form10ka.htm
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K/A
Amendment No. 1
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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, 2011
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
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For the transition period from to
Commission file number 000-26357
(Exact name of Registrant as specified in its charter)
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Delaware
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13-3904355
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(State or other jurisdiction of incorporation or organization)
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(I.R.S. Employer Identification No.)
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55 Second Street, San Francisco, CA 94105
(415) 348-7000
(Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $0.001 per share
Securities registered pursuant to Section 12(g) of the Act:
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ No T
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No T
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes T No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes T No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of the registrant’s 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. T
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.
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Large accelerated filer ¨
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Accelerated filer ¨
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Non-Accelerated filer ¨ (Do not check if a smaller reporting company)
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Smaller Reporting Company x
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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 ¨ No x
The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant, based upon the closing price of common stock on the last business day of the most recently completed second fiscal quarter, June 30, 2011, was approximately $26,087,337. Shares of voting stock held by each executive officer and director have been excluded from this calculation. This determination of affiliate status is not necessarily a conclusive determination for other purposes. As of March 21, 2012, 17,293,237 shares of the registrant’s common stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
None.
Explanatory Note: We are filing this amendment to our Annual Report on Form 10-K for the year period ended December 31, 2011, which was originally filed with the Securities and Exchange Commission on March 28, 2012 (the “Original Filing”), to include the signatures of our independent registered public accounting firm on their report on our consolidated financial statements and their consent in Exhibit 23.1.
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Page No.
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PART I
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ITEM 1.
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4
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ITEM 1A.
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ITEM 1B.
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ITEM 2.
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ITEM 3.
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ITEM 4.
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PART II
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ITEM 5.
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ITEM 6.
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ITEM 7.
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ITEM 7A.
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
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ITEM 8.
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ITEM 9.
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ITEM 9A
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PART III
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ITEM 10.
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ITEM 11.
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ITEM 12.
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ITEM 13.
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ITEM 14.
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PART IV
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ITEM 15.
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PART I
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This Annual Report on Form 10-K contains 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.
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We use words such as “intends”, “expects”, “anticipates”, “plans”, “may”, “will” and similar expressions to identify forward-looking statements.
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Discussions containing forward-looking statements may be found in the material set forth under “Business,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in other sections of the report.
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All forward-looking statements, including but not limited to, projections, expectations or estimates concerning our business, including demand for our products and services, mix of revenue sources, ability to control and/or reduce operating expenses, anticipated gross margins and operating results, cost savings, product development efforts, general outlook of our business and industry, future profits or losses, competitive position, share-based compensation, and adequate liquidity to fund our operations and meet our other cash requirements, are inherently uncertain as they are based on our expectations and assumptions concerning future events.
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These forward-looking statements are subject to numerous known and unknown risks and uncertainties.
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You should not place undue reliance on these forward-looking statements.
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Our actual results could differ materially from those anticipated in the forward-looking statements for many reasons, including but not limited to,
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the possibility that we may fail to preserve our expertise in search advertising network product development,
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that existing and potential distribution partners may opt to work with, or favor the products of, competitors if our competitors offer more favorable products or pricing terms,
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that seasonal fluctuations in internet usage and traditional advertising seasonality are likely to affect our business,
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that we may be unable to maintain or grow sources of revenue,
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that changes in the distribution network composition may lead to decreases in query volumes,
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that we may be unable to maintain or improve our query volume, match rate, number of paid clicks, average revenue per click, conversion rate or other ad network metrics,
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that we may be unable to maintain profitability,
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that we may be unable to attract and retain key personnel,
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that we may not be able to effectively manage, or to increase, our relationships with international customers,
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that we may have unexpected increases in costs and expenses, or
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that one or more of the other risks described below in the section entitled “Risk Factors” and elsewhere in this report may occur.
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All forward-looking statements in this report are made as of the date hereof, based on information available to us as of the date hereof, and except as required by applicable law, we assume no obligation to update any forward-looking statements.
Overview
LookSmart, Ltd. (“LookSmart” or “the Company”) is a search advertising network solutions company that provides relevant solutions for search advertising customers. LookSmart was organized in 1996 and is incorporated in the State of Delaware.
LookSmart operates in a large online search advertising ecosystem serving ads that target user queries on partner sites. We operate in the middle of this ecosystem, acquiring search queries from a variety of sources and matching them with the keywords of our search advertising customers. Our largest category of customers has been Intermediaries, the majority of which purchase clicks to sell into the affiliate networks of the large search engine providers. Another category of customers are Direct Advertisers and their agencies whose objective is to obtain conversions or sales from the clicks, while others want unique page views. The last category of customers is Self-Service advertisers that sign-up online and pay by credit card.
LookSmart offers search advertising customers targeted search via a monitored search advertising distribution network using the Company’s “AdCenter” platform technology. The Company’s search advertising network includes publishers and search advertising customers, including intermediaries and direct advertising customers and their agencies as well as self-service customers in the United States and certain other countries. The Company’s application programming interface (“API”) allows search advertising customers and their advertising agencies to connect any type of marketing or reporting software with minimal effort, for easier access, management, and optimization of search advertising campaigns.
LookSmart also offers publishers licensed private-label search advertiser network solutions based on its AdCenter platform technology (“Publisher Solutions”). Publisher Solutions consist of hosted auction-based ad serving with an ad backfill capability that allows publishers and portals to manage their advertiser relationships, distribution channels and accounts.
In the first quarter of 2008, management made the decision to exit its remaining consumer products activities and to sell or otherwise dispose of the remaining consumer assets. During 2008, we sold the intellectual property rights to the “Wisenut” trademark and related domain names and decided to wind down the Furl operations. The Furl assets were accounted for under the guidance of Accounting Standards Codification (“ASC”) 360-10-40, Impairment or Disposal of Long-Lived Assets (“ASC 360-10-40”) as “assets held for sale” and a full impairment of these assets was recorded at December 31, 2008. In the first quarter of 2009, the Furl assets were sold. The results of operations of consumer product activities, including related gains (losses), have been classified as discontinued operations for all periods presented in the accompanying Consolidated Statements of Operations, as described more fully in Note 2 to our Consolidated Financial Statements below. At December 31, 2011, the Company continues to own the Wisenut search engine technology, intellectual property rights in such technology, and other assets.
Products and Services
LookSmart’s revenue sources are divided into two categories:
Advertiser Networks
LookSmart develops, markets, and sells premium and performance search advertising products to search advertising customers and related advertising agencies through a variety of pricing models tailored to customer requirements. These search advertising customers reach potential customers with our sponsored search products. Our sponsored search products give search advertising customers complete control of their campaigns with different keyword matching options (Smart, Broad, Negative) and targeting options (Keyword, Category, Geography, Day-parting, or “Run of Network”) to maximize advertiser Return on Investment (“ROI”). Ads are distributed through an extensive network of syndication partners.
LookSmart actively pursues relationships with portals, internet service providers (“ISPs”), media companies, other ad networks, search services and other websites to maintain and increase the distribution of our advertiser’s search advertisements.
These relationships are key drivers of our growth because more distribution typically results in more online search advertising revenues. We derive the majority of our traffic from our pay-per-click (“PPC”) distribution network partners. Each click is verified through our proprietary network traffic monitoring and management process, as well as third-party technologies and tools.
Our largest category of customers has been the Intermediaries, the majority of which purchase clicks to sell into the affiliate network of large search engine providers. In 2011, revenue from Intermediaries decreased significantly compared to 2010. This decrease was the primary driver of the revenue drop and was a result of changes in the search ecosystem that had a severe impact on the Intermediary business models and consequently the business they conduct with us. We have ceased business with several Intermediaries as a result and we do not expect significant future growth in the Intermediary business.
Through a web interface or our proprietary API, LookSmart’s AdCenter allows multiple search advertising customers to upload keywords, manage daily budgets, set rates and view reports—including spend data that is updated hourly. Search advertising customers can also access keyword suggestions, price and traffic estimates, online help and frequently asked questions (“FAQ”). The AdCenter API is also available for search advertising customers and related agencies that use third-party or in-house systems to analyze and manage their search campaigns.
Publisher Solutions
LookSmart offers a suite of customizable search advertising management tools and solutions that help publishers grow their audience, control advertiser relationships, and enhance and optimize the monetization of their sites. Our Publisher Solutions can be branded and configured according to publishers’ needs. We offer publishers:
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Command and control over revenue diversification and growth via the AdCenter for Publishers, a comprehensive private-labeled Application Service Provider (“ASP”) solution that provides publishers with the ability to own and grow their advertiser relationships, increase their distribution capacity, and diversify their revenue sources.
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A customizable set of services and technology to integrate multiple sources of advertisers, including dominant third-party feeds, within a single auction-based platform for cost-per-click (“CPC”) text-based advertising.
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Access to a “backfill” of advertisers so they can quickly ramp their online operations and not lose time or existing revenue sources while establishing their advertiser relationships. Connecting multiple installations of the AdCenter for Publishers together allows LookSmart to create an open marketplace environment that empowers publishers to share, leverage, and exchange their advertisers for expanded distribution.
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Technology
We have developed a proprietary web-based advertising auction platform, the AdCenter, that allows us to create, track, analyze, report and optimize customers’ advertising campaigns. The AdCenter indexes ads, analyzes webpage information to match advertising to relevant content, matches search queries to advertising and utilizes advanced fraud detection techniques in a high-volume ad serving environment. The platform also collects impression and click data for each listing that we manage for our customers and provides us with billing information. In addition, we provide each of our advertising customers with a password-protected online account that enables them to track, analyze and optimize their search marketing campaigns using online reports. The platform also includes an interface for publishers to access ad syndication feed reports and revenue information.
We rely on a combination of patent, trade secret, copyright and trademark laws and contractual provisions to protect our intellectual property and proprietary rights. Our trademarks include LookSmart ®. We have an issued patent on our Wisenut search engine technology and have patents pending or issued on various aspects of our ad delivery and search technologies. LookSmart currently holds one patent that expires in 2021.
Competition
The online search advertising industry is constantly evolving, changes rapidly and is highly competitive. One of the major factors contributing to this competitive environment is that providers of all online advertising formats compete for a share of the advertisers’ limited advertising budgets. The large search engines, such as Yahoo!, Google, and Bing often receive the biggest portion of the search marketing budget. With greater capital and technical resources, and greater brand recognition, the larger search engines are often first priority in the mind of the advertiser, agency or buyer.
In 2010, we introduced the LookSmart Quality Manifesto, a commitment to our advertisers, publishers and the entire search marketing community to strive to provide the highest quality search advertising network possible. The introduction of the Quality Manifesto highlights our dedication to finding the best ways to acquire and deliver quality traffic based on values of trust, respect and integrity.
We compete on two main fronts: 1) attracting and growing our base of search advertising customers to purchase our online search advertising products and to incorporate their key words into our search advertising network, and 2) attracting and maintaining distribution network partners to incorporate their search queries into our search advertising network. The basis on which we compete differs among the two fronts. In addition, while internet advertising continues to grow year over year, customers’ online advertising budgets are in competition with advertising in other media such as television, radio and print.
Government Regulations
We are subject to a number of domestic state and federal laws that affect companies conducting business on the Internet. In addition, because of the increasing popularity of the Internet and the growth of online services, laws relating to user privacy, freedom of expression, content, advertising, information security and intellectual property rights are being debated and considered for adoption.
In the U.S., state and federal laws relating to the liability of providers of online services for activities of their consumers, and the liability of providers of online advertisers ads and activities, are currently being tested by a number of claims, which include actions for defamation, libel, invasion of privacy and other data protection claims, tort, unlawful activity, copyright or trademark infringement, or other theories based on the nature and content of the materials searched by consumers, the advertisements shown to consumers or the content generated by consumers. Likewise, other federal laws could have an impact on our business. For example, the Children’s Online Protection Act and the Children’s 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 minors. In addition, the Protection of Children from Sexual Predators Act of 1998 requires online service providers to report evidence of violations of federal child pornography laws under certain circumstances.
In addition, the application of existing laws regulating or requiring licenses for certain businesses of our search advertising customers, including, for example, distribution of pharmaceuticals, adult content, online gambling, financial services, alcohol or firearms, can be unclear. Application of these laws in an unanticipated manner could expose us to substantial liability and restrict our ability to deliver services to our customers.
Marketing
We use both traditional and non-traditional means and media types to grow our business. In addition to advertising and public relations programs, we seek to retain customers through a mix of informative marketing communications, helpful account tools, continual customer support and an optimal user experience.
We provide relevant content, advertising and technology solutions to advertisers and publishers. Marketing activities are designed to support and grow our business by targeting:
Search Advertising Customers—We deliver online search advertisements to a network of syndicated publishers and search engine partners.
Publishers—We offer a suite of customizable tools and solutions that help publishers grow their audience, search advertiser relationships, and revenue.
Employees
Our future success is substantially dependent on the performance of our senior management and key technical and sales personnel, and our continuing ability to attract and retain highly qualified technical and managerial staff. As of December 31, 2011 we had 50 employees.
Customers
For the year ended December 31, 2011, each of two Intermediaries customers accounted for more than 10% of our revenue, and in the aggregate they accounted for 22% of our revenue. In the future, we expect our revenue concentration associated with the Intermediary customers to be smaller.
Product Development and Technical Operations Expense
Product development and technical operations expense includes all costs related to the continued operation, development and enhancement of our core technology product, the AdCenter platform. Our product development and technical operations expense, net of capitalized software development costs, was approximately $6.7 million during the year ended December 31, 2011 and approximately $9.0 million during the year ended December 31, 2010.
Available Information
Our website, www.looksmart.com, provides access, without charge, to our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with the Securities and Exchange Commission (“SEC”). The information provided on our website is not part of this report, and is therefore not incorporated by reference unless such information is otherwise specifically referenced elsewhere in this report.
Materials we file with the SEC may be read and copied at the SEC’s Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. The SEC also maintains a website at www.sec.gov that contains reports, proxy and information statements, and other information regarding our company that we file electronically with the SEC.
You should carefully consider the risks described below before making an investment decision regarding our common stock. If any of the following risks actually occur, our business, financial condition and results of operations could be harmed. In that case, the trading price of our common stock could decline and our investors could lose all or part of their investment. Additional risks not presently known to us or that we currently deem immaterial may also impair our business operations.
Risks Related to our Business
Our financial results are highly concentrated in the online search advertising business; if we are unable to grow online search advertising revenues and find alternative sources of revenue, our financial results will suffer
Search advertising accounted for substantially all of our revenues for the years ended December 31, 2011 and 2010. Our success depends upon search advertising customers choosing to use, and distribution network partners choosing to distribute, our search advertising networks products. Search advertising customers and distribution network partners may not adopt our products at projected rates, or changes in market conditions, may adversely affect the use or distribution of search advertisements. Because of our revenue concentration in the online search advertising business, such shortfalls or changes could have a negative impact on our financial results. Also, many of our products are offered to website publishers who use them to display or generate revenue from their online advertisements. If we are unable to generate significant revenue from our online advertising business or related business models under development, or if market conditions adversely affect the use or distribution of online advertisements generally, or for some of our larger customers specifically, our results of operations, financial condition and/or liquidity will suffer.
Our largest category of customers have historically been Intermediaries, the majority of whom purchase clicks to sell into the affiliate networks of large search engine providers. In 2011, we experienced a significant decrease in revenues largely due to loss of Intermediary business.
We operate in a large online search advertising ecosystem serving ads that target user queries on partner sites. We operate in the middle of this ecosystem, acquiring search queries from a variety of sources and matching them with the keywords of our search advertising customers. Our largest category of customers has historically been Intermediaries, the majority of which purchase clicks to sell into the affiliate networks of large search engine providers. The Intermediary business model experienced a significant change in the fourth quarter of 2011. We have ceased business with several of our Intermediary customers and do not expect significant future revenue growth in this area. If we are unable to identify and exploit alternative sources of profitable revenue, our results of operations, financial condition and/or liquidity will suffer.
Our future success depends on sales to, and the management of, international customers
A portion of our revenue is derived from sales to international customers who are headquartered internationally, however our business with them is primarily U.S. based and our transactions are primarily in U.S. dollars.
Managing our growing group of customers outside the U.S. presents various challenges, including, but not limited to:
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economic and political conditions;
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differences in the enforcement of intellectual property and contract rights in varying jurisdictions;
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our ability to develop relationships with local accounts;
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compliance with United States. and international laws and regulations;
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fluctuations in foreign currency exchange rates; and
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our ability to secure and retain qualified people for the operation of our business.
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To date, foreign exchange exposure from sales has not been material to our operations. Our activities with customers outside the United States may be affected by changes in trade protection laws, policies and measures, and other regulatory requirements affecting trade and investment, including the Foreign Corrupt Practices Act and local laws prohibiting corrupt payments. In addition, the laws of some foreign countries may not protect our intellectual property rights to the same extent as do the laws of the United States, which increases the risk of unauthorized use of our technologies. Our business could be materially adversely affected if foreign markets do not continue to develop, if we do not receive additional traffic suitable for our foreign accounts or if regulations governing our international businesses change.
We rely primarily on our distribution network partners to generate quality search queries and display advertisements that generate paid clicks; if we are unable to maintain or expand the scope and quality of this network, our ability to generate revenue may be seriously harmed
The success of our online search advertisement products depends in large part on the size and quality of our distribution network of search queries. We may be unable to maintain or add distribution network partners of satisfactory quality in our distribution network at reasonable revenue-sharing rates, or at all.. If we lose any significant portion of our distribution network, we would need to find alternative sources of quality click traffic to replace the lost paid clicks. In the past, we have lost portions of our distribution network and chose to remove those with poor quality. Although alternate sources of click traffic are currently available in the market, they may not be available at reasonable prices or may be of unacceptable quality. There is significant competition among advertising networks to sign agreements with traffic providers. We may be unable to negotiate and sign agreements with quality traffic providers on favorable terms, if at all. In order to attract higher quality traffic, we may have to pay high traffic acquisition costs which may adversely affect our gross margin and other financial results. If we are unable to attract higher quality traffic, or if we are otherwise unsuccessful in maintaining and expanding our distribution network, then our ability to generate revenue may be seriously harmed.
We generated a net loss in 2011, have had losses in the past, and may have further losses in the future. Failure to maintain operating profitability could harm our business and result in a decline in our stock price.
We had a net loss of $2.5 million for the year ended December 31, 2011. As of December 31, 2011, our accumulated deficit was approximately $237 million. We may be unable to achieve profitability in the foreseeable future. Our ability to achieve and maintain profitability will depend on our ability to generate additional revenue and contain our expenses. In order to generate additional revenue, we will need to expand our network of distribution network partners, increase the amount our search advertising customers spend on our advertising network, expand our advertiser base, experience an increase in paid clicks across our network and publisher products and develop and implement successful new digital advertising revenue generating models. We may be unable to accomplish some or any of these goals because of the risks identified in this report or for unforeseen reasons. Also, we may be unable to contain our costs due to the need to make revenue sharing payments to our distribution network partners, to invest in product development, and market our products. Because of the foregoing factors, and others outlined in this report, we may be unable to maintain profitability in the future, which could result in a decline in our stock price.
If we experience downward pressure on our match rate and/or revenue-per-click, or we are unable to rebuild our match rate, and/or revenue-per-click, our financial results may suffer
We have experienced, and may in the future experience, downward pressure on our average revenue-per-click (“RPC”) and average match rate, which is the rate at which our paid listings are matched against search queries from distribution network partners, due to various market segment, customer, and channel factors. We may experience decreases in RPC or average match rate in the future for many reasons, including a change in customer mix, the erosion of our advertiser base, the reduction in average advertiser spend, the reduction in the number of listings purchased by search advertising customers, the reduction of bids on keywords, changes in the composition of our distribution network or other reasons. If our RPC or average match rate falls for any reason, or if we are unable to grow our RPC and average match rate, then we may be unable to achieve our financial projections and our stock price would likely suffer.
Our growth depends on our ability to retain and grow our search advertising customer base; if our search advertising customer base and average search advertising customer spend falls, our financial results will suffer
Our growth depends on our ability to build a search advertising customer base that corresponds with the characteristics of our distribution network. Our distribution network, which currently consists of a diversified network of distribution sources, may change as new distribution sources are added and old distribution sources are removed. Search advertising customers may view these changes to the distribution network negatively, and existing or potential search advertising customers may elect to purchase fewer or no advertisements for display on our distribution network. If this occurs, it is likely that our average RPC and average match rate may decline and our stock price would likely suffer.
If we do not introduce new and upgraded products and services and successfully adapt to our rapidly changing industry, our financial condition may suffer
The online search advertising industry continues to evolve and we will need to continue developing new and upgraded products and services, and adapt to new business environments and competition in order to maintain and grow revenue and reach our profitability goals. New search advertising technologies could emerge that make our services comparatively less useful or new business methods could emerge that divert web traffic away from our Advertising Network. In addition, competition from other web businesses may prevent us from attracting substantial traffic to our services. Also, we may inaccurately predict the direction of the online search advertising market, which could lead us to make investments in technologies and products that do not generate sufficient returns. We may face platform and resource constraints that prevent us from developing upgraded products and services. We may fail to successfully identify new products or services, or fail to bring new products or services to market in a timely and efficient manner. Rapid industry change makes it difficult for us to accurately anticipate customer needs for our products, particularly over longer periods.
We face intense competitive pressures, which could materially and adversely affect our financial results
We compete in the relatively new and rapidly evolving online search advertising industry, which presents many uncertainties that could require us to further refine our business model. We compete with large companies that provide paid placement products, paid inclusion products, and other forms of search marketing as well as contextually-targeted advertising products and other types of online advertisements. We compete for search advertising customers on the basis of the quality and composition of our network, the price-per-click (“PPC”) charged to search advertising customers, the volume of clicks that we can deliver to search advertising customers, tracking and reporting of campaign results, customer service, and other factors. We also compete for distribution network partners and for ad placement on those partners’ sites on the basis of the relevance of our ads and the PPC charged to search advertising customers. We also experience competition in offering our publisher products to website publishers. Some of our competitors have larger distribution networks and proprietary traffic bases, longer operating histories, greater brand recognition, higher RPC, better relevance and conversion rates, or better products and services than we have.
Our acquisition of businesses and technologies may be costly and time-consuming; acquisitions may also dilute our existing stockholders
From time to time we evaluate corporate development opportunities and when appropriate, may make acquisitions of or significant investments in, complementary companies or technologies to increase our technological capabilities expand our service offerings, or extend the operating scale of our network businesses. The pursuit of acquisitions, whether or not completed, as well as the completion of any acquisitions and their integration may be expensive and may divert the attention of management from the day-to-day operations of the company. It may be difficult to retain key management and technical personnel of the acquired company during the transition period following an acquisition. Acquisitions or other strategic transactions may also result in dilution to our existing stockholders if we issue additional equity securities or increase our debt. We may also be required to amortize significant amounts of intangible assets, record impairment of goodwill in connection with future acquisitions, or divest non-performing assets at below-market prices, which would adversely affect our operating results. Integration of acquired companies and technologies into the company is likely to be expensive, time-consuming, and strain our managerial resources. We may not be successful in integrating any acquired businesses or technologies and these transactions may not achieve anticipated business benefits.
Our success depends on our ability to attract and retain key personnel; if we were unable to attract and retain key personnel in the future, our business could be materially and adversely impacted
Our success depends on our ability to identify, attract, retain and motivate highly skilled development, technical, sales, and management personnel. We have a limited number of key development, technical, sales and management personnel performing critical company functions, and the loss of the services of any of our key employees, particularly any of our executive team members or key technical personnel, could adversely affect our business. The combination of depressed capital markets, stock volatility, and small market capitalization may not allow us to offer competitive equity based compensation to attract and retain key personnel.
We face capacity constraints on our software and infrastructure systems that may be costly and time-consuming to resolve
We use proprietary and licensed software and databases to receive and analyze advertisements, campaigns and budgets, match search queries to advertising, analyze webpage information to match advertising to relevant content, integrate third-party ads, detect invalid clicks, serve ads in high volume, and track, analyze and report on advertising responses and campaigns. Any of these software systems may contain undetected errors, defects or bugs, or may fail to operate with other software applications. The following developments may strain our capacity and result in technical difficulties with our service or the websites of our distribution network partners:
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customization of our matching algorithms and ad serving technologies,
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substantial increases in the number of queries to our database,
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substantial increases in the number of searches in our advertising databases, or
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the addition of new products or new features or changes to our products.
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If we experience difficulties with our software and infrastructure systems or if we fail to address these difficulties in a timely manner, we may lose the confidence of search advertisers and distribution network partners, our revenue may decline and our business could suffer. In addition, as we expand our service offerings and enter into new business areas, we may be required to significantly modify and expand our software and infrastructure systems. If we fail to accomplish these tasks in a timely manner, our business will likely suffer.
Our ability to obtain new credit facilities may adversely affect the way we conduct our business
We may need to enter into additional credit facilities in the future to operate the business. Our history of operating losses may make it more difficult for us to obtain additional financing for our operations, investing activities, or financing activities. This difficulty or inability could materially limit our business operations and adversely affect our business performance.
If we do not comply with the financial covenants in our credit agreements, our financial condition could be adversely affected.
Our credit facilities contain provisions that could limit our ability to, among other things, incur, create or assume additional debt, sell or otherwise dispose of our or any of our subsidiary’s assets, or consolidate or merge with or into, or acquire the obligations or stock of, or any other interest in, another person. In addition, our credit facilities contain financial covenants that require us to maintain specified levels of tangible net worth and liquid assets. Our ability to meet those financial covenants can be affected by events beyond our control, and we may be unable to satisfy these covenants. If we fail to comply with these covenants, we may be required to identify restricted cash equal to our outstanding capital lease balance plus our outstanding standby letter of credit (“SBLC”) or, in the event of default, we may be required to pay the lenders cash in an amount equal to the capital lease balance. Paying such cash balances could have a material adverse effect on the Company’s financial condition.
Risks Related to Operating in our Industry
Economic conditions, political events, and other circumstances could materially adversely affect the Company
The Company’s operations and performance depend significantly on worldwide economic conditions and their impact on levels of consumer spending in many countries and regions, including without limitation the United States, and may remain depressed for some time. Some of the factors that could influence the levels of consumer spending and, in turn, online advertising, include continuing volatility in fuel and other energy costs, conditions in the residential real estate and mortgage markets, labor and healthcare costs, access to credit, consumer confidence and other macroeconomic factors affecting consumer spending behavior and, in turn, online advertising. These and other economic factors could have a material adverse effect on demand for the Company’s products and services and on the Company’s financial condition and operating results.
Cyclical and seasonal fluctuations in the economy, in internet usage and in traditional retail shopping may have an effect on our business
Both cyclical and seasonal fluctuations in internet usage and traditional retail seasonality may affect our business. Internet usage generally slows during the summer months, and queries typically increase significantly in the fourth quarter of each year. These seasonal trends may cause fluctuations in our quarterly results, including fluctuations in sequential revenue growth rates.
If we fail to prevent, detect and remove invalid search queries and clicks, we could lose the confidence of our search advertisers, thereby causing our business to suffer
Invalid clicks are an ongoing problem for the Internet search advertising industry, and we are exposed to the risk of invalid clicks on our search advertising customers’ text advertisements coming from within our distribution network. Invalid clicks occur when a person or robotic software causes a click on a paid listing to occur for some reason other than to view the underlying content. Invalid clicks are commonly referred to as “click fraud”. We continue to invest significant time and resources in preventing, detecting and eliminating invalid traffic from our distribution network. However, the perpetrators of click fraud have developed sophisticated methods to evade detection, and we are unlikely to be able to completely detect and remove all invalid traffic from our search network.
We have in the past been subject to advertiser complaints and litigation regarding invalid clicks, and we may be subject to search advertising customer complaints, claims, litigation or inquiries in the future. We have from time to time credited invoices or refunded revenue to our customers due to invalid traffic, and we expect to continue to do so in the future. If our systems to detect invalid traffic are insufficient, or if we find new evidence of past invalid clicks, we may have to issue credits or refunds retroactively to our search advertisers, and we may still have to pay revenue share to our distribution network partners. This could negatively affect our profitability and hurt our brand. If traffic consisting of invalid clicks is not detected and removed from our advertising network, the affected search advertising customers may experience a reduced return on their investment in our online advertising because the invalid clicks will not lead to conversions for the search advertising customers. This could lead the search advertisers to become dissatisfied with our products, which could lead to loss of search advertising customers and revenue and could materially and adversely affect our financial results.
Any failure in the performance of our key production systems could materially and adversely affect our revenues
Any system failure that interrupts our hosted products or services, whether caused by computer viruses, software failure, power interruptions, intruders and hackers, or other causes, could harm our financial results. For example, our system for tracking and invoicing clicks is dependent upon a proprietary software platform. If we lose key personnel or experience a failure of software, this system may fail. In such event, we may be unable to track paid clicks and invoice our customers, which would materially and adversely affect our financial results and business reputation. Moreover, our services are governed by Service Level Agreements that, if not met, require the payment of credits to our customers depending upon the level of service interruption.
The occurrence of a natural disaster or unanticipated problems at our principal headquarters or at a third-party data center could cause interruptions or delays in our business. A loss of data could render us unable to provide some services. Our California facilities exist on or near known earthquake fault zones and a significant earthquake could cause an interruption in our services.. An interruption in our ability to serve advertisements, track paid clicks, bill and collect invoices, and provide customer support would materially and adversely affect our financial results.
Our business and operations depend on Internet service providers and third party technology providers, and any failure or system downtime experienced by these companies could materially and adversely affect our revenues
Our distribution network partners and search advertising customers depend on Internet service providers, online service providers and other third parties for access to our services. These service providers have experienced significant outages in the past and could experience outages, delays and other operating difficulties in the future. The occurrence of any or all of these events could adversely affect our reputation, brand and business, which could have a material adverse effect on our financial results.
We currently have an agreement with Raging Wire Enterprise Solutions, Inc. (“Raging Wire”) to house equipment for web serving and networking and to provide network connectivity services. We also have agreements with third-party click tracking and ad-serving technology providers. We do not presently maintain fully redundant click tracking, customer account, and web serving systems at separate locations. Accordingly, our operations depend on Raging Wire to protect the systems in their data centers from system failures, earthquake, fire, power loss, water damage, telecommunications failure, hackers, vandalism, and similar events. Raging Wire does not guarantee that our Internet access will be uninterrupted, error-free or secure. Although we maintain property insurance and business interruption insurance, such insurance may not protect against some risks and we cannot guarantee that our insurance will be adequate to compensate us for all losses that may occur as a result of a catastrophic system failure. Also, if our third-party click tracking or ad-serving technology providers experience service interruptions, errors or security breaches, our ability to track, realize, and record revenue would suffer.
We may face liability for claims related to our products and services, and these claims may be costly to resolve
Internet users, search advertisers, other customers, and companies in the Internet, technology and media industries frequently enter into litigation based on allegations related to defamation, negligence, personal injury, breach of contract, unfair advertising, unfair competition, invasion of privacy, patent infringement or other claims. Lawsuits are filed against us from time to time. As we enter foreign markets, our potential liability could increase. In addition, we are obligated in some cases to indemnify our customers or distribution network partners in the event that they are subject to claims that our services infringe on the rights of others.
Litigating these claims could consume significant amounts of time and money, divert management’s attention and resources, cause delays in integrating acquired technology or releasing new products, or require us to enter into royalty or licensing agreements. Royalty or licensing agreements, if required, may not be available on acceptable terms, if at all. Our insurance may not adequately cover claims of this type, if at all. If a court were to determine that some aspect of our services infringed upon or violated the rights of others, we could be prevented from offering some or all of our services, which would negatively impact our revenue and business. For any of the foregoing reasons, litigation involving our listings business and technology could have a material adverse effect on our business, operating results and financial condition.
We could be subject to infringement claims that may be costly to defend, result in the payment of settlements or damages or cause us to change the way we conduct our business
Internet, technology and media companies, as well as patent holding companies often possess a significant number of patents. Further, many of these companies and other parties are actively developing online advertising, search, indexing, electronic commerce and other Web-related technologies, as well as a variety of online business models and methods. We believe that these parties will continue to take steps to protect these technologies, including, but not limited to, seeking patent protection. As a result, we may face claims of infringement of patents and other intellectual property rights held by others. Also, as we expand our business, acquire and maintain our customer base, and develop new technologies, products and services, we may become increasingly subject to intellectual property infringement claims. In the event that there is a claim or determination that we infringe third-party proprietary rights such as patents, copyrights, trademark rights, trade secret rights or other third party rights such as publicity and privacy rights, we could incur substantial monetary liability, be required to enter into costly royalty or licensing agreements or be prevented from using the rights, which could require us to change our business practices in the future and limit our ability to compete effectively. We may also incur substantial expenses in defending against third-party infringement claims regardless of the merit of such claims. The occurrence of any of these results could harm our brand and negatively impact our operating results. In addition, many of our agreements with our customers, partners and affiliates require us to indemnify them for certain third-party intellectual property infringement claims or determinations, which could increase our costs in defending such claims and our damages. For example, in October 2008, we agreed to indemnify one of our Publisher Solutions customers relating to a patent infringement suit filed against it pursuant to an AdCenter for Publishers’ agreement between it and the Company. The resulting settlement agreement between the Company and the plaintiffs required us to pay the plaintiffs $0.6 million and the Publisher Solutions customer’s defense costs of $0.4 million.
Litigation, regulation, legislation or enforcement actions directed at or materially affecting us may adversely affect the commercial use of our products and services and our financial results
New lawsuits, laws, regulations and enforcement actions applicable to the online industry may limit the delivery, appearance and content of our advertising or our publisher customers’ advertisers or otherwise adversely affect our business. If such laws are enacted, or if existing laws are interpreted to restrict the types and placements of advertisements we or our publishers’ customers can carry, it could have a material and adverse effect on our financial results. For example, in 2002, the Federal Trade Commission, in response to a petition from a private organization, reviewed the way in which search engines disclose paid placement or paid inclusion practices to Internet consumers and issued guidance on what disclosures are necessary to avoid misleading consumers about the possible effects of paid placement or paid inclusion listings on the search results. In 2003, the United States Department of Justice issued statements indicating its belief that displaying advertisements for online gambling might be construed as aiding and abetting an illegal activity under federal law. In 2004, the United States Congress considered new laws regarding the sale of pharmaceutical products over the Internet and the use of adware to distribute advertisements on the Internet. In 2007, the Federal Trade Commission proposed new regulations relating to online behavioral targeting. Moreover, as we enter into foreign markets, we may become subject to additional regulation and legislation. If any new law or government agency were to require changes in the labeling, delivery or content of our advertisements, or if we are subject to legal proceedings regarding these issues, it may reduce the desirability of our services or the types of advertisements that we can run, and our business could be materially and adversely harmed. In addition, many of our agreements with our customers, partners and affiliates require us to indemnify them for certain claims related to online advertising laws, regulations and enforcement actions, which could increase our costs in defending such claims and our damages.
In addition, legislation or regulations, including compliance with Section 404 of the Sarbanes-Oxley Act of 2002 (“Section 404”), present ongoing compliance risks, and a failure to comply with these new laws and regulations could materially harm our business. As we continue our Section 404 compliance efforts we may identify significant deficiencies, or material weaknesses, in the design and operation of our internal control over financial reporting. We may be unable to remediate any of these matters in a timely fashion, and/or our independent registered public accounting firm may not agree with our remediation efforts. Such failures could impact our ability to record, process, summarize and report financial information, and could impact market perception of the quality of our financial reporting, which could adversely affect our business and our stock price.
Privacy-related regulation of the Internet could limit the ways we currently collect and use personal information, which could decrease our advertising revenues or increase our costs
Internet user privacy has become an issue both in the United States and abroad. The United States Congress and Federal Trade Commission are considering new legislation and regulations to regulate Internet privacy. The Federal Trade Commission and government agencies in some states and countries have investigated some Internet companies, and lawsuits have been filed against some Internet companies, regarding their handling or use of personal information. Any laws imposed to protect the privacy of Internet consumers may affect the way in which we collect and use personal information. We could incur additional expenses if new laws or court judgments, in the United States or abroad, regarding the use of personal information are introduced or if any agency chooses to investigate our privacy practices.
In addition, our search advertisers and partners may place information, known as cookies, on a user’s hard drive, generally without the user’s knowledge or consent. This technology enables web site operators to target specific consumers with a particular advertisement, to limit the number of times a user is shown a particular advertisement, and to track certain behavioral data. Although some Internet browsers allow consumers to modify their browser settings to remove cookies at any time or to prevent cookies from being stored on their hard drives, many consumers are not aware of this option or are not knowledgeable enough to use this option. Some privacy advocates and governmental bodies have suggested limiting or eliminating the use of cookies. If this technology is reduced or limited, the Internet may become less attractive to search advertisers and sponsors, which could result in a decline in our revenue.
We, along with some of our distribution network partners or search advertising customers retain information about our consumers. If others were able to penetrate the network security of these user databases and access or misappropriate this information, we and our distribution network partners or search advertising customers could be subject to liability. These claims may result in litigation, our involvement in which, regardless of the outcome, could require us to expend significant time and financial resources. In addition, many of our agreements with our customers, partners and affiliates require us to indemnify them for certain claims related to privacy laws, regulations and enforcement actions which could increase our costs in defending such claims and damages.
Online commerce security risks, including security breaches, identity theft, service disrupting attacks and viruses, could harm our reputation and the conduct of our business, which could have a material adverse effect on our financial results
A fundamental requirement for online commerce and communications is the secure storage and transmission of confidential information over public networks. Although we have developed and use systems and processes that are designed to protect customer information and prevent fraudulent credit card transactions and other security breaches, our security measures may not prevent security breaches or identity theft that could harm our reputation and business. Currently, a significant number of our customers provide credit card and other financial information and authorize us to bill their credit card accounts directly for all transaction fees charged by us. We rely on encryption and authentication technology to provide the security and authentication to effect secure transmission of confidential information, including customer credit card numbers. Advances in computer capabilities, new discoveries in the field of cryptography or other developments may result in a compromise or breach of the technology used by us to protect transaction data. In addition, any party who is able to illicitly obtain a user’s password could access the user’s transaction data. An increasing number of websites have reported breaches of their security. Any compromise of our security could damage our reputation and expose us to a risk of litigation and possible liability. The coverage limits of our insurance policies may not be adequate to reimburse us for losses caused by security breaches.
Additionally, our servers are vulnerable to computer viruses, physical or electronic break-ins, and similar disruptions, and we have experienced “denial-of-service” type attacks on our system that have made all or portions of our websites unavailable for periods of time. We may need to expend significant resources to protect against security breaches or to address problems caused by breaches. Disruptions in our services and damage caused by viruses and other attacks could cause a loss of user confidence in our systems and services, which could lead to reduced usage of our products and services and materially adversely affect our business and financial results.
New tax treatment of companies engaged in Internet commerce may adversely affect the commercial use of our search service and our financial results
Tax authorities at the international, federal, state and local levels are currently reviewing the appropriate tax treatment of companies engaged in Internet commerce. New or revised state tax regulations may subject us or our search advertising customers to additional state sales, income and other taxes. We cannot predict the effect of current attempts to impose sales, income or other taxes on commerce over the Internet. New or revised taxes and, in particular, sales taxes, would likely increase the cost of doing business online and decrease the attractiveness of advertising and selling goods and services over the Internet. Any of these events could have an adverse effect on our business and results of operations.
Risks Related to the Capital Market
Our securities may be delisted
The NASDAQ Stock Market requires us to satisfy certain continued listing requirements, including maintaining a minimum closing bid price for our common stock of at least $1.00 per share. No assurance can be given that we will remain in compliance with all of the NASDAQ Stock Market’s continued listing requirements. If delisting were to occur, our securities will not enjoy the same liquidity as shares that are traded on the NASDAQ Stock Market or a national U.S. securities exchange and investors may find that it is more difficult to obtain accurate and timely quotations. As a result, the price of our securities would likely decline.
Our quarterly revenues and operating results may fluctuate for many reasons, each of which may negatively affect our stock price
Our revenues and operating results will likely fluctuate significantly from quarter to quarter as a result of a variety of factors, including without limitation:
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change in the composition of our Advertiser Network customer base,
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change in composition of our AdCenter customer base,
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changes in our distribution network, particularly the gain or loss of key distribution network partners, or changes in the implementation of search results on partner websites,
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changes in the intermediary business model which affect the entire online search advertising ecosystem,
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changes in the number of search advertising customers who do business with us, or the amount of spending per customer,
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the revenue-per-click we receive from search advertising customers, or other factors that affect the demand for, and prevailing prices of, Internet advertising and marketing services,
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change in our traffic acquisition costs (“TAC”) related to our Advertiser Network, or
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systems downtime on our Advertiser Network, our website or the websites of our distribution network partners.
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Due to the above factors, we believe that period-to-period comparisons of our financial results are not necessarily meaningful, and you should not rely on past financial results as an indicator of our future performance. If our financial results in any future period fall below the expectations of securities analysts and investors, the market price of our securities would likely decline.
Our long-lived assets may be subject to greater risk of impairment if we undergo a change of control limiting the use of our net operating losses
As of December 31, 2011, we had net operating losses (“NOL”s) amounting to approximately $182 million for federal income tax purposes. We can utilize these NOLs in certain circumstances to offset future U.S. taxable income and reduce our U.S. federal income tax liability, which may arise even in periods when we incur an accounting loss for reporting purposes.. However, our ability to utilize our NOLs for these purposes would be substantially limited if there were an “ownership change” as defined under Section 382 of the Internal Revenue Code. In general, an ownership change would occur if certain ownership changes related to our stock held by 5% or greater shareholders exceeded 50%, measured over a rolling three year period beginning with the last ownership change. These provisions can be triggered not only by merger and acquisition activity, but also by stock repurchases and normal market trading of our common stock. While we have not undergone a change of control under Section 382 since 2003, we were close to the threshold in 2011 and 2010, and no assurance can be given that such a change of control will not occur in the future. Should we undergo such a change of control, our ability to utilize our NOLs to offset future U.S. taxable income and reduce our U.S. federal income tax liability may be limited in certain circumstances. This, in turn, would affect our ability to utilize the NOLs in the calculations associated with testing for impairment of our long-lived assets used in operations, which could result in an increased likelihood of such impairment.
Our stock price is extremely volatile, and such volatility may hinder investors’ ability to resell their shares for a profit or avoid a loss
The stock market has experienced significant price and volume fluctuations in recent years, and the stock prices of Internet companies have been extremely volatile. The low trading volume of our common stock may adversely affect its liquidity and reduce the number of market makers and/or large investors willing to trade in our common stock, making wider fluctuations in the quoted price of our common stock more likely to occur. You should evaluate our business in light of the risks, uncertainties, expenses, delays and difficulties associated with managing and growing a business in a relatively new industry, many of which are beyond our control.
Our stock price may fluctuate, and you may not be able to sell your shares for a profit, as a result of a number of factors including without limitation:
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changes in the market valuations of Internet companies in general and comparable companies in particular,
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quarterly fluctuations in our operating results,
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the termination or expiration of our distribution agreements,
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our potential failure to meet our forecasts or analyst expectations on a quarterly basis,
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the relatively thinly traded volume of our publicly traded shares, which means that small changes in the volume of trades may have a disproportionate impact on our stock price,
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the loss of key personnel, or our inability to recruit experienced personnel to fill key positions,
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changes in ratings or financial estimates by analysts or the inclusion/removal of our stock from certain stock market indices used to drive investment choices,
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announcements of new distribution network partnerships, technological innovations, acquisitions or products or services by us or our competitors,
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the sales of substantial amounts of our common stock in the public market by our stockholders, or the perception that such sales could occur, or
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conditions or trends in the Internet that suggest a decline in rates of growth of advertising-based Internet companies.
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In the past, securities class action litigation has often been instituted after periods of volatility in the market price of a Company’s securities. A securities class action suit against us could result in substantial costs and the diversion of management’s attention and resources, regardless of the merits or outcome of the case.
We may need additional capital in the future to support our operations and, if such additional financing is not available to us, on reasonable terms or at all, our liquidity and results of operations will be materially and adversely impacted
Although we believe that our working capital will provide adequate liquidity to fund our operations and meet our other cash requirements for the foreseeable future, unanticipated developments in the short term, such as the entry into agreements which require large cash payments or the acquisition of businesses with negative cash flows, may necessitate additional financing. We may seek to raise additional capital through public or private debt or equity financings in order to:
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fund the additional operations and capital expenditures,
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take advantage of favorable business opportunities, including geographic expansion or acquisitions of complementary businesses or technologies,
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develop and upgrade our technology infrastructure beyond current plans,
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develop new product and service offerings,
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take advantage of favorable conditions in capital markets, or
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respond to competitive pressures.
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The capital markets, and in particular the public equity market for Internet companies, have historically been volatile. It is difficult to predict when, if at all, it will be possible for Internet companies to raise capital through these markets. We cannot assure you that the additional financing will be available on terms favorable to us, or at all. If we issue additional equity or convertible debt securities, our existing stockholders may experience substantial dilution.
Provisions of Delaware corporate law and provisions of our charter and bylaws may discourage a takeover attempt
Our charter and bylaws and provisions of Delaware law may deter or prevent a takeover attempt, including an attempt that might result in a premium over the market price for our common stock. Our board of directors has the authority to issue shares of preferred stock and to determine the price, rights, preferences and restrictions, including voting rights, of those shares without any further vote or action by the stockholders. The issuance of preferred stock, while providing desirable flexibility in connection with possible acquisitions and other corporate purposes, could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock. In addition, our charter and bylaws provide for a classified board of directors. These provisions, along with Section 203 of the Delaware General Corporation Law, prohibiting certain business combinations with an interested stockholder, could discourage potential acquisition proposals and could delay or prevent a change of control.
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UNRESOLVED STAFF COMMENTS
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None.
The Company subleases 19,997 square feet of office space for our headquarters in San Francisco, California, under an operating lease expiring on December 30, 2014. In addition to scheduled base rent payments, the Company will also be responsible for varying amounts of operating and property tax expenses.
The Company leases a sales office in New York, New York on a month to month basis.
The Company leases temporary offices in Los Angeles, California with a term expiring in August 2012.
The Company maintains a data center in Sacramento, California, under a Master Service Agreement and related Service Level Agreement that expires in January 2013.
The Company leases office space in Kitchener, Canada of approximately of 5,222 square feet that houses our Engineering and Support teams. The lease has a constant term of six months.
We believe our existing facilities are suitable for company operations.
The Company is involved, from time to time, in various legal proceedings arising from the normal course of business activities. Although the results of litigation and claims cannot be predicted with certainty, we do not expect resolution of these matters to have a material adverse impact on our consolidated results of operations, cash flows or financial position. However, an unfavorable resolution of a matter could, depending on its amount and timing, materially affect our future results of operations, cash flows or financial position in a future period. Regardless of the outcome, litigation can have an adverse impact on us because of defense costs, diversion of management resources and other factors.
Not Applicable.
PART II
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MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
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LookSmart, Ltd. common stock is quoted on the Nasdaq Global Market under the symbol “LOOK”. The following table sets forth the range of high and low sales prices of the common stock on the Nasdaq Global Market for each period indicated:
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HIGH
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LOW
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2011
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First quarter
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$ |
2.26 |
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$ |
1.47 |
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Second quarter
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$ |
2.23 |
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$ |
1.39 |
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Third quarter
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$ |
1.67 |
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$ |
1.30 |
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Fourth quarter
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$ |
1.42 |
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$ |
1.17 |
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2010
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First quarter
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$ |
1.16 |
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$ |
0.88 |
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Second quarter
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$ |
1.95 |
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$ |
0.96 |
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Third quarter
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$ |
2.35 |
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1.15 |
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Fourth quarter
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2.48 |
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1.86 |
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LookSmart had approximately 4,762 holders of record of common stock as of March 21, 2012. We have not declared or paid any cash dividends on the common stock and presently intend to retain our future earnings, if any, to fund the development and growth of our business and, therefore, do not anticipate paying any cash dividends in the foreseeable future.
Recent Sales of Unregistered Securities; Uses of Proceeds from Registered Securities
We had no sales of unregistered securities in 2011 and 2010.
As a smaller reporting company, as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), we are not required to provide the information required by this item.
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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The following discussion should be read in conjunction with the Consolidated Financial Statements and the Notes to those statements that appear elsewhere in this Annual Report on Form 10-K.
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The following discussion contains 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.
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We use words such as “intends,” “expects,” “anticipates,” “plans,” “may,” “will” and similar expressions to identify forward-looking statements.
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Discussions containing forward-looking statements may be found in the material set forth under “Business,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and in other sections of this report.
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All forward-looking statements, including, but not limited to, projections, expectations or estimates concerning our business, including demand for our products and services, mix of revenue sources, ability to control and/or reduce operating expenses, anticipated gross margins and operating results, cost savings, product development efforts, general outlook of our business and industry, future profits or losses, competitive position, share-based compensation, and adequate liquidity to fund our operations and meet our other cash requirements, are inherently uncertain as they are based on our expectations and assumptions concerning future events.
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These forward-looking statements are subject to numerous known and unknown risks and uncertainties.
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You should not place undue reliance on these forward-looking statements.
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Our actual results could differ materially from those anticipated in the forward-looking statements for many reasons, including but not limited to,
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the possibility that we may fail to preserve our expertise in online advertising,
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that existing and potential distribution partners may opt to work with, or favor the products of, competitors if our competitors offer more favorable products or pricing terms,
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that we may be unable to maintain or grow sources of revenue,
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that seasonal fluctuations in internet usage and traditional advertising seasonality are likely to affect our business,
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that changes in the distribution network composition may lead to decreases in traffic volumes,
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that we may be unable to maintain or improve our query volume, match rate, number of paid clicks, average revenue per click, conversion rate or other ad network metrics,
|
|
|
o
|
that we may be unable to maintain profitability,
|
|
|
o
|
that we may be unable to attract and retain key personnel,
|
|
|
o
|
that we may not be able to effectively manage, or to increase, our relationships with international customers,
|
|
|
o
|
that we may have unexpected increases in costs and expenses, or
|
|
|
o
|
that one or more of the other risks described above in the section entitled “Risk Factors” (Item 1A of this Annual Report on Form 10-K) and elsewhere in this report may occur.
|
|
|
·
|
All forward-looking statements in this report are made as of the date hereof, based on information available to us as of the date hereof, and except as required by applicable law, we assume no obligation to update any forward-looking statements.
|
OVERVIEW
LookSmart is a search advertising network solutions company that provides relevant solutions for search advertising customers. LookSmart was organized in 1996 and is incorporated in the State of Delaware.
LookSmart operates in a large online search advertising ecosystem serving ads that target user queries on partner sites. We operate in the middle of this ecosystem, acquiring search queries from a variety of sources and matching them with the keywords of our search advertising customers. Our largest category of customers has historically been intermediaries, the majority of which purchase clicks to sell into the affiliate networks of the large search engine providers. Another category of customers are direct advertisers and their agencies whose objective is to obtain conversions or sales from the clicks, while others want unique page views. The last category of customers is self-service advertisers that sign-up online and pay by credit card.
In 2011, revenue from Intermediaries decreased significantly compared to 2010. The decrease was primary driven by a revenue decrease throughout the year, including a significant decrease in the fourth quarter due to revenue chargebacks to our Intermediary customers by large search engine providers. This had a severe impact to Intermediary business models and consequently the business they conduct with us. We have ceased business with several Intermediaries as a result and we do not expect significant future growth in Intermediary business. Our future growth will come largely from Direct Advertisers, Self-Service Advertisers and other digital advertising models we may consider.
LookSmart offers search advertising customers targeted search via a monitored search advertising distribution network using the Company’s “AdCenter” platform technology. The Company’s search advertising network includes publishers and search advertising customers, including Intermediaries and direct advertising customers and their agencies as well as self-service customers in the United States and certain other countries. The Company’s application programming interface (“API”) allows search advertising customers and their advertising agencies to connect any type of marketing or reporting software with minimal effort, for easier access, management, and optimization of search advertising campaigns.
LookSmart also offers publishers licensed private-label search advertiser network solutions based on its AdCenter platform technology (“Publisher Solutions”). Publisher Solutions consist of hosted auction-based ad serving with an ad backfill capability that allows publishers and portals to manage their advertiser relationships, distribution channels and accounts.
In the first quarter of 2008, management made the decision to exit its remaining consumer products activities and to sell or otherwise dispose of the Company's remaining consumer assets. The results of operations of consumer product activities, including related gains (losses), have been classified as discontinued operations for all periods presented in the accompanying Consolidated Statements of Operations, as more fully described in Note 2 to our Consolidated Financial Statements below. At December 31, 2011, the Company continues to own the Wisenut search engine technology, intellectual property rights in such technology, and other assets.
Critical Accounting Policies and Estimates
Our financial condition and results of operations are based upon certain critical accounting policies, which include estimates, assumptions, and judgments on the part of management. We base our estimates on various factors and information which may include, but are not limited to, history and prior experience, experience of other enterprises in the same industry, new related events, current economic conditions and information from third party professionals that is believed to be reasonable under the circumstance, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. These estimates, judgments and assumptions can affect the reported amounts of assets and liabilities as of the date of the financial statements, as well as the reported amounts of revenue and expenses during the periods presented. Actual results may differ from those estimates.
The following discussion highlights those policies and the underlying estimates and assumptions, which we consider critical to an understanding of the financial information in this report.
Use of Estimates and Assumptions
The Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”). This requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, revenue, expenses, and contingent assets and liabilities during the reporting period. We base our estimates on various factors and information which may include, but are not limited to, history and prior experience, experience of other enterprises in the same industry, new related events, and current economic conditions and information from third party professionals that is believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.
Investments
We invest our excess cash primarily in debt instruments of high-quality corporate and government issuers. All highly liquid instruments with maturities at the date of purchase greater than ninety days are considered investments. All instruments with maturities greater than one year from the balance sheet date are considered long-term investments unless management intends to liquidate such securities in the current operating cycle. Such securities are classified as short-term investments. These securities are classified as available-for-sale and carried at fair value.
Changes in value of these investments are primarily related to changes in interest rates and are considered to be temporary in nature. Except for declines in fair value that are not considered temporary, net unrealized gains or losses on these investments are reported as a component of accumulated other comprehensive income (loss) in stockholders’ equity. We recognize realized gains and losses upon sale of investments using the specific identification method.
Fair Value of Financial Instruments
Our estimates of fair value for assets and liabilities is based on a framework that establishes a hierarchy of the inputs used in valuation and gives the highest priority to quoted prices in active markets and requires that observable inputs be used in the valuations when available. The disclosure of fair value estimates is based on whether the significant inputs into the valuation are observable. In determining the level of the hierarchy in which the estimate is disclosed, the highest priority is given to unadjusted quoted prices in active markets and the lowest priority to unobservable inputs that reflect our significant market assumptions. The three levels of the hierarchy are as follows:
|
|
Level 1:
|
Unadjusted quoted market prices for identical assets or liabilities in active markets that we have the ability to access.
|
|
|
Level 2:
|
Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets in inactive markets; or valuations based on models where the significant inputs are observable (e.g., interest rates, yield curves, default rates, etc.) or can be corroborated by observable market data.
|
|
|
Level 3:
|
Valuations based on models where significant inputs are not observable. The unobservable inputs reflect our assumptions about the assumptions that market participants would use.
|
Revenue Recognition
Our online search advertising revenue is primarily composed of per-click fees that we charge customers. The per-click fee charged for keyword-targeted listings is calculated based on the results of online bidding for keywords or page content, up to a maximum cost per keyword or page content set by the customer. Revenue also includes revenue share from licensing of private-labeled versions of our AdCenter Platform.
Revenues associated with online advertising products, including Advertiser Networks, are generally recognized once collectability is established, delivery of services has occurred, all performance obligations have been satisfied, and no refund obligations exist. We pay distribution network partners based on clicks on the advertiser’s ad that are displayed on the websites of these distribution network partners. These payments are called TAC and are included in cost of revenue. The revenue derived from these arrangements that involve traffic supplied by distribution network partners is reported gross of the payment to the distribution network partners. This revenue is reported gross due to the fact that we are the primary obligor to the advertisers who are the customers of the advertising service.
We also enter into agreements to provide private-labeled versions of our products, including licenses to the AdCenter platform technology. These license arrangements may include some or all of the following elements: revenue-sharing based on the publisher’s customer’s monthly revenue generated through the AdCenter application; upfront fees; minimum monthly fees; and other license fees. We recognize upfront fees over the term of the arrangement or the expected period of performance, other license fees over the term of the license, and revenue-sharing portions over the period in which such revenue is earned. In all cases, revenue is recognized only when the price is fixed or determinable, persuasive evidence of an arrangement exists, the service is performed, and collectability of the resulting receivable is reasonably assured.
We provide a provision against revenue for estimated reductions resulting from billing adjustments and customer refunds. The amounts of these provisions are evaluated periodically based upon customer experience and historical trends.
Deferred revenue is recorded when payments are received in advance of performance in underlying agreements. Customer deposits are recorded when customers make prepayments for online advertising.
The Company evaluates individual arrangements with customers to make a determination under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 605-45 Revenue Recognition. We test and record revenue accordingly.
Allowance for Doubtful Accounts
We maintain an allowance for doubtful accounts for estimated losses resulting from customers failing to make required payments. This valuation allowance is reviewed on a periodic basis to determine whether a provision or reversal is required. The review is based on factors including the application of historical collection rates to current receivables and economic conditions. We will record an increase or reduction of the allowance for doubtful accounts if collection rates or economic conditions are more or less favorable than we anticipated. Additional allowances for doubtful accounts may be required if there is deterioration in past due balances, if economic conditions are less favorable than we anticipated or for customer-specific circumstances, such as bankruptcy.
Concentrations, Credit Risk and Credit Risk Evaluation
Concentration of Credit Risk
Financial instruments that potentially subject us to concentrations of credit risk consist primarily of cash equivalents, investments, and accounts receivable. As of December 31, 2011 and December 31, 2010, we placed our cash equivalents and investments through one financial institution, City National Bank (“CNB”), and mitigated the concentration of credit risk by placing percentage limits on the maximum portion of the investment portfolio which may be invested in any one investment instrument. These amounts at times may exceed federally insured limits. We have not experienced any credit losses on these cash equivalents and investment accounts and do not believe we are exposed to any significant credit risk on these funds. The fair value of these accounts is subject to fluctuation based on market prices.
Credit Risk, Customer and Vendor Evaluation
Accounts receivable are typically unsecured and are derived from sales to customers. We perform ongoing credit evaluations of our customers and maintain allowances for estimated credit losses. We apply judgment as to our ability to collect outstanding receivables based primarily on our evaluation of the customer’s financial condition and past collection history and record a specific allowance. In addition, we record an allowance based on the length of time the receivables are past due. Historically, such losses have been within our expectations.
Revenue Concentrations
Our largest category of customers has been Intermediaries, the majority of which purchase clicks to sell into the affiliate networks of large search engine providers. In the future, we expect revenue concentration associated with Intermediary customers to be smaller due to an overall decrease in Intermediary revenues and relationships.
Impairment of Long-Lived Assets
We review long-lived assets held or used in operations, including property and equipment and internally developed software, for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be fully recoverable. Subject assets are tested for impairment at the lowest level of operations that generates cash flows that are largely independent of the cash flows from those of other groups of assets and liabilities. We have determined that the equity of our single reporting unit to be the lowest level of operation at which independent cash flows could be identified. An impairment loss is recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition is less than its carrying amount. Impairment, if any, is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value. Assets to be disposed of are reported at the lower of carrying amount or fair value less cost to dispose.
As of December 31, 2011, there was no impairment of long-lived assets.
Property and Equipment
Property and equipment are stated at cost and depreciated using the straight-line method over the estimated useful lives of the assets as follows:
|
Computer equipment
|
3 to 4 years
|
|
Furniture and fixtures
|
5 to 7 years
|
|
Software
|
2 to 3 years
|
Leasehold improvements are amortized on a straight-line basis over the shorter of their estimated useful lives or the lease term.
When assets are retired or otherwise disposed of, the cost and accumulated depreciation and amortization are removed from their respective accounts, and any gain or loss on such sale or disposal is reflected in operating expenses. Maintenance and repairs are charged to expense as incurred. Expenditures that substantially increase an asset’s useful life are capitalized.
Internal Use Software Development Costs
We capitalize external direct costs of materials and services consumed in developing and obtaining internal-use computer software and the payroll and payroll-related costs of employees who devote time to developing internal-use computer software.
We exercise judgment in determining when costs related to a project may be capitalized, in assessing the ongoing value of the capitalized costs, and in determining the amortization period for the capitalized costs, which is generally 3 years. We expect to continue to invest in internally developed software and to capitalize such costs.
Restructuring Charges
On January 7, 2011 our Board of Directors approved a plan of termination that resulted in a reduction of the workforce of approximately 20 full-positions, or approximately 35%. In January 2011, the Company recorded $889 thousand in pre-tax restructuring charges associated with the termination of approximately 20 full-time positions. All restructuring charges have been classified as such on the Consolidated Statement of Operations.
Traffic Acquisition Costs
We enter into agreements of varying durations with our distribution network partners that display our listings ads on their sites in return for a percentage of the revenue-per-click that we receive when the ads are clicked on those partners’ sites.
We also enter into agreements of varying durations with third party affiliates. These affiliate agreements provide for variable payments based on a percentage of our revenue or based on a certain metric, such as number of searches or paid clicks.
TAC expense is recorded in cost of revenue, and is based on a percentage of revenue.
Advertising Costs are charged to sales and marketing expenses as incurred.
Product Development Costs of new product ideas and enhancements to existing products are charged to expense as incurred.
Share-Based Compensation
We recognize share-based compensation costs for all share-based payment transactions, including grants of stock options and employee stock purchases related to the Employee Stock Purchase Plan, over the requisite service period based on their relative fair values. We estimate the fair value of share-based payment awards on the grant date using the Black-Scholes method. The value of the portion of the award that is ultimately expected to vest is recognized as expense in our Consolidated Statement of Operations over the requisite service periods.
Forfeitures are estimated at the time of grant in order to estimate the amount of share-based awards that will ultimately vest. The forfeiture rate is determined at the end of each fiscal quarter, based on historical rates.
We elected to adopt the alternative transition method for calculating the tax effects of share-based compensation to establish the beginning balance of the additional paid-in capital pool (“APIC pool”) related to the tax effects of employee share-based compensation, and to determine the subsequent impact on the APIC pool and the Consolidated Statement of Cash Flows of the tax effects of employee share-based compensation awards.
Income Taxes
We account for income taxes using the liability method. Under the liability method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. We record liabilities, where appropriate, for all uncertain income tax positions. We recognize potential accrued interest and penalties related to unrecognized tax benefits within operations as income tax expense.
Recent Accounting Pronouncements
For a description of recent accounting pronouncements, see Note 1 to our Consolidated Financial Statements below.
RESULTS OF OPERATIONS
Overview of 2011
The following table sets forth selected information concerning our results of operations as a percentage of consolidated net revenue for the years ended December 31, 2011 and 2010 (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Revenue
|
|
$ |
27,634 |
|
|
|
100.0 |
% |
|
$ |
47,479 |
|
|
|
100.0 |
% |
|
$ |
(19,845 |
) |
|
|
(42 |
%) |
|
Cost of revenue
|
|
|
15,195 |
|
|
|
55.0 |
% |
|
|
28,832 |
|
|
|
60.7 |
% |
|
|
(13,637 |
) |
|
|
(47 |
%) |
|
Gross profit
|
|
|
12,439 |
|
|
|
45.0 |
% |
|
|
18,647 |
|
|
|
39.3 |
% |
|
|
(6,208 |
) |
|
|
(33 |
%) |
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing
|
|
|
2,332 |
|
|
|
8.4 |
% |
|
|
4,331 |
|
|
|
9.1 |
% |
|
|
(1,999 |
) |
|
|
(46 |
%) |
|
Product development and technical operations
|
|
|
6,742 |
|
|
|
24.4 |
% |
|
|
9,039 |
|
|
|
19.0 |
% |
|
|
(2,297 |
) |
|
|
(25 |
%) |
|
General and administrative
|
|
|
5,312 |
|
|
|
19.2 |
% |
|
|
4,635 |
|
|
|
9.8 |
% |
|
|
677 |
|
|
|
15 |
% |
|
Restructuring charge
|
|
|
889 |
|
|
|
3.2 |
% |
|
|
- |
|
|
|
0.0 |
% |
|
|
889 |
|
|
|
0 |
% |
|
Total operating expenses
|
|
|
15,275 |
|
|
|
55.2 |
% |
|
|
18,005 |
|
|
|
37.9 |
% |
|
|
(2,730 |
) |
|
|
(15 |
%) |
|
Income (loss) from operations
|
|
|
(2,836 |
) |
|
|
(10.2 |
%) |
|
|
642 |
|
|
|
1.4 |
% |
|
|
(3,478 |
) |
|
|
(542 |
%) |
|
Non-operating income (expense), net
|
|
|
331 |
|
|
|
1.2 |
% |
|
|
(20 |
) |
|
|
(0.1 |
%) |
|
|
351 |
|
|
|
(1755 |
%) |
|
Income (loss) from continuing operations before income taxes
|
|
|
(2,505 |
) |
|
|
(9.0 |
%) |
|
|
622 |
|
|
|
1.3 |
% |
|
|
(3,127 |
) |
|
|
(503 |
%) |
|
Income tax expense
|
|
|
(3 |
) |
|
|
0.0 |
% |
|
|
(5 |
) |
|
|
0.0 |
% |
|
|
2 |
|
|
|
(40 |
%) |
|
Income (loss) from continuing operations
|
|
|
(2,508 |
) |
|
|
(9.0 |
%) |
|
|
617 |
|
|
|
1.3 |
% |
|
|
(3,125 |
) |
|
|
(506 |
%) |
|
Income from discontinued operations, net of income taxes
|
|
|
- |
|
|
|
0.0 |
% |
|
|
358 |
|
|
|
0.8 |
% |
|
|
(358 |
) |
|
|
(100 |
%) |
|
Net income (loss)
|
|
$ |
(2,508 |
) |
|
|
(9.0 |
%) |
|
$ |
975 |
|
|
|
2.1 |
% |
|
$ |
(3,483 |
) |
|
|
(357 |
%) |
During 2011, revenue decreased 42%, gross profit margin increased six percentage points resulting in a 33% decrease in gross profit. Operating expenses, excluding restructuring charges, decreased 20% from 2010. The reduction of $3.5 million from net income of $1.0 million in 2010 is primarily due to reduction in revenue partially offset by reductions in TAC and operating expenses.
In 2011, revenue from Intermediaries decreased significantly compared to 2010. This decrease was the primary driver of the revenue decrease and was a result of changes in the search ecosystem that had a severe impact on the Intermediary business models and consequently the business they conduct with us. We have ceased business with several Intermediaries as a result and we do not expect significant future growth in the Intermediary business.
The following developments during 2011 were key to our business performance:
|
|
·
|
A significant change in the search ecosystem that resulted in lower 2011 Advertiser Network revenues.
|
|
|
·
|
A January 2011 restructuring of our operations, including a 35% headcount reduction.
|
|
|
·
|
Establishment and staffing of an Engineering and Support office in Kitchener, Canada and a Sales and Support office in Los Angeles.
|
Revenue
Revenue is derived from our two service offerings or “products”: Advertiser Networks and Publisher Solutions. Total revenue and revenue from Advertiser Networks and Publisher Solutions for the years ended December 31, 2011 and 2010, were as follows (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Advertiser Networks
|
|
$ |
26,388 |
|
|
|
95 |
% |
|
$ |
44,373 |
|
|
|
93 |
% |
|
$ |
(17,985 |
) |
|
|
(41 |
%) |
|
Publisher Solutions
|
|
|
1,246 |
|
|
|
5 |
% |
|
|
3,106 |
|
|
|
7 |
% |
|
|
(1,860 |
) |
|
|
(60 |
%) |
|
Total revenue
|
|
$ |
27,634 |
|
|
|
100 |
% |
|
$ |
47,479 |
|
|
|
100 |
% |
|
$ |
(19,845 |
) |
|
|
(42 |
%) |
Advertiser Networks
In 2011, revenue from Intermediaries decreased significantly compared to 2010. This decrease was the primary driver of the revenue drop and was a result of changes in the search ecosystem that had a severe impact on Intermediary business models and consequently the business they conduct with us. We have ceased business with several Intermediaries as a result and we do not expect significant future growth in the Intermediary business. We expect our revenue growth in 2012 and beyond to come largely from direct advertisers, self-service advertisers and other digital advertising models under development.
Publisher Solutions
In October 2010, a platform license with IAC Search and Media, Inc. (“IAC”) expired. The decrease in Publisher Solutions revenue is attributed to this expiration.
In 2011, we were dependent upon a few customers for a significant percentage of our Publisher Solutions revenue. For that year, two customers combined to account for 22% of Publisher Solutions net revenue. For the year ended December 31, 2010, two customers combined to account for 25% of Publisher Solutions net revenue.
We do not expect significant future revenue growth from Intermediaries. Our future growth will come largely from Direct Advertisers, Self-Service Advertisers and other digital advertising models we may consider.
Cost of Revenue and Gross Profit
Cost of revenue, consisting of TAC, costs paid to our distribution network partners, collocation costs, commissions paid to advertising agencies, and credit card fees for the years ended December 31, 2011 and 2010 which were as follows (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Traffic acquisition costs
|
|
$ |
13,640 |
|
|
|
49 |
% |
|
$ |
26,836 |
|
|
|
57 |
% |
|
$ |
(13,196 |
) |
|
|
(49 |
%) |
|
Other costs
|
|
|
1,555 |
|
|
|
6 |
% |
|
|
1,996 |
|
|
|
4 |
% |
|
|
(441 |
) |
|
|
(22 |
%) |
|
Total cost of revenue
|
|
$ |
15,195 |
|
|
|
55 |
% |
|
$ |
28,832 |
|
|
|
61 |
% |
|
$ |
(13,637 |
) |
|
|
(47 |
%) |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Traffic acquisition costs as percentage of Advertiser Networks revenue
|
|
|
|
|
|
|
51.7 |
% |
|
|
|
|
|
|
60.5 |
% |
|
|
|
|
|
|
|
|
TAC decreased as a result of the revenue declines and as a percentage of associated revenue due to optimization of bids/prices paid for different sources of traffic and keywords.
Our other costs of revenue, which consists of network operating costs and credit card processing fees, decreased due to the decrease in revenue.
Operating Expenses
Operating expenses, consisting of sales and marketing, product development and technical operations, general and administrative and restructuring charges, for the years ended December 31, 2011 and 2010 which were as follows (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Sales and marketing
|
|
$ |
2,332 |
|
|
|
8 |
% |
|
$ |
4,331 |
|
|
|
9 |
% |
|
$ |
(1,999 |
) |
|
|
(46 |
%) |
|
Product development and technical operations
|
|
|
6,742 |
|
|
|
25 |
% |
|
|
9,039 |
|
|
|
19 |
% |
|
|
(2,297 |
) |
|
|
(25 |
%) |
|
General and administrative
|
|
|
5,312 |
|
|
|
19 |
% |
|
|
4,635 |
|
|
|
10 |
% |
|
|
677 |
|
|
|
15 |
% |
|
Restructuring charge
|
|
|
889 |
|
|
|
3 |
% |
|
|
- |
|
|
|
0 |
% |
|
|
889 |
|
|
|
0 |
% |
|
Total operating expenses
|
|
$ |
15,275 |
|
|
|
55 |
% |
|
$ |
18,005 |
|
|
|
38 |
% |
|
$ |
(2,730 |
) |
|
|
(15 |
%) |
In January 2011, the Company recorded $889 thousand in pre-tax restructuring charges associated with the termination of approximately 20 full-time positions. All restructuring charges have been classified as such in the Consolidated Statement of Operations.
Share-based compensation expense for the years ended December 31, 2011 and 2010 was allocated as follows (in thousands):
| |
|
Year Ended
|
|
| |
|
December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Sales and marketing
|
|
$ |
19 |
|
|
$ |
69 |
|
|
Product development and technical operations
|
|
|
150 |
|
|
|
322 |
|
|
General and administrative
|
|
|
192 |
|
|
|
288 |
|
|
Total share-based compensation expense
|
|
|
361 |
|
|
|
679 |
|
|
Amounts capitalized as software development costs
|
|
|
20 |
|
|
|
41 |
|
|
Total share-based compensation
|
|
$ |
381 |
|
|
$ |
720 |
|
Sales and Marketing
Sales and marketing expenses include salaries, commissions, share-based compensation and other costs of employment for our sales force, sales administration and customer service staff and marketing personnel, overhead, facilities and allocation of depreciation. Sales and marketing expenses also include the costs of advertising, trade shows, public relations activities and various other activities supporting our customer acquisition efforts.
The reduction in sales and marketing expenses for the year is primarily due to lower compensation related expense associated with lower headcount and a reduction in consulting and professional services.
Product Development and Technical Operations
Product development and technical operations expense includes all costs related to the continued operations, development and enhancement of our core technology product, the AdCenter platform. The AdCenter is used to operate both our own Advertiser Network and other publishers’ client networks, and is licensed to publishers to operate their own network. These costs include salaries and associated costs of employment, including share-based compensation, overhead, and facilities. Costs related to the development of software for internal use in the business, including salaries and associated costs of employment are capitalized after certain milestones have been achieved and amortized over a three year period once the project is placed in service. Software licensing and computer equipment depreciation related to supporting product development and technical operations functions are also included in product development and technical operations expense.
Capitalized software development costs include the costs to develop software for internal use, excluding costs associated with research, training and testing.
Product development and technical operations and capitalized software development costs for the years ended December 31, 2011 and 2010 were as follows (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Product development and technical operations costs
|
|
$ |
7,224 |
|
|
|
26 |
% |
|
$ |
9,746 |
|
|
|
21 |
% |
|
$ |
(2,522 |
) |
|
|
(26 |
%) |
|
Capitalized software development costs
|
|
|
(482 |
) |
|
|
(2 |
%) |
|
|
(707 |
) |
|
|
(2 |
%) |
|
|
225 |
|
|
|
(32 |
%) |
|
Total product development and technical operations expense
|
|
$ |
6,742 |
|
|
|
24 |
% |
|
$ |
9,039 |
|
|
|
19 |
% |
|
$ |
(2,297 |
) |
|
|
(25 |
%) |
The reduction in product development and technical operations expense, net of capitalized software development costs for the year ended December 31, 2011 compared to the same period in 2010, is primarily attributed to lower operating expense associated with Canada based Engineering.
General and Administrative
General and administrative expenses are comparable between 2011 and 2010 and include costs of executive management, human resources, finance, and facilities personnel. These costs include salaries and associated costs of employment, including share-based compensation, overhead, facilities and allocation of depreciation. General and administrative expenses also include legal, insurance, tax and accounting, bad-debt expense, consulting and professional services fees. In 2011, bad debt expense increased as we reserved the accounts receivables for several Intermediaries with which we ceased business.
Other items
The table below sets forth other continuing operations data for the years ended December 31, 2011 and 2010 (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
% of
Revenue
|
|
|
2010
|
|
|
% of
Revenue
|
|
|
Dollar
Change
|
|
|
%
Change
|
|
|
Non-operating income (expense), net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest income
|
|
$ |
89 |
|
|
|
0 |
% |
|
$ |
68 |
|
|
|
0 |
% |
|
$ |
21 |
|
|
|
31 |
% |
|
Interest expense
|
|
|
(81 |
) |
|
|
0 |
% |
|
|
(148 |
) |
|
|
0 |
% |
|
|
67 |
|
|
|
(45 |
%) |
|
Other income, net
|
|
|
323 |
|
|
|
1 |
% |
|
|
60 |
|
|
|
0 |
% |
|
|
263 |
|
|
|
438 |
% |
|
Total non-operating income (expense), net
|
|
$ |
331 |
|
|
|
1 |
% |
|
$ |
(20 |
) |
|
|
0 |
% |
|
$ |
351 |
|
|
|
(1755 |
%) |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax expense
|
|
$ |
(3 |
) |
|
|
0 |
% |
|
$ |
(5 |
) |
|
|
0 |
% |
|
$ |
2 |
|
|
|
(40 |
%) |
Interest Income and Expense
Interest income, which includes income from our cash, cash equivalents and investments, increased 31% in the year ended December 31, 2011 from the year ended December 31, 2010. This increase was driven by an increase in average yields earned during the period.
Interest expense decreased $67 thousand in 2011, as compared to 2010, primarily due to maturing capital equipment leases.
Income Tax Expense
Due to our utilizable net operating losses, our income tax expense primarily consists of minimum state taxes.
Other Income, Net
In 2008, the Company established a Settlement Fund related to a class action lawsuit in which the Company was named as a defendant, Lane’s Gifts and Collectibles, L.L.C., v. Yahoo! Inc (the “Fund”). In the second quarter of 2011, the Company determined that all settlements related to the Fund had been paid. The Fund was closed on June 30, 2011 and the Company recorded $0.3 million in non-operating income related to the closure.
Income from Discontinued Operations, Net of Tax
In the first quarter of 2008, the Company’s management made the decision to exit the remaining consumer products activities and to sell or otherwise dispose of its remaining consumer assets. The various remaining related websites and assets associated with the consumer products activities met the criteria to be classified as discontinued operations. The results of operations related to assets to be disposed of, and of previously disposed assets, including any related gains and losses are classified as discontinued operations in the accompanying Consolidated Statements of Operations.
Income from discontinued operations, net of tax, for the years ended December 31, 2011 and 2010 was zero and $0.4 million, respectively.
In January 2007, we completed the sale of Net Nanny to Content Watch, Inc. (“Content Watch”). The sale proceeds were comprised of contingent purchase consideration that may be realized at future dates based on the amount of revenue received by Content Watch. We recorded contingent purchase consideration of $0.4 for the year ended December 31, 2010. Under the terms of the Content Watch agreement, the contingent purchase consideration ended December 31, 2010. Contingent purchase consideration has been classified as gain on disposal.
During 2008, we sold the Wisenut trademark and related domain names. As of December 31, 2011, we continue to own the Wisenut search engine technology and its intellectual property rights in such technology and other assets.
Liquidity and Capital Resources
Cash flows were as follows (in thousands):
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Change
|
|
|
Net cash provided by (used in) operating activities
|
|
$ |
(42 |
) |
|
$ |
2,605 |
|
|
$ |
(2,647 |
) |
|
Net cash used in investing activities
|
|
|
(3,080 |
) |
|
|
(2,041 |
) |
|
|
(1,039 |
) |
|
Net cash used in financing activities
|
|
|
(1,047 |
) |
|
|
(1,378 |
) |
|
|
331 |
|
|
Decrease in cash and cash equivalents
|
|
$ |
(4,169 |
) |
|
$ |
(814 |
) |
|
$ |
(3,355 |
) |
Cash, cash equivalent and short- and long-term marketable investment balances were as follows as of December 31, 2011 and 2010 (in thousands):
| |
|
December 31,
|
|
|
|
|
| |
|
2011
|
|
|
2010
|
|
|
Change
|
|
|
Cash and cash equivalents
|
|
$ |
17,950 |
|
|
$ |
22,119 |
|
|
$ |
(4,169 |
) |
|
Short-term investments
|
|
|
6,809 |
|
|
|
3,250 |
|
|
|
3,559 |
|
|
Long-term investments
|
|
|
- |
|
|
|
1,577 |
|
|
|
(1,577 |
) |
|
Total
|
|
$ |
24,759 |
|
|
$ |
26,946 |
|
|
$ |
(2,187 |
) |
|
% of total assets
|
|
|
82 |
% |
|
|
75 |
% |
|
|
|
|
|
Total assets
|
|
$ |
30,112 |
|
|
$ |
35,725 |
|
|
|
|
|
At December 31, 2011, we had $24.8 million of cash, cash equivalents and short-term marketable investments. Cash equivalents and short-term marketable investments are comprised of highly liquid debt instruments of the U.S. government, commercial paper, time deposits, money market mutual funds and U.S. corporate securities. We actively monitor the depository institutions that hold our cash and cash equivalents and the institutions of whose debt instruments we hold. Our investment policy, which is reviewed annually by our Board of Directors, primarily emphasizes safety of principal while secondarily maximizing yield on those funds. We can provide no assurances that access to our invested cash and cash equivalents will not be impacted by adverse conditions in the financial markets. These balances may exceed the Federal Deposit Insurance Corporation insurance limits. While we monitor the cash balances in our operating accounts and adjust the cash balances as appropriate, these cash balances could be impacted if the underlying financial institutions fail or could be subject to other adverse conditions in the financial markets. Note 3 to our Consolidated Financial Statements below, further describes the composition of our cash, cash equivalents and short- and long-term investments.
Cash, cash equivalents and short-term investments decreased $2.2 million in 2011 primarily due to operating losses, the January 2011 restructuring, the purchase of property and equipment, payments of capital lease obligations and the decrease of working capital.
Our primary source of liquidity is our cash, cash equivalents, short and long-term investments, and cash flow from operations. We believe that our existing cash, cash equivalents, short and long-term investments and cash from operations will be sufficient to satisfy our current anticipated cash requirements through at least the next 12 months, if not longer. Our liquidity could be negatively affected by a decrease in demand for our services beyond the current quarter, and changes in customer buying behavior. Also, if the banking system or the financial markets continue to remain volatile, our investment portfolio may be impacted and the values and liquidity of our investments could be adversely affected. In addition, we may seek to raise additional capital through public or private debt or equity financings in order to fund our operations and capital expenditures, take advantage of favorable business opportunities, develop and upgrade our technology infrastructure, develop new product and service offerings, take advantage of favorable conditions in capital markets or respond to competitive pressures. In addition, unanticipated developments in the short term requiring cash payments, including the acquisition of businesses with negative cash flows, may necessitate additional financing. We cannot be assured that additional financing will be available on terms favorable to us, or at all. If we issue additional equity or convertible debt securities, our existing stockholders may experience substantial dilution.
Operating Activities
Cash provided by operating activities in the year ended December 31, 2011 consisted of our net loss adjusted for certain non-cash items, including depreciation, amortization, share-based compensation expense, loss on sale of assets, as well as the effect of changes in working capital and other activities. Cash used by operations in the year ended December 31, 2011 was $0.04 million and consisted of a net loss of $2.5 million, adjustments for non-cash items of $3.3 million and cash used by working capital and other activities of $0.8 million. Adjustments for non-cash items primarily consisted of $2.7 million of depreciation and amortization expense on property and equipment and internally developed software, $0.5 million bad debt expense and $0.4 million of share-based compensation expense, partially offset by a $0.3 million gain on the closure of a settlement fund. In addition, changes in working capital activities primarily consisted of a $2.1 million decrease in accounts payable and accrued liabilities, partially offset by a net decrease of $1.1 million in accounts receivable. The decrease in accounts payable and accrued liabilities was primarily due to reduced TAC and operating expenses. The decrease in account receivable is primarily attributed to a decrease in invoiced customer revenue.
Cash provided by operating activities in the year ended December 31, 2010 consisted of our net income adjusted for certain non-cash items, including depreciation, amortization, share-based compensation expense, gains on sale of assets, as well as the effect of changes in working capital and other activities. Cash provided by operations in the year ended December 31, 2010 was $2.6 million and consisted of a net income of $1.0 million, adjustments for non-cash items of $3.3 million and cash used by working capital and other activities of $1.6 million. Adjustments for non-cash items primarily consisted of $2.9 million of depreciation and amortization expense on property and equipment and internally developed software and $0.7 million of share-based compensation expense, partially offset by a $0.4 million gain on sale of assets. In addition, changes in working capital activities primarily consisted of a $2.3 million decrease in accounts payable and accrued liabilities, partially offset by a net decrease of $0.7 million in accounts receivable. The decrease in accounts payable and accrued liabilities was primarily due to reduced TAC and operating expenses. The decrease in account receivable is primarily attributed to a decrease in invoiced customer revenue.
Investing Activities
Cash used in investing activities during the year ended December 31, 2011 of $3.0 million was primarily attributed to $2.1 million in purchase of investments in excess of sale of investments to $1.1 million of capital expenditures, partially offset by $0.1 million of proceeds related to the sale of certain consumer assets. Capital expenditures for the year ended December 31, 2011 consisted of $0.6 million for equipment acquired during 2011 and an investment of $0.5 million in internally developed software related to our AdCenter platform technology.
Cash used in investing activities during the year ended December 31, 2010 of $2.0 million was primarily attributed to $2.4 million of capital expenditures, partially offset by $0.4 million of proceeds related to the sale of certain consumer assets. Capital expenditures for the year ended December 31, 2010 consisted of $0.8 million for equipment received in 2009, for which a liability was accrued in 2009, $0.9 million for equipment acquired during 2010, and an investment of $0.7 million in internally developed software related to our AdCenter platform technology.
Financing Activities
Cash used by financing activities in the year ended December 31, 2011 of $1.0 million is primarily attributed to $1.1 million in scheduled capital lease payments, partially offset by $0.1 million in proceeds from the issuance of common stock.
Cash used by financing activities in the year ended December 31, 2010 of $1.4 million is attributed to scheduled capital lease payments.
Credit Arrangements
We have outstanding standby letters of credit (“SBLC”) issued by City National Bank (“CNB”) of approximately $0.2 million at December 31, 2011, related to security of our corporate office lease.
Under the initial master equipment lease agreement with CNB, our available limit was $4.9 million. As of December 31, 2011, our outstanding balance was $0.7 million.
Our agreements with CNB, consisting of the SBLC and master equipment lease agreement, contain cross-default provisions whereby a default under one is deemed a default for the other, and are secured by a general lien on all assets of the Company. As of December 31, 2011, we are in compliance with both agreements with CNB.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as defined in Regulation S-K Item 303(a)(4), investments in special-purpose entities or undisclosed borrowings or debt. Additionally, we are not a party to any derivative contracts or synthetic leases.
Contractual Obligations and Commercial Commitments
We incur various contractual obligations and commercial commitments in our normal course of business. The following table summarizes our significant contractual obligations and commercial commitments as of December 31, 2011, and the effect such obligations are expected to have on our liquidity and cash flows in future periods (in thousands):
| |
|
Total
|
|
|
Less than
1 year
|
|
|
1-3 years
|
|
|
3-5 years
|
|
|
Thereafter
|
|
|
Operating lease obligations
|
|
$ |
1,701 |
|
|
$ |
608 |
|
|
$ |
1,093 |
|
|
$ |
- |
|
|
$ |
- |
|
|
Capital lease obligations (principal and interest)
|
|
|
684 |
|
|
|
540 |
|
|
|
144 |
|
|
|
- |
|
|
|
- |
|
|
Purchase obligations
|
|
|
42 |
|
|
|
42 |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
| |
|
$ |
2,427 |
|
|
$ |
1,190 |
|
|
$ |
1,237 |
|
|
$ |
- |
|
|
$ |
- |
|
Operating Leases
On August 31, 2009, we entered into an agreement to sublease office space for our headquarters in San Francisco, California, that expires in December 2014. In addition to scheduled base rent payments, we will also be responsible for varying amounts of operating and tax expenses. These operating expenses are not included in the table above.
The Company leases a sales office in New York, New York on a month to month basis.
The Company leases temporary offices in Los Angeles, California with a term expiring in August 2012.
The Company leases office space in Kitchener, Canada of approximately of 5,222 square feet. The lease has a constant term of six months.
Capital Leases
We have acquired various network operating equipment under capital leases with remaining terms from 3 to 14 months.
Purchase Obligations
Purchase obligations of about $42 thousand represent open purchase orders for which we have not received the related services or goods and non-cancelable contractual obligations at December 31, 2011. Our non-cancelable contractual obligations are related to data center operations.
Indemnification
We have agreements whereby we indemnify our officers and directors for certain events or occurrences while the officer or director is, or was, serving, at our request, in such capacity, to the maximum extent permitted under the laws of the State of Delaware. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited. However, we maintain directors and officers insurance coverage that may contribute, up to certain limits, a portion of any future amounts paid for indemnification of directors and officers. We believe the estimated fair value of these indemnification agreements in excess of applicable insurance coverage is minimal. Historically, we have not incurred any losses or recorded any liabilities related to performance under these types of indemnities.
Additionally, in the normal course of business, we have made certain guarantees, indemnities and commitments under which we may be required to make payments in relation to certain transactions. These indemnities include intellectual property and other indemnities to our customers and distribution network partners in connection with the sales of our products, and indemnities to various lessors in connection with facility leases for certain claims arising from such facility or lease. It is not possible to determine the maximum potential loss under these guarantees, indemnities and commitment due to our limited history of prior indemnification claims and the unique facts and circumstances involved in each particular provision.
|
|
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
|
INDEX TO THE FINANCIAL STATEMENTS
LOOKSMART, LTD.
| |
Page
|
| |
|
|
Report of Independent Registered Public Accounting Firm
|
30
|
| |
|
|
Consolidated Balance Sheets at December 31, 2011 and 2010
|
31
|
| |
|
|
Consolidated Statements of Operations for the years ended December 31, 2011 and 2010
|
32
|
| |
|
|
Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2011 and 2010
|
33
|
| |
|
|
Consolidated Statements of Cash Flows for the years ended December 31, 2011 and 2010
|
34
|
| |
|
|
Notes to Consolidated Financial Statements
|
35
|
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Stockholders and Board of Directors of
Looksmart, Ltd.
We have audited the accompanying consolidated balance sheets of Looksmart, Ltd. (the “Company”) as of December 31, 2011 and 2010, and the related consolidated statements of operations, stockholders’ equity, and cash flows for the years then ended. Our audits also included the financial statement schedule listed in the Index at Item 15 (a). These consolidated financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated 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 audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Looksmart, Ltd. as of December 31, 2011 and 2010, and the consolidated results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. 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 therein.
/s/ Moss Adams LLP
San Francisco, California
March 28, 2012
LOOKSMART, LTD.
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
| |
|
December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
ASSETS
|
|
|
|
|
|
|
|
Current assets:
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$ |
17,950 |
|
|
$ |
22,119 |
|
|
Short-term investments
|
|
|
6,809 |
|
|
|
3,250 |
|
|
Total cash, cash equivalents and short-term investments
|
|
|
24,759 |
|
|
|
25,369 |
|
|
Trade accounts receivable, net
|
|
|
1,588 |
|
|
|
3,267 |
|
|
Prepaid expenses and other current assets
|
|
|
604 |
|
|
|
680 |
|
|
Total current assets
|
|
|
26,951 |
|
|
|
29,316 |
|
|
Long-term investments
|
|
|
- |
|
|
|
1,577 |
|
|
Property and equipment, net
|
|
|
1,941 |
|
|
|
3,082 |
|
|
Capitalized software and other assets, net
|
|
|
1,220 |
|
|
|
1,750 |
|
|
Total assets
|
|
$ |
30,112 |
|
|
$ |
35,725 |
|
| |
|
|
|
|
|
|
|
|
|
LIABILITIES & STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
|
Trade accounts payable
|
|
$ |
1,682 |
|
|
$ |
2,503 |
|
|
Accrued liabilities
|
|
|
895 |
|
|
|
2,615 |
|
|
Deferred revenue and customer deposits
|
|
|
1,143 |
|
|
|
1,004 |
|
|
Current portion of capital lease obligations
|
|
|
515 |
|
|
|
1,048 |
|
|
Total current liabilities
|
|
|
4,235 |
|
|
|
7,170 |
|
|
Capital lease and other obligations, net of current portion
|
|
|
296 |
|
|
|
902 |
|
|
Total liabilities
|
|
|
4,531 |
|
|
|
8,072 |
|
|
Commitments and contingencies
|
|
|
- |
|
|
|
- |
|
|
Stockholders' equity:
|
|
|
|
|
|
|
|
|
|
Convertible preferred stock, $0.001 par value; Authorized: 5,000 shares at December 31, 2011 and 2010; Issued and Outstanding: none at December 31, 2011 and 2010
|
|
|
- |
|
|
|
- |
|
|
Common stock, $0.001 par value; Authorized: 80,000 shares at December 31, 2011 and 2010; Issued and Outstanding: 17,288 shares and 17,222 shares at December 31, 2011 and 2010, respectively
|
|
|
17 |
|
|
|
17 |
|
|
Additional paid-in capital
|
|
|
262,201 |
|
|
|
261,740 |
|
|
Accumulated other comprehensive income (loss)
|
|
|
(24 |
) |
|
|
1 |
|
|
Accumulated deficit
|
|
|
(236,613 |
) |
|
|
(234,105 |
) |
|
Total stockholders' equity
|
|
|
25,581 |
|
|
|
27,653 |
|
|
Total liabilities and stockholders' equity
|
|
$ |
30,112 |
|
|
$ |
35,725 |
|
The accompanying notes are an integral part of these Consolidated Financial Statements.
LOOKSMART, LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Revenue
|
|
$ |
27,634 |
|
|
$ |
47,479 |
|
|
Cost of revenue
|
|
|
15,195 |
|
|
|
28,832 |
|
|
Gross profit
|
|
|
12,439 |
|
|
|
18,647 |
|
|
Operating expenses:
|
|
|
|
|
|
|
|
|
|
Sales and marketing
|
|
|
2,332 |
|
|
|
4,331 |
|
|
Product development and technical operations
|
|
|
6,742 |
|
|
|
9,039 |
|
|
General and administrative
|
|
|
5,312 |
|
|
|
4,635 |
|
|
Restructuring charge
|
|
|
889 |
|
|
|
- |
|
|
Total operating expenses
|
|
|
15,275 |
|
|
|
18,005 |
|
|
Income (loss) from operations
|
|
|
(2,836 |
) |
|
|
642 |
|
|
Interest income
|
|
|
89 |
|
|
|
68 |
|
|
Interest expense
|
|
|
(81 |
) |
|
|
(148 |
) |
|
Other income, net
|
|
|
323 |
|
|
|
60 |
|
|
Income (loss) from continuing operations before income taxes
|
|
|
(2,505 |
) |
|
|
622 |
|
|
Income tax expense
|
|
|
(3 |
) |
|
|
(5 |
) |
|
Income (loss) from continuing operations
|
|
|
(2,508 |
) |
|
|
617 |
|
|
Income from discontinued operations, net of income taxes
|
|
|
- |
|
|
|
358 |
|
|
Net income (loss)
|
|
$ |
(2,508 |
) |
|
$ |
975 |
|
|
Net income (loss) per share - Basic and Diluted
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations
|
|
$ |
(0.15 |
) |
|
$ |
0.04 |
|
|
Income from discontinued operations, net of tax
|
|
|
- |
|
|
|
0.02 |
|
|
Net income (loss) per share - Basic and Diluted
|
|
$ |
(0.15 |
) |
|
$ |
0.06 |
|
|
Weighted average shares outstanding used in computing basic net income (loss) per share
|
|
|
17,287 |
|
|
|
17,179 |
|
|
Weighted average shares outstanding used in computing diluted net income (loss) per share
|
|
|
17,287 |
|
|
|
17,236 |
|
The accompanying notes are an integral part of these Consolidated Financial Statements.
LOOKSMART, LTD.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(In thousands)
| |
|
Common Stock
|
|
|
Additional
Paid-in
|
|
|
Accumulated
Other
Comprehensive
|
|
|
Accumulated
|
|
|
Total
Stockholders'
|
|
|
Comprehensive
|
|
| |
|
Shares
|
|
|
Amount
|
|
|
Capital
|
|
|
Gain (Loss)
|
|
|
Deficit
|
|
|
Equity
|
|
|
Income (Loss)
|
|
|
Balance at December 31, 2009
|
|
|
17,145 |
|
|
$ |
17 |
|
|
$ |
260,981 |
|
|
$ |
3 |
|
|
$ |
(235,080 |
) |
|
$ |
25,921 |
|
|
$ |
(6,195 |
) |
|
Common stock issued upon exercise of stock option
|
|
|
1 |
|
|
|
- |
|
|
|
1 |
|
|
|
- |
|
|
|
- |
|
|
|
1 |
|
|
|
|
|
|
Common stock issued for employee stock purchase plan
|
|
|
41 |
|
|
|
- |
|
|
|
38 |
|
|
|
- |
|
|
|
- |
|
|
|
38 |
|
|
|
|
|
|
Issuance of restricted stock
|
|
|
35 |
|
|
|
- |
|
|
|
46 |
|
|
|
- |
|
|
|
- |
|
|
|
46 |
|
|
|
|
|
|
Stock-based compensation
|
|
|
- |
|
|
|
- |
|
|
|
674 |
|
|
|
- |
|
|
|
- |
|
|
|
674 |
|
|
|
|
|
|
Comprehensive income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized loss on securities, net
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
(2 |
) |
|
|
- |
|
|
|
(2 |
) |
|
$ |
(2 |
) |
|
Net income
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
975 |
|
|
|
975 |
|
|
|
975 |
|
|
Balance at December 31, 2010
|
|
|
17,222 |
|
|
$ |
17 |
|
|
$ |
261,740 |
|
|
$ |
1 |
|
|
$ |
(234,105 |
) |
|
$ |
27,653 |
|
|
$ |
973 |
|
|
Common stock issued upon exercise of stock option
|
|
|
42 |
|
|
|
- |
|
|
|
49 |
|
|
|
- |
|
|
|
- |
|
|
|
49 |
|
|
|
|
|
|
Common stock issued for employee stock purchase plan
|
|
|
24 |
|
|
|
- |
|
|
|
31 |
|
|
|
- |
|
|
|
- |
|
|
|
31 |
|
|
|
|
|
|
Stock-based compensation
|
|
|
- |
|
|
|
- |
|
|
|
381 |
|
|
|
- |
|
|
|
- |
|
|
|
381 |
|
|
|
|
|
|
Comprehensive loss:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized loss on securities, net
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
(25 |
) |
|
|
- |
|
|
|
(25 |
) |
|
|
(25 |
) |
|
Net loss
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
- |
|
|
|
(2,508 |
) |
|
|
(2,508 |
) |
|
|
(2,508 |
) |
|
Balance at December 31, 2011
|
|
|
17,288 |
|
|
$ |
17 |
|
|
$ |
262,201 |
|
|
$ |
(24 |
) |
|
$ |
(236,613 |
) |
|
$ |
25,581 |
|
|
$ |
(2,533 |
) |
The accompanying notes are an integral part of these Consolidated Financial Statements.
LOOKSMART, LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Cash flows from operating activities:
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$ |
(2,508 |
) |
|
$ |
975 |
|
|
Adjustment to reconcile net income (loss) to net cash provided by (used in) operating activities:
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
2,656 |
|
|
|
2,897 |
|
|
Provision for doubtful accounts
|
|
|
521 |
|
|
|
48 |
|
|
Share-based compensation
|
|
|
361 |
|
|
|
679 |
|
|
(Gain) loss from sale of assets and other non-cash charges
|
|
|
91 |
|
|
|
(411 |
) |
|
Deferred rent
|
|
|
(12 |
) |
|
|
86 |
|
|
Gain on closure of settlement fund
|
|
|
(339 |
) |
|
|
- |
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
Trade accounts receivable
|
|
|
1,067 |
|
|
|
680 |
|
|
Prepaid expenses and other current assets
|
|
|
130 |
|
|
|
103 |
|
|
Trade accounts payable
|
|
|
(767 |
) |
|
|
(415 |
) |
|
Accrued liabilities
|
|
|
(1,381 |
) |
|
|
(1,928 |
) |
|
Deferred revenue and customer deposits
|
|
|
139 |
|
|
|
(109 |
) |
|
Net cash provided by (used in) operating activities
|
|
|
(42 |
) |
|
|
2,605 |
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
|
Purchase of investments
|
|
|
(18,921 |
) |
|
|
(13,322 |
) |
|
Proceeds from sale of investments
|
|
|
16,839 |
|
|
|
13,259 |
|
|
Proceeds from sale of equipment
|
|
|
- |
|
|
|
71 |
|
|
Payments for property, equipment, and capitalized software
|
|
|
(1,089 |
) |
|
|
(2,402 |
) |
|
Proceeds from contingent purchase consideration of certain consumer assets
|
|
|
91 |
|
|
|
353 |
|
|
Net cash used in investing activities
|
|
|
(3,080 |
) |
|
|
(2,041 |
) |
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
|
Principal payments of capital lease obligations
|
|
|
(1,127 |
) |
|
|
(1,417 |
) |
|
Proceeds from issuance of common stock
|
|
|
80 |
|
|
|
39 |
|
|
Net cash used in financing activities
|
|
|
(1,047 |
) |
|
|
(1,378 |
) |
|
Decrease in cash and cash equivalents
|
|
|
(4,169 |
) |
|
|
(814 |
) |
|
Cash and cash equivalents, beginning of period
|
|
|
22,119 |
|
|
|
22,933 |
|
|
Cash and cash equivalents, end of period
|
|
$ |
17,950 |
|
|
$ |
22,119 |
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
|
|
|
Interest paid
|
|
$ |
81 |
|
|
$ |
140 |
|
|
Income taxes paid
|
|
$ |
4 |
|
|
$ |
4 |
|
|
Supplemental disclosure of noncash activities:
|
|
|
|
|
|
|
|
|
|
Assets acquired through capital lease obligations
|
|
$ |
- |
|
|
$ |
363 |
|
|
Change in unrealized loss on investments
|
|
$ |
(24 |
) |
|
$ |
(2 |
) |
|
Share-based compensation capitalized as software development costs
|
|
$ |
20 |
|
|
$ |
41 |
|
The accompanying notes are an integral part of these Consolidated Financial Statements.
LOOKSMART, LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|
1.
|
Summary of Significant Accounting Policies
|
Nature of Business
LookSmart, Ltd. (“LookSmart” or the “Company”) is a search advertising network solutions company that provides relevant solutions for search advertisers and publishers. LookSmart was organized in 1996 and is incorporated in the State of Delaware.
LookSmart operates in a large online search advertising ecosystem serving ads that target user queries on partner sites. The Company operates in the middle of this ecosystem, acquiring search queries from a variety of sources and matching them with the keywords of its search advertising customers. The Company’s largest category of customers has been intermediaries, the majority of which purchase clicks to sell into the affiliate networks of the large search engine providers. Another category of customers are direct advertisers and their agencies, some of whom want conversions or sales from the clicks, while others want unique page views. The last category of customers is self-service advertisers that sign-up online and pay by credit card.
The Company offers search advertising customers targeted search via a monitored search advertising distribution network using the Company’s “AdCenter” platform technology. The Company’s search advertising network includes publishers and search advertising customers, including intermediaries and direct advertising customers and their agencies as well as self-service customers in the United States and certain other countries. The Company’s application programming interface (“API”) allows search advertising customers and their advertising agencies to connect any type of marketing or reporting software with minimal effort, for easier access, management, and optimization of search advertising campaigns.
The Company also offers publishers licensed private-label search advertiser network solutions based on its AdCenter platform technology (“Publisher Solutions”). Publisher Solutions consist of hosted auction-based ad serving with an ad backfill capability that allows publishers and portals to manage their advertiser relationships, distribution channels and accounts.
In the first quarter of 2008, the Company’s management made the decision to exit its remaining consumer products activities and to sell or otherwise dispose of the remaining consumer assets. The results of operations of consumer product activities have been classified as discontinued operations for all periods presented in the accompanying Consolidated Statements of Operations, as further described in Note 2. At December 31, 2011, the Company continues to own the Wisenut search engine technology, intellectual property rights in such technology, and other assets.
Principles of Consolidation
The Consolidated Financial Statements include the accounts of the Company and its Subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation.
Use of Estimates and Assumptions
The Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”). This requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, revenue, expenses, and contingent assets and liabilities during the reporting period. The Company bases its estimates on various factors and information which may include, but are not limited to, history and prior experience, experience of other enterprises in the same industry, new related events, and current economic conditions and information from third party professionals that is believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.
Reclassifications
Certain amounts in the financial statements for 2010 have been reclassified to conform to the current presentation. These reclassifications did not change the previously reported net income, net change in cash and cash equivalents or stockholders’ equity.
Investments
The Company invests its excess cash primarily in debt instruments of high-quality corporate and government issuers. All highly liquid instruments with maturities at the date of purchase greater than ninety days are considered investments. All instruments with maturities greater than one year from the balance sheet date are considered long-term investments unless management intends to liquidate such securities in the current operating cycle. Such securities are classified as short-term investments. These securities are classified as available-for-sale and carried at fair value.
Changes in the value of these investments are primarily related to changes in interest rates and are considered to be temporary in nature. Except for declines in fair value that are not considered temporary, net unrealized gains or losses on these investments are reported as a component of Other Comprehensive Income (Loss) in the Consolidated Statements of Stockholders’ Equity. The Company recognizes realized gains and losses upon sale of investments using the specific identification method.
Fair Value of Financial Instruments
The Company’s estimate of fair value for assets and liabilities is based on a framework that establishes a hierarchy of the inputs used in valuation and gives the highest priority to quoted prices in active markets and requires that observable inputs be used in the valuations when available. The disclosure of fair value estimates is based on whether the significant inputs into the valuation are observable. In determining the level of the hierarchy in which the estimate is disclosed, the highest priority is given to unadjusted quoted prices in active markets and the lowest priority to unobservable inputs that reflect our significant market assumptions. The three levels of the hierarchy are as follows:
|
|
Level 1:
|
Unadjusted quoted market prices for identical assets or liabilities in active markets that we have the ability to access.
|
|
|
Level 2:
|
Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets in inactive markets; or valuations based on models where the significant inputs are observable (e.g., interest rates, yield curves, default rates, etc.) or can be corroborated by observable market data.
|
|
|
Level 3:
|
Valuations based on models where significant inputs are not observable. The unobservable inputs reflect our assumptions about the assumptions that market participants would use.
|
Revenue Recognition
Online search advertising revenue is primarily composed of per transaction fees that the Company charges customers. Revenue also includes revenue share from licensing of private-labeled versions of the Company’s AdCenter Platform.
Revenues associated with online advertising products, including Advertiser Networks, are generally recognized once collectability is established, delivery of services has occurred, all performance obligations have been satisfied, and no refund obligations exist of when we are aware. The Company pays distribution network partners based on clicks on the advertiser’s ad that are displayed on the websites of these distribution network partners. These payments are called traffic acquisition costs (“TAC”) and are included in cost of revenue. The revenue derived from these arrangements that involve traffic supplied by distribution network partners is reported gross of the payment to the distribution network partners. This revenue is reported gross due to the fact that the Company is the primary obligor to the advertisers who are the customers of the advertising service.
The Company also enters into agreements to provide private-labeled versions of its AdCenter platform technology. These license arrangements may include some or all of the following elements: revenue-sharing based on the publisher’s customer’s monthly revenue generated through the AdCenter application; upfront fees; monthly minimum fees; and other license fees. The Company recognizes upfront fees over the term of the arrangement or the expected period of performance, other license fees over the term of the license, and revenue-sharing portions over the period in which such revenue is earned. In all cases, revenue is recognized only when the price is fixed or determinable, persuasive evidence of an arrangement exists, the service is performed, and collectability of the resulting receivable is reasonably assured.
The Company provides a provision against revenue for estimated reductions resulting from billing adjustments and customer refunds. The amounts of these provisions are evaluated periodically based upon customer experience and historical trends. The allowance included in trade receivables, net is $0.3 million and $0.2 million at December 31, 2011 and 2010, respectively.
Deferred revenue is recorded when payments are received in advance of performance in underlying agreements. Customer deposits are recorded when customers make prepayments for online advertising.
The Company evaluates individual arrangements with customers to make a determination under Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 605-45 Revenue Recognition. We test and record revenue accordingly.
Allowance for Doubtful Accounts
The Company maintains an allowance for doubtful accounts for estimated losses resulting from customers failing to make required payments. This valuation allowance is reviewed on a periodic basis to determine whether a provision or reversal is required. The review is based on factors including the application of historical collection rates to current receivables and economic conditions. The Company will record an increase or reduction of its allowance for doubtful accounts if collection rates or economic conditions are more or less favorable than it anticipated. Additional allowances for doubtful accounts may be required if there is deterioration in past due balances, if economic conditions are less favorable than the Company anticipated or for customer-specific circumstances, such as bankruptcy. The allowance for doubtful accounts included in trade accounts receivable, net is $0.6 million and $0.2 million for each of the years ended December 31, 2011 and 2010. Bad debt expense included in general and administrative expense is $0.5 million and insignificant for each of the years ended December 31, 2011 and 2010.
Concentrations, Credit Risk and Credit Risk Evaluation
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents, investments, and accounts receivable. As of December 31, 2011 and 2010, the Company placed its cash equivalents and investments primarily through one financial institution, City National Bank (“CNB”), and mitigated the concentration of credit risk by placing percentage limits on the maximum portion of the investment portfolio which may be invested in any one investment instrument. These amounts exceed federally insured limits at December 31, 2011 and 2010. The Company has not experienced any credit losses on these cash equivalents and investment accounts and does not believe it is exposed to any significant credit risk on these funds. The fair value of these accounts is subject to fluctuation based on market prices.
Credit Risk, Customer and Vendor Evaluation
Accounts receivable are typically unsecured and are derived from sales to customers. The Company performs ongoing credit evaluations of its customers and maintains allowances for estimated credit losses. The Company applies judgment as to its ability to collect outstanding receivables based primarily on management’s evaluation of the customer’s financial condition and past collection history and records a specific allowance. In addition, the Company records an allowance based on the length of time the receivables are past due. Historically, such losses have been within management’s expectations.
The following table reflects customers that accounted for more than 10% of gross accounts receivable:
| |
|
December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Company 1
|
|
|
20 |
% |
|
|
** |
|
|
Company 2
|
|
|
12 |
% |
|
|
21 |
% |
____________________________________
** Less than 10%
Revenue and Cost Concentrations
The following table reflects countries that accounted for more than 10% of net revenue:
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
United States
|
|
|
70 |
% |
|
|
60 |
% |
|
Europe, Middle East and Africa
|
|
|
21 |
% |
|
|
27 |
% |
____________________________________
** Less than 10%
LookSmart derives its revenue from two service offerings, or “products”: Advertiser Networks and Publisher Solutions. The percentage distributions between the two service offerings are as follows:
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Advertiser Networks
|
|
|
95 |
% |
|
|
93 |
% |
|
Publisher Solutions
|
|
|
5 |
% |
|
|
7 |
% |
The following table reflects the percentage of revenue attributed to customers who accounted for 10% or more of net revenue. All are Intermediaries and we do not expect them to represent similar revenues in 2012 and beyond:
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Company 1
|
|
|
11 |
% |
|
|
** |
|
|
Company 2
|
|
|
11 |
% |
|
|
11 |
% |
|
Company 3
|
|
|
** |
|
|
|
14 |
% |
____________________________________
** Less than 10%
The Company derives its revenue primarily from its relationships with significant distribution network partners. The following table reflects the distribution partners that accounted for more than 10% of the total TAC:
| |
|
Year Ended December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Distribution Partner 1
|
|
|
** |
|
|
|
17 |
% |
|
Distribution Partner 2
|
|
|
** |
|
|
|
11 |
% |
|
Distribution Partner 3
|
|
|
** |
|
|
|
10 |
% |
____________________________________
** Less than 10%
Property and Equipment
Property and equipment are stated at cost and depreciated using the straight-line method over the estimated useful lives of the assets as follows:
|
Computer equipment
|
3 to 4 years
|
|
Furniture and fixtures
|
5 to 7 years
|
|
Software
|
2 to 3 years
|
Leasehold improvements are amortized on a straight-line basis over the shorter of their estimated useful lives or the lease term.
When assets are retired or otherwise disposed of, the cost and accumulated depreciation and amortization are removed from their respective accounts, and any gain or loss on such sale or disposal is reflected in operating expenses. Maintenance and repairs are charged to expense as incurred. Expenditures that substantially increase an asset’s useful life are capitalized.
Internal Use Software Development Costs
The Company capitalizes external direct costs of materials and services consumed in developing and obtaining internal-use computer software and the payroll and payroll-related costs for employees who are directly associated with and who devote time to developing the internal-use computer software. These costs are capitalized after certain milestones have been achieved and generally amortized over a three year period once the project is placed in service.
Management exercises judgment in determining when costs related to a project may be capitalized, in assessing the ongoing value of the capitalized costs, and in determining the amortization period for the capitalized costs, which is generally three years. The Company expects to continue to invest in internally developed software and to capitalize such costs.
Restructuring Charges
On January 7, 2011, our Board of Directors approved a plan of termination that resulted in a reduction of the workforce of approximately 20 full-time positions, or approximately 35%.
Impairment of Long-Lived Assets
The Company reviews long-lived assets held or used in operations, including property and equipment and capitalized software development costs, for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be fully recoverable. Subject assets are tested for impairment at the lowest level of operations that generate cash flows that are largely independent of the cash flows from those of other groups of asset and liabilities. Management has determined that the equity of its single reporting unit is the lowest level of operation at which independent cash flows can be identified. An impairment loss is recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition is less than its carrying amount. Impairment, if any, is measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value. Assets to be disposed of are reported at the lower of carrying amount or fair value less cost to dispose.
The Company tested its long-lived assets used in operations for impairment as of December 31, 2011, and determined there was no impairment.
Traffic Acquisition Costs
The Company enters into agreements of varying durations with its distribution network partners that display the Company’s listings ads on their sites in return for a percentage of the revenue-per-click that the Company receives when the ads are clicked on those partners’ sites.
The Company also enters into agreements of varying durations with third party affiliates. These affiliate agreements provide for variable payments based on a percentage of the Company’s revenue or based on a certain metric, such as number of searches or paid clicks.
The Company records TAC as cost of revenue and TAC are expensed based on the volume of the underlying activity or revenue, multiplied by the agreed-upon price or rate.
Share-Based Compensation
The Company recognizes share-based compensation costs for all share-based payment transactions with employees, including grants of employee stock options, restricted stock awards, and employee stock purchases related to the Employee Stock Purchase Plan, over the requisite service period based on their relative fair values. The Company estimates the fair value of option awards on the grant date using the Black-Scholes method. The value of the portion of the award that is ultimately expected to vest is recognized as expense in the Company’s Consolidated Statements of Operations over the requisite service periods. Share-based compensation expense recognized for the years ended December 31, 2011 and 2010, were $0.4 million and $0.7 million, respectively, which was related to stock grants, options and employee stock purchases.
Forfeitures are estimated at the time of grant in order to estimate the amount of share-based awards that will ultimately vest. The forfeiture rate is determined at the end of each fiscal quarter, based on historical rates.
The Company elected to adopt the alternative transition method for calculating the tax effects of share-based compensation to establish the beginning balance of the additional paid-in capital pool (“APIC pool”) related to the tax effects of employee share-based compensation, and to determine the subsequent impact on the APIC pool and Consolidated Statements of Cash Flows of the tax effects of employee share-based compensation awards.
Advertising Costs
Advertising costs are charged to sales and marketing expenses as incurred and were insignificant and $0.2 million for the years ended December 31, 2011 and 2010, respectively.
Product Development Costs
Research of new product ideas and enhancements to existing products are charged to expense as incurred.
Income Taxes
The Company accounts for income taxes using the liability method. Under the liability method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. The Company records liabilities, where appropriate, for all uncertain income tax positions. The Company recognizes potential accrued interest and penalties related to unrecognized tax benefits within operations as income tax expense.
Comprehensive Gain (Loss)
Other comprehensive gain (loss) as of December 31, 2011 and 2010 consists of unrealized gains and losses on marketable securities categorized as available-for-sale and foreign currency translation adjustments.
Net Income (Loss) per Common Share
Basic net income (loss) and diluted net income (loss) per share is calculated using the weighted average shares of common stock outstanding. Diluted net income per share is calculated using the weighted average number of common and potentially dilutive common shares outstanding during the period, using the treasury stock method for stock options.
Segment Information
The Company has one operating segment, online advertising. While the Company operates under one operating segment, management reviews revenue under two product offerings—Advertiser Networks and Publisher Solutions.
As of December 31, 2011 and 2010, all of the Company’s accounts receivable, intangible assets, and deferred revenue are related to the online advertising segment. All long-lived assets are located in the United States and Canada.
Recent Accounting Pronouncements
In June 2011, the Financial Accounting Standards Board (“FASB”) issued an amendment to an existing accounting standard which requires companies to present net income and other comprehensive income in one continuous statement or in two separate, but consecutive, statements. In addition, in December 2011, the FASB issued an amendment to an existing accounting standard which defers the requirement to present components of reclassifications of other comprehensive income on the face of the income statement. The Company is required to adopt this standard as of the beginning of 2012 and it is to be applied retrospectively. Early adoption is permitted. This guidance will not have an impact on the Company’s results of operations, financial position or cash flows as it is disclosure-only in nature.
In May 2011, the FASB issued a new accounting standard on fair value measurements that clarifies the application of existing guidance and disclosure requirements, changes certain fair value measurement principles and requires additional disclosures about fair value measurements. This new guidance is to be applied prospectively. The Company is required to adopt this standard as of the beginning of 2012. Adoption of this new guidance is not expected to have a material impact on the Company’s results of operations, financial position or liquidity.
|
2.
|
Discontinued Operations and Dispositions
|
Consumer Products
In the first quarter of 2008, the Company’s management made the decision to exit the remaining consumer products activities and to sell or otherwise dispose of its remaining consumer assets. The various remaining related websites and assets associated with the consumer products activities met the criteria to be classified as discontinued operations. The results of operations related to assets to be disposed of, and of previously disposed assets, including any related gains and losses are classified as discontinued operations in the accompanying Consolidated Statements of Operations.
As of December 31, 2011, the Company continues to own the Wisenut search engine technology, intellectual property rights in such technology and other assets.
Income from discontinued operations was $0.4 million for the year ended December 31, 2010.
Net Nanny
On January 22, 2007, the Company completed the sale of Net Nanny to Content Watch, Inc. (“Content Watch”). The sale proceeds were comprised of contingent purchase consideration that may be realized at future dates based on the amount of revenue received by Content Watch. The Company recorded contingent purchase consideration of zero and $0.4 million for the years ended December 31, 2011 and 2010, respectively. Under the terms of the Content Watch agreement, the contingent purchase consideration period ended December 31, 2010. Contingent purchase consideration has been classified as gain on disposal.
|
3.
|
Cash and Available for Sale Securities
|
The following table summarizes the Company’s cash and available-for-sale securities’ amortized cost and estimated fair value by significant investment category as of December 31, 2011 and 2010 (in thousands):
| |
|
Amortized Cost and Estimated
Fair Value
|
|
| |
|
December 31,
|
|
| |
|
2011
|
|
|
2010
|
|
|
Cash and cash equivalents:
|
|
|
|
|
|
|
|
Cash
|
|
$ |
7,205 |
|
|
$ |
9,435 |
|
|
Cash equivalents
|
|
|
|
|
|
|
|
|
|
Money market mutual funds
|
|
|
1,045 |
|
|
|
35 |
|
|
Certificates of deposit
|
|
|
3,100 |
|
|
|
2,000 |
|
|
Commercial paper
|
|
|
6,600 |
|
|
|
10,649 |
|
|
Total cash equivalents
|
|
|
10,745 |
|
|
|
12,684 |
|
|
Total cash and cash equivalents
|
|
|
17,950 |
|
|
|
22,119 |
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
Corporate bonds
|
|
|
2,031 |
|
|
|
- |
|
|
Certificates of deposit
|
|
|
3,278 |
|
|
|
2,250 |
|
|
Commercial paper
|
|
|
1,500 |
|
|
|
1,000 |
|
|
Total short-term investments
|
|
|
6,809 |
|
|
|
3,250 |
|
|
Long-term investments:
|
|
|
|
|
|
|
|
|
|
Corporate bonds
|
|
|
- |
|
|
|
1,577 |
|
|
Total long-term investments
|
|
|
- |
|
|
|
1,577 |
|
|
Total cash and available-for-sale securities
|
|
$ |
24,759 |
|
|
$ |
26,946 |
|
Realized gains and realized losses were not significant for either of the years ended December 31, 2011 or 2010. As of December 31, 2011 and 2010, there were no significant unrealized losses on investments. The cost of all securities sold is based on the specific identification method.
The contractual maturities of cash equivalents and short-term investments at December 31, 2011 were less than one year. There were no long-term investments at December 31, 2011.
The Company typically invests in highly-rated securities, and its policy generally limits the amount of credit exposure to any one issuer. When evaluating the investments for other-than-temporary impairment, the Company reviews such factors as the length of time and extent to which fair value has been below cost basis, the financial condition of the issuer, and the Company’s intent to sell, or whether it is more likely than not it will be required to sell, the investment before recovery of the investment’s amortized cost basis. During the years ended December 31, 2011 and 2010, the Company did not recognize any impairment charges on outstanding investments. As of December 31, 2011, the Company does not consider any of its investments to be other-than-temporarily impaired.
|
4.
|
Property and Equipment
|
Property and equipment consisted of the following at December 31, 2011 and 2010 (in thousands):
| |
|
December 31, 2011
|
|
|
December 31, 2010
|
|
| |
|
Cost
|
|
|
Accumulated
Depreciation
|
|
|
Net Book
Value
|
|
|
Cost
|
|
|
Accumulated
Depreciation
|
|
|
Net Book
Value
|
|
|
Computer equipment
|
|
$ |
9,751 |
|
|
$ |
(8,002 |
) |
|
$ |
1,749 |
|
|
$ |
9,224 |
|
|
$ |
(6,411 |
) |
|
$ |
2,813 |
|
|
Furniture and fixtures
|
|
|
75 |
|
|
|
(62 |
) |
|
|
13 |
|
|
|
75 |
|
|
|
(59 |
) |
|
|
16 |
|
|
Software
|
|
|
1,241 |
|
|
|
(1,229 |
) |
|
|
12 |
|
|
|
1,239 |
|
|
|
(1,220 |
) |
|
|
19 |
|
|
Leasehold improvements
|
|
|
308 |
|
|
|
(141 |
) |
|
|
167 |
|
|
|
308 |
|
|
|
(74 |
) |
|
|
234 |
|
|
Total
|
|
$ |
11,375 |
|
|
$ |
(9,434 |
) |
|
$ |
1,941 |
|
|
$ |
10,846 |
|
|
$ |
(7,764 |
) |
|
$ |
3,082 |
|
Depreciation expense on property and equipment for the years ended December 31, 2011 and 2010, including cost of property and equipment under capital lease, was $1.7 million and $1.8 million, respectively, and is recorded in operating expenses. Equipment under capital lease totaled $2.8 million and $4.3 million as of December 31, 2011 and 2010, respectively. Depreciation expense on equipment under capital lease was $1.1 million and $1.3 million for the years ended December 31, 2011 and 2010, respectively. Additionally, accumulated depreciation on equipment under capital lease was $2.5 million and $2.8 million as of December 31, 2011 and 2010, respectively.
|
5.
|
Capitalized Software and Other Assets
|
The Company’s capitalized software and other assets are as follows at December 31, 2011 and 2010 (in thousands):
| |
|
December 31, 2011
|
|
|
December 31, 2010
|
|
| |
|
Gross
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net Book
Value
|
|
|
Gross
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net Book
Value
|
|
|
Capitalized software
|
|
$ |
6,688 |
|
|
$ |
(5,503 |
) |
|
$ |
1,185 |
|
|
$ |
6,206 |
|
|
$ |
(4,550 |
) |
|
$ |
1,656 |
|
|
Amortizable purchased technology
|
|
|
78 |
|
|
|
(78 |
) |
|
|
- |
|
|
|
78 |
|
|
|
(78 |
) |
|
|
- |
|
|
Other assets
|
|
|
35 |
|
|
|
- |
|
|
|
35 |
|
|
|