imposed on a
revenue-producing transaction between a seller and a customer on
either a gross basis (included in revenues and costs) or on a
net basis (excluded from revenues) is an accounting policy
decision that should be disclosed. The Company presents these
taxes on a net basis.
Allowance for Doubtful Accounts. We must make
estimates and assumptions that can affect the amount of assets
and liabilities and the amounts of revenues and expenses we
report in any financial reporting period. We use estimates in
determining our allowance for doubtful accounts, which are based
on our historical experience and current trends. We must
estimate the collectability of our billed accounts receivable.
We analyze accounts receivable and consider our historical bad
debt experience, customer credit-worthiness, current economic
trends and changes in our customer payment terms when evaluating
the adequacy of the allowance for doubtful accounts. We must
make significant judgments and estimates in connection with the
allowance in any accounting period. There may be material
differences in our operating results for any period if we change
our estimates or if the estimates are not accurate.
Credit Card Chargeback Reserve. We use
estimates based on historical experience and current trends to
determine accrued chargeback expenses. Significant management
judgments are used and estimates made in connection with these
expenses in any accounting period. There may be material
differences in our operating results for any period if we change
our estimates or if the estimates are not accurate.
Goodwill, Intangibles and Other Long-Lived
Assets. We depreciate property, plant and
equipment; amortize certain intangibles and certain other
long-lived assets with definite lives over their useful lives.
Useful lives are based on our estimates of the period of time
over which the assets will generate revenue or benefit our
business. We review assets with definite lives for impairment
whenever events or changes in circumstances indicate that the
value we are carrying on our financial statements for an asset
may not be recoverable. Our evaluation considers non-financial
data such as changes in the operating environment and business
strategy, competitive information, market trends and operating
performance. If there are indications that impairment may be
necessary, we use an undiscounted cash flow analysis to
determine the impairment amount, if any. Assets with indefinite
lives are reviewed for impairment annually (or more frequently
if there are indications that an impairment may be necessary)
utilizing the two-step approach prescribed in Statement of
Financial Accounting Standards (SFAS) No. 142,
Goodwill and Other
32
Intangible Assets. There have been no material impairments
of goodwill and other intangible assets for the years 2008, 2007
and 2006.
Income Taxes and Deferred Taxes. Deferred
income taxes reflect the 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. We record deferred tax assets for favorable tax
attributes, including tax loss carryforwards. We currently have
U.S. tax loss carryforwards, consisting solely of acquired
operating tax loss carryforwards, and a lesser amount of
acquired foreign operating tax loss carryforwards. A portion of
the benefit of the acquired tax loss carryforwards has been
reserved by a valuation allowance pursuant to United States
generally accepted accounting principles. These valuation
allowances of the deferred tax asset will be reversed if and
when it is more likely than not that the deferred tax asset will
be realized. We evaluate the need for a valuation allowance of
the deferred tax asset on a quarterly basis. Any future release
of valuation allowance will reduce income tax expense.
There is uncertainty of future realization of the deferred tax
assets resulting from acquired tax loss carryforwards due to
anticipated limitations, including limitations under
Section 382 of the Internal Revenue Code. Therefore, a
valuation allowance was recorded against the tax effect of such
tax loss carryforwards. At December 31, 2008, the Company
has a valuation allowance on approximately $1.4 million of
deferred tax assets related to acquired operating losses and
other tax attributes as we believe it is more likely than not
that these deferred tax assets will not be realized. Any future
release of this valuation allowance will reduce income tax
expense.
On January 1, 2007, we adopted FASB Interpretation
No. 48 (FIN 48), Accounting for Uncertainty in
Income Taxes an interpretation of FASB Statement
No. 109. FIN 48 clarifies the accounting for
uncertainty in income taxes recognized under
SFAS No. 109, Accounting for Income Taxes.
FIN 48 prescribes a recognition threshold and measurement
attribute for financial statement recognition and measurement of
a tax position taken or expected to be taken in a tax return and
also provides guidance on various related matters such as
derecognition, interest and penalties, and disclosure. As a
result of the implementation of FIN 48, we recognized no
material adjustment in the liability for unrecognized income tax
benefits.
No provision has been made for federal income taxes on
approximately $81.3 million of our foreign subsidiaries
undistributed earnings as of December 31, 2008 since we
plan to indefinitely reinvest all such earnings. If these
earnings were distributed to the U.S. in the form of
dividends or otherwise, we would be subject to U.S. income
taxes on such earnings. The amount of U.S. income taxes
would be subject to adjustment for foreign tax credits and for
the impact of the
step-up in
the basis of assets resulting from a Section 338 election
made at the time of acquisition. If these earnings were to be
distributed, the income tax liability would be approximately
$17.5 million.
Stock-Based Compensation Expense. On
January 1, 2006, we adopted Statement of Financial
Accounting Standards No. 123 (Revised 2004),
Share-Based Payment, (SFAS 123(R))
which requires the measurement and recognition of compensation
expense for all share-based payments made to employees and
directors including stock options, restricted stock grants and
employee stock purchases made through our Employee Stock
Purchase Plan based on estimated fair values. SFAS 123(R)
supersedes our previous accounting under Accounting Principles
Board Opinion No. 25 (APB 25), Accounting
for Stock Issued to Employees, for periods beginning in
2006.
Prior to the adoption of SFAS 123(R), we had elected to
apply the disclosure-only provision of SFAS No. 123,
Accounting for Stock-Based Compensation as amended
by SFAS No. 148. Accordingly, we accounted for
stock-based compensation using the intrinsic value method
prescribed in APB 25 and related interpretations. Compensation
expense for stock options was measured as the excess, if any, of
the fair value of our common stock at the date of grant over the
stock option exercise price.
We have adopted SFAS 123(R) using the modified prospective
transition method under which prior periods are not revised.
Stock-based compensation expense recognized during the period is
based on the value of the portion of share-based awards that are
ultimately expected to vest during the period. The fair value of
33
each stock option grant is estimated on the date of grant using
the Black-Scholes option pricing model. The fair value of
restricted stock is determined based on the number of shares
granted and the closing price of our common stock on the date of
grant. Compensation expense for all share-based payment awards
is recognized using the straight-line amortization method over
the vesting period. Stock-based compensation expense of
$12.5 million was charged to operating expenses during 2008.
As stock-based compensation expense recognized in our
Consolidated Statement of Income for 2008 is based on awards
ultimately expected to vest, it has been reduced for estimated
forfeitures. SFAS 123(R) requires forfeitures to be
estimated at the time of grant and revised, if necessary, in
subsequent periods if actual forfeitures differ from those
estimates. Our pro forma information required under
SFAS 123, for periods prior to 2006, accounted for
forfeitures as they occurred. In March 2005 the Securities and
Exchange Commission issued Staff Accounting
Bulletin No. 107 (SAB 107), which
provides supplemental implementation guidance for
SFAS 123(R). We have applied the provision of SAB 107
in our adoption of SFAS 123(R).
SFAS 123(R) also requires the benefits of tax deductions in
excess of recognized stock-based compensation expense be
reported as a financing cash flow, rather than an operating cash
flow as required prior to adoption of SFAS 123(R) in our
Consolidated Statement of Cash Flows. On November 10, 2005,
the Financial Accounting Standards Board (FASB) issued FASB
Staff Position No. FAS 123(R)-3 Transition
Election Related to Accounting for Tax Effects of Share-based
Payment Awards. We have elected not to adopt the
alternative transition method provided in the FASB Staff
Position for calculating the tax effects of stock-based
compensation pursuant to SFAS 123(R).
See Note 5 in the Consolidated Financial Statements in this
Form 10-K
for further information regarding the impact of our adoption of
SFAS 123(R) and the assumptions we use to calculate the
fair value of share-based compensation.
Results
of Operations
The following table presents certain items from our consolidated
statements of income as a percentage of total revenue for the
years indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Revenue
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
|
|
100.0
|
%
|
Costs and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct cost of services
|
|
|
4.2
|
|
|
|
2.9
|
|
|
|
2.5
|
|
Network and infrastructure
|
|
|
10.4
|
|
|
|
9.3
|
|
|
|
9.5
|
|
Sales and marketing
|
|
|
38.1
|
|
|
|
38.5
|
|
|
|
36.9
|
|
Product research and development
|
|
|
13.0
|
|
|
|
11.2
|
|
|
|
10.5
|
|
General and administrative
|
|
|
10.0
|
|
|
|
11.1
|
|
|
|
11.1
|
|
Depreciation and amortization
|
|
|
4.0
|
|
|
|
3.6
|
|
|
|
3.6
|
|
Amortization of acquisition-related intangibles
|
|
|
2.1
|
|
|
|
2.2
|
|
|
|
3.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses
|
|
|
81.8
|
|
|
|
78.8
|
|
|
|
78.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
18.2
|
|
|
|
21.2
|
|
|
|
22.0
|
|
Interest Income
|
|
|
4.6
|
|
|
|
9.2
|
|
|
|
7.4
|
|
Other expense, net
|
|
|
(0.9
|
)
|
|
|
(0.9
|
)
|
|
|
(0.3
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income tax expense
|
|
|
21.9
|
|
|
|
29.5
|
|
|
|
29.1
|
|
Income tax expense
|
|
|
5.8
|
|
|
|
9.2
|
|
|
|
9.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
16.1
|
%
|
|
|
20.3
|
%
|
|
|
19.8
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue. Our revenue increased to
$394.2 million in 2008 from $349.3 million in 2007 and
$307.6 million in 2006. The revenue increases were
primarily attributable to growth in the number of online game
and consumer electronic clients we served, increased sales from
international sites, expanded strategic marketing
34
activities with a larger number of clients, and acquisitions.
Sales of security software products for PCs represent the
largest contributor to our revenues. Acquisitions made during
each of 2008, 2007 and 2006 generated approximately 2.6%, 1.3%
and 3.5% of our total revenue for those years, respectively.
International
e-commerce
sales have been stable at approximately 42.8%, 43.2% and 41.2%
of revenue in the years ended December 31, 2008, 2007 and
2006, respectively. Sales of products for one software publisher
client, Symantec Corporation, accounted for approximately 24.3%
of our revenue in 2008, 26.2% in 2007 and 30.2% in 2006. In
addition, revenues derived from proprietary Digital River
services sold to Symantec consumers and
oneNetworkDirecttm
sales of Symantec products amounted to approximately 9.4% of our
total revenue in 2008, 13.2% in 2007 and 16.6% in 2006.
Direct Cost of Services. Our direct cost of
services expenses primarily include costs related to personnel,
product fulfillment,
back-up CD
production and delivery solution and certain client-specific
costs. Direct cost of service expense was $16.4 million,
$10.2 million and $7.7 million in 2008, 2007 and 2006,
respectively. The increase in 2008 compared with 2007 was
primarily driven by revenue growth and increased CD supply and
personnel costs incurred through the DigitalSwift and CustomCD
acquisitions in January 2008. The increase in 2007 compared with
2006 was primarily due to approximately $1.6 million in
increased CD supply costs associated with higher gross sales and
$0.8 million in additional personnel costs to support our
largest clients and handle increased sales volume. As a
percentage of revenue, direct cost of services increased to 4.2%
in 2008 from 2.9% and 2.5% in 2007 and 2006, respectively.
We currently believe 2009 direct costs of services will remain
relatively flat compared to 2008 in absolute dollars as costs
associated with moderately higher CD sales volume are offset by
lower costs and efficiencies related to the full integration of
our CD companies. This outlook assumes continued financial
challenges for consumers and macroeconomic uncertainty which is
expected to temper our revenue performance indefinitely. If
economic conditions improve or further deteriorate or we
complete any future acquisitions we expect a correlating
increase or decrease in direct cost of services in line with
revenue.
Network and Infrastructure. Our network and
infrastructure expenses primarily include personnel related
expenses and costs to operate and maintain our technology
platforms, customer service, data communication and data center
operations. Network and infrastructure expenses were
$41.0 million in 2008, up from $32.3 million and
$29.3 million in 2007 and 2006, respectively. The increase
in 2008 from 2007 was due to $2.7 million increased
workforce related costs, $1.9 million software licenses and
$1.4 million data telecommunication expenses to support our
global data center operations and increased revenue growth. In
addition, $2.7 million of the increase in 2008 compared to
2007 was due to network and infrastructure costs related to
NetGiro Systems which was acquired in September 2007. The
increase in 2007 from 2006 was primarily due to
$1.8 million in additional software license amortization
expense, $1.3 million in increased data telecommunication
and data center operations costs and $1.0 million of
network and infrastructure costs related to our NetGiro Systems
acquisition. The 2007 increases supported our revenue growth and
were partially offset by $1.9 million lower personnel costs
due primarily to Symantec Corporation bringing certain customer
service activities in-house and the absence of workforce
reduction related costs incurred in connection with the 2006
consolidation of our International customer service center
located in Ireland. As a percentage of revenue, network and
infrastructure costs increased to 10.4% from 9.3% and 9.5% in
2007 and 2006, respectively.
We currently believe network and infrastructure expenses will
increase in absolute dollars in 2009 compared to 2008 as we
continue to expand our global data center and customer service
capacity. However, if global economic conditions further
deteriorate, cost containment actions may result in lower
network and infrastructure costs in 2009 as compared to 2008 to
allow us to invest in higher opportunity areas of the business.
Sales and Marketing. Our sales and marketing
expenses mainly include credit card transaction and other
payment processing fees, personnel and related costs,
advertising, promotional and product marketing expenses, credit
card chargebacks and bad debt expense. Sales and marketing
expenses were $150.1 million, $134.4 million and
$113.5 million in 2008, 2007 and 2006, respectively. The
increase in sales and marketing in 2008 compared to 2007 was due
to $5.5 million additional workforce related costs to
support our global growth initiatives, $3.9 million in
credit card and other payment processing fees related to higher
revenue and
35
the addition of new payment methods and $2.8 million
marketing and advertising costs to strengthen our presence in
the video game and consumer electronics markets. Also, an
additional $3.3 million in sales and marketing expenses
were incurred in 2008 by NetGiro Systems, our global payment
service provider which was acquired in September 2007. In
addition, $1.0 million of sales and marketing expenses were
incurred through our January 2008 CustomCD, Inc. and Digital
Swift acquisitions. The increase in 2007 from 2006 resulted from
an additional $9.2 million in personnel and related costs
to support global strategic and product marketing,
$5.7 million in promotional and product marketing expenses
associated with our MarketForce services, primarily paid search
and a $5.5 million increase in credit card and other
payment processing fees directly related to incremental gross
revenue and new international payment methods. Through our
strategic marketing activities we continued to increase the
value of existing client relationships. As a percentage of
revenue, sales and marketing expense was 38.1% in 2008 from
38.5% and 36.9% in 2007 and 2006, respectively.
We currently believe sales and marketing expenses will remain
relatively flat in absolute dollars in 2009 compared to 2008. We
plan to support the expansion of our client relationships
through investments in subscriptions, international payment
processing and strategic marketing services. We also expect to
continue our investments in key vertical markets, in particular
consumer electronics and games. This outlook assumes continued
financial challenges for consumers and macroeconomic uncertainty
which is expected to temper our revenue performance
indefinitely. If economic conditions improve or further
deteriorate or we complete any future acquisitions we expect a
correlating increase or decrease in sales and marketing expenses.
Product Research and Development. Our product
research and development expenses include the costs of personnel
and related expenses associated with developing, maintaining and
enhancing our technology platforms and related systems. Product
research and development expense was $51.2 million in 2008,
compared to $39.2 million and $32.3 million in 2007
and 2006, respectively. The increases in both 2008 and 2007
compared to the prior year were primarily due to additional
workforce and facility costs in development and quality
assurance. Recent acquisitions NetGiro, CustomCD, DigtalSwift
and THINK Subscriptions comprised a total of approximately
$5.4 million of the increase in research and development
costs in 2008 compared to 2007. Our research and development
investments supported on-going initiatives in our
e-commerce
infrastructure to advance global system scalability, our
e-marketing
capabilities, data management and client reporting. Key
enhancements implemented in 2008 included regulatory
environmental fee management, subscription solutions and new
online payment types. In addition, remote control functionality
was added to our platform to make it even easier for clients to
drive revenue and manage their stores without relying on our
personnel. We expect these investments to drive long-term
operational efficiencies across the organization and provide
further competitive differentiation. Our 2007 research and
development costs included the impact of our September 2007
NetGiro Systems acquisition and as well as software development
expenses related to our relationship with Electronic Arts, a
leading interactive entertainment software company. We
capitalized $4.7 million of internal software development
employee and consultant labor costs in 2008. This capitalization
was primarily related to design efforts on our new enterprise
resource planning system and a new data management and reporting
infrastructure. We did not capitalize any significant costs
related to internal software development in 2007 or 2006. As a
percentage of revenue, product research and development expense
increased to 13.0% in 2008 from 11.2% in 2007 and 10.5% in 2006.
We currently believe that product research and development
expenses will increase moderately in absolute dollars in 2009
compared to 2008, as a result of continued investments in
product development required to remain competitive. However, if
global economic conditions continue to deteriorate, cost
containment actions may result in lower product research and
development spending in 2009 as compared to 2008. If we complete
any future acquisitions we expect research and development
expenses to increase in line with higher revenue.
General and Administrative. Our general and
administrative expenses primarily include the costs of
executive, accounting and administrative personnel and related
expenses, professional fees for legal, tax and audit services,
bank fees and insurance. General and administrative expenses
were $39.5 million in 2008 compared to $38.9 million
and $34.2 million in 2007 and 2006, respectively. The
increase in 2008 compared to 2007 was primarily due to
$1.4 million higher workforce related costs related to our
September 2007 NetGiro Systems acquisition. This increase was
partially offset by $0.9 million lower legal fees in 2008
due to
36
the absence of costs related to our internal review of
historical stock option practices. The increase in 2007 compared
to 2006 resulted primarily from additional workforce related
expenses required to support our global expansion and
infrastructure investments and additional bank fees mainly
through our NetGiro Systems acquisition. As a percentage of
revenue, general and administrative expenses decreased to 10% in
2008 from 11.1% in both 2007 and 2006.
We currently believe that general and administrative expenses
will decrease in absolute dollars in 2009 compared to 2008. We
plan to continue to invest in our infrastructure to support
continued organic growth. However, we expect these incremental
expenses will be offset by efficiencies gained through the
implementation of our new Enterprise Resource Planning (ERP)
system, client reporting enhancements and cost containment
measures. If we complete any future acquisitions we expect a
correlating increase in our general and administrative expenses
in line with increased revenue.
Depreciation and Amortization. Our
depreciation and amortization expenses include the depreciation
of computer equipment and office furniture and the amortization
of purchased and internally developed software, leasehold
improvements made to our leased facilities and debt financing
costs. Computer equipment, software and furniture are
depreciated under the straight-line method using three to seven
year lives and leasehold improvements are amortized over the
shorter of the asset life or the remaining length of the lease.
Depreciation and amortization expense increased to
$16.0 million in 2008 from $12.7 million and
$11.0 million in 2007 and 2006, respectively. The increased
expenses in 2008 and 2007 resulted primarily from increases in
our capital equipment, as gross capitalized property and
equipment increased to $94.1 million on December 31,
2008, from $74.1 million and $56.4 million on
December 31, 2007 and 2006, respectively.
We currently believe that depreciation and amortization expenses
will increase in absolute dollars in 2009 compared to 2008 as we
have and will continue to expand our worldwide customer support
capacity, expand the number of operating global data centers and
complete significant data management, client reporting projects
to support our business initiatives and begin the amortization
of our new ERP system and the depreciation of the associated
equipment.
Amortization of Acquisition-Related
Intangibles. In 2008, our amortization of
acquisition-related intangibles line item consists of the
amortization of intangible assets recorded from our nine
acquisitions in the past four years. Amortization of acquisition
related intangibles was $8.4 million in 2008 compared to
$7.6 million and $12.1 million in 2007 and 2006,
respectively. The increase in 2008 reflects the expenses
associated with our acquisitions of CustomCD, DigitalSwift and
THINK Subscription which were partially offset by the full
amortization of prior acquisitions. The decrease in 2007 from
2006 reflects the full amortization of several past acquisitions
partially offset by the increased amortization of 2007
acquisitions. We complete our annual goodwill impairment test
using a two-step approach in the fourth quarter of each year.
Our assessment has indicated that there is no impairment of
goodwill for the years ended December 31, 2008, 2007 and
2006. We have purchased, and expect to continue purchasing,
assets or businesses, which may include the purchase of
intangible assets.
Income from Operations. Our income from
operations in 2008 was $71.6 million, down from
$73.9 million in 2007 and up from $67.6 million in
2006. As a percentage of revenue, income from operations was
18.2% in 2008, 21.2% in 2007 and 22.0% in 2006. Income from
operations decreased during 2008 from 2007 and 2006 as a
percentage of revenue as expenses grew faster than revenues
primarily due to higher spending on global growth and
operational efficiency initiatives.
Interest Income. Our interest income
represents the total of interest income on our cash, cash
equivalents, short-term investments and long-term investments.
Interest income was $18.0 million, $32.2 million and
$22.8 million in 2008, 2007 and 2006, respectively. The
decrease in interest income in 2008 compared to 2007 was
primarily due to the use of $138 million in cash for our
share repurchase program during the first quarter of 2008. Also,
interest income declined in 2008 due to significantly lower
market yields on our portfolio. The increase in interest income
in 2007 compared to 2006 was primarily due to higher cash
balances and slightly higher interest rates.
37
We currently anticipate interest income will decline in 2009 due
to lower cash balances and lower market yields when compared to
2008. The company used about $187.9 million of cash in
January 2009, which includes accrued interest of
$1.2 million; to satisfy the majority of holders of our
1.25% Convertible Senior Notes due 2024 who exercised their
put option to require the company to repurchase their notes. In
total, 95.5% of the $195 million Convertible Senior Notes
were repurchased by the company. As of January 31, 2009,
approximately $8.8 million of the Convertible Senior Notes
remained outstanding.
Other Expense, Net. Our other expense, net
line item includes the total of interest expense on our debt,
foreign currency transaction gains and losses and asset disposal
gains and losses. Interest expense was $2.5 million in 2008
compared to $2.4 million in 2007 and 2006 and was related
primarily to our Convertible Senior Notes. We reported a
$0.3 million gain from foreign currency remeasurement in
2008 compared to a $0.6 million loss in 2007 and a
$1.5 million gain on foreign currency remeasurement in
2006. The loss on asset disposals was $1.1 million in 2008,
and included one-time charges of approximately $0.5 million
each for a settlement of patent litigation and a write-down of
intangible assets related to our 2007 Bitpass asset acquisition.
Disposals of assets were immaterial in 2007 and 2006. We
currently believe interest expense will decline substantially in
2009 compared to 2008 and 2007 due to the decrease in
outstanding Convertible Senior Notes.
Income Tax Expense. In 2008, our tax expense
was $22.7 million, consisting of approximately
$26.9 million of current tax expense offset by
approximately $4.2 million of deferred tax benefit. In
2007, our tax expense was $32.3 million, consisting of
approximately $37.0 million of current tax expense offset
by $4.7 million of deferred tax benefit. In 2006, our tax
expense was $28.7 million, consisting of approximately
$39.5 million of current tax expense offset by
$10.8 million of deferred tax benefit. Our effective tax
rate for 2008 was 26.3% compared to 31.3% in 2007 and 32.0% in
2006. Differences in our effective tax rate from the US
statutory rate are primarily due to our mix of earnings from
international operations and the differences in statutory rates
in these countries from the US rate.
As of December 31, 2008, we had U.S. tax loss
carryforwards of approximately $16.5 million and foreign
tax loss carryforwards of $4.3 million. These tax loss
carryforwards consist solely of acquired net operating losses.
The U.S. tax loss carryforwards expire in the years 2021
through 2025. However, we anticipate most U.S. tax loss
carryforwards will be utilized in the next few years.
There is uncertainty of future realization of the deferred tax
assets resulting from acquired tax loss carryforwards due to
anticipated limitations. Therefore, a valuation allowance was
recorded against the tax effect of such tax loss carryforwards.
At December 31, 2008, the Company has a valuation allowance
on approximately $1.4 million of deferred tax assets
related to acquired operating losses and other tax attributes as
we believe it is more likely than not that these deferred tax
assets will not be realized. Any future release of this
valuation allowance will reduce income tax expense.
Comprehensive Income. Comprehensive income
includes revenues, expenses, gains and losses that are excluded
from net earnings under GAAP. Items of comprehensive income are
unrealized gains and losses on short term investments and
foreign currency translation adjustments which are added to net
income to compute comprehensive income. Comprehensive income is
net of income tax benefits or expense.
In 2008, comprehensive income included $15.2 million
recorded for unrealized foreign exchange losses on the
revaluation of investments in foreign subsidiaries;
$0.6 million net of $0.3 million tax benefit for
unrealized investment losses; and $10.2 million net of
$6.1 million tax benefit for the temporary impairment of
auction rate securities, In 2007, comprehensive income included
$18.3 million recorded for unrealized foreign exchange
gains on the revaluation of investments in foreign subsidiaries;
and $1.0 million net of $0.6 million tax expense for
unrealized investment gains. In 2006, comprehensive income
included $13.5 million recorded for unrealized foreign
exchange losses on the revaluation of investments in foreign
subsidiaries; and $0.6 million net of $0.2 million tax
benefit for unrealized investment losses.
38
Liquidity
and Capital Resources
As of December 31, 2008, we had $490.3 million of cash
and cash equivalents and $10.0 million of short-term
investments. As discussed below, on January 2, 2009 we paid
approximately $187.9 million in connection with the
repurchase of our Notes. The major components of our working
capital are cash and cash equivalents, short-term investments
and short-term receivables net of client payables. Our primary
source of internal liquidity is our operating activities. Net
cash provided by operating activities in 2008, 2007 and 2006 was
$95.2 million, $146.4 million and $117.5 million,
respectively. Net cash provided by operating activities in 2008
was primarily the result of net income adjusted for non-cash
expenses, and decreases in accounts receivable partially offset
by increases in prepaid and other assets. Net cash provided by
operating activities in 2007 and 2006 was primarily the result
of net income adjusted for non-cash expenses, increases in
accrued liabilities accounts payable, and accounts receivable.
Due to our adoption of SFAS 123(R), as of January 1,
2006, the impact of the excess tax benefits of stock-based
compensation, defined as the benefits of a tax deduction for
share-based payment expenses that exceeds the recognized
compensation expenses, is now reported under financing
activities with a corresponding deduction from operating
activities in our Consolidated Statements of Cash Flows.
Net cash provided by investing activities was
$144.8 million in 2008 and was the result of net sales of
investments of $195.2 million, cash paid for acquisitions,
net of cash received, of $23.5 million, and purchases of
capital equipment of $26.9 million. Net cash used for
investing activities was $128.7 million in 2007 and was the
result of net purchases of investments of $78.3 million,
cash paid for acquisitions, net of cash received, of
$31.6 million, and purchases of capital equipment of
$18.7 million. Net cash used for investing activities was
$68.0 million in 2006 and was the result of net purchases
of investments of $14.3 million, cash paid for
acquisitions, net of cash received, of $37.8 million, and
purchases of capital equipment of $15.9 million.
Net cash used for financing activities in 2008 was
$124.2 million, net cash used for financing activities in
2007 was $35.5 million, net cash provided by financing
activities in 2006 was $204.6 million. In 2008 our cash
used in financing is mostly due to our stock repurchase which
equaled $137.9 million and has been offset by sales to
employees under our employee stock purchase plan and by exercise
of stock options. In 2007 our cash used in financing is mostly
due to our stock repurchase which equaled $63.0 million and
has been offset by sales to employees under our employee stock
purchase plan and by exercise of stock options. In 2006 our
external financing has been provided primarily by the sale of
our stock in private and public offerings, and, to a lesser
extent, by sales to employees under our employee stock purchase
plan and by exercise of stock options. In March 2006, we sold
4.0 million shares of our common stock. The offering
provided net proceeds of $172.8 million, and was made
pursuant to a shelf registration statement previously filed with
the Securities and Exchange Commission. During 2008, proceeds
from the exercise of stock options and the employee stock
purchase plan provided cash of $9.9 million, cash used in
the repurchase of restricted stock to satisfy tax withholding
obligation was $0.6 million, and proceeds of
$4.4 million were provided by the excess tax benefit from
stock-based compensation. During 2007, proceeds from the
exercise of stock options and the employee stock purchase plan
provided cash of $16.0 million, cash used in the repurchase
of restricted stock to satisfy tax withholding obligation was
$0.5 million, and proceeds of $12.0 million were
provided by the excess tax benefit from stock-based
compensation. During 2006, proceeds from the exercise of stock
options provided cash of $21.1 million, and proceeds of
$9.0 million were provided by the excess tax benefit from
stock-based compensation.
As of December 31, 2008, Digital River held
$109.5 million of investments at par value,
$93.2 million fair value, in auction-rate securities (ARS),
all are AAA/Aaa-rated and
105-115 over
collateralized by student loans guaranteed by the
U.S. government. All the securities are 100% guaranteed by
the Department of Education or the Federal Family Education Loan
Program (FFELP) with the exception of two securities which are
82.5% and 99% guaranteed by FFELP. All of these securities
continue to fail at auction due to illiquid market conditions.
We did determine a market value discount, due to current
illiquid market conditions, of $16.3 million (14.9% of par
value) existed as of December 31, 2008 and recorded a
temporary fair value reduction to Other
39
Comprehensive Income on the balance sheet in 2008. We
believe the securities will continue to yield the coupon rates.
The determination of fair value required management to make
estimates and assumptions about the securities. The discounted
cash flow model we used to value the securities included the
following assumptions:
|
|
|
|
|
determination of the penalty coupon rate, frequency of reset
period associated with each ARS
|
|
|
|
an average redemption period of seven years
|
|
|
|
a contribution of the ARS paying its contractually stated
interest rate
|
|
|
|
determination of the risk adjusted discount rate based on LIBOR
rates for these maturities plus market information on student
loan credit spreads
|
In aggregate the ARS portfolio is yielding 2.3% and we continue
to receive 100% of the contractually required interest payments.
We continue to believe that we will be able to liquidate at par
over time. Accordingly, we treated the fair value decline as
temporary. We anticipate we have sufficient cash flow from
operations to execute our business strategy and fund our
operational needs. We believe that capital markets are also
available if we need to finance other investing alternatives.
See Note 9 for further information.
Our principal commitments consist of interest and principal on
our convertible senior notes and long-term obligations
outstanding under operating leases. Although we have no material
commitments for capital expenditures, we anticipate continued
capital expenditures consistent with our anticipated growth in
operations, infrastructure and personnel. We expect that our
operating expenses will continue to grow as our overall business
grows and that operating expenses will be a material use of our
cash resources.
The following table summarizes our principal contractual
commitments as of December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payment due by period (In thousands)
|
|
|
|
Total Amount
|
|
|
|
|
|
|
|
|
|
|
|
2013 and
|
|
Contractual Obligations
|
|
Committed
|
|
|
2009
|
|
|
2010
|
|
|
2011-2012
|
|
|
Thereafter
|
|
|
Operating Lease Obligations
|
|
$
|
12,527
|
|
|
$
|
5,048
|
|
|
$
|
3,735
|
|
|
$
|
2,999
|
|
|
$
|
745
|
|
Convertible Senior Notes
|
|
$
|
198,335
|
|
|
$
|
187,934
|
|
|
$
|
110
|
|
|
$
|
220
|
|
|
$
|
10,071
|
|
Total
|
|
$
|
210,862
|
|
|
$
|
192,982
|
|
|
$
|
3,845
|
|
|
$
|
3,219
|
|
|
$
|
10,816
|
|
We expect to continue to evaluate and consider a wide array of
potential strategic transactions, including business
combinations and acquisitions of businesses, products, services
and other assets as well as licenses of technology related to
our current business. At any given time, we may be engaged in
discussions or negotiations with respect to one or more such
transactions. Any such transactions could have a material impact
on our financial position, results of operations, or cash flows.
There is no assurance that any such discussions or negotiations
will result in the consummation of any transaction. The process
of integrating any acquisition may create unforeseen challenges
for our operational, financial and management information
systems, as well as unforeseen expenditures and other risks,
including diversion of managements attention from other
business concerns, the potential loss of key customers,
employees and business partners, difficulties in managing
facilities and employees in different geographic areas, and
difficulties in entering markets in which we have no or limited
direct prior experience and where competitors in such markets
have stronger market positions. In addition, an acquisition may
cause us to assume liabilities or become subject to litigation.
Further, there can be no assurance that we will realize a
positive return on any acquisition or that future acquisitions
will not be dilutive to our current shareholders
percentage ownership or to earnings.
With respect to our 1.25% convertible senior notes due
January 1, 2024 (the Notes), we are required to
pay interest on the Notes on January 1 and July 1 of each year
so long as the Notes are outstanding. On January 2, 2009,
we paid $1.2 million in interest for the period July 1
through December 31, 2008. The Notes bear interest at a
rate of 1.25% and, if specified conditions are met, are
convertible into our common stock at a conversion price of
$44.063 per share. The Notes may be surrendered for conversion
under certain circumstances, including the satisfaction of a
market price condition, such that the price of our common stock
reaches a specified threshold; the satisfaction of a trading
price condition, such that the trading price of the
40
Notes falls below a specified level; the redemption of the Notes
by us, the occurrence of specified corporate transactions, as
defined in the related indenture; and the occurrence of a
fundamental change, as defined in the related indenture. The
initial conversion price is equivalent to a conversion rate of
approximately 22.6948 shares per $1,000 of principal amount
of the Notes. We will adjust the conversion price if certain
events occur, as specified in the related indenture, such as the
issuance of our common stock as a dividend or distribution or
the occurrence of a stock subdivision or combination. In
addition, contingent interest is required to be paid to holders
if certain conditions are met. If a fundamental change, such as
a change in our control, as defined in the related indenture,
occurs on or before January 1, 2009, we may also be
required to purchase the Notes for cash and pay an additional
make whole premium payable in our common stock upon the
repurchase or conversion of the Notes in connection with the
fundamental change.
Holders of the Notes have the right to require us to repurchase
their Notes prior to maturity on January 1, 2009, 2014 and
2019. We have the right to redeem the Notes, under certain
circumstances, on or after July 1, 2007 and prior to
January 1, 2009, and we may redeem the Notes at any time on
or after January 1, 2009. On January 5, 2009, we
announced that holders of 95.5% of the Notes exercised the
option to require us to repurchase those Notes on
January 2, 2009 at a purchase price of 100.25% of the
principal amount of each tendered Note. We paid an aggregate of
approximately $187.9 million in connection with this
repurchase, which includes $1.2 million in interest. Notes
with an aggregate principal amount of approximately
$8.8 million remain outstanding, which have been classified
as long-term as of December 31, 2008.
We believe that existing sources of liquidity and the results of
our operations will provide adequate cash to fund our operations
and to repurchase the remaining Notes, if necessary, although we
may seek to raise additional capital. In January 2005, we filed
a registration statement to increase our available shelf
registration amount and we have approximately $82 million
available for future use. In addition, we filed an acquisition
shelf registration statement for up to approximately
1.5 million shares. In February 2006, we filed a shelf
registration that would allow us to sell an undetermined amount
of equity or debt securities in accordance with the recently
approved rules applying to well known seasoned
issuers. These filings were made to provide future
flexibility for acquisition and financing purposes. The sale of
additional equity or convertible debt securities could result in
additional dilution to our stockholders. There can be no
assurances that financing will be available in amounts or on
terms acceptable to us, if at all.
2009
Outlook
We believe the outlook for our business remains positive for
2009. Global online sales continue to increase and buyers appear
to be increasingly comfortable shopping online. In our core
market, trends continue to favor the transition away from
packaged, physical delivery of software to electronic download.
Additionally, we see opportunities to grow our share of business
in adjacent and complementary vertical markets such as consumer
electronics and computer and video games. We also see
opportunities to expand our core service offerings in areas such
as payment processing, subscriptions management and strategic
marketing. We anticipate making incremental investments in our
people and technology in support of our strategic growth
initiatives in 2009. We believe the initiatives outlined in our
strategic plan will enable us to; 1) continue to be a
leader in the software delivery market, 2) strengthen our
product and service offering by investing in our core business,
3) expand into new vertical markets such as consumer
electronics, and computer and video games and 4) supplement
our growth through strategic acquisitions.
New
Accounting Standards
In March 2008, the FASB issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging
Activities, an amendment of FAS 133
(SFAS 161). SFAS 161 applies to all
derivative instruments and non-derivative instruments that are
designated and qualify as hedging instruments and related hedged
items accounted for under SFAS No. 133
Accounting for Derivative Instruments and Hedging
Activities (SFAS 133). The provisions
of SFAS 161 require entities to provide greater
transparency through additional disclosures about (a) how
and why an entity uses derivative instruments, (b) how
derivative instruments and related hedged items are accounted
for under SFAS 133 and its related interpretations, and
(c) how derivative instruments and related hedged items
affect an entitys financial position, results of
operations and cash flows.
41
SFAS 161 is effective for fiscal years and interim periods
beginning after November 15, 2008. We are currently
evaluating the effects, if any, that SFAS 161 may have
on our financial statements.
In December 2007, the FASB issued SFAS No. 160,
Non-controlling Interests in Consolidated Financial
Statements (SFAS 160). SFAS 160
requires entities to report non-controlling (minority) interests
in subsidiaries as equity in the consolidated financial
statements. SFAS 160 is effective for fiscal years
beginning after December 15, 2008. We are currently
evaluating the effects, if any, that SFAS 160 may have on
our financial statements.
In December 2007, the FASB issued SFAS No. 141
(Revised 2007), Business Combinations. This revised
Statement, which we refer to as SFAS No. 141R, is
intended to simplify existing guidance and converge rulemaking
under U.S. GAAP with international accounting rules.
SFAS No. 141R will significantly change the accounting
for business combinations in a number of areas, including the
treatment of contingent consideration, contingencies,
acquisition costs and restructuring costs. Also under this
Statement, changes in deferred tax asset valuation allowances
and acquired income tax uncertainties in a business combination
after the measurement period will impact income tax expense.
SFAS No. 141R is effective for fiscal years beginning
after December 15, 2008. We are currently evaluating the
effects, if any, that SFAS No. 141R may have on our
financial statements.
Off
Balance Sheet Arrangements
None
|
|
ITEM 7A.
|
QUALITATIVE
AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK
|
Interest
Rate Risk
Our portfolio of cash equivalents and investments is maintained
in a variety of securities, including government obligations and
money market funds. Investments are classified as
available-for-sale securities and carried at their market value
with cumulative unrealized gains or losses recorded as a
component of accumulated other comprehensive
income/(loss) within stockholders equity. A sharp
rise in interest rates could have an adverse impact on the
market value of certain securities in our portfolio. We do not
currently hedge our interest rate exposure and do not enter into
financial instruments for trading or speculative purposes or
utilize derivative financial instruments. A hypothetical and
immediate one percent (1%) increase in interest rates would
decrease the fair value in our investment portfolio held at
December 31, 2008 and 2007, by $0.2 million and by
$1.48 million, respectively. A hypothetical and immediate
one percent (1%) decrease in interest rates would increase the
fair value in our investment portfolio held at December 31,
2008 and 2007, by $0.2 million and by $1.48 million,
respectively. The approximate gains or losses in earnings are
estimates, and actual results could vary due to the assumptions
used. At December 31, 2008 and 2007, we had
$195.0 million of 1.25% fixed rate contingent convertible
debt outstanding.
Foreign
Currency Risk
A large portion of our business is transacted in currencies
other than the U.S. dollar, and, therefore, is subject to
material foreign currency exchange rate risk. Because of our
extensive international operations, we also face other risks,
including, but not limited to, differing economic conditions,
changes in political climate, differing tax structures and other
regulations and restrictions. Accordingly, our future results
could be materially adversely impacted by changes in these or
other factors.
Foreign exchange rate fluctuations may adversely impact our
consolidated results of operations as exchange rate fluctuations
on transactions denominated in currencies other than our
functional currencies result in gains and losses that are
reflected in our Condensed Consolidated Statement of Income. To
the extent the U.S. dollar weakens against foreign
currencies, the translation of these foreign
currency-denominated transactions will result in increased net
revenues and operating expenses. Conversely, our net revenues
and operating expenses will decrease when the U.S. dollar
strengthens against foreign currencies. The following schedule
summarizes revenue, costs and expenses and income from
operations that would have resulted had exchange
42
rates in the current period been the same as those in effect in
the comparable prior-year period for operating results.
The effect on our consolidated statements of income from changes
in exchange rates versus the U.S. Dollar is as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, 2008
|
|
|
Year Ended December 31, 2007
|
|
|
Year Ended December 31, 2006
|
|
|
|
At Prior
|
|
|
Exchange
|
|
|
|
|
|
At Prior
|
|
|
Exchange
|
|
|
|
|
|
At Prior
|
|
|
Exchange
|
|
|
|
|
|
|
Year
|
|
|
Rate
|
|
|
As
|
|
|
Year
|
|
|
Rate
|
|
|
As
|
|
|
Year
|
|
|
Rate
|
|
|
As
|
|
|
|
Rates(1)
|
|
|
Effect(2)
|
|
|
Reported
|
|
|
Rates(1)
|
|
|
Effect(2)
|
|
|
Reported
|
|
|
Rates(1)
|
|
|
Effect(2)
|
|
|
Reported
|
|
|
Revenue
|
|
$
|
391,481
|
|
|
$
|
2,745
|
|
|
$
|
394,226
|
|
|
$
|
341,293
|
|
|
$
|
7,982
|
|
|
$
|
349,275
|
|
|
$
|
307,071
|
|
|
$
|
561
|
|
|
$
|
307,632
|
|
Costs and expenses
|
|
|
318,471
|
|
|
|
4,184
|
|
|
|
322,655
|
|
|
|
269,682
|
|
|
|
5,679
|
|
|
$
|
275,361
|
|
|
|
239,621
|
|
|
|
416
|
|
|
$
|
240,037
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
$
|
73,010
|
|
|
$
|
(1,439
|
)
|
|
$
|
71,571
|
|
|
$
|
71,611
|
|
|
$
|
2,303
|
|
|
$
|
73,914
|
|
|
$
|
67,450
|
|
|
$
|
145
|
|
|
$
|
67,595
|
|
|
|
|
(1) |
|
Represents the outcome that would have resulted had exchange
rates in the current period been the same as those in effect in
the comparable prior-year period for operating results. |
|
(2) |
|
Represents the increase (decrease) in reported amounts resulting
from changes in exchange rates from those in effect in the
comparable prior-year period for operating results. |
Transaction
Exposure
The Company enters into short term foreign currency forward
contracts to offset the foreign exchange gains and losses
generated by the re-measurement of certain assets and
liabilities recorded in non-functional currencies. Changes in
the fair value of these derivatives, as well as re-measurement
gains and losses, are recognized in current earnings in other
income, net. Foreign currency transaction gains and losses were
a gain of $0.3 million in 2008, a loss of $0.6 million
in 2007 and a gain of $1.5 million in 2006.
Translation
Exposure
Foreign exchange rate fluctuations may adversely impact our
consolidated financial position as the assets and liabilities of
our foreign operations are translated into U.S. dollars in
preparing our consolidated balance sheet. These gains or losses
are recognized as an adjustment to stockholders equity
through accumulated other comprehensive income/(loss) net of tax
benefit or expense. The potential loss in fair value resulting
from a hypothetical 10% adverse currency movement is
$24.7 million and $22.9 million for 2008 and 2007,
respectively.
43
|
|
ITEM 8.
|
FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA
|
QUARTERLY
FINANCIAL DATA (UNAUDITED)
Our Financial Statements and Notes thereto appear beginning at
page 53 of this report.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter Ended
|
|
|
|
March 31
|
|
|
June 30
|
|
|
September 30
|
|
|
December 31
|
|
|
|
(In thousands, except per share data)
|
|
|
2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
103,634
|
|
|
$
|
98,374
|
|
|
$
|
96,301
|
|
|
$
|
95,917
|
|
Income from operations
|
|
|
20,617
|
|
|
|
14,227
|
|
|
|
17,515
|
|
|
|
19,212
|
|
Net income
|
|
|
18,283
|
|
|
|
13,219
|
|
|
|
15,634
|
|
|
|
16,459
|
|
Net income per share basic
|
|
$
|
0.47
|
|
|
$
|
0.36
|
|
|
$
|
0.43
|
|
|
$
|
0.45
|
|
Net income per share diluted
|
|
$
|
0.43
|
|
|
$
|
0.33
|
|
|
$
|
0.39
|
|
|
$
|
0.41
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter Ended
|
|
|
|
March 31
|
|
|
June 30
|
|
|
September 30
|
|
|
December 31
|
|
|
|
(In thousands, except per share data)
|
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
91,631
|
|
|
$
|
78,227
|
|
|
$
|
82,539
|
|
|
$
|
96,878
|
|
Income from operations
|
|
|
23,015
|
|
|
|
12,998
|
|
|
|
14,646
|
|
|
|
23,255
|
|
Net income
|
|
|
20,706
|
|
|
|
14,493
|
|
|
|
15,299
|
|
|
|
20,316
|
|
Net income per share basic
|
|
$
|
0.51
|
|
|
$
|
0.35
|
|
|
$
|
0.38
|
|
|
$
|
0.51
|
|
Net income per share diluted
|
|
$
|
0.46
|
|
|
$
|
0.32
|
|
|
$
|
0.35
|
|
|
$
|
0.46
|
|
|
|
ITEM 9.
|
CHANGES
IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
|
None.
|
|
ITEM 9A.
|
CONTROLS
AND PROCEDURES
|
|
|
(a)
|
Disclosure
Controls and Procedures
|
Based on their evaluation of our disclosure controls and
procedures conducted as of December 31, 2008, our Chief
Executive Officer and Chief Financial Officer have concluded
that our disclosure controls and procedures (as defined in
Rules 13a-15(e)
and
15d-15(e)
promulgated under the Securities Exchange Act of 1934) were
effective at reasonable assurance levels to ensure that the
information required to be disclosed by us in this
Form 10-K
was recorded, processed, summarized and reported within the time
periods specified in the rules and instructions for
Form 10-K.
|
|
(b)
|
Managements
Annual Report on Internal Control over Financial
Reporting
|
Our management, including the Chief Executive Officer and Chief
Financial Officer, is responsible for establishing and
maintaining an adequate system of internal control over
financial reporting. This system of internal accounting controls
is designed to provide reasonable assurance that assets are
safeguarded, transactions are properly recorded and executed in
accordance with managements authorization and financial
statements are prepared in accordance with generally accepted
accounting principles. A control system, no matter how well
conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system
are met. Further, the design of a control system must reflect
the fact that there are resource constraints, and the benefits
of controls must be considered relative to their costs. Because
of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within our
company have been detected. These inherent
44
limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur
because of simple error or mistake. Additionally, controls can
be circumvented by the individual acts of some persons, by
collusion of two or more people, or by management override of
the control. The design of any system of controls also is based
in part upon certain assumptions about the likelihood of future
events, and there can be no assurance that any design will
succeed in achieving its stated goals under all potential future
conditions; over time, control may become inadequate because of
changes in conditions, or the degree of compliance with the
policies or procedures may deteriorate. Because of the inherent
limitations in a cost-effective control system, misstatements
due to error or fraud may occur and not be detected.
Management conducted an evaluation of the effectiveness of the
system of internal control over financial reporting based on the
framework in Internal Control Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO). Based on this evaluation, management
concluded that our internal control over financial reporting was
effective as of December 31, 2008, 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.
Ernst & Young LLP, an independent registered public
accounting firm, has audited the effectiveness of our internal
control over financial reporting as of December 31, 2008,
as stated in their report in which they expressed an unqualified
opinion, which is included herein.
|
|
(c)
|
Changes
in Internal Control over Financial Reporting
|
During the quarter ended December 31, 2008, there was no
change in our internal control over financial reporting that
materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.
|
|
(d)
|
Report of
Independent Registered Public Accounting Firm
|
The Board of Directors and Stockholders
Digital River, Inc.
We have audited Digital River, Inc.s internal control over
financial reporting as of December 31, 2008, based on
criteria established in Internal Control
Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (the COSO criteria).
Digital River, Incs management is responsible for
maintaining effective internal control over financial reporting,
and for its assessment of the effectiveness of internal control
over financial reporting included in the accompanying
Managements Annual Report on Internal Control over
Financial Reporting. Our responsibility is to express an opinion
on Digital River, Incs internal control over financial
reporting based on our audit.
We conducted our audit in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether effective internal control
over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of
internal control over financial reporting, 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.
A companys internal control over financial reporting is a
process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles. A companys
internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance
of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions
are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting
principles, and that receipts and expenditures of the company
are being made only in accordance with authorizations of
management and directors of the company; and (3) provide
reasonable assurance regarding prevention or timely detection of
unauthorized
45
acquisition, use, or disposition of the companys assets
that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree
of compliance with the policies or procedures may deteriorate.
In our opinion, Digital River, Inc. maintained, in all material
respects, effective internal control over financial reporting as
of December 31, 2008, based on the COSO criteria.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of Digital River, Inc. and
subsidiaries as of December 31, 2008 and 2007, and the
related consolidated statements of income, stockholders
equity, and cash flows for each of the three years in the period
ended December 31, 2008 of Digital River, Inc. and our
report dated February 19, 2009 expressed an unqualified
opinion thereon.
Minneapolis, Minnesota
February 19, 2009
|
|
ITEM 9B.
|
OTHER
INFORMATION
|
None.
46
PART III
Certain information required in Part III of this report is
incorporated by reference to our Proxy Statement in connection
with our 2009 Annual Meeting to be filed in accordance with
Regulation 14A under the Securities Exchange Act of 1934,
as amended.
|
|
ITEM 10.
|
DIRECTORS,
EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
|
Other than the identification of executive officers, which is
set forth in Part I, Item 1 hereof, the
information required in Item 10 of Part III of this
report is incorporated by reference to our Proxy Statement in
connection with our 2009 Annual Meeting to be filed in
accordance with Regulation 14A under the Securities
Exchange Act of 1934, as amended.
We have adopted a Code of Conduct and Ethics, a copy of which we
undertake to provide to any person, without charge, upon
request. Such requests can be made in writing to the attention
of Corporate Secretary at our principal executive offices
address. To the extent permitted by the rules promulgated by
NASDAQ, we intend to disclose any amendments to, or waivers
from, the Code provisions applicable to our principal executive
officer or senior financial officers, including our chief
financial officer and controller, or with respect to the
required elements of the Code, on our website,
www.digitalriver.com under the Investor Relations
link.
|
|
ITEM 11.
|
EXECUTIVE
COMPENSATION
|
The information required in Item 11 of Part III of
this report is incorporated by reference to our Proxy Statement
in connection with our 2009 Annual Meeting to be filed in
accordance with Regulation 14A under the Securities
Exchange Act of 1934, as amended.
|
|
ITEM 12.
|
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
|
The information required in Item 12 of Part III of
this report is incorporated by reference to our Proxy Statement
in connection with our 2009 Annual Meeting to be filed in
accordance with Regulation 14A under the Securities
Exchange Act of 1934, as amended.
|
|
ITEM 13.
|
CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
INDEPENDENCE
|
The information required in Item 13 of Part III of
this report is incorporated by reference to our Proxy Statement
in connection with our 2009 Annual Meeting to be filed in
accordance with Regulation 14A under the Securities
Exchange Act of 1934, as amended.
ITEM 14. PRINCIPAL
ACCOUNTANT FEES AND SERVICES
The information required in Item 14 of Part III of
this report is incorporated by reference to our Proxy Statement
in connection with our 2009 Annual Meeting to be filed in
accordance with Regulation 14A under the Securities
Exchange Act of 1934, as amended.
47
PART IV
|
|
ITEM 15.
|
EXHIBITS AND
FINANCIAL STATEMENT SCHEDULES
|
(a) The following documents are filed as part of this
report:
(1) Financial Statements.
The consolidated financial statements required by this item are
submitted in a separate section beginning on page 53 of
this report.
(2) Financial Statement Schedules.
All schedules for which provision is made in the applicable
accounting regulations of the SEC have been omitted as not
required or not applicable, or the information required has been
included elsewhere by reference in the financial statements and
related notes, except for Schedule II, which is included
with this
Form 10-K,
as filed with the SEC.
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
3
|
.1(2)
|
|
Amended and Restated Certificate of Incorporation of the
Registrant, as currently in effect.
|
|
3
|
.2(4)
|
|
Amended and Restated Bylaws of the Registrant, as currently in
effect.
|
|
4
|
.1(5)
|
|
Specimen Stock Certificate.
|
|
4
|
.2(9)
|
|
Indenture dated as of June 1, 2004, between Digital River,
Inc. and Wells Fargo Bank, N.A. as trustee, including therein
the form of the Note.
|
|
10
|
.1(5)
|
|
Form of Indemnity Agreement between Registrant and each of its
directors and executive officers.
|
|
10
|
.3(5)
|
|
Consent to Assignment and Assumption of Lease dated
April 22, 1998, by and between CSM Investors, Inc.,
IntraNet Integration Group, Inc. and Registrant.
|
|
10
|
.4(3)
|
|
Assignment of Lease dated April 21, 1998, by and between
Intranet Integration Group, Inc. and Registrant.
|
|
10
|
.5(3)
|
|
Lease Agreement dated January 18, 2000, between Property
Reserve, Inc. and Registrant.
|
|
10
|
.6(4)
|
|
First Amendment of Lease dated January 31, 2001, to that
certain Lease dated April 24, 1996, between CSM Investors,
Inc. and Registrant (as assignee of Intranet Integration Group,
Inc.).
|
|
10
|
.7(6)
|
|
1998 Stock Option Plan, as amended and superseded by
Exhibit 10.18.*
|
|
10
|
.8(7)
|
|
1999 Stock Option Plan, formerly known as the 1999 Non-Officer
Stock Option Plan, as amended and superseded by
Exhibit 10.18.*
|
|
10
|
.9(6)
|
|
2000 Employee Stock Purchase Plan, as amended, and offering.*
|
|
10
|
.11(8)
|
|
Second Amendment of Lease dated April 22, 2002, to that
certain Lease dated April 24, 1996, between CSM Investors,
Inc. and Registrant (as assignee of Intranet Integration Group,
Inc.) as amended.
|
|
10
|
.12(8)
|
|
Second Amendment of Lease dated April 28, 2003, to that
certain Lease dated January 18, 2000, between Property
Reserve Inc. and Registrant.
|
|
10
|
.15(9)
|
|
Registration Rights Agreement dated as of June 1, 2004,
between Digital River, Inc. and the initial purchasers of Senior
Convertible Notes due January 1, 2024.
|
48
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
10
|
.16(13)
|
|
Summary of Compensation Program for Non-Employee Directors.
|
|
10
|
.17(14)
|
|
Second Amended and Restated Symantec Online Store Agreement, by
and among Symantec Corporation, Symantec Limited, Digital River,
Inc. and Digital River Ireland Limited effective April 1,
2006
|
|
10
|
.18(10)
|
|
1998 Equity Incentive Plan (formerly known as 1998 Stock Option
Plan).*
|
|
10
|
.19(13)
|
|
Amended and Restated Employment Agreement for Joel A. Ronning.*
|
|
10
|
.20(13)
|
|
Change of Control and Severance Agreement for Thomas M.
Donnelly.*
|
|
10
|
.21(11)
|
|
Form of Amendment to Non-Qualified Stock Option Agreement.*
|
|
10
|
.22(12)
|
|
Inducement Equity Incentive Plan.*
|
|
10
|
.23(15)
|
|
2007 Equity Incentive Plan.*
|
|
10
|
.24(13)
|
|
Change of Control and Severance Agreement for Kevin L. Crudden.*
|
|
12
|
.1++
|
|
Computation of Ratio of Earnings to Fixed Charges.
|
|
21
|
.1++
|
|
Subsidiaries of Digital River, Inc.
|
|
23
|
.1++
|
|
Consent of Independent Registered Public Accounting Firm, dated
February 19, 2009.
|
|
24
|
.1++
|
|
Power of Attorney, pursuant to which amendments to this Annual
Report on
Form 10-K
may be filed, is included on the signature pages of this Annual
Report on
Form 10-K.
|
|
31
|
.1++
|
|
Certification of Digital River, Inc.s Chief Executive
Officer, pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
|
|
31
|
.2++
|
|
Certification of Digital River, Inc.s Chief Financial
Officer, pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
|
|
32
|
++
|
|
Certification of Digital River, Inc.s Chief Executive
Officer and Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
|
|
|
|
++ |
|
Filed herewith. |
|
* |
|
Management contract or compensatory plan. |
|
|
|
Confidential treatment has been requested for portions of this
agreement, which portions have been filed separately with
the SEC. |
|
(1) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on May 4, 2004. |
|
(2) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on June 1, 2006. |
|
(3) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 1999, filed on
March 30, 2000. |
|
(4) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2000, filed on
March 27, 2001. |
|
(5) |
|
Incorporated by reference from the Companys Registration
Statement on
Form S-1
(File
No. 333-56787),
declared effective on August 11, 1998. |
|
(6) |
|
Incorporated by reference from the Companys Registration
Statement on
Form S-8
(File
No. 333-105864)
filed on June 5, 2003. |
|
(7) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended June 30, 2003, filed on August 14, 2003. |
|
(8) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended March 31, 2003, filed on May 15, 2003. |
|
(9) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on July 13, 2004. |
|
(10) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on May 31, 2005. |
49
|
|
|
(11) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended June 30, 2005, filed on August 9, 2005. |
|
(12) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on December 20, 2005. |
|
(13) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on March 10, 2008. |
|
(14) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2006, filed on
March 1, 2007. |
|
(15) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2007, filed on
February 29, 2008. |
50
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Registrant has duly caused
this report on
Form 10-K
to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Eden Prairie, State of Minnesota, on
February 19, 2009.
DIGITAL RIVER, INC.
Joel A. Ronning
Chief Executive Officer
We, the undersigned, directors and officers of Digital River,
Inc., do hereby severally constitute and appoint Joel A. Ronning
and Thomas M. Donnelly and each or any of them, our true and
lawful attorneys and agents, with full power of substitution and
resubstitution, for him and in his name, place and stead, in any
and all capacities, to sign any and all amendments to the
Registrants Annual Report on
Form 10-K
for the fiscal year ended December 31, 2008, and to file
the same with all exhibits thereto, and all other documents in
connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys and agents, and each or
any of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done, as fully
to all intents and purposes as he might or could do in person,
hereby ratifying and confirming all that said attorneys and
agents, and each of them, or his substitute or substitutes, may
lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of
1934, this
Form 10-K
has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
|
|
|
|
|
|
|
Signature
|
|
Title
|
|
Date
|
|
/s/ Joel
A. Ronning
Joel
A. Ronning
|
|
Chief Executive Officer and Director
(Principal Executive Officer)
|
|
February 19, 2009
|
|
|
|
|
|
/s/ Thomas
M. Donnelly
Thomas
M. Donnelly
|
|
Chief Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
|
|
February 19, 2009
|
|
|
|
|
|
/s/ Perry
W. Steiner
Perry
W. Steiner
|
|
Director
|
|
February 19, 2009
|
|
|
|
|
|
/s/ William
Lansing
William
Lansing
|
|
Director
|
|
February 19, 2009
|
|
|
|
|
|
/s/ Thomas
F. Madison
Thomas
F. Madison
|
|
Director
|
|
February 19, 2009
|
|
|
|
|
|
/s/ J. Paul
Thorin
Paul
Thorin
|
|
Director
|
|
February 19, 2009
|
|
|
|
|
|
/s/ Frederic
Seegal
Frederic
Seegal
|
|
Director
|
|
February 19, 2009
|
51
Report of
Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Digital River, Inc.
We have audited the accompanying consolidated balance sheets of
Digital River, Inc. and subsidiaries as of December 31,
2008 and 2007, and the related consolidated statements of
income, stockholders equity, and cash flows for each of
the three years in the period ended December 31, 2008. Our
audits also included the financial statement schedule listed in
Item 15(a)(2). These financial statements and schedule are
the responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by
management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above
present fairly, in all material respects, the consolidated
financial position of Digital River, Inc. and subsidiaries at
December 31, 2008 and 2007, and the consolidated results of
their operations and their cash flows for each of the three
years in the period ended December 31, 2008, in conformity
with U.S. generally accepted accounting principles. Also,
in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken
as a whole, presents fairly, in all material respects, the
information set forth herein.
We also have audited, in accordance with the standards of the
Public Company Accounting Oversight Board (United States),
Digital River, Inc.s internal control over financial
reporting as of December 31, 2008, based on criteria
established in Internal Control-Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission and our report dated February 19, 2009
expressed an unqualified opinion thereon.
Minneapolis, Minnesota
February 19, 2009
52
DIGITAL
RIVER, INC.
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands)
|
|
|
ASSETS
|
CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
490,335
|
|
|
$
|
381,788
|
|
Short-term investments
|
|
|
10,000
|
|
|
|
315,636
|
|
Accounts receivable, net of allowance of $2,457 and $2,489
|
|
|
53,216
|
|
|
|
64,914
|
|
Deferred income taxes
|
|
|
7,613
|
|
|
|
7,899
|
|
Prepaid expenses and other
|
|
|
42,522
|
|
|
|
4,577
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
603,686
|
|
|
|
774,814
|
|
|
|
|
|
|
|
|
|
|
Property and equipment, net
|
|
|
41,733
|
|
|
|
31,102
|
|
Goodwill
|
|
|
273,788
|
|
|
|
261,885
|
|
Intangible assets, net of accumulated amortization of $66,345
and $59,493
|
|
|
32,222
|
|
|
|
32,382
|
|
Long-term investments
|
|
|
93,213
|
|
|
|
|
|
Deferred income taxes
|
|
|
24,824
|
|
|
|
15,606
|
|
Other assets
|
|
|
786
|
|
|
|
11,955
|
|
|
|
|
|
|
|
|
|
|
TOTAL ASSETS
|
|
$
|
1,070,252
|
|
|
$
|
1,127,744
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
Convertible senior notes
|
|
$
|
186,195
|
|
|
$
|
|
|
Accounts payable
|
|
|
184,361
|
|
|
|
180,386
|
|
Accrued payroll
|
|
|
14,841
|
|
|
|
12,704
|
|
Deferred revenue
|
|
|
13,651
|
|
|
|
10,384
|
|
Accrued acquisition costs
|
|
|
3,278
|
|
|
|
399
|
|
Other accrued liabilities
|
|
|
41,336
|
|
|
|
41,229
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
443,662
|
|
|
|
245,102
|
|
|
|
|
|
|
|
|
|
|
NON-CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
Convertible senior notes
|
|
|
8,805
|
|
|
|
195,000
|
|
Other liabilities
|
|
|
15,712
|
|
|
|
11,362
|
|
|
|
|
|
|
|
|
|
|
Total non-current liabilities
|
|
|
24,517
|
|
|
|
206,362
|
|
|
|
|
|
|
|
|
|
|
TOTAL LIABILITIES
|
|
|
468,179
|
|
|
|
451,464
|
|
|
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTINGENCIES
|
|
|
|
|
|
|
|
|
STOCKHOLDERS EQUITY:
|
|
|
|
|
|
|
|
|
Preferred Stock, $.01 par value; 5,000,000 shares
authorized; no shares issued or outstanding
|
|
|
|
|
|
|
|
|
Common Stock, $.01 par value; 120,000,000 shares
authorized; 43,225,401 and 42,502,019 shares issued
|
|
|
432
|
|
|
|
425
|
|
Treasury stock at cost; 6,211,477 and 1,952,884 shares
|
|
|
(216,163
|
)
|
|
|
(77,707
|
)
|
Additional paid-in capital
|
|
|
623,778
|
|
|
|
597,128
|
|
Retained earnings
|
|
|
189,096
|
|
|
|
125,501
|
|
Accumulated other comprehensive income
|
|
|
4,930
|
|
|
|
30,933
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity
|
|
|
602,073
|
|
|
|
676,280
|
|
|
|
|
|
|
|
|
|
|
TOTAL LIABILITIES AND STOCKHOLDERS EQUITY
|
|
$
|
1,070,252
|
|
|
$
|
1,127,744
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these
consolidated financial statements.
53
DIGITAL
RIVER, INC.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Years Ended December 31
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
|
(In thousands except per share data)
|
|
|
Revenue
|
|
$
|
394,226
|
|
|
$
|
349,275
|
|
|
$
|
307,632
|
|
Costs and expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct cost of services
|
|
|
16,417
|
|
|
|
10,243
|
|
|
|
7,709
|
|
Network and infrastructure
|
|
|
41,040
|
|
|
|
32,309
|
|
|
|
29,250
|
|
Sales and marketing
|
|
|
150,118
|
|
|
|
134,401
|
|
|
|
113,462
|
|
Product research and development
|
|
|
51,184
|
|
|
|
39,179
|
|
|
|
32,341
|
|
General and administrative
|
|
|
39,525
|
|
|
|
38,937
|
|
|
|
34,158
|
|
Depreciation and amortization
|
|
|
15,980
|
|
|
|
12,706
|
|
|
|
10,983
|
|
Amortization of acquisition-related intangibles
|
|
|
8,391
|
|
|
|
7,586
|
|
|
|
12,134
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses
|
|
|
322,655
|
|
|
|
275,361
|
|
|
|
240,037
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
71,571
|
|
|
|
73,914
|
|
|
|
67,595
|
|
Interest Income
|
|
|
18,019
|
|
|
|
32,167
|
|
|
|
22,836
|
|
Other expense, net
|
|
|
(3,319
|
)
|
|
|
(3,006
|
)
|
|
|
(949
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income tax expense
|
|
|
86,271
|
|
|
|
103,075
|
|
|
|
89,482
|
|
Income tax expense
|
|
|
22,676
|
|
|
|
32,261
|
|
|
|
28,672
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
63,595
|
|
|
$
|
70,814
|
|
|
$
|
60,810
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share basic
|
|
$
|
1.72
|
|
|
$
|
1.75
|
|
|
$
|
1.58
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share diluted
|
|
$
|
1.55
|
|
|
$
|
1.58
|
|
|
$
|
1.40
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per-share calculation basic
|
|
|
37,016
|
|
|
|
40,444
|
|
|
|
38,593
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per-share calculation diluted
|
|
|
42,106
|
|
|
|
45,914
|
|
|
|
44,642
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these
consolidated financial statements.
54
DIGITAL
RIVER, INC.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Retained
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Accumulated
|
|
|
Earnings
|
|
|
Total
|
|
|
|
|
|
|
Common Stock
|
|
|
Treasury
|
|
|
Paid-In
|
|
|
Deferred
|
|
|
Comprehensive
|
|
|
(Accumulated
|
|
|
Stockholders
|
|
|
Comprehensive
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Stock
|
|
|
Capital
|
|
|
Compensation
|
|
|
Income (Loss)
|
|
|
Deficit)
|
|
|
Equity
|
|
|
Income (Loss)
|
|
|
|
(In thousands)
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2005
|
|
|
35,034
|
|
|
$
|
355
|
|
|
$
|
(13,586
|
)
|
|
$
|
329,327
|
|
|
$
|
(1,990
|
)
|
|
$
|
(2,431
|
)
|
|
$
|
(6,123
|
)
|
|
$
|
305,552
|
|
|
$
|
54,411
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
60,810
|
|
|
|
60,810
|
|
|
|
60,810
|
|
Reclassification of deferred compensation balance upon adoption
of SFAS 123(R)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,990
|
)
|
|
|
1,990
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized gain on investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
576
|
|
|
|
|
|
|
|
576
|
|
|
|
576
|
|
Foreign currency translation gain
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,463
|
|
|
|
|
|
|
|
13,463
|
|
|
|
13,463
|
|
Sale of common stock
|
|
|
4,000
|
|
|
|
40
|
|
|
|
|
|
|
|
172,740
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
172,780
|
|
|
|
|
|
Stock Issued for Acquisition
|
|
|
28
|
|
|
|
|
|
|
|
(12
|
)
|
|
|
1,184
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,172
|
|
|
|
|
|
Exercise of stock options
|
|
|
1,220
|
|
|
|
12
|
|
|
|
|
|
|
|
21,106
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
21,118
|
|
|
|
|
|
Stock-based compensation
|
|
|
113
|
|
|
|
1
|
|
|
|
|
|
|
|
13,903
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,904
|
|
|
|
|
|
Tax withheld in restricted stock vesting
|
|
|
(8
|
)
|
|
|
|
|
|
|
(426
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(426
|
)
|
|
|
|
|
Tax benefit of stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12,700
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12,700
|
|
|
|
|
|
Common stock issued under the Employee Stock Purchase Plan
|
|
|
71
|
|
|
|
1
|
|
|
|
|
|
|
|
2,110
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,111
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2006
|
|
|
40,458
|
|
|
$
|
409
|
|
|
$
|
(14,024
|
)
|
|
$
|
551,080
|
|
|
$
|
|
|
|
$
|
11,608
|
|
|
$
|
54,687
|
|
|
$
|
603,760
|
|
|
$
|
74,849
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
70,814
|
|
|
|
70,814
|
|
|
|
70,814
|
|
Unrealized gain on investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,006
|
|
|
|
|
|
|
|
1,006
|
|
|
|
1,006
|
|
Foreign currency translation gain
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
18,319
|
|
|
|
|
|
|
|
18,319
|
|
|
|
18,319
|
|
Repurchase of common stock
|
|
|
(1,372
|
)
|
|
|
|
|
|
|
(62,968
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(62,968
|
)
|
|
|
|
|
Stock Issued for Acquisition
|
|
|
44
|
|
|
|
1
|
|
|
|
(189
|
)
|
|
|
2,337
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,149
|
|
|
|
|
|
Exercise of stock options
|
|
|
1,220
|
|
|
|
12
|
|
|
|
|
|
|
|
13,498
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,510
|
|
|
|
|
|
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,742
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,742
|
|
|
|
|
|
Restricted stock issued under equity incentive plans, net of
forfeitures
|
|
|
135
|
|
|
|
2
|
|
|
|
|
|
|
|
(2
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax withheld in restricted stock vesting
|
|
|
(11
|
)
|
|
|
|
|
|
|
(526
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(526
|
)
|
|
|
|
|
Tax benefit of stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,990
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13,990
|
|
|
|
|
|
Common stock issued under the Employee Stock Purchase Plan
|
|
|
76
|
|
|
|
1
|
|
|
|
|
|
|
|
2,483
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,484
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2007
|
|
|
40,550
|
|
|
$
|
425
|
|
|
$
|
(77,707
|
)
|
|
$
|
597,128
|
|
|
$
|
|
|
|
$
|
30,933
|
|
|
$
|
125,501
|
|
|
$
|
676,280
|
|
|
$
|
90,139
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
63,595
|
|
|
|
63,595
|
|
|
|
63,595
|
|
Unrealized loss on investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(10,822
|
)
|
|
|
|
|
|
|
(10,822
|
)
|
|
|
(10,822
|
)
|
Foreign currency translation loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(15,181
|
)
|
|
|
|
|
|
|
(15,181
|
)
|
|
|
(15,181
|
)
|
Repurchase of common stock
|
|
|
(4,239
|
)
|
|
|
|
|
|
|
(137,858
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(137,858
|
)
|
|
|
|
|
Exercise of stock options
|
|
|
426
|
|
|
|
4
|
|
|
|
|
|
|
|
7,167
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7,171
|
|
|
|
|
|
Stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12,548
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
12,548
|
|
|
|
|
|
Restricted stock issued under equity incentive plans, net of
forfeitures
|
|
|
186
|
|
|
|
2
|
|
|
|
|
|
|
|
(2
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tax withheld in restricted stock vesting
|
|
|
(19
|
)
|
|
|
|
|
|
|
(598
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(598
|
)
|
|
|
|
|
Tax benefit of stock-based compensation
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,223
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,223
|
|
|
|
|
|
Common stock issued under the Employee Stock Purchase Plan
|
|
|
112
|
|
|
|
1
|
|
|
|
|
|
|
|
2,714
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,715
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE, December 31, 2008
|
|
|
37,016
|
|
|
$
|
432
|
|
|
$
|
(216,163
|
)
|
|
$
|
623,778
|
|
|
$
|
|
|
|
$
|
4,930
|
|
|
$
|
189,096
|
|
|
$
|
602,073
|
|
|
$
|
37,592
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these
consolidated financial statements.
55
DIGITAL
RIVER, INC.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Years Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
|
(In thousands)
|
|
|
OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
63,595
|
|
|
$
|
70,814
|
|
|
$
|
60,810
|
|
Adjustments to reconcile net income to net cash provided by
operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of acquisition-related intangibles
|
|
|
8,391
|
|
|
|
7,586
|
|
|
|
12,134
|
|
Change in accounts receivable allowance, net of acquisitions
|
|
|
434
|
|
|
|
(174
|
)
|
|
|
1,215
|
|
Depreciation and amortization
|
|
|
15,980
|
|
|
|
12,706
|
|
|
|
10,983
|
|
Stock-based compensation expense related to stock-based
compensation plans
|
|
|
12,548
|
|
|
|
13,742
|
|
|
|
13,904
|
|
Excess tax benefits from stock-based compensation
|
|
|
(4,390
|
)
|
|
|
(12,030
|
)
|
|
|
(8,980
|
)
|
Deferred income taxes and other
|
|
|
4,971
|
|
|
|
27,522
|
|
|
|
19,583
|
|
Change in operating assets and liabilities (net of acquisitions):
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
11,332
|
|
|
|
(6,863
|
)
|
|
|
(14,678
|
)
|
Prepaid and other assets
|
|
|
(26,505
|
)
|
|
|
1,325
|
|
|
|
(1,293
|
)
|
Accounts payable
|
|
|
6,531
|
|
|
|
32,181
|
|
|
|
3,701
|
|
Deferred revenue
|
|
|
3,235
|
|
|
|
3,046
|
|
|
|
811
|
|
Income tax payable
|
|
|
(5,366
|
)
|
|
|
(7,076
|
)
|
|
|
8,126
|
|
Accrued payroll and other accrued liabilities
|
|
|
4,478
|
|
|
|
3,609
|
|
|
|
11,190
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
95,234
|
|
|
|
146,388
|
|
|
|
117,506
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INVESTING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchases of investments
|
|
|
(480,917
|
)
|
|
|
(436,806
|
)
|
|
|
(193,609
|
)
|
Sales of investments
|
|
|
676,108
|
|
|
|
358,470
|
|
|
|
179,296
|
|
Cash paid for acquisitions, net of cash received
|
|
|
(23,465
|
)
|
|
|
(31,625
|
)
|
|
|
(37,800
|
)
|
Purchases of equipment and capitalized software
|
|
|
(26,898
|
)
|
|
|
(18,722
|
)
|
|
|
(15,907
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by/(used for) investing activities
|
|
|
144,828
|
|
|
|
(128,683
|
)
|
|
|
(68,020
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from sales of common stock
|
|
|
|
|
|
|
|
|
|
|
172,780
|
|
Exercise of stock options
|
|
|
7,171
|
|
|
|
13,510
|
|
|
|
21,118
|
|
Sales of common stock under employee stock purchase plan
|
|
|
2,715
|
|
|
|
2,483
|
|
|
|
2,109
|
|
Repurchase of common stock
|
|
|
(137,858
|
)
|
|
|
(62,968
|
)
|
|
|
|
|
Repurchase of restricted stock to satisfy tax withholding
obligation
|
|
|
(598
|
)
|
|
|
(528
|
)
|
|
|
(426
|
)
|
Excess tax benefits from stock-based compensation
|
|
|
4,390
|
|
|
|
12,030
|
|
|
|
8,980
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used for)/provided by financing activities
|
|
|
(124,180
|
)
|
|
|
(35,473
|
)
|
|
|
204,561
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
EFFECT OF EXCHANGE RATE CHANGES ON CASH
|
|
|
(7,335
|
)
|
|
|
9,313
|
|
|
|
4,426
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
108,547
|
|
|
|
(8,455
|
)
|
|
|
258,473
|
|
CASH AND CASH EQUIVALENTS, beginning of year
|
|
|
774,814
|
|
|
|
704,046
|
|
|
|
413,623
|
|
CASH AND CASH EQUIVALENTS, end of year
|
|
$
|
883,361
|
|
|
$
|
695,591
|
|
|
$
|
672,096
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SUPPLEMENTAL DISCLOSURES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid for interest on Convertible Senior Notes
|
|
$
|
2,438
|
|
|
$
|
2,438
|
|
|
$
|
2,438
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash paid for income taxes
|
|
$
|
20,503
|
|
|
$
|
8,232
|
|
|
$
|
2,006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noncash investing and financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock issued in acquisitions and earn-outs
|
|
$
|
|
|
|
$
|
2,150
|
|
|
$
|
1,172
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these
consolidated financial statements.
56
DIGITAL
RIVER, INC.
December 31,
2008 and 2007
|
|
1.
|
Nature of
Operations and Summary of Significant Accounting
Policies
|
We provide outsourced
e-commerce
solutions globally to a wide variety of companies primarily in
the software, consumer electronics, computer game and video game
markets. We were incorporated in 1994 and began building and
operating online stores for our clients in 1996. We generate
revenue primarily based on the sales of products made in those
stores, and in addition, offer services designed to increase
traffic to our clients online stores and to improve the
sales effectiveness of those stores.
Principles
of Consolidation and Classification
The consolidated financial statements include the accounts of
Digital River, Inc. and our wholly owned subsidiaries. All
intercompany balances and transactions have been eliminated in
consolidation.
Use of
Estimates
The preparation of financial statements in accordance with the
United States generally accepted accounting principles requires
management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from
those estimates.
Foreign
Currency Translation
Substantially all of our foreign subsidiaries use the local
currency of their respective countries as their functional
currency. Assets and liabilities are translated at exchange
rates prevailing at the balance sheet dates. Revenues, costs and
expenses are translated into U.S. dollars at average
exchange rates for the period. Gains and losses resulting from
translation are recorded as a component of equity. Gains and
losses resulting from foreign currency transactions are
recognized as other (expense), net.
We are exposed to market risk from changes in foreign currency
exchange rates. Our primary risk is the effect of foreign
currency exchange rate fluctuations on the U.S. dollar
value of foreign currency denominated operating sales and
expenses. At December 31, 2008, these exposures were
mitigated through the use of foreign exchange forward contracts
with maturities of approximately one week. The principal
currency exposures being mitigated were the euro, British pound,
Australian dollar, Swiss franc, Norwegian krone, Swedish krona
and Canadian dollar. We also are exposed to foreign currency
exchange risk as a result of changes in intercompany balance
sheet accounts and other balance sheet items.
Our foreign currency forward contracts contain credit risk to
the extent that our bank counterparties may be unable to meet
the terms of the agreements. We minimize such risk by limiting
our counterparties to major financial institutions of high
credit quality.
Cash
and Cash Equivalents
We consider all short-term, highly liquid investments, primarily
high grade commercial paper and money market accounts, that are
readily convertible into known amounts of cash and that have
original or remaining maturities of three months or less at the
date of purchase to be cash equivalents. As of December 31,
2008 and 2007, cash balances of $0.0 million and
$1.5 million, respectively, were held by banks or credit
card processors to secure potential future credit card fees,
fines and chargebacks or for other payments. In addition, at
December 31, 2008 and 2007, $0.3 million and
$0.4 million were restricted by letter of credit and
agreements required by international tax jurisdictions as
security for potential tax liabilities.
57
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Short-Term
Investments
Our short-term investments consist of debt securities that are
classified as available-for-sale and are carried on our balance
sheet at their market value with cumulative unrealized gains or
losses recorded as a component of accumulated other
comprehensive income within stockholders equity. We
classify all of our available-for-sale securities as current
assets, as these securities represent investments available for
current corporate purposes.
Property
and Equipment
Computer equipment, software and furniture are depreciated under
the straight-line method using estimated useful lives of three
to seven years and leasehold improvements are amortized over the
shorter of the asset life or remaining length of the lease.
Property and equipment at December 31 consisted of the following
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Computer hardware and software
|
|
$
|
78,660
|
|
|
$
|
60,977
|
|
Furniture, fixtures and leasehold improvements
|
|
|
15,475
|
|
|
|
13,077
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment
|
|
$
|
94,135
|
|
|
$
|
74,054
|
|
Accumulated depreciation
|
|
|
(52,402
|
)
|
|
|
(42,952
|
)
|
|
|
|
|
|
|
|
|
|
Net property and equipment
|
|
$
|
41,733
|
|
|
$
|
31,102
|
|
|
|
|
|
|
|
|
|
|
Purchased
Intangible Assets
Through both domestic and international acquisitions, we have
continued to expand our global online businesses. Tangible net
assets for our acquisitions were valued at their respective
carrying amounts as we believe these amounts approximated their
current fair values at the respective acquisition dates. The
valuation of identifiable intangible assets acquired reflects
managements estimates based on, among other factors, use
of established valuation methods. Such assets consist of
customer lists and user base, trademarks and trade names,
developed technologies and other acquired intangible assets,
including contractual agreements. Identifiable intangible assets
are amortized using the straight-line method over the estimated
useful lives, generally three to ten years. We believe the
straight-line method of amortization best represents the
distribution of the economic value of the identifiable
intangible assets acquired to date. Goodwill represents the
excess of the purchase price over the fair value of the net
tangible and identifiable intangible assets acquired in each
business combination. The purchase prices of the acquisitions
described in Note 4 below exceeded the estimated fair value
of the respective related identifiable intangible and tangible
assets because we believe these acquisitions will assist with
our strategy of establishing and expanding our global online
marketplace.
Long-Lived
Assets
We review all long-lived assets, including intangible assets
with definite lives, for impairment in accordance with Statement
of Financial Accounting Standards No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets
(SFAS 144). Under SFAS 144, impairment
losses are recorded whenever events or changes in circumstances
indicate the carrying value of an asset may not be recoverable.
For long-lived assets used in operations, impairment losses are
only recorded if the assets carrying amount is not
recoverable through its undiscounted, probability-weighted cash
flows. We measure the impairment loss based on the difference
between the carrying amount and estimated fair value. An
impairment loss is recognized when estimated undiscounted cash
flows expected to result from the use of the asset plus net
proceeds expected from disposition of the asset (if any) are
less than the carrying value of the asset. As part of our
evaluation, we consider certain non-financial data as indicators
of impairment such as changes in the operating
58
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
environment and business strategy, competitive information,
market trends and operating performance. When an impairment loss
is identified, the carrying amount of the asset is reduced to
its estimated fair value. There were no significant impairments
of long-lived assets, including definite-lived intangible
assets, recorded in 2008, 2007 or 2006.
Other
Assets
The following table summarizes our other assets as of December
31 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Unamortized debt financing costs
|
|
$
|
224
|
|
|
$
|
5,298
|
|
Cost of investment
|
|
|
|
|
|
|
6,000
|
|
Other
|
|
|
562
|
|
|
|
657
|
|
|
|
|
|
|
|
|
|
|
Total other assets
|
|
$
|
786
|
|
|
$
|
11,955
|
|
|
|
|
|
|
|
|
|
|
Unamortized debt financing costs, in the amount of about
$5.1 million, related to the January 2, 2009
repurchase of our convertible senior notes, were reclassified to
current as of December 31, 2008. In 2008, our cost of
investment, which are preferred shares in a publicly traded
company accounted for under the cost method of accounting, were
reclassified to current assets due to their pending liquidation
which occurred on January 20, 2009.
Other
Accrued Liabilities
The following table summarizes our other accrued liabilities as
of December 31 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Accrued expenses
|
|
$
|
24,148
|
|
|
$
|
20,631
|
|
Sales, value-added and transaction taxes
|
|
|
19,788
|
|
|
|
20,598
|
|
Current income taxes
|
|
|
(2,600
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other accrued liabilities
|
|
$
|
41,336
|
|
|
$
|
41,229
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
Income
Comprehensive income includes revenues, expenses, gains and
losses that are excluded from net earnings under GAAP. Items of
comprehensive income are unrealized gains and losses on short
term investments and foreign currency translation adjustments
which are added to net income to compute comprehensive income.
Comprehensive income is net of income tax benefits or expense.
In 2008, comprehensive income included $15.2 million
recorded for unrealized foreign exchange losses on the
revaluation of investments in foreign subsidiaries;
$0.6 million net of $0.3 million tax benefit for
unrealized investment losses; and $10.2 million net of
$6.1 million tax benefit for the temporary impairment of
auction rate securities. In 2007, comprehensive income included
$18.3 million recorded for unrealized foreign exchange
gains on the revaluation of investments in foreign subsidiaries,
and $1.0 million net of $0.6 million tax expense for
unrealized investment gains. In 2006, comprehensive income
included $13.5 million recorded for unrealized foreign
exchange gains on the revaluation of investments in foreign
subsidiaries, and $0.6 million net of $0.2 million tax
expense for unrealized investment gains
Revenue
Recognition
We recognize revenue in accordance with Staff Accounting
Bulletin No. 104, Revenue Recognition, from
services rendered once all the following criteria for revenue
recognition have been met: (1) persuasive
59
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
evidence of an agreement exists; (2) the services have been
rendered; (3) the fee is fixed and determinable; and
(4) collection of the amounts due is reasonably assured.
We evaluate the criteria outlined in Emerging Issues Task Force,
(EITF) Issues
No. 99-19,
Reporting Revenue Gross as a Principal versus Net as an Agent,
in determining whether it is appropriate to record the gross
amount of product sales and related costs or the net amount
earned as net revenue. We act as the merchant of record on most
of the transactions processed and have contractual relationships
with our clients, which obligate us to pay to the client a
specified percentage of each sale. We derive our revenue
primarily from transaction fees based on a percentage of the
products sale price and fees from services rendered associated
with the
e-commerce
and other services provided to our clients and end customers.
Our revenue is recorded as net as generally our clients are
subject to inventory risks and control customers product
choices. We sell both physical and digital products. Revenue is
recognized upon fulfillment and based upon when products are
shipped and title and significant risk of ownership passes to
the customer.
We also provide customers with various proprietary software
backup services. We recognize revenue for these backup services
based upon historical usage within the contract period of the
digital backup services when this information is available.
Digital backup services are recognized straight-line over the
life of the backup service when historical usage information is
unavailable. Shipping revenues are recorded net of any
associated costs.
We also, to a lesser extent, provide fee-based client services,
which include website design, custom development and
integration, analytical marketing, affiliate marketing and email
marketing services. If we receive payments for fee-based
services in advance of delivery, these amounts, if significant,
are deferred and recognized over the service period.
Provisions for doubtful accounts and transaction losses and
authorized credits are made at the time of revenue recognition
based upon our historical experience. The provision for doubtful
accounts and transaction losses are recorded as charges to
operating expense, while the provision for authorized credits is
recognized as a reduction of net revenues.
In June 2006, the EITF reached a consensus on EITF Issue
No. 06-3,
How Taxes Collected from Customers and Remitted to
Governmental Authorities Should Be Presented in the Income
Statement (That is, Gross versus Net Presentation)
(EIFT
06-3).
EITF 06-3
provides that the presentation of taxes assessed by a
governmental authority that is directly imposed on a
revenue-producing transaction between a seller and a customer on
either a gross basis (included in revenues and costs) or on a
net basis (excluded from revenues) is an accounting policy
decision that should be disclosed. The Company presents these
taxes on a net basis.
Deferred
Revenue
Deferred revenue is recorded when service payment is received in
advance of performing our service obligation. Revenue is
recognized over either the estimated usage period when usage
information is available, or ratably over the service period
when usage information is not available.
Advertising
Costs
The costs of advertising are charged to sales and marketing
expense as incurred. We incurred advertising expense of
$0.7 million, $0.1 million and $1.5 million in
2008, 2007 and 2006, respectively.
Income
Taxes
Deferred income taxes reflect the 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. We record deferred tax assets for
favorable tax attributes, including tax loss carryforwards. We
currently have U.S. tax
60
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
loss carryforwards, consisting solely of acquired operating tax
loss carryforwards, and a lesser amount of acquired foreign
operating tax loss carryforwards. A portion of the benefit of
the acquired tax loss carryforwards has been reserved by a
valuation allowance pursuant to United States generally accepted
accounting principles. These valuation allowances of the
deferred tax asset will be reversed if and when it is more
likely than not that the deferred tax asset will be realized. We
evaluate the need for a valuation allowance of the deferred tax
asset on a quarterly basis.
Interest
Income
Our interest income line item is the total of interest income on
our cash, cash equivalents, and investments. Interest income was
$18.0 million, $32.2 million and $22.8 million in
2008, 2007 and 2006, respectively. The decrease in interest
income from 2007 to 2008 was due to the use of $138 million
in cash for our share repurchase program during the first
quarter of 2008. Interest income also declined due to lower
yields on our portfolio during 2008. The increase from 2006 to
2007 in interest income was primarily due to higher cash
balances.
Other
(Expense), Net
Our other (expense), net line item is the total of interest
expense on our debt and foreign currency transaction gains and
losses and disposals of asset gains and losses. Interest expense
was $2.5 million in 2008 compared to $2.4 million in
2007 and 2006 and was related primarily to our Convertible
Senior Notes. Our gain from foreign currency remeasurement was
$0.3 million in 2008 compared to a loss of
$0.6 million in 2007 and a gain of 1.5 million in
2006. The loss on disposals of assets was $1.1 million in
2008. Disposals of assets were immaterial in 2007 and 2006.
Research
and Development and Software Development
Research and development expenses consist primarily of
development personnel and non-employee contractor costs related
to the development of new products and services, enhancement of
existing products and services, quality assurance, and testing.
We follow AICPA Statement of Position
No. 98-1,
Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use, in accounting for internally
developed software. We capitalized $5.3 million related to
software development during 2008, inclusive of amounts outside
of Product Research and Development as recorded in our
Consolidated Statement of Income. In 2007 and 2006, we
capitalized $0.0 million and $0.1 million,
respectively, of software development costs.
Stock-Based
Compensation Expense
On January 1, 2006, we adopted Statement of Financial
Accounting Standards No. 123 (Revised 2004),
Share-Based Payment, (SFAS 123(R))
which requires the measurement and recognition of compensation
expense for all share-based payments made to employees and
directors including stock options, restricted stock grants and
employee stock purchases made through our Employee Stock
Purchase Plan based on estimated fair values.
We have adopted SFAS 123(R) using the modified prospective
transition method under which prior periods are not revised.
Stock-based compensation expense recognized during the period is
based on the value of the portion of share-based awards that are
ultimately expected to vest during the period. The fair value of
each stock option grant is estimated on the date of grant using
the Black-Scholes option pricing model. The fair value of
restricted stock is determined based on the number of shares
granted and the closing price of our common stock on the date of
grant. Compensation expense for all share-based payment awards
is recognized using the straight-line amortization method over
the vesting period. Stock-based compensation expense of
$12.5 million was charged to operating expenses during 2008.
61
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
As stock-based compensation expense recognized in our
Consolidated Statement of Income for 2008 is based on awards
ultimately expected to vest, it has been reduced for estimated
forfeitures. SFAS 123(R) requires forfeitures to be
estimated at the time of grant and revised, if necessary, in
subsequent periods if actual forfeitures differ from those
estimates.
SFAS 123(R) also requires the benefits of tax deductions in
excess of recognized stock-based compensation expense be
reported as a financing cash flow, rather than an operating cash
flow as required prior to adoption of SFAS 123(R) in our
Consolidated Statement of Cash Flows.
See Note 5 for further information regarding the impact of
our adoption of SFAS 123(R) and the assumptions we use to
calculate the fair value of share-based compensation.
Recent
Accounting Pronouncements
In March 2008, the FASB issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging
Activities, an amendment of FAS 133
(SFAS 161). SFAS 161 applies to all
derivative instruments and
non-derivative
instruments that are designated and qualify as hedging
instruments and related hedged items accounted for under
SFAS No. 133 Accounting for Derivative
Instruments and Hedging Activities
(SFAS 133). The provisions of SFAS 161
require entities to provide greater transparency through
additional disclosures about (a) how and why an entity uses
derivative instruments, (b) how derivative instruments and
related hedged items are accounted for under SFAS 133 and
its related interpretations, and (c) how derivative
instruments and related hedged items affect an entitys
financial position, results of operations and cash flows.
SFAS 161 is effective for fiscal years and interim periods
beginning after November 15, 2008. We are currently
evaluating the effects, if any, that SFAS 161 may have
on our financial statements.
In December 2007, the FASB issued SFAS No. 160,
Non-controlling Interests in Consolidated Financial
Statements (SFAS 160). SFAS 160
requires entities to report non-controlling (minority) interests
in subsidiaries as equity in the consolidated financial
statements. SFAS 160 is effective for fiscal years
beginning after December 15, 2008. We are currently
evaluating the effects, if any, that SFAS 160 may have on
our financial statements.
In December 2007, the FASB issued SFAS No. 141
(Revised 2007), Business Combinations. This revised
Statement, which we refer to as SFAS No. 141(R), is
intended to simplify existing guidance and converge rulemaking
under U.S. GAAP with international accounting rules.
SFAS No. 141(R) will significantly change the
accounting for business combinations in a number of areas,
including the treatment of contingent consideration,
contingencies, acquisition costs and restructuring costs. Also
under this Statement, changes in deferred tax asset valuation
allowances and acquired income tax uncertainties in a business
combination after the measurement period will impact income tax
expense. SFAS No. 141(R) is effective for fiscal years
beginning after December 15, 2008. We are currently
evaluating the effects, if any, that SFAS No. 141R may
have on our financial statements.
Basic income per common share is computed by dividing net income
by the weighted average number of shares of common stock
outstanding during the period. Diluted earnings per common share
is calculated by dividing net income, adjusted to exclude
interest expense and financing cost amortization related to
potentially dilutive securities, by the weighted average number
of common shares related to potentially dilutive securities
outstanding during the period, plus any additional common shares
that would have been outstanding if potentially dilutive common
shares had been issued during the period.
62
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
The following table summarizes the computation of basic and
diluted earnings per share (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Years Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Earnings per share basic
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income basic
|
|
$
|
63,595
|
|
|
$
|
70,814
|
|
|
$
|
60,810
|
|
Weighted average shares outstanding basic
|
|
|
37,016
|
|
|
|
40,444
|
|
|
|
38,593
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share basic
|
|
$
|
1.72
|
|
|
$
|
1.75
|
|
|
$
|
1.58
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share diluted
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income basic
|
|
|
63,595
|
|
|
$
|
70,814
|
|
|
$
|
60,810
|
|
Exclude: Interest expense and amortized financing cost of
convertible senior notes, net of tax benefit
|
|
|
1,739
|
|
|
|
1,739
|
|
|
|
1,739
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income diluted
|
|
$
|
65,334
|
|
|
$
|
72,553
|
|
|
$
|
62,549
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding basic
|
|
|
37,016
|
|
|
|
40,444
|
|
|
|
38,593
|
|
Dilutive impact of non-vested stock and options outstanding
|
|
|
665
|
|
|
|
1,045
|
|
|
|
1,624
|
|
Dilutive impact of convertible senior notes
|
|
|
4,425
|
|
|
|
4,425
|
|
|
|
4,425
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average shares outstanding diluted
|
|
|
42,106
|
|
|
|
45,914
|
|
|
|
44,642
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings per share diluted
|
|
$
|
1.55
|
|
|
$
|
1.58
|
|
|
$
|
1.40
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In accordance with the Emerging Issues Task Force (EITF), Issue
No. 04-8,
the unissued shares underlying contingent convertible notes are
treated as if such shares were issued and outstanding for the
purposes of calculating GAAP diluted earnings per share
beginning with the issuance of our 1.25% convertible senior
notes on June 1, 2004.
As of December 31, 2008 and 2007, our available-for-sale
securities consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized Gain/(Loss)
|
|
|
|
|
|
Maturities/Reset Dates
|
|
|
|
|
|
|
Less than 12
|
|
|
Greater than 12
|
|
|
|
|
|
Less than 12
|
|
|
Greater than 12
|
|
|
|
Cost
|
|
|
Months
|
|
|
Months
|
|
|
Fair Value
|
|
|
Months
|
|
|
Months
|
|
|
2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government sponsored entities
|
|
$
|
9,900
|
|
|
$
|
100
|
|
|
$
|
|
|
|
$
|
10,000
|
|
|
$
|
10,000
|
|
|
$
|
|
|
Student loan bonds
|
|
|
109,500
|
|
|
|
(16,287
|
)
|
|
|
|
|
|
|
93,213
|
|
|
|
|
|
|
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total available-for-sale securities
|
|
$
|
119,400
|
|
|
$
|
(16,187
|
)
|
|
$
|
|
|
|
$
|
103,213
|
|
|
$
|
10,000
|
|
|
$
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. government sponsored entities
|
|
$
|
139,377
|
|
|
$
|
94
|
|
|
$
|
859
|
|
|
$
|
140,330
|
|
|
$
|
69,070
|
|
|
$
|
71,260
|
|
Student loan bonds
|
|
|
119,750
|
|
|
|
|
|
|
|
|
|
|
|
119,750
|
|
|
|
119,750
|
|
|
|
|
|
Other
|
|
|
55,556
|
|
|
|
|
|
|
|
|
|
|
|
55,556
|
|
|
|
55,556
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total available-for-sale securities
|
|
$
|
314,683
|
|
|
$
|
94
|
|
|
$
|
859
|
|
|
$
|
315,636
|
|
|
$
|
244,376
|
|
|
$
|
71,260
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Realized gains or losses on investments are recorded in our
statement of income within other income (expense), net. Realized
losses on sales of investments were immaterial in 2008, 2007 and
2006.
63
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
|
|
4.
|
Business
Combinations, Goodwill and Intangible Assets
|
The following table summarizes the purchase acquisitions
completed during the three years in the period ended
December 31, 2008 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Initial
|
|
|
Initial
|
|
|
|
|
|
|
|
|
|
|
|
Other Intangible Assets
|
|
|
|
Shares
|
|
|
Purchase
|
|
|
Acquired
|
|
|
Assumed
|
|
|
|
|
|
Technology/
|
|
|
Customer
|
|
|
Non-compete
|
|
Acquisition
|
|
Issued
|
|
|
Consideration
|
|
|
Assets
|
|
|
Liabilities
|
|
|
Goodwill
|
|
|
Tradenames
|
|
|
Relationships
|
|
|
Agreements
|
|
|
2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Think Subscription, Inc.
|
|
|
|
|
|
$
|
5,100
|
|
|
$
|
644
|
|
|
$
|
(1,019
|
)
|
|
$
|
2,007
|
|
|
$
|
1,209
|
|
|
$
|
1,813
|
|
|
$
|
|
|
CustomCD, Inc.
|
|
|
|
|
|
|
7,000
|
|
|
|
764
|
|
|
|
(355
|
)
|
|
|
3,136
|
|
|
|
2,059
|
|
|
|
1,468
|
|
|
|
|
|
DigitalSwift Corporation
|
|
|
|
|
|
|
9,200
|
|
|
|
427
|
|
|
|
(459
|
)
|
|
|
4,673
|
|
|
|
487
|
|
|
|
4,325
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
$
|
21,300
|
|
|
$
|
1,835
|
|
|
$
|
(1,833
|
)
|
|
$
|
9,816
|
|
|
$
|
3,755
|
|
|
$
|
7,606
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Netgiro Systems AB
|
|
|
|
|
|
$
|
27,386
|
|
|
$
|
8,567
|
|
|
$
|
(7,477
|
)
|
|
$
|
9,742
|
|
|
$
|
4,424
|
|
|
$
|
12,372
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
$
|
27,386
|
|
|
$
|
8,567
|
|
|
$
|
(7,477
|
)
|
|
$
|
9,742
|
|
|
$
|
4,424
|
|
|
$
|
12,372
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mindvision, Inc.
|
|
|
|
|
|
$
|
24,975
|
|
|
$
|
2,555
|
|
|
$
|
(8,036
|
)
|
|
$
|
18,859
|
|
|
$
|
3,170
|
|
|
$
|
4,490
|
|
|
$
|
40
|
|
Direct Response Technologies, Inc.
|
|
|
|
|
|
|
14,876
|
|
|
|
1,573
|
|
|
|
(3,723
|
)
|
|
|
11,343
|
|
|
|
2,465
|
|
|
|
3,620
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
|
|
$
|
39,851
|
|
|
$
|
4,128
|
|
|
$
|
(11,759
|
)
|
|
$
|
30,202
|
|
|
$
|
5,635
|
|
|
$
|
8,110
|
|
|
$
|
40
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note: Balances as of acquisition date and do not
reflect subsequent earn-outs, adjustments or currency
translation.
Acquisitions
completed in 2008
On September 1, 2008, we acquired all of the capital stock
of THINK Subscription, Inc. (Think Subscription), a
privately-held company based in Provo, Utah, for approximately
$5.1 million in cash. Think Subscription provides
subscription management and fulfillment software to content
publishers, online service providers, media vendors and other
subscription-based businesses. The agreement also provides Think
Subscription shareholders with an earn-out opportunity based on
Think Subscription achieving certain revenue and earnings
targets during the first three years subsequent to the
acquisition. Any future earn-out will result in additional
goodwill.
On January 1, 2008, we acquired all of the capital stock of
DigitalSwift Corporation (DigitalSwift), a privately-held
company based in Madison, Georgia, for approximately
$9.2 million in cash. DigitalSwift is a manufacturer and
fulfiller of on-demand, dynamic and build-to-order CDs and DVDs
to consumers. The agreement also provides DigitalSwift
shareholders with an earn-out opportunity based on DigitalSwift
achieving certain revenue and earnings targets during the first
year subsequent to the acquisition. In 2008, we paid earn-outs
of $1.0 million and accrued $3.0 million for future
earn-out payments. Earn-outs were recorded as goodwill in 2008
as they were considered incremental to the purchase price.
On January 1, 2008, we acquired the assets of IA Users Club
d.b.a. CustomCD, Inc. (CustomCD), a privately held company based
in Portland, Oregon and Krefeld, Germany, for approximately
$7.0 million in cash. This acquisition involved an asset
purchase of the US-based business and a stock purchase of the
business located in Germany. CustomCD creates, sells and
delivers to consumers custom CDs and DVDs containing software,
games, and other licensed content. The agreement also provides
CustomCD shareholders with an earn-out opportunity based on
CustomCD achieving certain revenue and earnings targets during
the
64
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
first two years subsequent to the acquisition. In 2008, we paid
earn-outs of $1.3 million. Earn-outs were recorded as
goodwill in 2008 as they were considered incremental to the
purchase price. Any future earn-out will result in additional
goodwill.
Acquisitions
completed in 2007
On September 1, 2007, we acquired all of the capital stock
of NetGiro Systems AB (NetGiro), a privately held company based
in Stockholm, Sweden, for approximately $27.4 million in
cash. NetGiro is an online payment service provider.
Acquisitions
completed in 2006
In June 2006, we acquired all of the capital stock of
MindVision, Inc., a privately held
e-commerce
company based in Lincoln, Nebraska, for approximately
$25.0 million comprised of payments to stockholders of
$21.2 million plus the assumption of certain liabilities
totaling approximately $3.7 million. In November 2006, we
recorded $0.2 million as acquisition cost related to a
restructuring plan for employee severance to be paid out over a
six month period.
In January 2006, we acquired all of the capital stock of Direct
Response Technologies, Inc. (Direct Response), a privately held
company based in Pittsburgh, Pennsylvania, for approximately
$15.0 million in cash. Direct Response, a provider of tools
for managing affiliate networks, is now named DR Marketing
Solutions, Inc. The agreement also provided Direct Response
shareholders with an earn-out opportunity based on DR Marketing
Solutions, Inc. achieving certain revenue and earnings targets
during the first three years subsequent to the acquisition. In
2006, we accrued $3.5 million for future earn-out payments.
In 2007, pursuant to the January 2006 acquisition agreement,
certain adjustments were made to the earn-out obligations under
this agreement. Under the restructured earn-out agreement a
final earn-out of $3.5 million was accrued and paid in
2007. These earn-outs have been recorded as goodwill in 2006 and
2007 as they were considered incremental to the purchase price.
Future
Earn-outs
As of December 31, 2008, there were estimated future
earn-outs of $3.0 million in accrued acquisition
liabilities. Any of the estimated maximum potential future
earn-out beyond the $3.0 million accrual will result in
additional goodwill.
Pro
Forma Operating Results (Unaudited)
The consolidated financial statements include the operating
results of each business acquired from the date of acquisition.
The following unaudited pro forma condensed results of
operations for 2008, 2007 and 2006 have been prepared as if each
of the acquisitions in 2008 had occurred on January 1,
2007, and as if each of the 2007 acquisitions had occurred on
January 1, 2006 (in thousands except per share data):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Revenue
|
|
$
|
395,698
|
|
|
$
|
366,208
|
|
|
$
|
322,296
|
|
Income from operations
|
|
|
70,373
|
|
|
|
70,590
|
|
|
|
68,260
|
|
Net income
|
|
|
62,400
|
|
|
|
67,494
|
|
|
|
61,338
|
|
Diluted income per share
|
|
$
|
1.52
|
|
|
$
|
1.51
|
|
|
$
|
1.41
|
|
This pro forma financial information does not purport to
represent results that would actually have been obtained if the
transactions had been in effect on January 1, 2007 or 2006,
as applicable, or any future results that may be realized.
65
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Goodwill
We account for our goodwill in accordance with
SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 142 precludes the amortization
of goodwill and intangible assets with indefinite lives, but
these assets are reviewed annually (or more frequently if
impairment indicators arise) for impairment.
We complete our annual impairment test using a two-step approach
based in the fourth quarter of each fiscal year and reassess any
intangible assets, including goodwill, recorded in connection
with earlier acquisitions. Our assessment has indicated that
there is no impairment of goodwill for the years ended
December 31, 2008, 2007 and 2006.
The changes in the net carrying amount of goodwill for the years
ended December 31, 2008 and 2007 are as follows (in
thousands):
|
|
|
|
|
|
|
Total
|
|
|
Balance as of December 31, 2006
|
|
$
|
243,799
|
|
Goodwill from acquisitions and earn-outs
|
|
|
13,774
|
|
Adjustments(1)
|
|
|
4,312
|
|
|
|
|
|
|
Balance as of December 31, 2007
|
|
$
|
261,885
|
|
Goodwill from acquisitions and earn-outs
|
|
|
14,955
|
|
Adjustments(1)
|
|
|
(3,052
|
)
|
|
|
|
|
|
Balance as of December 31, 2008
|
|
$
|
273,788
|
|
|
|
|
|
|
|
|
|
(1) |
|
Adjustments to goodwill during the year ended December 31,
2008 and December 31, 2007, resulted primarily from foreign
currency translation and tax adjustments relating to goodwill
associated with our current and prior period acquisitions. |
Intangible
Assets
Information regarding our other intangible assets is as follows
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2008
|
|
|
|
Carrying Amount
|
|
|
Accumulated
|
|
|
Carrying Amount
|
|
|
|
Gross
|
|
|
Amortization
|
|
|
Net
|
|
|
Customer relationships
|
|
$
|
62,265
|
|
|
$
|
37,931
|
|
|
$
|
24,334
|
|
Non-compete agreements
|
|
|
5,312
|
|
|
|
5,301
|
|
|
|
11
|
|
Technology/tradename
|
|
|
30,991
|
|
|
|
23,114
|
|
|
|
7,877
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
98,568
|
|
|
$
|
66,346
|
|
|
$
|
32,222
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2007
|
|
|
|
Carrying Amount
|
|
|
Accumulated
|
|
|
Carrying Amount
|
|
|
|
Gross
|
|
|
Amortization
|
|
|
Net
|
|
|
Customer relationships
|
|
$
|
57,327
|
|
|
$
|
33,761
|
|
|
$
|
23,566
|
|
Non-compete agreements
|
|
|
5,351
|
|
|
|
5,328
|
|
|
|
23
|
|
Technology/tradename
|
|
|
29,197
|
|
|
|
20,404
|
|
|
|
8,793
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
91,875
|
|
|
$
|
59,493
|
|
|
$
|
32,382
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization expense was $8.4 million, $7.6 million
and $12.1 million, respectively for the years ended 2008,
2007 and 2006, respectively. The result of the allocation of the
purchase price between amortizable costs
66
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
and goodwill could have an impact on our future operating
results. The components of intangible assets acquired during the
years ended December 31, 2008, 2007 and 2006, are as
follows (in thousands). No significant residual value is
estimated for these assets.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
Average
|
|
|
|
|
|
Average
|
|
|
|
Amount
|
|
|
Life
|
|
|
Amount
|
|
|
Life
|
|
|
Amount
|
|
|
Life
|
|
|
Customer relationships
|
|
$
|
7,606
|
|
|
|
6 years
|
|
|
$
|
12,372
|
|
|
|
10 years
|
|
|
$
|
8,110
|
|
|
|
8 years
|
|
Non-compete agreements
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
40
|
|
|
|
4 years
|
|
Technology/tradename
|
|
|
3,755
|
|
|
|
4 years
|
|
|
|
4,424
|
|
|
|
8 years
|
|
|
|
5,635
|
|
|
|
4 years
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
11,361
|
|
|
|
5 years
|
|
|
$
|
16,796
|
|
|
|
10 years
|
|
|
$
|
13,785
|
|
|
|
6 years
|
|
Estimated amortization expense for the remaining life of the
intangible assets, based on intangible assets as of
December 31, 2008, is as follows (in thousands):
|
|
|
|
|
Year
|
|
|
|
|
2009
|
|
$
|
7,378
|
|
2010
|
|
|
5,868
|
|
2011
|
|
|
4,706
|
|
2012
|
|
|
4,543
|
|
2013
|
|
|
2,617
|
|
Thereafter
|
|
|
7,110
|
|
|
|
|
|
|
Total
|
|
$
|
32,222
|
|
|
|
|
|
|
Following is an allocation of the net assets acquired from the
acquisitions consummated and amounts paid under earn-out
arrangements in 2008 and 2007 (in thousands) which includes
subsequent year activity for 2007 acquisitions:
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Tangible assets
|
|
$
|
1,835
|
|
|
$
|
8,567
|
|
Liabilities assumed
|
|
|
(1,833
|
)
|
|
|
(7,477
|
)
|
Customer relationships
|
|
|
7,606
|
|
|
|
12,372
|
|
Technology/tradename
|
|
|
3,755
|
|
|
|
4,424
|
|
Goodwill ( year of acquisition)
|
|
|
9,816
|
|
|
|
9,742
|
|
Goodwill (subsequent to year of acquisition)
|
|
|
|
|
|
|
5,058
|
|
|
|
|
|
|
|
|
|
|
Net assets acquired
|
|
$
|
21,179
|
|
|
$
|
32,686
|
|
|
|
|
|
|
|
|
|
|
|
|
5.
|
Stock-Based
Compensation
|
Our stockholders approved the Digital River, Inc. 2007 Equity
Incentive Plan (the 2007 Plan) at the Companys
annual stockholder meeting held on May 31, 2007. The number
of shares issuable under the 2007 Plan equals
2,000,000 shares of our common stock. In addition, shares
not issued under the 1998 Plan shall become available for
issuance under the 2007 Plan to the extent a stock option or
other stock award under the 1998 Plan expires or terminates
before shares of common stock are issued under the award. Under
our 2007 Equity Incentive Plan we have the flexibility to grant
incentive and non-statutory stock options, restricted stock
awards, restricted stock unit awards and performance shares to
our directors, employees, and consultants.
Our current plan is described more fully in Note 11.
67
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Expense
Information under SFAS 123(R)
On January 1, 2006, we adopted SFAS 123(R) which
requires measurement and recognition of compensation expense for
all stock-based payments made to employees and directors
including stock options, restricted stock grants and employee
stock purchases made through our Employee Stock Purchase Plan
based on estimated fair values. The following table summarizes
stock-based compensation expense, net of tax, related to our
stock-based compensation plans recognized under SFAS 123(R):
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands)
|
|
|
(In thousands)
|
|
|
Costs and expenses
|
|
|
|
|
|
|
|
|
Direct cost of services
|
|
$
|
785
|
|
|
$
|
807
|
|
Network and infrastructure
|
|
|
192
|
|
|
|
270
|
|
Sales and marketing
|
|
|
4,562
|
|
|
|
5,028
|
|
Product research and development
|
|
|
1,258
|
|
|
|
1,736
|
|
General and administrative
|
|
|
5,751
|
|
|
|
5,901
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation included in costs and expenses
|
|
|
12,548
|
|
|
|
13,742
|
|
Tax benefit
|
|
|
(2,802
|
)
|
|
|
(3,737
|
)
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense, net of tax
|
|
$
|
9,746
|
|
|
$
|
10,005
|
|
|
|
|
|
|
|
|
|
|
Valuation
Information under SFAS 123(R)
During the twelve months ending ended December 31, 2008,
2007 and 2006 we used the Black-Scholes option pricing model
with the following weighted average assumptions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Risk-free interest rate
|
|
|
2.0
|
%
|
|
|
4.5
|
%
|
|
|
4.7
|
%
|
Expected life (years)
|
|
|
3.37
|
|
|
|
3.46
|
|
|
|
4.08
|
|
Volatility factor
|
|
|
0.45
|
|
|
|
0.50
|
|
|
|
0.59
|
|
Expected dividends
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average fair value of options granted
|
|
$
|
10.74
|
|
|
$
|
23.11
|
|
|
$
|
19.00
|
|
The risk-free interest rate assumption is based on observed
interest rates appropriate for the term of our stock options.
The expected life of stock options represents the
weighted-average period the stock options are expected to remain
outstanding and is based on historical exercise patterns. We
used historical closing stock price volatility for a period
equal to the expected term of the options granted. The dividend
yield assumption is based on our history and expectation of
future dividend payouts.
As stock-based compensation expense recognized in the
Consolidated Statement of Income for the twelve months ended
December 31, 2008 is based on awards ultimately expected to
vest, it has been reduced for estimated forfeitures.
SFAS 123(R) requires forfeitures to be estimated at the
time of grant and revised, if necessary, in subsequent periods
if actual forfeitures differ from those estimates. Forfeitures
were estimated based on historical experience.
At December 31, 2008, there was approximately
$24.4 million of total unrecognized stock-based
compensation expense, adjusted for estimated forfeitures,
related to unvested share-based awards. Unrecognized stock-based
compensation expense is expected to be recognized over the next
2.44 years on a weighted average basis and will be adjusted
for any future changes in estimated forfeitures.
68
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
The components of pretax income are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
United States
|
|
$
|
46,988
|
|
|
$
|
74,595
|
|
|
$
|
65,171
|
|
International
|
|
|
39,283
|
|
|
|
28,480
|
|
|
|
24,311
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
86,271
|
|
|
$
|
103,075
|
|
|
$
|
89,482
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The provision (benefit) for income taxes is composed of the
following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Current tax expense (benefit):
|
|
|
|
|
|
|
|
|
|
|
|
|
United States federal
|
|
$
|
18,792
|
|
|
$
|
29,204
|
|
|
$
|
34,362
|
|
State and local
|
|
|
1,223
|
|
|
|
1,842
|
|
|
|
2,160
|
|
International
|
|
|
6,858
|
|
|
|
5,939
|
|
|
|
2,915
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current provision for income taxes
|
|
|
26,873
|
|
|
|
36,985
|
|
|
|
39,437
|
|
Deferred tax expense (benefit):
|
|
|
|
|
|
|
|
|
|
|
|
|
United States federal
|
|
|
(3,926
|
)
|
|
|
(3,896
|
)
|
|
|
(10,136
|
)
|
State and local
|
|
|
(255
|
)
|
|
|
(227
|
)
|
|
|
(637
|
)
|
International
|
|
|
(16
|
)
|
|
|
(601
|
)
|
|
|
8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total deferred provision (benefit) for income taxes
|
|
|
(4,197
|
)
|
|
|
(4,724
|
)
|
|
|
(10,765
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for income taxes
|
|
$
|
22,676
|
|
|
$
|
32,261
|
|
|
$
|
28,672
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following is a reconciliation of the difference between the
actual provision for income taxes and the provision computed by
applying the federal statutory rate of 35% to income before
income taxes (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
Tax expense at statutory rate
|
|
$
|
30,195
|
|
|
$
|
36,076
|
|
|
$
|
31,319
|
|
State taxes, net of federal benefit
|
|
|
968
|
|
|
|
1,615
|
|
|
|
1,469
|
|
International rate differential
|
|
|
(7,860
|
)
|
|
|
(4,623
|
)
|
|
|
(3,193
|
)
|
Tax Credits
|
|
|
(955
|
)
|
|
|
(671
|
)
|
|
|
(1,909
|
)
|
Nondeductible expense and other
|
|
|
328
|
|
|
|
(136
|
)
|
|
|
986
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
22,676
|
|
|
$
|
32,261
|
|
|
$
|
28,672
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
69
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Deferred income taxes reflect the tax effects of temporary
differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the bases for
income tax purposes. Significant components of deferred income
taxes are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Net operating loss and credit carryforwards
|
|
$
|
8,646
|
|
|
$
|
12,412
|
|
Nondeductible reserves and accruals
|
|
|
21,075
|
|
|
|
9,144
|
|
Depreciation and amortization
|
|
|
4,777
|
|
|
|
3,339
|
|
Valuation allowance
|
|
|
(2,061
|
)
|
|
|
(1,390
|
)
|
|
|
|
|
|
|
|
|
|
Total deferred tax assets
|
|
|
32,437
|
|
|
|
23,505
|
|
|
|
|
|
|
|
|
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Depreciation
|
|
|
(1,191.00
|
)
|
|
|
|
|
Other intangibles
|
|
|
(11,016
|
)
|
|
|
(5,054
|
)
|
|
|
|
|
|
|
|
|
|
Total deferred tax liabilities
|
|
|
(12,207
|
)
|
|
|
(5,054
|
)
|
|
|
|
|
|
|
|
|
|
Net deferred tax assets
|
|
$
|
20,230
|
|
|
$
|
18,451
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2008, we had U.S. tax loss
carryforwards of approximately $16.5 million and foreign
tax loss carryforwards of $4.3 million. These tax loss
carryforwards consist solely of acquired net operating losses.
The U.S. tax loss carryforwards expire in the years 2021
through 2025. However, we anticipate most U.S. tax loss
carryforwards will be utilized in the next few years.
There is uncertainty of future realization of the deferred tax
assets resulting from acquired tax loss carryforwards due to
anticipated limitations, including limitations under
Section 382 of the Internal Revenue Code. Therefore, a
valuation allowance was recorded against the tax effect of such
tax loss carryforwards. At December 31, 2008, the Company
has a valuation allowance on approximately $1.4 million of
deferred tax assets related to acquired operating losses and
other tax attributes as we believe it is more likely than not
that these deferred tax assets will not be realized. Any future
release of this valuation allowance will reduce expense.
On January 1, 2007, we adopted the provisions of Financial
Standards Accounting Board Interpretation No. 48
Accounting for Uncertainty in Income Taxes
(FIN 48) an interpretation of FASB Statement
No. 109 (SFAS 109). As a result of the implementation
of FIN 48, we recognized no material adjustment in the
liability for unrecognized income tax benefits. A reconciliation
of the beginning and ending amount of unrecognized tax benefits
is as follows (in thousands):
|
|
|
|
|
Balance at January 1, 2007
|
|
$
|
3,340
|
|
Increases for tax positions taken during current year
|
|
|
1,072
|
|
Decreases for tax positions taken during prior years
|
|
|
1,035
|
|
|
|
|
|
|
Balance at December 31, 2007
|
|
|
5,447
|
|
Increases for tax positions taken during current year
|
|
|
2,957
|
|
Increases for tax positions taken during prior years
|
|
|
613
|
|
Decreases as a result of settlements with taxing authorities
|
|
|
(2,622
|
)
|
|
|
|
|
|
Balance at December 31, 2008
|
|
$
|
6,395
|
|
|
|
|
|
|
All of these unrecognized tax benefits would affect our
effective tax rate if recognized. We recognize interest and
penalties related to uncertain tax positions in income tax
expense. We had approximately
70
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
$0.8 million and $0.1 million of accrued interest and
penalties related to uncertain tax positions at
December 31, 2008 and December 31, 2007, respectively.
The Company and its subsidiaries file income tax returns in
U.S. federal and various state jurisdictions, and foreign
jurisdictions. The tax years
2004-2008
remain open to examination by the major taxing jurisdictions to
which we are subject. During 2008, the Internal Revenue Service
(IRS) examined the Companys 2004 U.S. income tax
return. The examination was substantially completed, resulting
in only minor agreed upon adjustments. The Company expects the
examination to be finalized in 2009. Several of the
Companys international subsidiaries were also under
examination during 2008 and the Company expects these
examinations to be completed in 2009 as well. Due to the
potential resolution of examinations currently being performed
by taxing authorities, and the expiration of various statutes of
limitation, it is reasonably possible that our gross
unrecognized tax benefits balance may change within the next
twelve months by a range of zero to $2.2 million.
No provision has been made for federal income taxes on
approximately $81.3 million of our foreign subsidiaries
undistributed earnings as of December 31, 2008 since we
plan to indefinitely reinvest all such earnings. If these
earnings were distributed to the U.S. in the form of
dividends or otherwise, we would be subject to U.S. income
taxes on such earnings. The amount of U.S. income taxes
would be subject to adjustment for foreign tax credits and for
the impact of the
step-up in
the basis of assets resulting from a Section 338 election
made at the time of acquisition. If these earnings were to be
distributed, the income tax liability would be approximately
$17.5 million.
|
|
7.
|
Commitments
and Contigencies
|
Leases
We currently have 38 facility leases in addition to leasing
certain computer equipment under non-cancelable operating
leases. Total rent expense, including common area maintenance
charges, recognized under all leases was $7.1 million,
$5.7 million and $4.3 million for the years ended
December 31, 2008, 2007 and 2006, respectively. The minimum
annual rents under long-term leases at December 31, 2008,
were as follows (in thousands):
|
|
|
|
|
Year ending December 31,
|
|
Lease Obligations
|
|
|
2009
|
|
|
5,048
|
|
2010
|
|
|
3,735
|
|
2011
|
|
|
2,312
|
|
2012
|
|
|
687
|
|
Thereafter
|
|
|
745
|
|
|
|
|
|
|
Total future minimum obligations
|
|
$
|
12,527
|
|
|
|
|
|
|
Litigation
We are subject to legal proceedings, claims and litigation
arising in the ordinary course of business. While the final
outcome of these matters is currently not determinable, we
believe there is no litigation pending against us that is likely
to have, individually or in the aggregate, a material adverse
effect on our consolidated financial position, results of
operation or cash flows. Because of the uncertainty inherent in
litigation, it is possible that unfavorable resolutions of these
lawsuits, proceedings and claims could exceed the amount we have
currently reserved for these matters.
Third parties have from time-to-time claimed, and others may
claim in the future, that we have infringed their intellectual
property rights. We have been notified of several potential
patent disputes, and expect that we
71
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
will increasingly be subject to patent infringement claims as
our services expand in scope and complexity. We have in the past
been forced to litigate such claims. We may also become more
vulnerable to third-party claims as laws, such as the Digital
Millennium Copyright Act, the Lanham Act and the Communications
Decency Act are interpreted by the courts and as we expand
geographically into jurisdictions where the underlying laws with
respect to the potential liability of online intermediaries like
ourselves are either unclear or less favorable. These claims,
whether meritorious or not, could be time consuming and costly
to resolve, cause service upgrade delays, require expensive
changes in our methods of doing business, or could require us to
enter into costly royalty or licensing agreements.
Indemnification
Provisions
In the ordinary course of business we have included limited
indemnification provisions in certain of our agreements with
parties with whom we have commercial relations. Under these
contracts, we generally indemnify, hold harmless and agree to
reimburse the indemnified party for losses suffered or incurred
by the indemnified party in connection with claims by any third
party with respect to our domain names, trademarks, logos and
other branding elements to the extent that such marks are
applicable to our performance under the subject agreement. In
certain agreements, including both agreements under which we
have developed technology for certain commercial parties and
agreements with our clients, we have provided an indemnity for
other types of third-party claims. To date, no significant costs
have been incurred, either individually or collectively, in
connection with our indemnification provisions.
In addition, we are required by our credit card processors to
comply with credit card association operating rules, and we have
agreed to indemnify our processors for any fines they are
assessed by credit card associations as a result of processing
payments for us. The credit card associations and their member
banks set and interpret the credit card rules. Visa, MasterCard,
American Express, or Discover could adopt new operating rules or
re-interpret existing rules that we or our credit card
processors might find difficult to follow. We have had payment
processing agreements with certain of our payment processors
terminated due to violations of their rules. We also could be
subject to fines or increased fees from MasterCard and Visa.
In 2004 we sold and issued $195.0 million in aggregate
principal amount of 1.25% convertible senior notes due
January 1, 2024 (Notes), in a private, unregistered
offering. The Notes were sold at 100% of their principal amount.
We are required to pay interest on the Notes on January 1 and
July 1 of each year so long as the Notes are outstanding. The
Notes bear interest at a rate of 1.25% and, if specified
conditions are met, are convertible into our common stock at a
conversion price of $44.063 per share. The Notes may be
surrendered for conversion under certain circumstances,
including the satisfaction of a market price condition, such
that the price of our common stock reaches a specified
threshold; the satisfaction of a trading price condition, such
that the trading price of the Notes falls below a specified
level; the redemption of the Notes by us, the occurrence of
specified corporate transactions, as defined in the related
indenture; and the occurrence of a fundamental change, as
defined in the related indenture. The initial conversion price
is equivalent to a conversion rate of approximately
22.6948 shares per $1,000 of principal amount of the Notes.
We will adjust the conversion price if certain events occur, as
specified in the related indenture, such as the issuance of our
common stock as a dividend or distribution or the occurrence of
a stock subdivision or combination. If a fundamental change,
such as a change in our control, as defined in the related
indenture, occurs on or before January 1, 2009, we may also
be required to purchase the Notes for cash and pay an additional
make whole premium payable in our common stock upon the
repurchase or conversion of the Notes in connection with the
fundamental change.
72
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Holders of the Notes have the right to require us to repurchase
their Notes prior to maturity on January 1, 2009, 2014 and
2019. We have the right to redeem the Notes at any time on or
after January 1, 2009. On January 5, 2009, we
announced that holders of 95.5% of the Notes exercised the
option to require us to repurchase those Notes on
January 2, 2009 at a purchase price of 100.25% of the
principal amount of each tendered Note. Notes with an aggregate
principal amount of $8,805,000 remain outstanding. In light of
the right of holders to require us to redeem the Notes on
January 1, 2009, on January 1, 2008, we reclassified
the Notes as short-term debt. As such right has expired and the
exercise of the next right to require us to redeem the Notes
will not occur until January 1, 2014, we have reclassified
the remaining Notes as long-term debt.
We incurred interest expense of $2.5 million in 2008 and
made interest payments of $2.4 million. We incurred
interest expense of $2.4 million in 2007 and made interest
payments of $2.4 million. We incurred interest expense of
$2.5 million in 2006 and made interest payments of
$2.4 million.
|
|
9.
|
Fair
Value Measurements
|
Effective January 1, 2008, we adopted the provisions of
Statement of Financial Accounting Standards No. 157,
Fair Value Measurements, (FAS 157) for
financial instruments. FAS 157 defines fair value,
establishes a framework for measuring fair value in accordance
with GAAP, and requires enhanced disclosures about fair value
measurements. FAS 157 does not require any new fair value
measurements; rather it specifies valuation methods and
disclosures to be applied when fair value measurements are
required under existing or future accounting pronouncements.
FAS 157 clarifies that fair value is an exit price,
representing the amount that would be received to sell an asset
or paid to transfer a liability in an orderly transaction
between market participants. As such, fair value is a
market-based measurement that should be determined based on
assumptions that market participants would use in pricing an
asset or liability. As a basis for considering such assumptions,
FAS 157 establishes a three-tier fair value hierarchy,
which prioritizes the inputs used in measuring fair value as
follows:
Level 1 Observable inputs such as quoted prices
in active markets;
Level 2 Inputs, other than the quoted prices in
active markets, that are observable either directly or
indirectly; and
Level 3 Unobservable inputs in which there is
little or no market data, which require the reporting entity to
develop its own assumption.
As of December 31, 2008, we held certain assets that are
required to be measured at fair value on a recurring basis.
These included cash equivalents and short and long-term
investments.
As of December 31, 2008, Digital River held
$109.5 million of investments at par value,
$93.2 million fair value, in auction-rate securities (ARS),
all are AAA/Aaa-rated and
105-115 over
collateralized by student loans guaranteed by the
U.S. government. All the securities are 100% guaranteed by
the Department of Education or the Federal Family Education Loan
Program (FFELP) with the exception of two securities which are
82.5% and 99% guaranteed by FFELP. All of these securities
continue to fail at auction due to illiquid market conditions.
We did determine a market value discount, due to current
illiquid market conditions, of $16.3 million (14.9% of par
value) existed as of December 31, 2008 and recorded a
temporary fair value reduction to Other Comprehensive
Income on the balance sheet in 2008. We believe the
securities will continue to yield the coupon rates.
The determination of fair value required management to make
estimates and assumptions about the securities. The discounted
cash flow model we used to value the securities included the
following assumptions:
|
|
|
|
|
determination of the penalty coupon rate, frequency of reset
period associated with each ARS
|
73
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
|
|
|
|
|
an average redemption period of seven years
|
|
|
|
a contribution of the ARS paying its contractually stated
interest rate
|
|
|
|
determination of the risk adjusted discount rate based on LIBOR
rates for these maturities plus market information on student
loan credit spreads
|
In aggregate the ARS portfolio is yielding 2.3% and we continue
to receive 100% of the contractually required interest payments.
We continue to believe that we will be able to liquidate at par
over time. Accordingly, we treated the fair value decline as
temporary. We anticipate we have sufficient cash flow from
operations to execute our business strategy and fund our
operational needs. We believe that capital markets are also
available if we need to finance other investing alternatives.
The table below presents our assets measured at fair value on a
recurring basis as of December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements
|
|
|
|
As of December 31, 2008
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
Cash equivalents
|
|
$
|
490,335
|
|
|
$
|
490,335
|
|
|
$
|
|
|
|
$
|
|
|
Short-term investments
|
|
|
10,000
|
|
|
|
10,000
|
|
|
|
|
|
|
|
|
|
Long-term investments
|
|
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets measured at fair value
|
|
$
|
593,548
|
|
|
$
|
500,335
|
|
|
$
|
|
|
|
$
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Based on market conditions, we have classified auction rate
securities as Level 3 within FAS 157s hierarchy
since our initial adoption of FAS 157 at January 1,
2008. As of December 31, 2008, the difference between fair
value and par value of these securities was $16.3 million,
or 2.7% of total assets measured at fair value or 1.5% of total
assets reported in our financial statements.
The following is a reconciliation of assets measured at fair
value on a recurring basis using significant unobservable inputs
(Level 3 inputs) (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements Using
|
|
|
|
Significant Unobservable Inputs
|
|
|
|
(Level 3)
|
|
|
|
Short-term
|
|
|
Long-term
|
|
|
|
|
|
|
Investments
|
|
|
Investments
|
|
|
Total
|
|
|
Balance as of January 1, 2008
|
|
$
|
119,750
|
|
|
$
|
|
|
|
$
|
119,750
|
|
Total gains or losses (realized/unrealized)
|
|
|
|
|
|
|
|
|
|
|
|
|
Included in other comprehensive income
|
|
|
|
|
|
|
(16,287
|
)
|
|
|
(16,287
|
)
|
Purchases, issuances, and settlements
|
|
|
(10,250
|
)
|
|
|
|
|
|
|
(10,250
|
)
|
Transfers in and/or out of Level 3
|
|
|
(109,500
|
)
|
|
|
109,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2008
|
|
$
|
|
|
|
$
|
93,213
|
|
|
$
|
93,213
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair
Value of Financial Instruments
The carrying amount of cash and cash equivalents, accounts
receivable, notes payable and accounts payable approximates fair
value because of the short maturity of these instruments. As of
December 31, 2008 and 2007, the fair value of our
$195 million 1.25% fixed rate convertible senior notes was
valued at $166 million and $246 million, respectively,
based on the quoted fair market value of the debt.
74
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Share
Repurchase Program
In June 2007 our Board of Directors authorized a new stock
buyback program to repurchase up to an aggregate of
$200 million of our common stock. This buyback program
superseded the prior buyback program.
During 2008, 4,239,312 shares were repurchased under the
2007 Repurchase Program, including 3,876,612 shares
repurchased pursuant to the accelerated share repurchase
program. None of the repurchased shares have been retired.
The Accelerated Share Repurchase (ASR) agreement was entered
into with Goldman Sachs (GS) on February 7, 2008 and called
for GS to repurchase $127 million of Digital River, Inc.
stock between February 7, 2008 and June 20, 2008.
Based on the agreement, Digital River received a final share
count based on a discount of the Volume Weighted Average Price
of Digital River stock from February 21, 2008, through the
end of the contract. On June 20, 2008, GS had concluded the
ASR program with a final share delivery of 327,767 shares.
The aggregate number of shares repurchased pursuant to the ASR
program was 3,876,612 shares at an average price of $32.76
per share. The ASR agreement terminated upon completion of the
ASR program on June 20, 2008 in accordance with its terms.
With the conclusion of the ASR program, we completed the 2007
Repurchase Program.
During 2007, we repurchased 1,372,185 shares for
$63.0 million. No shares were repurchased during 2006. None
of the repurchased shares have been retired.
|
|
11.
|
Employee
Benefit Plans
|
Option
and Restricted Stock Awards
2007
Plan
Our stockholders approved the Digital River, Inc. 2007 Equity
Incentive Plan (the 2007 Plan) at the Companys
annual stockholder meeting held on May 31, 2007. The number
of shares issuable under the 2007 Plan equals
2,000,000 shares of our common stock. In addition, shares
not issued under the 1998 Plan shall become available for
issuance under the 2007 Plan to the extent a stock option or
other stock award under the 1998 Plan expires or terminates
before shares of common stock are issued under the award. Under
our 2007 Equity Incentive Plan we have the flexibility to grant
incentive and non-statutory stock options, restricted stock
awards, restricted stock unit awards and performance shares to
our directors, employees, and consultants.
1998
Plan
The 1998 Equity Incentive Plan expired in June 2008 except as to
options still outstanding under the Plan.
General
Stock Award Information
As of December 31, 2008, there were 1,976,462 shares
available for future awards under our 2007 Plan, respectively.
The number of shares available has been reduced by three shares
for every two shares granted under the stock award plan that
does not provide for full payment by the participant.
Options granted to employees typically expire no later than ten
years after the date of grant. Incentive stock option grants
must have an exercise price of at least 100% of the fair market
value of a share of common stock on the grant date. Incentive
stock options granted to employees who, immediately before such
grant, owned stock directly or indirectly representing more than
10% of the voting power of our stock, will
75
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
have an exercise price of 110% of the fair market value of a
share of common stock on the grant date and will expire no later
than five years from the date of grant.
A summary of the changes in outstanding options is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
Shares
|
|
|
|
|
|
Options
|
|
|
Average
|
|
|
|
Available
|
|
|
Options
|
|
|
Price
|
|
|
Price
|
|
|
|
for Grant
|
|
|
Outstanding
|
|
|
Per Share
|
|
|
Per Share
|
|
|
Balance, December 31, 2005
|
|
|
1,928,584
|
|
|
|
4,523,385
|
|
|
$
|
2.59 - $31.13
|
|
|
$
|
16.69
|
|
Granted
|
|
|
(395,000
|
)
|
|
|
395,000
|
|
|
|
29.75 - 57.36
|
|
|
|
38.64
|
|
Restricted stock effect on shares available for grant
|
|
|
(134,250
|
)
|
|
|
N/A
|
|
|
|
N/A
|
|
|
|
N/A
|
|
Exercised
|
|
|
|
|
|
|
(1,219,736
|
)
|
|
|
2.59 - 45.24
|
|
|
|
17.31
|
|
Canceled/expired
|
|
|
140,866
|
|
|
|
(140,866
|
)
|
|
|
2.59 - 30.69
|
|
|
|
22.57
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2006
|
|
|
1,540,200
|
|
|
|
3,557,783
|
|
|
$
|
2.59 - $57.36
|
|
|
$
|
18.68
|
|
Granted
|
|
|
(573,376
|
)
|
|
|
573,376
|
|
|
|
45.07 - 56.61
|
|
|
|
54.17
|
|
Restricted stock effect on shares available for grant
|
|
|
(251,426
|
)
|
|
|
N/A
|
|
|
|
N/A
|
|
|
|
N/A
|
|
Exercised
|
|
|
|
|
|
|
(1,219,519
|
)
|
|
|
2.59 - 45.24
|
|
|
|
11.08
|
|
Canceled/expired
|
|
|
133,330
|
|
|
|
(133,330
|
)
|
|
|
4.56 - 56.61
|
|
|
|
38.01
|
|
Additional Shares Reserved
|
|
|
2,000,000
|
|
|
|
N/A
|
|
|
|
N/A
|
|
|
|
N/A
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
2,848,728
|
|
|
|
2,778,310
|
|
|
$
|
2.59 - $57.36
|
|
|
$
|
28.41
|
|
Granted
|
|
|
(807,000
|
)
|
|
|
807,000
|
|
|
|
19.28 - 41.44
|
|
|
|
31.10
|
|
Restricted stock effect on shares available for grant
|
|
|
(278,952
|
)
|
|
|
N/A
|
|
|
|
N/A
|
|
|
|
N/A
|
|
Exercised
|
|
|
|
|
|
|
(425,774
|
)
|
|
|
4.56 - 38.17
|
|
|
|
16.84
|
|
Canceled/expired
|
|
|
213,686
|
|
|
|
(213,686
|
)
|
|
|
9.13 - 56.61
|
|
|
|
38.59
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2008
|
|
|
1,976,462
|
|
|
|
2,945,850
|
|
|
$
|
2.59 - $57.36
|
|
|
$
|
30.08
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table summarizes significant ranges of outstanding
and exercisable options under our 1998 Plan and 2007 Plan as of
December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options Outstanding
|
|
|
Options Exercisable
|
|
|
|
|
|
|
|
Weighted
|
|
|
Weighted
|
|
|
Aggregate
|
|
|
|
|
|
Weighted
|
|
|
Aggregate
|
|
|
|
|
Number
|
|
|
Average
|
|
|
Average
|
|
|
Intrinsic
|
|
|
Number
|
|
|
Average
|
|
|
Intrinsic
|
|
Exercise Price
|
|
|
Outstanding
|
|
|
Life Remaining
|
|
|
Price
|
|
|
Value
|
|
|
Exercisable
|
|
|
Price
|
|
|
Value
|
|
|
|
$ 2.59 - $ 3.88
|
|
|
|
19,187
|
|
|
|
2.0 years
|
|
|
$
|
2.74
|
|
|
$
|
423,171
|
|
|
|
19,187
|
|
|
$
|
2.74
|
|
|
$
|
423,171
|
|
|
4.56 - 7.55
|
|
|
|
148,423
|
|
|
|
2.4 years
|
|
|
|
5.39
|
|
|
|
2,880,668
|
|
|
|
148,423
|
|
|
|
5.39
|
|
|
|
2,880,668
|
|
|
9.12 - 13.92
|
|
|
|
344,355
|
|
|
|
3.8 years
|
|
|
|
11.74
|
|
|
|
4,497,656
|
|
|
|
296,145
|
|
|
|
11.88
|
|
|
|
3,827,537
|
|
|
16.72 - 22.98
|
|
|
|
423,446
|
|
|
|
5.1 years
|
|
|
|
22.09
|
|
|
|
1,149,141
|
|
|
|
364,695
|
|
|
|
22.55
|
|
|
|
821,460
|
|
|
23.01 - 30.69
|
|
|
|
621,982
|
|
|
|
6.5 years
|
|
|
|
28.02
|
|
|
|
72,897
|
|
|
|
439,592
|
|
|
|
28.41
|
|
|
|
71,772
|
|
|
33.58 - 57.36
|
|
|
|
1,388,457
|
|
|
|
8.4 years
|
|
|
|
41.01
|
|
|
|
|
|
|
|
468,235
|
|
|
|
44.04
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ 2.59 - $57.36
|
|
|
|
2,945,850
|
|
|
|
6.6 years
|
|
|
$
|
30.08
|
|
|
$
|
9,023,533
|
|
|
|
1,736,277
|
|
|
$
|
26.32
|
|
|
$
|
8,024,608
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value in the preceding table represents
the total pretax intrinsic value, based on options with an
exercise price less than the Companys closing stock price
of $24.80 as of December 31, 2008, which would have been
received by the option holders had those option holders
exercised their options as of that date. The total intrinsic
value of options exercised during the twelve months ended
December 31, 2008, 2007 and 2006 were $8.2 million,
$48.9 million and $38.6 million, respectively,
determined as of the date of exercise. The weighted average life
remaining on exercisable options is 5.4 years.
76
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
Restricted stock awards are subject to forfeiture if employment
terminates prior to the release of the restrictions. During the
vesting period, ownership of the shares cannot be transferred.
Restricted stock is considered issued and outstanding at the
grant date and has the same dividend and voting rights as other
common stock. A summary of the changes in restricted stock under
our 1998 Plan and 2007 Plan as of December 31, 2008 is as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
Restricted
|
|
|
Average
|
|
|
|
Stock
|
|
|
Fair Value
|
|
|
Non-Vested Balance, December 31, 2005
|
|
|
|
|
|
$
|
|
|
Granted
|
|
|
89,500
|
|
|
|
39.96
|
|
Vested
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-Vested Balance, December 31, 2006
|
|
|
89,500
|
|
|
$
|
39.96
|
|
Granted
|
|
|
198,889
|
|
|
|
53.75
|
|
Vested
|
|
|
(23,713
|
)
|
|
|
39.19
|
|
Forfeited
|
|
|
(31,272
|
)
|
|
|
48.54
|
|
|
|
|
|
|
|
|
|
|
Non-Vested Balance, December 31, 2007
|
|
|
233,404
|
|
|
$
|
50.64
|
|
Granted
|
|
|
498,550
|
|
|
|
29.04
|
|
Vested
|
|
|
(66,010
|
)
|
|
|
49.42
|
|
Forfeited
|
|
|
(312,582
|
)
|
|
|
33.61
|
|
|
|
|
|
|
|
|
|
|
Non-Vested Balance, December 31, 2008
|
|
|
353,362
|
|
|
$
|
35.45
|
|
|
|
|
|
|
|
|
|
|
Employee
Stock Purchase Plan
We also sponsor an employee stock purchase plan under which
1,200,000 shares have been reserved for purchase by
employees. The purchase price of the shares under the plan is
the lesser of 85% of the fair market value on the first or last
day of the offering period. Offering periods are currently every
six months ending on June 30 and December 31. Employees may
designate up to ten percent of their compensation for the
purchase of shares under the plan. Total shares purchased by
employees under the plan were 111,640, 76,436 and 71,183 in the
years ended December 31, 2008, 2007 and 2006, respectively.
There are 368,777 shares still reserved under the plan as
of December 31, 2008.
Inducement
Equity Incentive Plan
Effective on December 14, 2005, in connection with our
acquisition of Commerce5, Inc., we adopted an Inducement Equity
Incentive Plan (the Inducement Plan) initially for
Commerce5, Inc. executives who joined Digital River as a result
of the acquisition, or other personnel who join us after the
date of the Inducement Plan adoption. A total of 87,500
restricted shares of Digital River stock may be issued under the
Inducement Plan, subject to vesting. In accordance with the
NASDAQ rules, no stockholder approval was required for the
Inducement Plan.
Employee
Benefit Plan
We have a defined contribution 401(k) retirement plan for
eligible employees. Employees may contribute up to 15% of their
pretax compensation to the plan, with us providing a
discretionary match of up to 50% of the total employee
contribution. Amounts charged to expense related to our matching
contributions were $2.2 million in 2008, $2.0 million
in 2007 and $1.4 million in 2006.
77
DIGITAL
RIVER, INC.
Notes to
Consolidated Financial
Statements (Continued)
We view our operations and manage our business as one reportable
segment, providing outsourced
e-commerce
solutions globally to a variety of companies, primarily in the
software and high-tech products markets. Factors used to
identify our single operating segment include the financial
information available for evaluation by the chief operating
decision maker in making decisions about how to allocate
resources and assess performance. We market our products and
services through our offices in the United States and our
wholly-owned branches and subsidiaries operating in the United
Kingdom, Germany, Ireland, Luxembourg, Japan, Taiwan and Sweden.
Sales to international customers accounted for 42.8%, 43.2% and
41.2% of revenue for 2008, 2007 and 2006, respectively. Sales
are attributed to a geographic region based on the ordering
location of the customer. Summarized revenue information by
region for fiscal 2008, 2007 and 2006 is as follows (dollars in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
2006
|
|
|
United States
|
|
$
|
225,385
|
|
|
$
|
198,388
|
|
|
$
|
180,905
|
|
Europe
|
|
|
112,211
|
|
|
|
103,385
|
|
|
|
87,854
|
|
Other
|
|
|
56,630
|
|
|
|
47,502
|
|
|
|
38,873
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
394,226
|
|
|
$
|
349,275
|
|
|
$
|
307,632
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue derived from sales of product from one software
publisher, Symantec Corporation, accounted for approximately
24.3%, 26.2% and 30.2% of our total revenue in 2008, 2007 and
2006, respectively. In addition, revenues derived from
proprietary Digital River services sold to Symantec consumers
and dealer network sales of Symantec products amounted to
approximately 9.4% of total Digital River revenue in 2008, 13.2%
in 2007 and 16.6% in 2006.
The following table presents selected asset information by
geographic area based on the physical location of the assets (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2008
|
|
|
2007
|
|
|
|
United States
|
|
|
Europe
|
|
|
United States
|
|
|
Europe
|
|
|
Total property and equipment
|
|
$
|
79,781
|
|
|
$
|
14,354
|
|
|
$
|
59,359
|
|
|
$
|
14,695
|
|
Accumulated depreciation
|
|
|
(43,686
|
)
|
|
|
(8,716
|
)
|
|
|
(34,185
|
)
|
|
|
(8,767
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net property and equipment
|
|
$
|
36,095
|
|
|
$
|
5,638
|
|
|
$
|
25,174
|
|
|
$
|
5,928
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total intangible assets
|
|
$
|
66,951
|
|
|
$
|
31,617
|
|
|
$
|
56,302
|
|
|
$
|
35,573
|
|
Accumulated amortization
|
|
|
(47,487
|
)
|
|
|
(18,859
|
)
|
|
|
(41,385
|
)
|
|
|
(18,108
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net intangible assets
|
|
$
|
19,464
|
|
|
$
|
12,758
|
|
|
$
|
14,917
|
|
|
$
|
17,465
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total goodwill
|
|
$
|
154,061
|
|
|
$
|
142,182
|
|
|
$
|
139,136
|
|
|
$
|
145,204
|
|
Accumulated amortization
|
|
|
(22,455
|
)
|
|
|
|
|
|
|
(22,455
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net goodwill
|
|
$
|
131,606
|
|
|
$
|
142,182
|
|
|
$
|
116,681
|
|
|
$
|
145,204
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
On January 5, 2009, we announced that holders of 95.5% of
our convertible senior notes exercised the option to require us
to repurchase those notes on January 2, 2009, at a purchase
price of 100.25% of the principal amount of each tendered note
for a total of approximately $187.9 million, which includes
accrued interest of $1.2 million. Notes with an aggregate
principal amount of about $8.8 million remain outstanding.
This repurchase will also decrease our dilutive impact of
convertible senior on our diluted shares outstanding from about
4.4 million shares to 0.2 million shares in 2009.
78
Digital
River, Inc.
Schedule II
For Years Ended December 31, 2008, 2007 and 2006
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charges to
|
|
|
|
|
|
|
|
|
|
Balance at
|
|
|
Costs and
|
|
|
|
|
|
Balance at
|
|
2008
|
|
Beginning of Year
|
|
|
Expenses
|
|
|
Deductions
|
|
|
End of Year
|
|
|
Allowance for doubtful accounts
|
|
$
|
2,489
|
|
|
$
|
5,214
|
|
|
$
|
(5,246
|
)
|
|
$
|
2,457
|
|
Accrued chargeback reserve
|
|
|
1,186
|
|
|
|
9,514
|
|
|
|
(9,092
|
)
|
|
|
1,608
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charges to
|
|
|
|
|
|
|
|
|
|
Balance at
|
|
|
Costs and
|
|
|
|
|
|
Balance at
|
|
2007
|
|
Beginning of Year
|
|
|
Expenses
|
|
|
Deductions
|
|
|
End of Year
|
|
|
Allowance for doubtful accounts
|
|
$
|
2,339
|
|
|
$
|
581
|
|
|
$
|
(431
|
)
|
|
$
|
2,489
|
|
Accrued chargeback reserve
|
|
|
834
|
|
|
|
6,829
|
|
|
|
(6,477
|
)
|
|
|
1,186
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charges to
|
|
|
|
|
|
|
|
|
|
Balance at
|
|
|
Costs and
|
|
|
|
|
|
Balance at
|
|
2006
|
|
Beginning of Year
|
|
|
Expenses
|
|
|
Deductions
|
|
|
End of Year
|
|
|
Allowance for doubtful accounts
|
|
$
|
1,023
|
|
|
$
|
1,426
|
|
|
$
|
(110
|
)
|
|
$
|
2,339
|
|
Accrued chargeback reserve
|
|
|
1,445
|
|
|
|
2,937
|
|
|
|
(3,548
|
)
|
|
$
|
834
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charged /
|
|
|
|
|
|
|
|
|
|
Charged /
|
|
|
(Credited) to
|
|
|
|
|
Deferred income tax asset
|
|
Balance at
|
|
|
(Credited) to
|
|
|
Other
|
|
|
Balance at
|
|
Valuation Allowance
|
|
Beginning of Year
|
|
|
Expenses
|
|
|
Accounts(1)
|
|
|
End of Year
|
|
|
2008
|
|
$
|
1,390
|
|
|
$
|
|
|
|
$
|
(19
|
)
|
|
$
|
1,371
|
|
2007
|
|
|
12,961
|
|
|
|
|
|
|
|
(11,571
|
)
|
|
|
1,390
|
|
2006
|
|
|
17,504
|
|
|
|
|
|
|
|
(4,543
|
)
|
|
|
12,961
|
|
|
|
|
(1) |
|
Amounts not charged (credited) to expenses were charged
(credited) to equity or goodwill |
79
INDEX TO
EXHIBITS
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
3
|
.1(2)
|
|
Amended and Restated Certificate of Incorporation of the
Registrant, as currently in effect.
|
|
3
|
.2(4)
|
|
Amended and Restated Bylaws of the Registrant, as currently in
effect.
|
|
4
|
.1(5)
|
|
Specimen Stock Certificate.
|
|
4
|
.2(9)
|
|
Indenture dated as of June 1, 2004, between Digital River,
Inc. and Wells Fargo Bank, N.A. as trustee, including therein
the form of the Note.
|
|
10
|
.1(5)
|
|
Form of Indemnity Agreement between Registrant and each of its
directors and executive officers.
|
|
10
|
.3(5)
|
|
Consent to Assignment and Assumption of Lease dated
April 22, 1998, by and between CSM Investors, Inc.,
IntraNet Integration Group, Inc. and Registrant.
|
|
10
|
.4(3)
|
|
Assignment of Lease dated April 21, 1998, by and between
Intranet Integration Group, Inc. and Registrant.
|
|
10
|
.5(3)
|
|
Lease Agreement dated January 18, 2000, between Property
Reserve, Inc. and Registrant.
|
|
10
|
.6(4)
|
|
First Amendment of Lease dated January 31, 2001, to that
certain Lease dated April 24, 1996, between CSM Investors,
Inc. and Registrant (as assignee of Intranet Integration Group,
Inc.).
|
|
10
|
.7(6)
|
|
1998 Stock Option Plan, as amended and superseded by
Exhibit 10.19.*
|
|
10
|
.8(7)
|
|
1999 Stock Option Plan, formerly known as the 1999 Non-Officer
Stock Option Plan, as amended and superseded by
Exhibit 10.19.*
|
|
10
|
.9(6)
|
|
2000 Employee Stock Purchase Plan, as amended, and offering.*
|
|
10
|
.11(8)
|
|
Second Amendment of Lease dated April 22, 2002, to that
certain Lease dated April 24, 1996, between CSM Investors,
Inc. and Registrant (as assignee of Intranet Integration Group,
Inc.) as amended.
|
|
10
|
.12(8)
|
|
Second Amendment of Lease dated April 28, 2003, to that
certain Lease dated January 18, 2000, between Property
Reserve Inc. and Registrant.
|
|
10
|
.15(9)
|
|
Registration Rights Agreement dated as of June 1, 2004,
between Digital River, Inc. and the initial purchasers of Senior
Convertible Notes due January 1, 2024.
|
|
10
|
.16(13)
|
|
Summary of Compensation Program for Non-Employee Directors.
|
|
10
|
.17(14)
|
|
Second Amended and Restated Symantec Online Store Agreement, by
and among Symantec Corporation, Symantec Limited, Digital River,
Inc. and Digital River Ireland Limited effective April 1,
2006
|
|
10
|
.18(10)
|
|
1998 Equity Incentive Plan (formerly known as 1998 Stock Option
Plan).*
|
|
10
|
.19(13)
|
|
Amended and Restated Employment Agreement for Joel A. Ronning.*
|
|
10
|
.20(13)
|
|
Change of Control and Severance Agreement for Thomas M.
Donnelly.*
|
|
10
|
.21(11)
|
|
Form of Amendment to Non-Qualified Stock Option Agreement.*
|
|
10
|
.22(12)
|
|
Inducement Equity Incentive Plan.*
|
|
10
|
.23(15)
|
|
2007 Equity Incentive Plan.*
|
|
10
|
.24(13)
|
|
Change of Control and Severance Agreement for Kevin L. Crudden.
|
|
12
|
.1++
|
|
Computation of Ratio of Earnings to Fixed Charges.
|
|
21
|
.1++
|
|
Subsidiaries of Digital River, Inc.
|
|
23
|
.1++
|
|
Consent of Independent Registered Public Accounting Firm, dated
February 19, 2009.
|
|
24
|
.1++
|
|
Power of Attorney, pursuant to which amendments to this Annual
Report on
Form 10-K
may be filed, is included on the signature pages of this Annual
Report on
Form 10-K.
|
80
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description of Document
|
|
|
31
|
.1++
|
|
Certification of Digital River, Inc.s Chief Executive
Officer, pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
|
|
31
|
.2++
|
|
Certification of Digital River, Inc.s Chief Financial
Officer, pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
|
|
32
|
++
|
|
Certification of Digital River, Inc.s Chief Executive
Officer and Chief Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
|
|
|
|
++ |
|
Filed herewith. |
|
* |
|
Management contract or compensatory plan. |
|
|
|
Confidential treatment has been requested for portions of this
agreement, which portions have been filed separately with the
SEC. |
|
(1) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on May 4, 2004. |
|
(2) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on June 1, 2006. |
|
(3) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 1999, filed on
March 30, 2000. |
|
(4) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2000, filed on
March 27, 2001. |
|
(5) |
|
Incorporated by reference from the Companys Registration
Statement on
Form S-1
(File
No. 333-56787),
declared effective on August 11, 1998. |
|
(6) |
|
Incorporated by reference from the Companys Registration
Statement on
Form S-8
(File
No. 333-105864)
filed on June 5, 2003. |
|
(7) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended June 30, 2003, filed on August 14, 2003. |
|
(8) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended March 31, 2003, filed on May 15, 2003. |
|
(9) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on July 13, 2004. |
|
(10) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on May 31, 2005. |
|
(11) |
|
Incorporated by reference from the Companys Quarterly
Report on Form
10-Q for the
quarter ended June 30, 2005, filed on August 9, 2005. |
|
(12) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on December 20, 2005. |
|
(13) |
|
Incorporated by reference from the Companys Current Report
on
Form 8-K
filed on March 10, 2008. |
|
(14) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2006, filed on
March 1, 2007. |
|
(15) |
|
Incorporated by reference from the Companys Annual Report
on
Form 10-K
for the year ended December 31, 2007, filed on
February 29, 2008. |
81