UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2014

or

¨

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 001-35958

 

MANDALAY DIGITAL GROUP, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

Delaware

 

22-2267658

(State or Other Jurisdiction of
Incorporation or Organization)

 

(I.R.S. Employer
Identification No.)

 

2811 Cahuenga Boulevard West
Los Angeles, CA

 

90068

(Address of Principal Executive Offices)

 

(Zip Code)

(323) 472-5461

(Issuer’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act 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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

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 definitions of a “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check One)

 

Large Accelerated Filer

¨

 

  

Accelerated Filer

 

¨

 

 

 

 

Non-accelerated Filer

¨

(do not check if smaller reporting company)

  

Smaller Reporting Company

 

x

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of November 12, 2014, the Company had 37,797,221 shares of its common stock, $0.0001 par value per share, outstanding.

 

 


 

 

 

 

MANDALAY DIGITAL GROUP, INC.

FORM 10-Q QUARTERLY REPORT FOR THE QUARTER ENDED SEPTEMBER 30, 2014

Table of Contents

 

 

 

 

  

Page

 

 

PART I – FINANCIAL INFORMATION

  

 

Item 1.

 

Consolidated Financial Statements

  

1

 

 

Consolidated Balance Sheets as of September 30, 2014 (Unaudited) and March 31, 2014

  

1

 

 

Consolidated Statements of Operations and Comprehensive Loss (Unaudited) For the Six Month Period Ended September 30, 2014 and 2013

  

2

 

 

Consolidated Statements of Stockholders’ Equity (Unaudited) for the Six Month Period Ended September 30, 2014 and 2013

  

3

 

 

Consolidated Statements of Cash Flows (Unaudited) For the Six Month Period Ended September 30, 2014 and 2013

  

4

 

 

Notes to the Unaudited Consolidated Financial Statements

  

5

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

  

24

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

  

33

Item 4

 

Controls and Procedures

  

33

 

 

PART II – OTHER INFORMATION

  

 

Item 1.

 

Legal Proceedings

  

35

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

  

35

Item 3.

 

Defaults

  

35

Item 4.

 

Mine Safety Disclosures

  

35

Item 5.

 

Other Information

  

35

Item 6.

 

Exhibits

  

36

Signatures

  

37

 

 

 

 


 

PART I – FINANCIAL INFORMATION

 

ITEM 1 – FINANCIAL STATEMENTS

Mandalay Digital Group, Inc. and Subsidiaries

Consolidated Balance Sheets

(In thousands, except share and per share amounts)

 

 

(unaudited)

 

 

 

 

 

 

September 30,

 

 

March 31,

 

 

2014

 

 

2014

 

ASSETS

 

 

 

 

 

 

 

Current assets

 

 

 

 

 

 

 

Cash and cash equivalents

$

16,715

 

 

$

21,805

 

Restricted cash

 

200

 

 

 

200

 

Accounts receivable, net of allowances of $0 and $0, respectively

 

4,337

 

 

 

5,102

 

Deposits

 

86

 

 

 

24

 

Prepaid expenses and other current assets

 

349

 

 

 

350

 

Total current assets

 

21,687

 

 

 

27,481

 

Property and equipment, net

 

422

 

 

 

465

 

Deferred tax assets

 

541

 

 

 

3,238

 

Intangible assets, net

 

6,913

 

 

 

9,074

 

Goodwill

 

6,309

 

 

 

4,837

 

TOTAL ASSETS

$

35,872

 

 

$

45,095

 

LIABILITIES AND STOCKHOLDERS' EQUITY

 

 

 

 

 

 

 

Current liabilities

 

 

 

 

 

 

 

Accounts payable

$

3,817

 

 

$

2,943

 

Accrued license fees

 

2,373

 

 

 

3,395

 

Accrued compensation

 

2,122

 

 

 

1,681

 

Deferred tax liabilities

 

1,024

 

 

 

2,987

 

Other current liabilities

 

708

 

 

 

900

 

Total current liabilities

 

10,044

 

 

 

11,906

 

Long term contingent liability, less discount of $0 and $762, respectively

 

-

 

 

 

238

 

Total liabilities

$

10,044

 

 

$

12,144

 

Stockholders' equity

 

 

 

 

 

 

 

Preferred stock

 

 

 

 

 

 

 

Series A convertible preferred stock at $0.0001 par value;

     200,000 shares authorized, 100,000 issued and outstanding

     (liquidation preference of $1,000,000)

 

100

 

 

 

100

 

Common stock, $0.0001 par value: 200,000,000 shares authorized;

     38,538,403 issued and 37,783,804 outstanding at September 30, 2014;

     38,143,028 issued and 37,388,429 outstanding at March 31, 2014;

 

7

 

 

 

7

 

Additional paid-in capital

 

196,040

 

 

 

193,422

 

Treasury Stock (754,600 shares at September 30, 2014 and March 31, 2014)

 

(71

)

 

 

(71

)

Accumulated other comprehensive loss

 

(129

)

 

 

(199

)

Accumulated deficit

 

(170,119

)

 

 

(160,308

)

Total stockholders' equity

 

25,828

 

 

 

32,951

 

TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY

$

35,872

 

 

$

45,095

 

 

 

 

1


 

Mandalay Digital Group, Inc. and Subsidiaries

Consolidated Statements of Operations and Comprehensive Loss (Unaudited)

(In thousands, except per share amounts)

 

 

 

3 Months Ended

 

 

3 Months Ended

 

 

6 Months Ended

 

 

6 Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2014

 

 

2013

 

 

2014

 

 

2013

 

Net revenues

 

$

5,462

 

 

$

6,759

 

 

$

11,016

 

 

$

11,543

 

Cost of revenues

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

License fees

 

 

3,316

 

 

 

3,919

 

 

 

7,112

 

 

 

6,633

 

Other direct cost of revenues

 

 

345

 

 

 

456

 

 

 

689

 

 

 

859

 

Total cost of revenues

 

 

3,661

 

 

 

4,375

 

 

 

7,801

 

 

 

7,492

 

Gross profit

 

 

1,801

 

 

 

2,384

 

 

 

3,215

 

 

 

4,051

 

Operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product development

 

 

2,155

 

 

 

2,407

 

 

 

4,114

 

 

 

3,995

 

Sales and marketing

 

 

743

 

 

 

536

 

 

 

1,504

 

 

 

909

 

General and administrative

 

 

3,548

 

 

 

3,293

 

 

 

6,922

 

 

 

7,092

 

Total operating expenses

 

 

6,446

 

 

 

6,236

 

 

 

12,540

 

 

 

11,996

 

Loss from operations

 

 

(4,645

)

 

 

(3,852

)

 

 

(9,325

)

 

 

(7,945

)

Interest and other income / (expense)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest  income / (expense)

 

 

(131

)

 

 

(194

)

 

 

(128

)

 

 

(1,633

)

Foreign exchange transaction gain / (loss)

 

 

(1

)

 

 

27

 

 

 

(7

)

 

 

56

 

Change in fair value of warrant derivative liabilities gain / (loss)

 

 

-

 

 

 

(811

)

 

 

-

 

 

 

(811

)

Loss on extinguishment of debt

 

 

-

 

 

 

(442

)

 

 

-

 

 

 

(442

)

Gain / (loss) on settlement of debt

 

 

-

 

 

 

33

 

 

 

(10

)

 

 

33

 

Gain/ (loss) on disposal of fixed assets

 

 

-

 

 

 

4

 

 

 

2

 

 

 

2

 

Gain on change on valuation of long term contingent liability

 

 

-

 

 

 

603

 

 

 

-

 

 

 

603

 

Other income

 

 

3

 

 

 

-

 

 

 

12

 

 

 

-

 

Interest and other expense

 

 

(129

)

 

 

(780

)

 

 

(131

)

 

 

(2,192

)

Loss from operations before income taxes

 

 

(4,774

)

 

 

(4,632

)

 

 

(9,456

)

 

 

(10,137

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income tax provision / (benefit)

 

 

427

 

 

 

85

 

 

 

355

 

 

 

2

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss from continuing operations, net of taxes

 

 

(5,201

)

 

 

(4,717

)

 

 

(9,811

)

 

 

(10,139

)

Loss from operations of discontinued component

 

 

-

 

 

 

(1,505

)

 

 

-

 

 

 

(1,769

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss)/profit

 

$

(5,201

)

 

$

(6,222

)

 

$

(9,811

)

 

$

(11,908

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment

 

$

32

 

 

$

333

 

 

$

70

 

 

$

438

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive loss:

 

$

(5,169

)

 

$

(5,889

)

 

$

(9,741

)

 

$

(11,470

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic and diluted net loss per common share

 

$

(0.14

)

 

$

(0.25

)

 

$

(0.26

)

 

$

(0.53

)

Continuing operations

 

$

(0.14

)

 

$

(0.19

)

 

$

(0.26

)

 

$

(0.45

)

Discontinued operations

 

$

-

 

 

$

(0.06

)

 

$

-

 

 

$

(0.08

)

Net loss

 

$

(0.14

)

 

$

(0.25

)

 

$

(0.26

)

 

$

(0.53

)

Weighted average common shares outstanding, basic and diluted

 

 

37,504

 

 

 

25,232

 

 

 

37,464

 

 

 

22,636

 

 

2


 

Mandalay Digital Group, Inc. and Subsidiaries

Consolidated Statements of Stockholders’ Equity (Unaudited)

(In thousands, except share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

Other

 

 

 

 

 

 

 

 

 

 

Common Stock

 

 

 

 

 

 

Preferred Stock

 

 

 

 

 

 

Treasury Stock

 

 

 

 

 

 

Paid-In

 

 

Comprehensive

 

 

Accumulated

 

 

 

 

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Capital

 

 

Income/(Loss)

 

 

Deficit

 

 

Total

 

Balance at March 31, 2014

 

37,388,429

 

 

 

7

 

 

 

100,000

 

 

 

100

 

 

 

754,600

 

 

 

(71

)

 

 

193,422

 

 

 

(199

)

 

 

(160,308

)

 

 

32,951

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(4,610

)

 

 

(4,610

)

Foreign currency translation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

38

 

 

 

 

 

 

38

 

Vesting of shares issued to employee

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

100

 

 

 

 

 

 

 

 

 

100

 

Vesting of options issued to employees

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

718

 

 

 

 

 

 

 

 

 

718

 

Vesting of restricted stock for services

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

76

 

 

 

 

 

 

 

 

 

76

 

Shares issued as settlement of debt

 

50,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

188

 

 

 

 

 

 

 

 

 

188

 

Balance at June 30, 2014

 

37,438,429

 

 

 

7

 

 

 

100,000

 

 

 

100

 

 

 

754,600

 

 

 

(71

)

 

 

194,504

 

 

 

(161

)

 

 

(164,918

)

 

 

29,461

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(5,201

)

 

 

(5,201

)

Foreign currency translation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

32

 

 

 

 

 

 

32

 

Vesting of shares issued to employee

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

100

 

 

 

 

 

 

 

 

 

100

 

Vesting of options issued to employees

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

889

 

 

 

 

 

 

 

 

 

889

 

Vesting of restricted stock for services

 

45,375

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

172

 

 

 

 

 

 

 

 

 

172

 

Warrant exercised

 

300,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

375

 

 

 

 

 

 

 

 

 

375

 

Vesting of shares issued

 

37,783,804

 

 

 

7

 

 

 

100,000

 

 

 

100

 

 

 

754,600

 

 

 

(71

)

 

 

196,040

 

 

 

(129

)

 

 

(170,119

)

 

 

25,828

 

 

 

 

 

 

 

 

 

 

3


 

Mandalay Digital Group, Inc. and Subsidiaries

Consolidated Statements of Cash Flows (unaudited)

(In thousands)

 

 

6 Months Ended

 

 

6 Months Ended

 

 

September 30,

 

 

September 30,

 

 

2014

 

 

2013

 

Cash flows from operating activities

 

 

 

 

 

 

 

Net (loss)/income

$

(9,811

)

 

$

(11,908

)

Adjustments to reconcile net loss to net cash used in operating activities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Loss on disposal of discontinued operations, net of taxes

 

-

 

 

 

1,653

 

Depreciation and amortization

 

737

 

 

 

1,037

 

Amortization of debt discount

 

-

 

 

 

186

 

Interest and PIK interest accrued

 

-

 

 

 

36

 

Finance costs

 

-

 

 

 

1,869

 

Stock and Stock option compensation

 

1,807

 

 

 

410

 

Stock issued for services

 

248

 

 

 

1,803

 

Warrants issued for services

 

-

 

 

 

406

 

Revaluation of contingent liability

 

-

 

 

 

(603

)

Increase / (decrease) in fair value of derivative liabilities

 

-

 

 

 

811

 

 

 

 

 

 

 

 

 

(Increase) / decrease in assets, net of effect of disposal of subsidiary:

 

 

 

 

 

 

 

Accounts receivable

 

                         764

 

 

 

                       (1,011

)

Deposits

 

                          (62

)

 

 

                          515

 

Deferred tax assets

 

2,697

 

 

 

-

 

Prepaid expenses and other current assets

 

                              1

 

 

 

                           142

 

Increase / (decrease) in liabilities, net of effect of disposal of subsidiary:

 

 

 

 

 

 

 

Accounts payable

 

875

 

 

 

418

 

Accrued license fees

 

(1,022

)

 

 

2,607

 

Accrued compensation

 

442

 

 

 

151

 

Other liabilities and other items

 

(2,155

)

 

 

(2,415

)

 

 

 

 

 

 

 

 

Net cash used in operating activities

 

(5,479

)

 

 

(3,893

)

 

 

 

 

 

 

 

 

Cash flows from investing activities

 

 

 

 

 

 

 

Purchase of property and equipment

 

(6

)

 

 

(31

)

Settlement of contingent liability

 

11

 

 

 

-

 

Cash used in acquisition of subsidiary

 

-

 

 

 

(1,287

)

Cash acquired with acquisition of subsidiary

 

-

 

 

 

513

 

Net cash used in investing activities

 

5

 

 

 

(805

)

 

 

 

 

 

 

 

 

Cash flows from financing activities

 

 

 

 

 

 

 

Repayment of debt obligations

 

-

 

 

 

(3,657

)

Issuance of shares for cash

 

-

 

 

 

14,924

 

Warrant exercised

 

375

 

 

 

-

 

Net cash provided by financing activities

 

375

 

 

 

11,267

 

 

 

 

 

 

 

 

 

Effect of exchange rate changes on cash and cash equivalents

 

9

 

 

 

88

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

(5,090

)

 

 

6,657

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, beginning of period

 

21,805

 

 

 

1,149

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

$

16,715

 

 

$

7,806

 

 

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Taxes paid

$

-

 

 

$

-

 

 

 

 

 

 

 

 

 

Noncash investing and financing activities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of non-cash investing and financing activities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Contingency earn out on acquisition of subsidiary, net of discount

$

-

 

 

$

238

 

Common stock of the Company issued for acquisition of subsidiary

$

-

 

 

$

4,449

 

 

4


 

Mandalay Digital Group, Inc. and Subsidiaries

Notes to Unaudited Consolidated Financial Statements

(all numbers in thousands except share and per share amounts)

 

1. Organization

Mandalay Digital Group, Inc. (“we”, “us”, “our”, the “Company” or “Mandalay Digital”), formerly NeuMedia, Inc. (“NeuMedia”), formerly Mandalay Media, Inc. (“Mandalay Media”) and formerly Mediavest, Inc. (“Mediavest”), through its wholly-owned subsidiary, Digital Turbine USA, Inc. (“DT USA”), provides end to end mobile content solutions for wireless carriers and OEMs globally to enable them to better monetize their subscribers. The Company’s products include mobile application management through DT Ignite, user experience and discovery through DT IQ, application stores and content through DT Content and mobile payments through DT Pay. With global headquarters in Los Angeles, and offices throughout the U.S., Asia Pacific and EMEA, Mandalay Digital’s solutions are available worldwide.

The Company was originally incorporated in the State of Delaware on November 6, 1998 under the name eB2B Commerce, Inc. On April 27, 2000, it merged into DynamicWeb Enterprises Inc., a New Jersey corporation. On April 13, 2005, the Company changed its name to Mediavest, Inc. Through January 26, 2005, the Company and its former subsidiaries were engaged in providing business-to-business transaction management services designed to simplify trading between buyers and suppliers. The Company was inactive from January 26, 2005 until its merger with Twistbox Entertainment, Inc., on February 12, 2008. On September 14, 2007, Mediavest was re-incorporated in the State of Delaware. On November 7, 2007 the Company changed its name to Mandalay Media, Inc. On May 11, 2010, the Company merged with a wholly-owned, newly formed subsidiary, changing its name to NeuMedia, Inc. On February 6, 2012, the Company merged with a wholly-owned, newly formed subsidiary, changing its name to Mandalay Digital Group, Inc.

On October 23, 2008, the Company completed an acquisition of 100% of the issued and outstanding share capital of AMV Holding Limited, a United Kingdom private limited company (“AMV”), and 80% of the issued and outstanding share capital of Fierce Media Ltd (“Fierce”).

On May 10, 2010, an administrator was appointed over AMV in the UK, at the request of the Company’s senior debt holder. As from that date, AMV and its subsidiaries were considered to be a discontinued operation. AMV and its subsidiaries were subsequently disposed.

On May 11, 2010, Mandalay Media merged into NeuMedia, with NeuMedia as the surviving corporation.

On December 28, 2011 the Company entered into a Share Purchase Agreement to acquire the assets of Digital Turbine LLC through its newly formed wholly owned subsidiary, Digital Turbine, Inc. The Company purchased the Digital Turbine LLC assets with 10,000 shares of common stock of the Company, with a fair value of $30,500 on the date of grant. On September 19, 2014, the Company changed the name of Digital Turbine, Inc. to Digital Turbine USA, Inc.

On July 27, 2012, the Company formed a wholly-owned Israeli acquisition/holding company, Digital Turbine (EMEA) Ltd. (“DT EMEA”) (formerly M.D.G. Logia Holdings LTD).

On August 15, 2012, the Company amended its charter with the state of Delaware to increase the total number of shares of common stock of the Company to 200,000,000 and the total number of shares of preferred stock of the Company to 2,000,000.

On September 13, 2012, the Company completed an acquisition of 100% of the issued and outstanding share capital of three operating subsidiaries of Logia Group Ltd (“Sellers”) (Logia Content Development and Management Ltd. (“Logia Content”), Volas Entertainment Ltd. (“Volas”) and Mail Bit Logia (2008) Ltd. (“Mail Bit”), (collectively, the “Targets”). In addition, the Company, by assignment to the acquisition entity, Digital Turbine (EMEA) Ltd (“DT EMEA”) acquired the assets of LogiaDeck Ltd (an affiliate of the Seller, “LogiaDeck”), comprised of the “LogiaDeck” software, which the Company has rebranded “DT Ignite”, and certain operator and other contracts related to the business of the Targets that were originally entered into by the Sellers. Pursuant to the Logia purchase agreement, the Company purchased 23% of the outstanding shares of the Targets and DT EMEA purchased 77% of such shares. On November 7, 2012, the Company contributed all of its shares of the Targets to DT EMEA pursuant to a Contribution Agreement among the Company, DT USA and DT EMEA. The acquired business of the Targets and DT Ignite are collectively referred to as “DT EMEA” in this Quarterly Report on Form 10-Q.

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On March 28, 2013 and April 9, 2013, the Company filed a Certificate of Amendment and Certificate of Correction of Certificate of Amendment of its Certificate of Incorporation (the “Certificate of Amendment”), with the Secretary of State of the State of Delaware, to effect a 1-for-5 reverse stock split of the Company’s common stock (the “Reverse Stock Split”). The Certificate of Amendment, as corrected, became effective as of April 12, 2013.

As a result of the Reverse Stock Split, every five (5) shares of our pre-Reverse Stock Split common stock were combined and reclassified into one (1) share of our common stock. Our post-Reverse Stock Split common stock began trading on April 15, 2013 with a new CUSIP number of 562562-207. The Reverse Stock Split did not change the authorized number of shares or the par value of our common stock.

On April 12, 2013, the Company, through its indirect, wholly owned subsidiary organized under the laws of Australia, Digital Turbine Group Pty Ltd (“DT APAC”), acquired all of the issued and outstanding stock of Mirror Image International Holdings Pty Ltd (“MIAH”). MIAH owns direct or indirect subsidiaries Mirror Image Access (Australia) Pty Ltd (MIA), MIA Technology Australia Pty Ltd (MIATA) and MIA Technology IP Pty Ltd (together with the MIAH, the “MIA Group”). The acquired business of the MIA Group is referred to as “DT APAC” in this Quarterly Report on Form 10-Q.

On February 13, 2014, the Company sold 100% of the issued and outstanding share capital of Twistbox.

On March 17, 2014, the Company created a new entity in Singapore named Digital Turbine Singapore Pte. Ltd. (“DT Singapore”).

On October 8, 2014, the Company created a new entity in Luxembourg named Digital Turbine Luxembourg S.a r.l. (“DT Luxembourg”).  On October 9, 2014, DT Luxembourg, acquired certain intellectual property assets of Xyologic Mobile Analysis, GmbH, registered with the district court for Berlin Charlottenberg, Germany ("XYO"), related to mobile application (“app”) recommendation, search and discovery. In addition, DT Luxembourg acquired certain other assets of XYO related to its relationships with carriers.  The aggregate purchase price was US $2,500,000, paid in cash, subject to a twelve (12) month holdback of US $375,000, which acts as partial security for indemnities related to certain representations and warranties made by XYO and the Founders to DT Luxembourg in the Asset Purchase Agreement.

On October 13, 2014, the Company created a new entity in Germany named Digital Turbine Germany GmbH. (“DT Germany”).

 

 

2. Liquidity

The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of the Company as a going concern.

Our primary sources of liquidity have historically been issuance of common and preferred stock and convertible debt. In fiscal year 2014, the Company raised $33.3 million, through equity financings. Our current cash resources appear to be sufficient to fund our planned operations for at least the next twelve months.

Until we become cash flow positive, we anticipate that our primary sources of liquidity will be cash on hand. In addition, we may make acquisitions or license products and technologies complementary to our business and may need to raise additional capital through future debt or equity financing to provide for greater flexibility to fund any such acquisitions and licensing activities. Additional financing may not be available on acceptable terms or at all. If we issue additional equity securities to raise funds, the ownership percentage of our existing stockholders would be reduced. New investors may demand rights, preferences or privileges senior to those of existing holders of common stock.

In view of the matters described in the preceding paragraph, recoverability of a major portion of the recorded asset amounts shown in the accompanying consolidated balance sheet is dependent upon continued operations of the Company, which, in turn, is dependent upon the Company’s ability to generate positive cash flows from operations. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts and classifications of liabilities that might be necessary should the Company be unable to continue its existence.

 

 

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3. Acquisitions

DT APAC

On April 12, 2013, Mandalay Digital, through its indirect wholly owned subsidiary DT APAC, acquired all of the issued and outstanding stock of Mirror Image Australia Holdings, which directly or indirectly owns subsidiaries Mirror Image Access (Australia) Pty Ltd, MIA Technology Australia Pty Ltd and MIA Technology IP Pty Ltd.

The purpose of the DT APAC acquisition was an effort not only to build on the Company’s current distribution network, but to enhance its mobile content infrastructure with the IP acquired in the purchase.

The acquisition of DT APAC was capitalized through a combination of intercompany debt and the issuance of equity.

The purchase consideration for the transaction was comprised of cash, a note, and common stock of the Company, as follows:

(1)

At closing AUD 1,220 in cash, translated to $1,287 for U.S. GAAP reporting purposes;

 

(2)

Convertible Note payable of AUD 2,280, translated to $2,404;

 

(3)

Shares of common stock of the Company (the “Closing Shares”) equivalent to AUD 3,500, translated to $3,691 and under the agreement, converted to shares at $3.65 per share, or 1,011,164 shares of the common stock of the Company. The closing price of the stock on that day was $4.40 per share, for a total value of $4,449.

The Closing Shares are subject to a Registration Rights Agreement that provides for piggyback rights for 3 years and inclusion on the Company’s Form S-3 filed August 30, 2013, and subsequently made effective on October 31, 2013.

The following table summarizes the final fair values of the assets acquired and liabilities assumed at the date of acquisition.

 

 

Unaudited

 

Cash

$

513

 

Accounts receivable

 

2,809

 

Prepaid expenses and other assets

 

896

 

Property, plant and equipment

 

300

 

Customer relationships

 

1,600

 

Developed technology

 

3,400

 

Trade names / trademarks

 

54

 

Library

 

300

 

Goodwill

 

2,654

 

Accounts payable

 

(1,151

)

Accrued liabilities

 

(2,890

)

Accrued compensation

 

(345

)

Purchase price

$

8,140

 

 

In addition to the value assigned to the acquired workforce, the Company recorded the excess of the purchase price over the estimated fair value of the assets acquired as an increase in goodwill. This goodwill arises because the purchase price reflects the strategic fit and resulting synergies that the acquired business brings to the Company’s existing operations. In the fiscal year ended March 31, 2014, the Company recorded an impairment charge of $54 to write down trade names pursuant to its decision to rename and rebrand DT APAC. In the period ended June 30, 2014, the Company finalized the purchase price allocation of DT APAC, which resulted in an adjustment from intangibles to goodwill of $1,472.

 

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The amortization period for the intangible assets acquired in the DT APAC transaction is as follows:

 

 

Remaining

 

Useful Life

Customer relationships

14 years

Developed technology

5 years

Trade names / Trademarks

5 years

Library

5 years

Goodwill

Indefinite

 

 

4. Summary of Significant Accounting Policies

Basis of Presentation

The financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) for quarterly and annual financial statements. The financial statements, in the opinion of management, include all adjustments necessary for a fair statement of the results of operations, financial position and cash flows for each period presented.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and our wholly-owned subsidiaries. All material intercompany balances and transactions have been eliminated in consolidation.

Revenue Recognition

The Company’s revenues are derived primarily from transactions with the carriers’ customers (end users).  The Company shares revenue’s from the end user with the carrier.  The end user transactions are processed by the Company’s software services which are as follows: processing of content purchases through the use of our billing software (“DT Pay”), use or hosting of application management services (“DT Ignite”), managed services (“DT Content”), and cross-platform content management, recommendation, and search functionality (“DT IQ”). The Company’s products are sold mainly to wireless carriers. The licensed software enables the wireless carriers to market and deliver content and mobile applications to end users. The Company bills the wireless carrier based on monthly transactional reporting and other fees earned upon delivery of the product to the wireless carrier.

The Company utilizes its reporting system to capture and recognize revenue to carriers.  Determination of the appropriate amount of revenue recognized is based on the Company’s reporting system, but it is possible that actual results may differ from the Company’s estimates once the reports are reconciled with the customer. When the Company receives the final carrier reports, to the extent not received within a reasonable time frame following the end of each month, the Company records any differences between estimated revenues and actual revenues in the reporting period when the Company determines the actual amounts. Revenues earned from certain carriers may not be reasonably estimated. To monitor the reliability of the Company’s estimates, management, where possible, reviews the revenues by country, by carrier and by product line on a regular basis to identify unusual trends such the introduction of new handsets. If the Company deems a carrier not to be creditworthy, the Company defers all revenues from the arrangement until the Company receives payment and all other revenue recognition criteria have been met.

In accordance with FASB ASC 605-45, Reporting Revenue Gross as a Principal Versus Net as an Agent, the Company recognizes as revenues the amount the carrier reports as payable upon the sale of the Company’s products, images or games. The Company has evaluated its carrier agreements and has determined that it is the principal when selling its products, images or games through carriers. Key indicators that it evaluated to reach this determination include:

·

end users subscribe directly with the carriers, but the Company is responsible for providing the service and first level customer support including all interaction with regard to content delivery issues and are generally viewed as the primary obligor of the content by the subscribers;

·

carriers generally have control over the types of content that they offer to their subscribers, but the Company has the supplier relationships, manages all services offered and determines the actual offerings;

·

the Company has the credit risk, while carriers are directly responsible for billing and collecting fees from their subscribers. Customer refunds, bad debt allowances for uncollectible fees, and customer service fees are directly charged back to the Company;

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·

the Company has compliance risks, as it is required to be compliant with the carrier’s guidelines, policies and codes of conduct and the regulation applicable to mobile services. This includes requirements related to the supply of mobile premium services, such as the collection, storage and handling of personal information.

In addition to its share of revenues from end users, the Company may receive fees from the carriers relating to the initial set-up of the arrangements with the carriers. Set-up activities may include customization and future updates of the Ignite application. The Company has determined that certain set-up activities are within the scope of FASB ASC 985-605, Software Revenue Recognition and, accordingly, the Company applies the provisions of ASC 985-605 to the software components. As a result, the Company typically defers recognition of the set-up fee until all elements of the arrangement have been delivered. In those instances where the set-up fee covers ongoing support and maintenance, the fee is deferred and amortized over the term of the carrier agreement.

 

Net Loss per Common Share

Basic loss per common share is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding for the period. Diluted net loss per share is computed by dividing net loss attributable to common stockholders by the weighted average number of common shares outstanding for the period plus dilutive common stock equivalents, using the treasury stock method. Potentially dilutive shares from stock options and warrants and the conversion of the Series A preferred stock that were excluded from the shares used to calculate diluted earnings per share, as their inclusion would be anti-dilutive, were as follows:

 

 

Three Months Ended

 

 

Six Months Ended

 

 

September 30,

 

 

September 30,

 

 

2014

 

 

2013

 

 

2014

 

 

2013

 

Potentially dilutive shares

 

1,676,071

 

 

 

1,717,450

 

 

 

1,277,470

 

 

 

1,847,304

 

 

Comprehensive Loss

Comprehensive loss consists of two components, net loss and other comprehensive income. Other comprehensive income refers to gains and losses that under generally accepted accounting principles are recorded as an element of stockholders’ equity, but are excluded from net income. The Company’s other comprehensive income currently includes only foreign currency translation adjustments.

Cash and Cash Equivalents

The Company considers all highly liquid short-term investments purchased with a maturity of three months or less to be cash equivalents.

 

Restricted Cash

The Company maintains a restricted deposit account with its financial institution to secure its credit card program.

Accounts Receivable

The Company maintains reserves for potential credit losses on accounts receivable. Management reviews the composition of accounts receivable and analyzes historical bad debts, customer concentrations, customer credit worthiness, current economic trends and changes in customer payment patterns to evaluate the adequacy of these reserves.

Deposits

As of September 30, 2014, the Company has deposits of $86 comprised of facility and equipment lease deposits, as compared to $24 as of March 31, 2014.

Content Provider Licenses

Content Provider License Fees

The Company’s royalty expenses consist of fees that it pays to content owners for the use of their intellectual property in the distribution of music, games and other content services, and other expenses directly incurred in earning revenue. Royalty-based obligations are either accrued as incurred and subsequently paid, or, in the case of content acquisitions, paid in advance and

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capitalized on our balance sheet as prepaid license fees. These royalty-based obligations are expensed to cost of revenues either at the applicable contractual rate related to that revenue or over the estimated life of the content acquired. Minimum guarantee license payments that are not recoupable against future royalties are capitalized and amortized over the lesser of the estimated life of the branded title or the term of the license agreement.

Carrier Revenue Share

Revenues generated from advertising via direct Cost-Per-Install or CPI arrangements with application developers, or indirect arrangements through advertising aggregators (ad networks) are shared with the carrier and the shared revenue is recorded as a cost of goods sold.  In each case the revenue share with the carrier varies depending on the agreement with the carrier, and, in some cases, is based upon revenue tiers.

Content Acquired

Amounts paid to third party content providers as part of an agreement to make content available to the Company for a term or in perpetuity, without a revenue share, have been capitalized and are included in the balance sheet as prepaid expenses. These balances will be expensed over the estimated life of the content acquired.

Software Development Costs

The Company applies the principles of FASB ASC 985-20, Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed (“ASC 985-20”). ASC 985-20 requires that software development costs incurred in conjunction with product development be charged to research and development expense until technological feasibility is established. Thereafter, until the product is released for sale, software development costs must be capitalized and reported at the lower of unamortized cost or net realizable value of the related product.

The Company has adopted the “tested working model” approach to establishing technological feasibility for its products. Under this approach, the Company does not consider a product in development to have passed the technological feasibility milestone until the Company has completed a model of the product that contains essentially all the functionality and features of the final product and has tested the model to ensure that it works as expected. To date, the Company has not incurred significant costs between the establishment of technological feasibility and the release of a product for sale; thus, the Company has expensed all software development costs as incurred. The Company considers the following factors in determining whether costs can be capitalized: the emerging nature of the mobile market; the gradual evolution of the wireless carrier platforms and mobile phones for which it develops products; the lack of pre-orders or sales history for its products; the uncertainty regarding a product’s revenue-generating potential; its lack of control over the carrier distribution channel resulting in uncertainty as to when, if ever, a product will be available for sale; and its historical practice of canceling products at any stage of the development process.

Product Development Costs

The Company charges costs related to research, design and development of products to product development expense as incurred. The types of costs included in product development expenses include salaries, contractor fees and allocated facilities costs.

Advertising Expenses

The Company expenses the costs of advertising the first time the advertising takes place. Advertising expense for continuing operations was $248 and $77 in the six months ended September 30, 2014 and 2013, respectively. Advertising expense for discontinued operations was $0 and $4 for the six months ended September 30, 2014 and 2013, respectively.

Presentation

In order to facilitate the comparison of financial information, certain amounts reported in the prior year have been reclassified to conform to the current year presentation.

Fair Value of Financial Instruments

As of September 30, 2014 and March 31, 2014, the carrying value of cash and cash equivalents, accounts receivable, prepaid expenses and other current assets, accounts payable, accrued license fees, accrued compensation and other current liabilities approximates fair value due to the short-term nature of such instruments.

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Foreign Currency Translation

The Company uses the United States dollar for financial reporting purposes. Assets and liabilities of foreign operations are translated using current rates of exchange prevailing at the balance sheet date. Equity accounts have been translated at their historical exchange rates when the capital transaction occurred. Statement of Operations amounts are translated at average rates in effect for the reporting period. The foreign currency translation adjustment gains of $70 and $438 in the six months ended September 30, 2014 and 2013, respectively, have been reported as a component of comprehensive loss in the consolidated statements of stockholders’ equity and comprehensive loss.

Concentrations of Credit Risk

Financial instruments which potentially subject us to concentration of credit risk consist principally of cash and cash equivalents, and accounts receivable. We have placed cash and cash equivalents at high credit-quality institutions. Most of our sales are made directly to large national mobile phone carriers in the countries that we operate. We have a significant level of business and resulting significant accounts receivable balance with one operator and therefore have a high concentration of credit risk with that operator. We perform ongoing credit evaluations of our customers and maintain an allowance for potential credit losses. As of September 30, 2014, three major customers represented approximately 41.3%, 12.7% and 11.5% of our gross accounts receivable outstanding, and 49.1%, 13.4% and 7.3% of our gross accounts receivable outstanding as of March 31, 2014, respectively. These three customers accounted for 58.5%, 14.9% and 3.5% of our gross revenues during the six month period ended September 30, 2014 and 38.5%, 25.5% and 3.9% of our gross revenues during the six month period ended September 30, 2013.

Property and Equipment

Property and equipment is stated at cost. Depreciation and amortization is calculated using the straight-line method over the estimated useful lives of the related assets. Estimated useful lives are the lesser of 8 to 10 years or the term of the lease for leasehold improvements and 3 or 5 years for other assets.

Goodwill and Indefinite Life Intangible Assets

Goodwill represents the excess of cost over fair value of net assets of businesses acquired. In accordance with FASB ASC 350-20 Goodwill and Other Intangible Assets, the value assigned to goodwill and indefinite lived intangible assets is not amortized to expense, but rather they are evaluated at least on an annual basis to determine if there are potential impairments. If the fair value of the reporting unit is less than its carrying value, an impairment loss is recorded to the extent that the implied fair value of the reporting unit goodwill is less than the carrying value. If the fair value of an indefinite lived intangible is less than its carrying amount, an impairment loss is recorded. Fair value is determined based on discounted cash flows, market multiples or appraised values, as appropriate. Discounted cash flow analysis requires assumptions about the timing and amount of future cash inflows and outflows, risk, the cost of capital, and terminal values. Each of these factors can significantly affect the value of the intangible asset. The estimates of future cash flows, based on reasonable and supportable assumptions and projections, require management’s judgment. Any changes in key assumptions about the Company’s businesses and their prospects, or changes in market conditions, could result in an impairment charge. Some of the more significant estimates and assumptions inherent in the intangible asset valuation process include: the timing and amount of projected future cash flows; the discount rate selected to measure the risks inherent in the future cash flows; and the assessment of the asset’s life cycle and the competitive trends impacting the asset, including consideration of any technical, legal or regulatory trends.

In the year ended March 31, 2014, the Company determined that there was no impairment of goodwill. In performing the related valuation analysis, the Company used various valuation methodologies including probability weighted discounted cash flows, comparable transaction analysis, and market capitalization and comparable company multiple comparison. There were no indications of impairment present during the period ended September 30, 2014.

Impairment of Long-Lived Assets and Finite Life Intangibles

Long-lived assets, including, intangible assets subject to amortization primarily consist of customer lists, license agreements and software that have been acquired are amortized using the straight-line method over their useful life ranging from five to eight years and are reviewed for impairment in accordance with FASB ASC 360-10, Accounting for the Impairment or Disposal of Long-Lived Assets, whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.

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In the year ended March 31, 2014, the Company determined that there was an impairment of intangible assets of $154 related to the change in trade names as the Company has rebranded its acquisitions, DT EMEA and DT APAC, under the Digital Turbine name. In performing the related valuation analysis the Company used various valuation methodologies including probability weighted discounted cash flows, comparable transaction analysis, and market capitalization and comparable company multiple comparison. There were no indications of impairment present during the period ended September 30, 2014,

Income Taxes

The Company accounts for income taxes in accordance with FASB ASC 740-10, Accounting for Income Taxes (“ASC 740-10”), which requires recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in its financial statements or tax returns. Under ASC 740-10, the Company determines deferred tax assets and liabilities for temporary differences between the financial reporting basis and the tax basis of assets and liabilities along with net operating losses, if it is more likely than not the tax benefits will be realized using the enacted tax rates in effect for the year in which it expects the differences to reverse. To the extent a deferred tax asset cannot be recognized, a valuation allowance is established if necessary.

ASC 740-10 prescribes that a company should use a more-likely-than-not recognition threshold based on the technical merits of the tax position taken. Tax positions that meet the “more-likely-than-not” recognition threshold should be measured as the largest amount of the tax benefits, determined on a cumulative probability basis, which is more likely than not to be realized upon ultimate settlement in the financial statements. We recognize interest and penalties related to income tax matters as a component of the provision for income taxes. We do not currently anticipate that the total amount of unrecognized tax benefits will significantly change within the next 12 months.

Stock-based Compensation

We have applied FASB ASC 718 Share-Based Payment (“ASC 718”) and accordingly, we record stock-based compensation expense for all of our stock-based awards.

Under ASC 718, we estimate the fair value of stock options granted using the Black-Scholes option pricing model. The fair value for awards that are expected to vest is then amortized on a straight-line basis over the requisite service period of the award, which is generally the option vesting term. The amount of expense recognized represents the expense associated with the stock options we expect to ultimately vest based upon an estimated rate of forfeitures; this rate of forfeitures is updated as necessary and any adjustments needed to recognize the fair value of options that actually vest or are forfeited are recorded.

The Black-Scholes option pricing model, used to estimate the fair value of an award, requires the input of subjective assumptions, including the expected volatility of our common stock, interest rates, dividend rates and an option’s expected life. As a result, the financial statements include amounts that are based upon our best estimates and judgments relating to the expenses recognized for stock-based compensation.

In the past the Company granted restricted stock subject to market or performance conditions that vest based on the satisfaction of the conditions of the award. Unvested restricted stock entitles the grantees to dividends, if any, with voting rights determined in each agreement. The fair market values of market condition-based awards are determined using the Monte Carlo simulation method. The Monte Carlo simulation method is subject to variability as several factors utilized must be estimated, including the derived service period, which is estimated based on the Company’s judgment of likely future performance and the Company’s stock price volatility. The fair value of performance-based awards is determined using the market closing price on the grant date. Derived service periods and the periods charged with compensation expense for performance-based awards are estimated based on the Company’s judgment of likely future performance and may be adjusted in future periods depending on actual performance.

Preferred Stock

The Company applies the guidance enumerated in FASB ASC 480-10, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (“ASC 480-10”) when determining the classification and measurement of preferred stock. Preferred shares subject to mandatory redemption (if any) are classified as liability instruments and are measured at fair value in accordance with ASC 480-10. All other issuances of preferred stock are subject to the classification and measurement principles of ASC 480-10. Accordingly, the Company classifies conditionally redeemable preferred shares (if any), which includes preferred shares that feature redemption rights that are either within the control of the holder or subject to redemption upon the occurrence of uncertain events not solely within the Company’s control, as temporary equity. At all other times, the Company classifies its preferred shares in stockholders’ equity.

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Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent asset and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the period. Actual results could differ from those estimates. The most significant estimates relate to revenues for periods not yet reported by carriers, accounts receivable allowances, and stock-based compensation expense.

Recently Issued Accounting Pronouncements

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The new standard is effective as of the first interim period within annual reporting periods beginning on or after December 15, 2016, and will replace most existing revenue recognition guidance in U.S. GAAP. Early application is not permitted. The standard permits the use of either the retrospective or cumulative effect transition method. We are evaluating the effect that ASU 2014-09 will have on our consolidated financial statements and related disclosures. We have not yet selected a transition method or determined the effect of the standard on our financial position, results of operations, cash flows, or presentation thereof.

In April 2014, the FASB issued ASU 2014-08, Presentation of Financial Statements and Property, Plant, and Equipment: Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. ASU 2014-08 limits the requirement to report discontinued operations to disposals of components of an entity that represent strategic shifts that have (or will have) a major effect on an entity’s operations and financial results. The amendments also require expanded disclosures concerning discontinued operations and disclosures of certain financial results attributable to a disposal of a significant component of an entity that does not qualify for discontinued operations reporting. These amendments are effective prospectively for reporting periods beginning on or after December 15, 2014, with early adoption permitted. The adoption of this ASU is not expected to have a material impact on our financial position, results of operations, cash flows, or presentation thereof.

Other authoritative guidance issued by the FASB (including technical corrections to the FASB Accounting Standards Codification), the American Institute of Certified Public Accountants, and the SEC did not, or are not expected to have a material effect on the Company’s consolidated financial statements.

 

5. Fair Value Measurements

The Company applies the provisions of ASC 820-10, “Fair Value Measurements and Disclosures.” ASC 820-10 defines fair value, and establishes a three-level valuation hierarchy for disclosures of fair value measurement that enhances disclosure requirements for fair value measures. The carrying amounts reported in the consolidated balance sheets for receivables and current liabilities each qualify as financial instruments and are a reasonable estimate of their fair values because of the short period of time between the origination of such instruments and their expected realization and their current market rate of interest. The three levels of valuation hierarchy are defined as follows:

·

Level 1 inputs to the valuation methodology are quoted prices for identical assets or liabilities in active markets.

·

Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

·

Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The Company analyzes all financial instruments with features of both liabilities and equity under ASC 480, “Distinguishing Liabilities From Equity” and ASC 815, “Derivatives and Hedging.” Derivative liabilities are adjusted to reflect fair value at each period end, with any increase or decrease in the fair value being recorded in results of operations as adjustments to fair value of derivatives. The effects of interactions between embedded derivatives are calculated and accounted for in arriving at the overall fair value of the financial instruments. In addition, the fair values of freestanding derivative instruments such as warrant and option derivatives are valued using the Black-Scholes model.

The Company identified the following liabilities that are required to be presented on the balance sheet at fair value:

 

Contingent liabilities

 

 

 

 

 

 

 

 

 

 

 

(in thousands)

Total

 

 

Level 1