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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 March 31, 2002
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 0-24218
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 95-4782077
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
135 North Los Robles Avenue, Suite 800, Pasadena, California 91101
(Address of principal executive offices including zip code)
(626) 792-5700
(Registrant's telephone number, including area code)
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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 [X] No [_]
As of March 31, 2002, there were outstanding 414,881,000 shares of the
registrant's Common Stock, par value $0.01 per share.
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GEMSTAR-TV GUIDE INTERNATIONAL, INC.
INDEX
PART I. FINANCIAL INFORMATION Page
----
Item 1. Consolidated Financial Statements - Unaudited
Condensed Consolidated Balance Sheets.................................................... 1
Condensed Consolidated Statements of Operations.......................................... 2
Condensed Consolidated Statements of Stockholders' Equity................................ 3
Condensed Consolidated Statements of Cash Flows.......................................... 4
Notes to Condensed Consolidated Financial Statements..................................... 5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.... 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk............................... 30
PART II. OTHER INFORMATION
Item 1. Legal Proceedings........................................................................ 30
Item 6. Exhibits and Reports on Form 8-K......................................................... 31
Signature......................................................................................... 32
Items 2, 3, 4 and 5 of PART II are not applicable and have been omitted.
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS - UNAUDITED
(In thousands, except per share data)
March 31, December 31,
2002 2001
---------- -----------
ASSETS
------
Current assets:
Cash and cash equivalents.......................................... $ 413,700 $ 349,250
Marketable securities.............................................. 17,694 42,212
Receivables, net................................................... 374,049 392,717
Deferred tax asset................................................. 19,081 14,957
Other current assets............................................... 34,609 38,391
---------- ----------
Total current assets.......................................... 859,133 837,527
Property and equipment, net............................................. 82,552 87,950
Intangible assets, net.................................................. 8,222,456 8,618,544
Marketable securities and other investments............................. 120,398 116,732
Other assets............................................................ 26,502 25,888
---------- ----------
$9,311,041 $9,686,641
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable and accrued expenses.............................. $ 290,775 $ 285,642
Current portion of long-term debt and capital lease obligations.... 69,737 62,201
Current portion of deferred revenue................................ 244,784 261,082
---------- ----------
Total current liabilities..................................... 605,296 608,925
Deferred tax liability.................................................. 990,494 1,127,933
Long-term debt and capital lease obligations, less current portion...... 233,002 271,029
Deferred revenue, less current portion.................................. 110,206 121,330
Other liabilities....................................................... 6,631 6,286
Stockholders' equity:
Preferred stock, par value $.01 per share.......................... -- --
Common stock, par value $.01 per share............................. 4,180 4,179
Additional paid-in capital......................................... 8,365,487 8,360,289
Accumulated deficit................................................ (979,860) (771,879)
Accumulated other comprehensive income, net of tax................. 18,511 18,380
Unearned compensation.............................................. (8,063) (24,988)
Treasury stock, at cost............................................ (34,843) (34,843)
---------- ----------
Total stockholders' equity.................................... 7,365,412 7,551,138
---------- ----------
$9,311,041 $9,686,641
========== ==========
See accompanying Notes to Condensed Consolidated Financial Statements.
1
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS - UNAUDITED
(In thousands, except per share data)
Three Months Ended
March 31,
2002 2001
--------- ---------
Revenues..................................................... $ 296,587 $ 342,199
Operating expenses:
Operating expenses, excluding stock compensation and
depreciation and amortization......................... 194,494 222,225
Stock compensation...................................... 16,925 9,145
Depreciation and amortization........................... 116,362 238,568
--------- ---------
327,781 469,938
--------- ---------
Operating loss............................................... (31,194) (127,739)
Interest expense............................................. (2,624) (11,551)
Other (expense) income, net.................................. (3,678) 1,874
--------- ---------
Loss before income taxes and cumulative effect
of an accounting change.................................... (37,496) (137,416)
Income tax benefit........................................... (17,282) (14,176)
--------- ---------
Loss before cumulative effect of an accounting change........ (20,214) (123,240)
Cumulative effect of an accounting change, net of tax........ (187,767) --
--------- ---------
Net loss..................................................... $(207,981) $(123,240)
========= =========
Basic and diluted loss per share:
Loss before cumulative effect of an accounting change... $ (0.05) $ (0.30)
Cumulative effect of an accounting change, net of tax... (0.45) --
--------- ---------
Net loss................................................ $ (0.50) $ (0.30)
========= =========
Weighted average shares outstanding.......................... 414,785 411,197
Dilutive effect of stock options............................. -- --
--------- ---------
Weighted average shares outstanding, assuming dilution....... 414,785 411,197
========= =========
See accompanying Notes to Condensed Consolidated Financial Statements.
2
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY - UNAUDITED
(In thousands)
Three Months Ended
March 31,
2002 2001
---------- ----------
Balance at beginning of period............................................... $7,551,138 $8,055,963
Net loss..................................................................... (207,981) (123,240)
Other comprehensive income (loss)............................................ 131 (11,079)
---------- ----------
Comprehensive loss........................................................... (207,850) (134,319)
Other, principally shares issued pursuant to stock option plans, including
tax benefit, and amortization of unearned compensation..................... 22,124 13,619
---------- ----------
$7,365,412 $7,935,263
========== ==========
See accompanying Notes to Condensed Consolidated Financial Statements.
3
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - UNAUDITED
(In thousands)
Three Months Ended
March 31,
2002 2001
--------- ---------
Cash flows from operating activities:
Net loss.............................................................. $(207,981) $(123,240)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Cumulative effect of an accounting change, net of tax............. 187,767 --
Depreciation and amortization..................................... 116,362 238,568
Deferred income taxes............................................. (30,727) (45,676)
Tax benefit associated with stock options......................... 4,665 2,560
Stock compensation expense........................................ 16,925 9,145
Changes in operating assets and liabilities:
Receivables................................................... 18,668 12,194
Other assets.................................................. 4,083 3,574
Accounts payable, accrued expenses and other liabilities...... 9,102 4,956
Deferred revenue.............................................. (27,107) (26,097)
--------- ---------
Net cash provided by operating activities................. 91,757 75,984
--------- ---------
Cash flows from investing activities:
Investments and acquisitions.......................................... -- (8,509)
Purchases of marketable securities.................................... (6,549) (38,084)
Sales and maturities of marketable securities......................... 26,693 38,661
Additions to property, plant and equipment............................ (2,359) (6,087)
Additions to intangible assets........................................ (10,483) (4,857)
--------- ---------
Net cash provided by (used in) investing activities....... 7,302 (18,876)
--------- ---------
Cash flows from financing activities:
Repayments of bank credit facilities
and capital lease obligations..................................... (30,491) (21,048)
Proceeds from exercise of stock options............................... 533 1,914
Distributions to minority interests................................... (4,630) (3,670)
--------- ---------
Net cash used in financing activities..................... (34,588) (22,804)
--------- ---------
Effect of exchange rate changes on cash and cash equivalents.............. (21) (223)
--------- ---------
Net increase in cash and cash equivalents................. 64,450 34,081
Cash and cash equivalents at beginning of period.......................... 349,250 488,046
--------- ---------
Cash and cash equivalents at end of period................................ $ 413,700 $ 522,127
========= =========
Supplemental disclosures of cash flow information:
Cash paid for income taxes............................................ $ 4,850 $ 16,861
Cash paid for interest................................................ 2,585 13,379
See accompanying Notes to Condensed Consolidated Financial Statements.
4
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED
MARCH 31, 2002
(1) Organization and Basis of Presentation
Gemstar-TV Guide International, Inc. ("Gemstar" or together with its
consolidated subsidiaries, the "Company") is a leading global technology and
media company focused on consumer entertainment.
The accompanying interim financial statements are unaudited but, in the
opinion of management, reflect all adjustments (consisting of normal recurring
accruals) necessary for a fair presentation of the consolidated financial
position of the Company and its results of operations and cash flows for such
periods. Operating results for any interim period are not necessarily indicative
of the results that may be expected for the full year.
Certain financial statement items for prior periods have been reclassified
to conform with the 2002 presentation. See Note 2.
These condensed consolidated financial statements should be read in
conjunction with the historical consolidated financial statements and notes
thereto included in the Company's Annual Report on Form 10-K for the year ended
December 31, 2001.
(2) Reclassification - Cooperative Advertising and Product Placement Costs
In November 2001, the Financial Accounting Standards Board's ("FASB's")
Emerging Issues Task Force ("EITF") reached a consensus on EITF Issue No. 01-09,
Accounting for Consideration Given by a Vendor to a Customer (Including a
Reseller of the Vendor's Products). EITF No. 01-09, which is effective for
periods commencing after December 31, 2001, clarifies the income statement
classification of costs incurred by a vendor for certain cooperative advertising
and product placement paid to a vendor's customers. As a result of the EITF
consensus, certain of the Company's cooperative advertising and product
placement costs previously classified as operating expenses have been reflected
as a reduction of revenues earned from that activity. Where applicable, amounts
presented in prior periods have been reclassified to comply with the income
statement classifications for the current period. Approximately $10.3 million of
cooperative advertising and product placement costs previously classified as
expenses have been reflected as a reduction of revenues in the income statement
for the three months ended March 31, 2001.
(3) Accounting Change - Goodwill and Intangible Assets
The Company adopted Statement of Financial Accounting Standards ("SFAS")
No. 142, Goodwill and Other Intangible Assets ("Statement 142") effective
January 1, 2002. Under Statement 142, goodwill and certain other intangible
assets are no longer systematically amortized but instead are reviewed for
impairment annually and any excess in carrying value over the estimated fair
value is charged to results of operations. The previous method for determining
impairment prescribed by SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and Long-Lived Assets to be Disposed of, utilized an
undiscounted cash flow approach for the initial impairment assessment, while
Statement 142 utilizes a fair value approach. The indefinite lived intangible
asset impairment charge and the expected goodwill impairment charge discussed
below are the result of the change in the accounting method for determining the
impairment of goodwill and certain intangible assets.
In connection with the adoption of Statement 142, management has determined
that certain of the Company's trademarks and trade names and the Company's
publishing rights have indefinite useful lives. Pursuant to the transitional
rules of Statement 142, management has performed an impairment test of these
assets, which resulted in an impairment charge of $297.8 million ($187.8
million, net of tax, or $(0.45) per diluted share). This charge has been
recorded as the cumulative effect of an accounting change in the accompanying
condensed consolidated statement of operations for the three months ended March
31, 2002. The impairment charge represents the excess of the carrying amount of
a trademark over its estimated fair value as determined by management, with the
assistance of outside valuation experts, utilizing the relief from royalty
valuation method. This method estimates the benefit to the Company resulting
from owning rather than licensing the trademark. The pre-tax charge impacted the
Company's segments as follows: Technology and Licensing $133.9 million;
Interactive Platform $129.8 million; and Media and Services $34.1 million.
5
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(3) Accounting Change - Goodwill and Intangible Assets (continued)
Additionally, the Company has completed the first step of the transitional
goodwill impairment test under Statement 142, which requires the Company to
compare the fair value of its reporting units to the carrying value of the net
assets of the respective reporting units. The amount of the impairment charge
cannot be reliably determined at March 31, 2002 because the second step of the
transitional impairment test has not been completed. The Company is required to
complete the second step of the transitional impairment test by the end of the
2002 fiscal year. However, based on the analysis performed to date, management
expects that the impairment charge will be approximately $5 billion. When
recorded, this charge will also be reflected as the cumulative effect of an
accounting change in the first quarter of 2002. The carrying value of goodwill
at March 31, 2002 was $5.5 billion.
Prior to the adoption of Statement 142, the Company amortized goodwill and
indefinite lived intangible assets over their estimated useful lives ranging
from 5 to 40 years. Had the Company accounted for goodwill and indefinite lived
intangible assets consistent with the provisions of Statement 142 in prior
periods, the Company's net loss would have been affected as follows (in
thousands, except per share data):
Three Months Ended
March 31,
------------------------
2002 2001
---------- ----------
Reported loss before cumulative effect of an accounting change ................... $ (20,214) $ (123,240)
Add back: Goodwill amortization ................................................. -- 113,125
Add back: Indefinite lived intangible assets amortization, net of tax ........... -- 6,251
---------- ----------
Adjusted loss before cumulative effect of an accounting change ................... $ (20,214) $ (3,864)
========== ==========
Basic and diluted loss per share before cumulative effect of an accounting
change:
Reported ............................................................... $ (0.05) $ (0.30)
Add back: Goodwill amortization ....................................... -- 0.28
Add back: Indefinite lived intangible assets amortization, net of tax -- 0.02
---------- ----------
Adjusted basic and diluted loss per share before cumulative effect of an
accounting change .................................................... $ (0.05) $ 0.00
========== ==========
Changes in the carrying amount of goodwill and intangible assets with
indefinite lives for the three months ended March 31, 2002 and 2001 are as
follows (in thousands):
Three Months Ended March 31,
--------------------------------------------------------------------------
2002 2001
--------------------------------------------------------------------------
Trademark Trademark
and Trade Publishing and Trade Publishing
Goodwill Name Rights Goodwill Name Rights
---------- --------- -------- ---------- -------- --------
Balance at beginning of quarter ................ $5,485,807 $ 653,018 $240,407 $5,901,967 $662,613 $259,398
Current period additions and adjustments to
preliminary purchase price allocation ........ -- -- -- (51,339) 14 --
Amortization expense ........................... -- -- -- (113,125) (4,247) (5,667)
Transitional impairment charge ................. -- (297,807) -- -- -- --
---------- --------- -------- ---------- -------- --------
Balance at end of quarter ............... $5,485,807 $ 355,211 $240,407 $5,737,503 $658,380 $253,731
========== ========= ======== ========== ======== ========
6
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(3) Accounting Change - Goodwill and Intangible Assets (continued)
In conjunction with the adoption of Statement 142, the Company reassessed
the useful lives and residual values of its finite-lived intangible assets
acquired in purchase business combinations and determined that no revisions were
necessary. Intangible assets with finite lives at March 31, 2002 and December
31, 2001 are as follows (in thousands):
Accumulated Amortization
Cost Amortization Net Balance Period (Years)
---------- ------------ ----------- --------------
March 31, 2002
- --------------
Intangible assets with finite lives:
Contracts ....................................... $1,932,000 $ (333,242) $1,598,758 5-10
Customer lists .................................. 722,781 (369,559) 353,222 3-5
Patents ......................................... 228,480 (40,810) 187,670 5-15
Other ........................................... 2,072 (691) 1,381 5
---------- ---------- ----------
Total finite-lived intangible assets ................. $2,885,333 $ (744,302) $2,141,031
========== ========== ==========
December 31, 2001
- -----------------
Intangible assets with finite lives:
Contracts ....................................... $1,932,000 $ (284,742) $1,647,258 5-10
Customer lists .................................. 722,781 (315,004) 407,777 3-5
Patents ......................................... 217,961 (35,136) 182,825 5-15
Other ........................................... 2,041 (589) 1,452 5
---------- ---------- ----------
Total finite-lived intangible assets ................. $2,874,783 $ (635,471) $2,239,312
========== ========== ==========
Amortization expense was $108.8 million and $228.8 million for the three
months ended March 31, 2002 and 2001, respectively. Estimated amortization
expense for the remainder of 2002 and the succeeding five years is expected to
be as follows: $320.5 million - 2002 (remainder); $344.7 million - 2003; $248.3
million - 2004; $231.8 million - 2005; $212.6 million - 2006; and $207.4 million
- - 2007.
(4) Business Combinations
SkyMall Transaction
On July 18, 2001, the Company acquired all of the outstanding common stock
of SkyMall. Under the terms of the agreement, SkyMall's stockholders received
0.03759 shares of Gemstar common stock and $1.50 for each share of SkyMall
common stock outstanding. The condensed consolidated financial statements
include the results of operations of SkyMall from July 18, 2001. SkyMall is a
specialty retailer that provides a large selection of premium-quality products
and services to consumers from a wide variety of merchants and partners.
Gemstar's principal reasons for the merger were as follows:
. T-commerce and e-commerce are major aspects of Gemstar's interactive TV
strategy. With the acquisition of SkyMall, Gemstar obtained back-office
infrastructure and fulfillment capacities to support and accelerate
Gemstar's t-commerce and e-commerce platforms.
. SkyMall's business model, which leverages the fulfillment
infrastructure of other merchants and thereby minimizes inventory,
represents a model on which Gemstar can build out and expand its
t-commerce and e-commerce strategies across its various media
properties.
. The acquisition of SkyMall affords Gemstar the opportunity to extend
the SkyMall brand and leverage its relationships with airlines and
premium merchants. Gemstar expects to leverage these relationships by
extending SkyMall's sales channels to Gemstar's portfolio of media
properties.
7
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(4) Business Combinations (continued)
. SkyMall's access to a majority of domestic airline seats provides
Gemstar with a captive audience with an upscale demographic--airline
passengers. Gemstar believes that SkyMall provides Gemstar with a
unique opportunity to expose this demographic to Gemstar's various
media products, services and platforms, including its Gemstar eBook
offerings.
The aggregate purchase price of the SkyMall Transaction was $50.1 million,
which included cash of $22.2 million and approximately 741,000 shares of Gemstar
common stock issued to SkyMall stockholders at $36.58 per share, the average
price of the Company's common stock over the two-day period before and after the
SkyMall Transaction was agreed to and announced.
The purchase price also included $742,000, representing the fair value of
unexercised SkyMall options and warrants assumed by Gemstar and certain
transaction costs.
The following table summarizes the estimated fair values of the assets
acquired and liabilities assumed at the date of acquisition (in thousands). The
Company is in the process of finalizing the allocation of the purchase price,
which is subject to adjustment; however, the Company does not expect any
significant adjustments to the reported amounts as a result of the final
purchase price allocation. The preliminary purchase price allocation includes
$1.3 million in provisions for exit and separation costs, all of which were
included in liabilities at March 31, 2002 and December 31, 2001. The Company
expects the provisions for exit and separation costs to be expended during 2002.
Assets
Current assets .......................... $ 8,464
Property and equipment .................. 7,207
Intangible assets ....................... 7,700
Other assets ........................... 23
Goodwill ................................ 62,474
---------
85,868
Liabilities:
Current liabilities ..................... 35,780
---------
Net purchase price ........................... $ 50,088
=========
The Company allocated $7.7 million of the purchase price to the fair value
of the acquired trade name. The trade name is considered an indefinite lived
intangible asset and is not subject to amortization.
The Company allocated $62.5 million of goodwill to its applicable reporting
unit in accordance with Statement 142. Goodwill generated in this transaction is
not subject to amortization in accordance with Statement 142 and is not
deductible for tax purposes.
The following unaudited pro forma financial information reflects the
Company's results of operations for the three months ended March 31, 2001 as
though the SkyMall transaction had been completed as of January 1, 2001 (in
thousands, except per share amounts):
Three Months Ended
March 31,
2002 2001
---- ----
Revenues .................................. $296,587 $353,209
Net loss .................................. (207,981) (123,713)
Basic and diluted loss per share .......... (0.50) (0.30)
8
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(4) Business Combinations (continued)
TV Guide Transaction
For the three months ended March 31, 2002, approximately $7.8 million ($7.3
million in third-party contract termination costs and $520,000 in separation
costs) has been charged against the reserve for third-party contract termination
and separation costs included in the purchase price allocation from the TV Guide
Transaction. The reserve had an outstanding balance of $14.9 million at December
31, 2001. See the Company's Annual Report on Form 10-K for the year ended
December 31, 2001 for a description of the transaction. The Company expects that
the remaining reserve for third-party contract termination and separation costs
of $7.1 million will be expended during 2002.
WGN Superstation Transaction
In April 2001, the Company sold the business that distributes the WGN
Superstation signal for approximately its net book value.
(5) Receivables
At March 31, 2002, approximately $221.4 million, or 59%, of the Company's
receivables are due from five entities, inclusive of $113.5 million due from
Scientific-Atlanta. See Note 7.
(6) Credit Arrangements
The Company's wholly owned subsidiary, TV Guide, has a $300 million
six-year revolving credit facility and a $300 million four-year amortizing term
loan, both expiring in February, 2005 with a group of banks. Borrowings under
the credit facilities bear interest (2.9% at March 31, 2002) either at the
banks' prime rate or LIBOR, both plus a margin based on a sliding scale tied to
TV Guide's leverage ratio, as defined in the facility. The credit facilities are
guaranteed by certain subsidiaries of TV Guide and the stock of TV Guide's
subsidiaries is pledged as collateral. The credit facilities impose restrictions
on TV Guide's ability to pay dividends to Gemstar tied to TV Guide's leverage
ratio. This restriction does not apply to Gemstar's ability to pay dividends. As
of March 31, 2002, TV Guide had available borrowing capacity under the six-year
revolving credit facility of $161.4 million. Principal payments of $45 million
in the remainder of 2002, $90 million in 2003 and $23 million in 2004 are due
under the $300 million amortizing term loan. Outstanding borrowings under both
credit facilities at March 31, 2002 were $296.4 million. Outstanding letters of
credit issued under the credit facilities at March 31, 2002 were $200,000.
(7) Legal Proceedings
The following is a description of lawsuits known to the Company that have
been filed subsequent to the Company's December 31, 2001 10-K filing and
lawsuits that have undergone significant changes since that filing.
In April and May 2002, the Company and its principal executive officers and
directors were served with a number of complaints, filed in the United States
District Court for the Central District of California, alleging violations of
the Securities Exchange Act of 1934 (the "1934 Act") and the Securities Act of
1933 (the "1933 Act"). Also named in several of the complaints is The News
Corporation Limited ("News Corp."), a shareholder of the Company. The fifteen
complaints name some or all of the same parties as defendants, and purport to
state claims on behalf of all persons who purchased the Company's common stock
during various periods, the broadest of which is August 11, 1999 through April
4, 2002. More particularly, the alleged claims are brought under Section 10(b)
and 20(a) of the 1934 Act, Section 11 of the 1933 Act and SEC Rule 10b-5. The
essence of the allegations is that the defendants allegedly intentionally failed
to properly account for revenue accrued from Scientific-Atlanta; for a
non-monetary transaction, pursuant to which intellectual property rights were
obtained in exchange for cash and advertising credits; and failed to properly
record the fair value of technology investments and marketable securities
acquired in connection with the Company's acquisition of TV Guide, Inc.
Plaintiffs allege that this had the effect of materially overstating the
Company's reported financial results.
The Company anticipates that the District Court will consolidate the
fifteen lawsuits (and any subsequently filed lawsuits) into one case, and that
following consolidation, a consolidated amended complaint will be filed. The
Company believes that the allegations are without merit and intends to defend
the actions vigorously.
9
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(7) Legal Proceedings (continued)
In April and May 2002, the Company, along with its principal executive
officers and directors, were also sued in four purported shareholder derivative
actions. Three of these actions were filed in the Superior Court of the State of
California for the County of Los Angeles and one action was filed in the Court
of Chancery of the State of Delaware, County of New Castle. These purported
derivative lawsuits allege various breaches of fiduciary duty and violations of
the California Corporations Code based upon the same general set of alleged
facts and circumstances as the federal shareholder suits. The Company believes
the allegations are without merit and intends to defend the actions vigorously.
On October 18, 1999, a former employee of ODS Technologies, L.P. ("ODS"),
now a majority owned subsidiary of the Company, filed a complaint against ODS
and TV Guide in a Florida federal court, which complaint was amended on November
12, 1999, asserting causes of action for violations of certain federal statutes
governing pension plans and for equitable estoppel. The amended complaint sought
an unspecified amount of damages for benefits allegedly due to the plaintiff
under his employment agreement with ODS. On April 22, 2002, the Court granted
ODS and TV Guide summary judgment dismissing the case.
On May 3, 2000, a complaint was filed in the U.S. District Court for the
Southern District of New York against Murdoch Magazines Distribution, Inc. (now
named TV Guide Distribution, Inc. and a wholly owned subsidiary of the Company)
and other parties by United Magazine Company, Inc. ("Unimag") and related
entities. The complaint alleges claims against Murdoch Magazines for violation
of the Robinson-Patman Act, breach of implied covenants of good faith and fair
dealing, promissory estoppel, breach of fiduciary duty, misappropriation of
business property and trade secrets, tortious destruction of business, breach of
confidential relationship and violation of federal and state antitrust laws. The
complaint seeks monetary damages, plus treble and punitive damages, attorneys'
fees and costs. On August 31, 2000, Unimag filed an amended complaint, (i)
adding TV Guide Distribution, Inc. as a named defendant, (ii) adding six other
national distributors as defendants, and (iii) adding claims for unjust
enrichment and violation of the New York Franchise Sales Act. The Company filed
a motion to dismiss all of the claims asserted against it. On May 1, 2001, the
Court heard oral argument on the Company's motion to dismiss, and an Opinion and
Order was issued on May 31, 2001, dismissing all fifteen counts in Unimag's
Amended Complaint, most with prejudice and some with leave to replead. On June
21, 2001, Unimag and the other plaintiffs filed a Second Amended Complaint, in
essence alleging violations of the Robinson-Patman Act, breach of fiduciary
duties and confidential relationships by the national distributor defendants and
Murdoch Magazines, along with tort and statutory claims. All defendants,
including Murdoch Magazines, have filed motions to dismiss portions of the
Second Amended Complaint. By Opinion and Order dated December 17, 2001, the
Court granted the motions in part and denied them in part. The claims for breach
of fiduciary duties and confidential relationships against the national
distributor defendants and Murdoch Magazines were dismissed with prejudice. The
Robinson-Patman claims remain, along with certain statutory claims. On February
4, 2002, the defendants, including Murdoch Magazines, filed their answers and
counterclaims against plaintiffs. The counterclaims seek recovery of tens of
millions of dollars owed by plaintiffs to the national distributors, including
Murdoch Magazines, for unpaid invoices. On March 13, 2002, plaintiffs replied to
the defendants' answers and counterclaims and asserted a number of affirmative
defenses and reply counterclaims that revived certain contractual and tort
claims that the Court had previously dismissed. The defendants, including
Murdoch Magazines, are moving to strike and dismiss these affirmative defenses
and reply counterclaims. In the meantime, the Court has set a two-year discovery
period to conclude by April 2004, and discovery has been proceeding.
(8) Related Party Transactions
In connection with the acquisition of TV Guide in 2000, News Corp. became a
stockholder of the Company. As of March 31, 2002, News Corp. directly and
indirectly owns approximately 42% of the Company's outstanding common stock and
has the right to designate six directors on the Company's board. The Company
earned advertising revenues of $4.6 million and $7.4 million for the three
months ended March 31, 2002 and 2001, respectively, from entities controlled by
News Corp. During those same periods, the Company acquired programming from News
Corp. controlled entities of $1.7 million and $2.6 million, respectively. Prior
to its acquisition of TV Guide, the Company did not have any significant
transactions with News Corp. As of March 31, 2002 and December 31, 2001, the
Company had receivables due from News Corp. controlled entities totaling $1.6
million and $4.6 million, respectively, and payables due to News Corp.
controlled entities totaling $521,000 and $302,000, respectively. In addition,
the Company purchases paper through a paper procurement arrangement with News
Corp. at negotiated prices with paper suppliers based on the combined paper
requirements of the two organizations.
10
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(8) Related Party Transactions (continued)
Liberty Media Corporation ("Liberty Media"), formerly an indirect wholly
owned subsidiary of AT&T Corp., directly or indirectly owned approximately 21%
of the issued and outstanding common stock of the Company from the date of the
acquisition of TV Guide in 2000 until May 2, 2001, the date Liberty Media sold
its interest in the Company to News Corp. For the period January 1, 2001 to
March 31, 2001, the Company purchased programming from Liberty Media controlled
affiliates of $3.3 million. During the same period, the Company also sold video,
program promotion and guide services of $5.0 million to AT&T Broadband and
Internet Services ("BIS") and its consolidated affiliates. In addition, during
the same period, the Company purchased production services and was provided
satellite transponder facilities and uplink services from BIS consolidated
affiliates of $1.8 million. BIS is also wholly owned by AT&T Corp. Prior to its
acquisition of TV Guide, the Company did not have any significant transactions
with Liberty Media or BIS.
The Company has included in the amounts discussed above, transactions with
News Corp., BIS, and Liberty Media and all entities in which BIS, Liberty Media
and News Corp. have an interest greater than 50%. In addition, the Company has
transactions with entities in which BIS, Liberty Media and News Corp. own,
directly or indirectly, 50% or less.
(9) Segment Information
The Company organizes its businesses into three groups which also represent
its reportable business segments: the Technology and Licensing Sector, which is
responsible for the development , licensing and protection of intellectual
property and proprietary technologies (including the interactive program guides
("IPGs") currently marketed under brands such as GUIDE Plus+(R) and TV Guide(R)
Interactive, the VCR Plus+(R) system and electronic book ("eBook") technology
marketed under brands such as the Gemstar eBook(TM)); the Interactive Platform
Sector, which derives recurring income from advertising, interactive services
and e-commerce on the Company's proprietary interactive platforms; and the Media
and Services Sector, which operates TV Guide Magazine, TV Guide Channel, TVG
Network(SM) ("TVG"), SkyMall catalog sales, Superstar/Netlink Group ("SNG") and
other non-interactive platforms and media properties.
The Company's reportable segments are strategic business units that offer
different products and services and compete in different industries. The
Company's chief operating decision maker uses EBITDA (operating income before
stock compensation expense and depreciation and amortization) to evaluate the
performance of the three segments. Assets of the reportable segments are not
relevant for management of the businesses.
11
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(9) Segment Information (continued)
Segment information for the three-month periods ended March 31, 2002 and
2001 is as follows (in thousands):
Three Months Ended
March 31,
2002 2001
--------- ---------
Technology and Licensing Sector
Revenues (4) ............................. $ 61,786 $ 72,014
Operating Expenses (1)(4) ................ 11,628 15,765
--------- ---------
EBITDA (2) ............................... $ 50,158 $ 56,249
========= =========
Interactive Platform Sector
Revenues (4) ............................. $ 22,008 $ 14,698
Operating Expenses (1)(3)(4) ............. 20,299 20,997
--------- ---------
EBITDA (2) ............................... $ 1,709 $ (6,299)
========= =========
Media and Services Sector
Revenues (3)(4) .......................... $ 212,793 $ 255,487
Operating Expenses (1)(3)(4) ............. 162,567 185,463
--------- ---------
EBITDA (2) ............................... $ 50,226 $ 70,024
========= =========
Consolidated
Revenues (4) ............................. $ 296,587 $ 342,199
Operating Expenses (1)(4) ................ 194,494 222,225
--------- ---------
EBITDA (2) ............................... $ 102,093 $ 119,974
========= =========
___________
(1) Operating expenses means operating expenses, excluding stock compensation
expense and depreciation and amortization.
(2) EBITDA means operating income before noncash stock compensation expense and
depreciation and amortization. Commencing January 1, 2002, goodwill and
certain other intangible assets are no longer subject to amortization.
However, other intangible assets acquired in transactions accounted for as
purchases are still amortized and such amortization is significant.
Accordingly, the Company's business sectors are measured based on EBITDA.
EBITDA is presented supplementally as the Company believes it is a standard
measure commonly reported and widely used by analysts, investors and others
associated with its industry. However, EBITDA does not take into account
substantial costs of doing business, such as income taxes, interest
expense and depreciation and amortization. While many in the financial
community consider EBITDA to be an important measure of comparative
operating performance, it should be considered in addition to, but not as a
substitute for, operating income, net income, cash flow provided by
operating activities and other measures of financial performance prepared
in accordance with accounting principles generally accepted in the United
States of America that are presented in the condensed consolidated
financial statements included in this report. Additionally, the Company's
calculation of EBITDA may be different than the calculation used by other
companies and, therefore, comparability may be affected.
(3) Commencing January 1, 2002, the operating costs of the media sales group
have been allocated to the various business units based on advertising
revenue dollars earned. Prior period results, which included media sales
group commissions reported as revenues by the Media and Services Sector
have been reclassified to reflect such commission revenues as a reduction
of expenses in the Media and Services Sector. Effective January 1, 2002,
the Company revised its method of allocating corporate expenses to the
business sectors concurrent with a reorganization of certain corporate
functions. Had the new methodology been in effect in 2001, operating
expenses for each of the sectors would have increased (decreased)
approximately as follows: Technology and Licensing Sector - ($800,000),
Interactive Platform Sector - ($1.2 million) and Media and Services
Sector - $2.0 million.
(4) The Company's financial statements are presented in accordance with the
guidance provided by EITF No. 01-09 effective for periods commencing after
December 31, 2001. Where applicable, amounts presented in the prior period
have been reclassified to conform with the income statement classifications
for the current period. Such reclassifications resulted in decreases in
revenues of $9.3 million and $1.0 million for the Technology and Licensing
Sector and Media and Services Sector, respectively, and decreases in
expenses of $5.5 million, $3.8 million and $1.0 million for the Technology
and Licensing Sector, Interactive Platform Sector and Media and Services
Sector, respectively, for the three months ended March 31, 2001, resulting
in a total reduction of $10.3 million in both consolidated revenues and
expenses for the 2001 period.
12
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED - (Continued)
(10) Income Taxes
The provision for income tax benefit as a percentage of loss before
income taxes and cumulative effect of an accounting change was 46% for the
three-month period ended March 31, 2002 compared to 10% for the same period in
2001. The net increase in the effective tax rate is primarily due to the change
in the treatment of amortization of goodwill in accordance with Statement 142,
which has no associated impact on the provision for income taxes.
(11) Subsequent Event
In April 2002, the Company's Board of Directors authorized an extension
of its authorization granted in September 2001 to repurchase up to $300 million
of the Company's outstanding shares of common stock. The authorization permits
the Company to purchase shares in the open market at prevailing prices, or in
privately negotiated transactions at then prevailing prices. During the period
subsequent to the date the extension was authorized through May 6, 2002, the
Company repurchased 3.2 million shares for an aggregate price of $32.6 million.
13
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Critical Accounting Policies and Estimates
The following discussion and analysis of our financial condition and
results of operations are based upon our condensed consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America. The preparation of such
financial statements requires management to make estimates and assumptions in
applying certain critical accounting policies. Certain accounting estimates are
particularly sensitive because of their significance to our condensed
consolidated financial statements and because of the possibility that future
events affecting the estimates could differ markedly from our current
expectations. We believe that the following are some of the more critical
judgment areas in the application of our accounting policies that affect our
financial statements.
Revenue Recognition - License Fees
An important principle in the Company's licensing practice is to ensure
that revenues are recognized at the time when the earning process is completed.
We recognize revenues from on-going per unit license fees based on units shipped
incorporating the Company's patented or proprietary technologies in the period
when the manufacturers' units shipped information is available to the Company.
Revenues from on-going per subscriber fees from service providers are earned in
the month services are provided by a licensee using the Company's patented or
proprietary technologies. Revenues from annual and other license fees are
recognized based on the specific terms of the license agreements. From time to
time, the license agreement between the Company and a licensee may expire, or
for one reason or another, the licensee fails to remit license fees on a timely
basis, yet the same units continue to be shipped and the same services continue
to be deployed containing the Company's patented or proprietary technologies.
When these situations arise, the Company looks to the four conditions under
Staff Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition in Financial
Statements, to determine whether or not revenue should be recognized: whether
there is persuasive evidence that an arrangement exists, whether delivery has
occurred or service has been rendered, whether the price is fixed or
determinable and whether collection is reasonably assured. Additionally, the
Company may consider opinions of outside counsel when appropriate. These
decisions involve significant judgment by the Company.
Further discussion of the application of revenue recognition policies for
license fees is contained under the heading Technology and Licensing Sector.
Patent Prosecution and Litigation Costs
The Company's accounting policy with respect to patent prosecution and
litigation costs incurred to protect and enforce the Company's intellectual
property rights is to defer such costs as intangible assets and to amortize them
using the straight-line method over the remaining lives of the related patents.
The Company reviews its characterization of patent prosecution and litigation
costs whenever events or changes in circumstances, such as adverse
administrative or judicial rulings, indicate that certain deferred costs should
be expensed. The propriety of such characterizations is determined by management
based, in part, on the advice of outside counsel.
Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed Of
The Company reviews its long-lived assets and certain identifiable
intangibles for impairment 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 the undiscounted future operating 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 by sale are reported at the lower of the carrying amount or fair value less
costs to sell.
The Company has a significant amount of property and equipment and
intangible assets. The determination as to whether events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable involves management's judgment. In addition, should the Company
conclude that recoverability of an asset is in question, the estimate of
undiscounted future operating cash flows to determine whether an asset is
recoverable and, if not, the final determination of the fair value of the asset
are also based on the judgment of management. These judgments can be impacted by
a variety of underlying assumptions, such as the general business climate,
effectiveness of competition and supply and cost of resources. Accordingly,
actual results can differ significantly from the assumptions made by management
in making its estimates. Future changes in management's estimates could result
in indicators of impairment and future impairment charges.
14
New accounting standards effective January 1, 2002, eliminated the
impairment recoverability tests for goodwill and certain other intangible
assets with indefinite lives and require that such assets be valued at the
lower of their carrying value or fair value. Significant management judgment is
involved in determining the fair value of assets. Accordingly, future changes in
management's estimates could result in further impairment charges of goodwill
and indefinite lived intangible assets. A discussion of transitional impairment
loss recognized during the first quarter of 2002 is contained under Note 3 in
the condensed consolidated financial statements.
Income Taxes
The Company accounts for income taxes under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carry-forwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date. The Company records a valuation allowance, if necessary, to
reduce deferred tax assets to an amount management believes is more likely than
not to be realized.
The Company has income both from foreign and domestic sources. In the
preparation of our financial statements, we are required to estimate our income
taxes in each of the jurisdictions in which we operate, including estimating
both our actual current tax exposure and assessing temporary differences
resulting from differing treatment of items for tax and accounting purposes.
Assessment of our actual current tax exposure includes assessing tax strategies,
the status of tax audits and open audit periods with the taxing authorities. To
the extent that we have deferred tax assets, we must assess the likelihood that
our deferred tax assets will be recovered from future taxable income and to the
extent that we believe that recovery is not likely, we must establish a
valuation allowance. As of March 31, 2002, we have established a valuation
allowance of $75.0 million against our deferred tax assets. In the future, we
may adjust our estimates of the amount of valuation allowance needed and such
adjustment would impact our provision for income taxes in the period of such
change.
Allowance for Doubtful Accounts
We have significant amounts due to us from our customers. We continuously
evaluate our outstanding accounts receivable for collectibility. This evaluation
involves management's judgment in assessing the aging of the amounts due to us
and in reviewing the credit-worthiness of each customer. Should a customer's
financial condition deteriorate in a manner that could decrease the customer's
ability to pay amounts due to us, we might be required to provide additional
allowance for doubtful accounts which would reduce our earnings.
Results of Operations
The Company completed several transactions during 2001 that affect the
comparability of the results of operations.
. In April 2001, the Company sold the business that distributes the WGN
superstation signal for approximately its net book value. Accordingly,
the condensed consolidated financial statements do not include the
results of operations of WGN subsequent to that date. No gain or loss
was recognized as a result of this transaction.
. On July 18, 2001, the Company acquired 100% of the outstanding common
stock of SkyMall. The acquisition was accounted for as a purchase.
Accordingly, the condensed consolidated financial statements include the
results of operations of SkyMall from July 18, 2001.
15
The following table sets forth certain unaudited financial information for
the Company for the three months ended March 31, 2002 and 2001 (in thousands).
Three Months Ended
March 31,
2002(1) 2001(3)
------- -------
Statement of Operations Data:
Revenues ................................................ $ 296,587 $ 342,199
Operating expenses:
Operating expenses, excluding stock compensation and
depreciation and amortization ................ 194,494 222,225
Stock compensation ................................. 16,925 9,145
Depreciation and amortization ...................... 116,362 238,568
--------- ---------
327,781 469,938
--------- ---------
Operating loss .......................................... (31,194) (127,739)
Interest expense ........................................ (2,624) (11,551)
Other (expense) income, net ............................. (3,678) 1,874
--------- ---------
Loss before income taxes and cumulative effect
of an accounting change ............................. (37,496) (137,416)
Income tax benefit ...................................... (17,282) (14,176)
--------- ---------
Loss before cumulative effect of an accounting change ... (20,214) (123,240)
Cumulative effect of an accounting change, net of tax ... (187,767) --
--------- ---------
Net loss ................................................ $(207,981) $(123,240)
========= =========
Other Financial Data:
Net cash provided by (used in):
Operating activities ............................... $ 91,757 $ 75,984
Investing activities ............................... 7,302 (18,876)
Financing activities ............................... (34,588) (22,804)
EBITDA(2) ............................................... 102,093 119,974
__________
(1) Effective July 18, 2001, the Company's consolidated operating results
include the operating results of SkyMall. SkyMall was acquired in a
transaction accounted for as a purchase. Effective April 2001, the
consolidated operating results exclude the operating results of the
business that distributed the WGN superstation signal, which was sold.
(2) EBITDA means operating income before noncash stock compensation expense and
depreciation and amortization. Commencing January 1, 2002, goodwill and
certain other intangible assets are no longer subject to amortization.
However, other intangible assets acquired in transactions accounted for
as purchases are still amortized and such amortization is significant.
Accordingly, the Company's business sectors are measured based on EBITDA.
EBITDA is presented supplementally as the Company believes it is a standard
measure commonly reported and widely used by analysts, investors and others
associated with its industry. However, EBITDA does not take into account
substantial costs of doing business, such as income taxes, interest expense
and depreciation and amortization. While many in the financial community
consider EBITDA to be an important measure of comparative operating
performance, it should be considered in addition to, but not as a
substitute for, operating income, net income, cash flow provided by
operating activities and other measures of financial performance prepared
in accordance with accounting principles generally accepted in the United
States of America that are presented in the condensed consolidated
financial statements included in this report. Additionally, the Company's
calculation of EBITDA may be different than the calculation used by other
companies and, therefore, comparability may be affected.
(3) The Company's financial statements are presented in accordance with the
guidance provided by EITF No. 01-09 effective for periods commencing after
December 31, 2001. Where applicable, amounts presented in the prior period
have been reclassified to conform with the income statement classifications
for the current period. Such reclassifications resulted in a reduction of
$10.3 million in both consolidated revenues and expenses for the three
months ended March 31, 2001.
16
Consolidated
Revenues for the three months ended March 31, 2002 were $296.6 million, a
decrease of $45.6 million, or 13%, compared to the same period in 2001. The
decrease in revenues is due primarily to revenue reductions in the Media and
Services Sector, where TV Guide Magazine revenues decreased $26.5 million and
SNG revenues decreased $11.9 million, coupled with decreased revenues in the
Technology and Licensing Sector partially offset by increased revenues in the
Interactive Platform Sector.
The Company's advertising revenues for the three months ended March 31,
2002 aggregated $66.1 million compared to $75.1 million for the same quarter in
the prior year. The general weakness in the advertising market continues to
impact most media companies in the United States, including the Company. During
the remainder of 2002, management believes that the Company will continue to
experience considerable pressure on its advertising revenues both from its
conventional media and its IPG platform.
Operating expenses, excluding stock compensation and depreciation and
amortization, were $194.5 million for the quarter ended March 31, 2002, a
decrease of $27.7 million when compared to the same period in the prior year.
The decrease in operating expenses was primarily due to reduced expenses in the
Media and Services Sector with decreased paper, postage and printing costs
associated with TV Guide Magazine and reduced programming costs for SNG and the
results of general cost controls in effect throughout the Company.
Stock compensation expense reflects amortization of the portion of the
purchase price of acquired businesses assigned to unearned compensation for
unvested stock options assumed by the Company. The unearned compensation is
being amortized over the remaining vesting period of the options. During the
first quarter of 2002, stock compensation expense included $12.9 million of
accelerated unearned compensation amortization resulting from an executive
officer that separated from the Company.
Depreciation and amortization during the first quarter of 2002 was $116.4
million, a decrease of $122.2 million compared to the same period in 2001. The
decrease in depreciation and amortization for the three-month period was
primarily a result of the adoption of the provisions of Statement 142, which
became effective January 1, 2002. Statement 142 requires that goodwill and
intangible assets with indefinite useful lives no longer be amortized, but
instead be tested for impairment at least annually in accordance with the
provisions of Statement 142. See Note 3 to the condensed consolidated financial
statements. Other intangible assets acquired in transactions accounted for as
purchases are still amortized and such amortization is significant.
Interest expense was $2.6 million for the three months ended March 31, 2002
compared to $11.6 million for the same period in 2001. The decrease in interest
expense during the three-month period was attributable to lower debt levels
coupled with lower interest rates.
Other (expense) income, net was $(3.7) million for the three months ended
March 31, 2002 compared to $1.9 million for the same period in 2001. The
decrease in other (expense) income, net was due primarily to lower interest
rates earned on invested cash in 2002 compared with 2001.
The provision for income tax benefit as a percentage of loss before income
taxes and cumulative effect of an accounting change was 46% for the three-month
period ended March 31, 2002 compared to 10% for the same period in 2001. The net
increase in the effective tax rate is primarily due to the change in the
treatment of amortization of goodwill in accordance with Statement 142, which
has no associated impact on the provision for income taxes. In addition, the
overall effective tax rate reported by the Company in any single period is
impacted by, among other things, the country in which earnings or losses arise,
applicable statutory tax rates and withholding tax requirements for particular
countries, the availability of net operating loss carryforwards and the
availability of tax credits for taxes paid in certain jurisdictions. Because of
these factors, it is expected that the Company's future tax expense as a
percentage of income before income taxes may vary from period to period.
The cumulative effect of an accounting change results from the Company's
adoption of Statement 142 effective January 1, 2002. The Company is required to
test goodwill and any intangible assets identified as having an indefinite
useful life for impairment in accordance with the provisions of Statement 142
and report any transitional impairment loss as the cumulative effect of a change
in accounting principle in the Company's condensed consolidated statement of
operations for the quarter ended March 31, 2002. The transitional impairment
loss for indefinite lived intangible assets from application of these new rules
was $297.8 million ($187.8 million, net of tax). Additionally, the Company has
completed the first step of the transitional goodwill impairment test under
Statement 142, which requires the Company to compare the fair value of its
reporting units to the carrying value of the net assets of the respective
reporting units. The amount of the impairment charge cannot be reliably
determined at
17
March 31, 2002 because the second step of the transitional impairment test has
not been completed. The Company is required to complete the second step of the
transitional impairment test by the end of the 2002 fiscal year. However, based
on the analysis performed to date, management expects that the impairment charge
will be approximately $5 billion. When recorded, the charge will be reflected as
the cumulative effect of an accounting change in the first quarter of 2002. The
carrying value of goodwill at March 31, 2002 was $5.5 billion.
Sector Results of Operations
The following table sets forth certain financial information for the
Company's business sectors for the three months ended March 31, 2002 compared to
the same period in 2001. The Company's business sectors are measured based on
EBITDA (operating income before stock compensation expense and depreciation and
amortization).
The Company categorizes its businesses into three groups which also
represent its reportable business segments: the Technology and Licensing Sector,
which is responsible for the development, licensing and protection of
intellectual property and proprietary technologies (the Company's technology
includes the IPGs marketed under brands such as GUIDE Plus+ and TV Guide
Interactive brands, the VCR Plus+ system and eBook); the Interactive Platform
Sector, which derives recurring income from advertising, interactive services
and e-commerce on the Company's proprietary interactive platforms; and the Media
and Services Sector, which operates TV Guide Magazine, TV Guide Channel, TVG,
SkyMall catalog sales, SNG and other non-interactive platforms and media
properties. The Company's business sectors represent strategic business units
that offer different products and services and compete in different industries.
Three Months Ended
March 31,
2002 2001
--------- ---------
Technology and Licensing Sector
Revenues (4) ............................. $ 61,786 $ 72,014
Operating Expenses (1)(4) ................ 11,628 15,765
--------- ---------
EBITDA (2) ............................... $ 50,158 $ 56,249
========= =========
Interactive Platform Sector
Revenues (4) ............................. $ 22,008 $ 14,698
Operating Expenses (1)(3)(4) ............. 20,299 20,997
--------- ---------
EBITDA (2) ............................... $ 1,709 $ (6,299)
========= =========
Media and Services Sector
Revenues (3)(4) .......................... $ 212,793 $ 255,487
Operating Expenses (1)(3)(4) ............. 162,567 185,463
--------- ---------
EBITDA (2) ............................... $ 50,226 $ 70,024
========= =========
Consolidated
Revenues (4) ............................. $ 296,587 $ 342,199
Operating Expenses (1)(4) ................ 194,494 222,225
--------- ---------
EBITDA (2) ............................... $ 102,093 $ 119,974
========= =========
___________
(1) Operating expenses means operating expenses, excluding stock compensation
expense and depreciation and amortization.
(2) EBITDA means operating income before noncash stock compensation expense and
depreciation and amortization. Commencing January 1, 2002, goodwill and
certain other intangible assets are no longer subject to amortization.
However, other intangible assets acquired in transactions accounted for as
purchases are still amortized and such amortization is significant.
Accordingly, the Company's business sectors are measured based on EBITDA.
EBITDA is presented supplementally as the Company believes it is a standard
measure commonly reported and widely used by analysts, investors and others
associated with its industry. However, EBITDA does not take into account
substantial costs of doing business, such as income taxes, interest expense
and depreciation and amortization. While many in the financial community
consider EBITDA to be an important measure of comparative operating
performance, it should be considered in addition to, but not as a
substitute for, operating income, net income, cash flow provided by
operating activities and other measures of financial performance prepared
in accordance with accounting principles generally accepted in the United
States of America that are presented in the condensed consolidated
financial statements included in this report. Additionally, the Company's
calculation of EBITDA may be different than the calculation used by other
companies and, therefore, comparability may be affected.
(3) Commencing January 1, 2002, the operating costs of the media sales group
have been allocated to the various business units based on advertising
revenue dollars earned. Prior period results, which included media sales
group commissions reported as revenues by the Media and Services Sector
have been reclassified to reflect such commission revenues as a reduction
of expenses in the Media and Services Sector. Effective January 1, 2002,
the Company revised its method of allocating corporate expenses to the
business sectors concurrent with a reorganization of certain corporate
functions. Had the new methodology been in effect in 2001, operating
expenses for each of the sectors would have increased (decreased)
approximately as follows: Technology and Licensing Sector - ($800,000),
Interactive Platform Sector - ($1.2 million) and Media and Services Sector
- $2.0 million.
18
(4) The Company's financial statements are presented in accordance with the
guidance provided by EITF No. 01-09 effective for periods commencing after
December 31, 2001. Where applicable, amounts presented in the prior period
have been reclassified to conform with the income statement classifications
for the current period. Such reclassifications resulted in decreases in
revenues of $9.3 million and $1.0 million for the Technology and Licensing
Sector and Media and Services Sector, respectively, and decreases in
expenses of $5.5 million, $3.8 million and $1.0 million for the Technology
and Licensing Sector, Interactive Platform Sector and Media and Services
Sector, respectively, for the three months ended March 31, 2001, resulting
in a total reduction of $10.3 million in both consolidated revenues and
expenses for the 2001 period.
The following discussion of each of the Company's segments is based on the
unaudited financial information provided above.
Technology and Licensing Sector
The Technology and Licensing Sector is responsible for the development,
licensing and protection of intellectual property and proprietary technologies.
Revenues in this Sector are comprised of license fees paid by third-party
licensees for the Company's proprietary technologies and patents primarily
related to IPGs, video recording and electronic books. The Company's licensing
activities cover multiple industries including consumer electronics, cable,
satellite, Internet appliances, personal computers, and publications worldwide,
with major licensees such as Microsoft, AOL Time Warner, Motorola, AT&T, Charter
Communications, Comcast, Shaw, Thomson multimedia, Sony, Matsushita (Panasonic)
and others. Sector operations include research and development, and the
creation, protection and licensing of patents and proprietary technologies.
For the three months ended March 31, 2002, revenues for the Technology and
Licensing Sector were $61.8 million compared to $72.0 million for the same
period in 2001. The decrease in revenues for this sector of $10.2 million, or
14%, was attributable to declines in per unit license fees from hardware
manufacturers, offset in part by an increase in recurring license fees, which
are based on per subscriber fees from cable multiple system operators ("MSOs").
The decline in per unit shipped license fees is in greater part due to an
increasing number of units being shipped to MSOs who are already licensing the
Company's services and technologies for their subscribers, and in lesser part
due to a decline in the shipment of DirecTV satellite receivers.
The Company's accounting policy related to recognition of licensing
revenues provides that revenues from ongoing per unit license fees typically
charged to hardware manufacturers are earned based on units shipped
incorporating the Company's proprietary technologies and are recognized in the
period when the manufacturers' units shipped information is available to the
Company. Revenues from on-going per subscriber license fees typically charged to
video service providers, such as MSOs, are earned and recognized in the month
service is provided by such service provider using the Company's patented
proprietary technologies. Revenues from annual and other licenses are recognized
based on the specified terms of the license agreements. In the cable and
satellite sectors, the Company has adopted a general policy that the on-going
per subscriber license fees charged to an MSO with a make, sell and use license
include the cost of licenses that would otherwise be required of manufacturers
which incorporate the Company's technologies into set-top boxes shipped to the
licensed MSO. For this reason, as more and more direct agreements are concluded
with MSOs for the Company's IPG technologies and services, on-going per
subscriber revenues are expected to increase, while per unit license fees from
set-top box suppliers are expected to decrease.
An important principle in the Company's licensing practice is to ensure
that revenues are recognized at the time when the earning process is completed.
We recognize revenues from on-going per unit license fees based on units shipped
incorporating the Company's patented or proprietary technologies in the period
when the manufacturers' units shipped information is available to the Company.
Revenues from on-going per subscriber fees from service providers are earned in
the month services are provided by a licensee using the Company's patented or
proprietary technologies. Revenues from annual and other license fees are
recognized based on the specific terms of the license agreements. From time to
time, the license agreement between the Company and a licensee may expire, or
for one reason or another, the licensee fails to remit license fees on a timely
basis, yet the same units continue to be shipped and the same services continue
to be deployed containing the Company's patented or proprietary technologies.
When these situations arise, the Company looks to the four conditions under SAB
101 to determine whether or not revenue should be recognized: whether there is
persuasive evidence that an arrangement exists, whether delivery has occurred or
service has been rendered, whether the price to the customer is fixed or
determinable and whether collection is reasonably assured. During 1997 through
1999, Scientific-Atlanta was under a license agreement with the Company for the
incorporation of interactive program guides into Scientific-Atlanta set-top
boxes. The agreement expired on July 23, 1999, however, Scientific-Atlanta
continued to ship set-top boxes incorporating IPGs which are the same or similar
to the products shipped during the term of the agreement. The Company has
accrued an aggregate of $113.5 million in license fees from Scientific-Atlanta
since the date the license agreement expired, including $5.8 million and $17.3
million in the periods ended March 31, 2002 and 2001, respectively. Such revenue
was recognized under SAB 101 as there was persuasive evidence that an
arrangement exists, delivery occurred or services had been provided, a portion
of the license fees under the agreement is determinable, and the amount
recognized is likely to be collectible. The Company does not recognize other
amounts from Scientific-Atlanta pursuant to the agreement for which there is no
public information available to determine the recognizable amount. The
Scientific-Atlanta revenue accrual for the three months ended March 31, 2002 was
less than the prior year amount
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due to the Company's general policy of not charging a set-top box manufacturer a
license fee when its product is shipped to an MSO with a make, sell and use
license. In 1998, the Company entered into a license agreement with America
Online ("AOL"), predecessor of AOL Time Warner. Upon the acquisition of Time
Warner by AOL in January 2001, after meeting with AOL Time Warner the Company
concluded that the AOL agreement applied to Time Warner Cable subscribers and
recorded revenues based on the agreement starting with the third quarter of
2001. At the same time, the Company stopped accruing per box fees from
Scientific-Atlanta for boxes shipped to Time Warner Cable in accordance with the
policy described above. The total receivable from AOL Time Warner under this
license agreement at March 31, 2002 is $18.1 million of which $6.8 million was
earned in the three months ended March 31, 2002. The Company is currently in
negotiation with AOL Time Warner on a proposed amendment to the AOL agreement
which will extend the existing agreement to include the Company's advertising
platform to Time Warner Cable set-top boxes.
The Company has also instituted legal proceedings in federal district court
against Scientific-Atlanta to recover damages for infringing on the Company's
patents, including but not limited to patents which were included in the expired
Scientific-Atlanta agreement, which the Company believes are probable to result
in recovery in at least the amount accrued. In the same and in parallel legal
proceedings, the Company additionally sued EchoStar Communications, SCI Systems
and Pioneer Corporation for infringing the same groups of patents. The Company
did not recognize any revenue from these additional defendants in light of the
fact that there was no arrangement in place within the meaning of SAB 101 with
these other defendants.
Expenses in this sector for the three months ended March 31, 2002 were
$11.6 million, compared to $15.8 million for the same period in 2001. The
decrease in expenses is attributable to general cost controls in effect
throughout the Company.
Interactive Platform Sector
The Interactive Platform Sector derives recurring revenues from
advertising, interactive services and e-commerce on the Company's proprietary
interactive platforms, and through revenue sharing under license agreements.
Sector activities include the construction and operation of the infrastructure
for the delivery of services and advertising to the interactive platforms, media
research, and trafficking, tracking and billing of advertising. The Company's
IPG platform currently is comprised primarily of television sets incorporating
the Gemstar GUIDE Plus+ IPG and digital cable set-top boxes incorporating the TV
Guide Interactive and StarSight(R) IPGs.
For the three months ended March 31, 2002, revenues for the Interactive
Platform Sector were $22.0 million compared to $14.7 million for the same period
in 2001, an increase of 50%. Currently, revenues in this sector are comprised
primarily of advertising revenues earned on the Company's proprietary platforms,
including the IPGs and the online website, www.tvguide.com. The Company first
commenced selling advertising on the IPG platform in 1999. The increase in
revenues of this sector of $7.3 million is primarily attributable to the
increased penetration of such guides into the marketplace and the increased
number of advertisers using this platform.
The Company has relationships with licensees, vendors and strategic
partners, many of which also purchase advertising on the Company's properties,
including those in the Interactive Platform Sector. For instance, SNG acquires
programming for its subscribers from the majority of programmers in the United
States, many of which purchase advertising on the Company's properties. The
Company believes that these transactions are not related and have been entered
into in a manner such that the goods or services acquired are acquired at fair
value and the advertising is sold at fair value. During the three months ended
March 31, 2002 and 2001, a significant amount of the cash advertising revenues
in the interactive platform sector was derived from accounts in which varying
degrees of such relationships existed. The Company intends to continue to
maximize its relationships with licensees, vendors and strategic partners to
obtain advertising on its IPG platform. The Company has generally sold most of
its advertising time for cash and intends to continue this practice into the
future. During the three months ended March 31, 2001, non-cash advertising
revenues aggregated $1.9 million. No such revenues were earned during the three
months ended March 31, 2002.
Expenses for this sector were $20.3 million for the first quarter ended
March 31, 2002, relatively unchanged compared to $21.0 million for the same
period in 2001. Expenses in this sector include that portion of revenue received
from licensees which is paid out to licensees under revenue sharing
arrangements, and marketing and advertising expenses. A significant portion of
these payments to licensees under revenue sharing arrangements are incurred to
promote the Company's products on those cable systems that carry TV Guide
Interactive. Amounts expensed under these arrangements amounted to $3.8 million
and $3.0 million for the three months ended March 31, 2002 and 2001,
respectively.
Media and Services Sector
The Media and Services Sector operates TV Guide Magazine, TV Guide Channel,
TVG, SkyMall catalog sales, SNG and other non-interactive platforms and media
properties. Revenues in this sector are principally composed of subscription
fees and advertising revenues of the TV Guide magazines and the TV Guide Channel
and programming package revenues from C-band households. The Company sold the
business that distributes the WGN superstation signal in April 2001 for
approximately its net book value and acquired SkyMall in July 2001.
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For the three months ended March 31, 2002, revenues for the Media and
Services Sector were $212.8 million compared to $255.5 million in the same
period in 2001. Revenues in this sector decreased by $42.7 million, primarily
due to decreased revenues earned by TV Guide Magazine and SNG.
The following table shows the breakdown of the revenues in the Media and
Services Sector by revenue source (in thousands):
Quarter Ended Quarter Ended Increase
March 31, 2002 March 31, 2001 (Decrease)
-------------- -------------- ----------
TV Guide Magazine ............. $109,659 $137,761 $(26,522)
SNG ........................... 63,353 75,236 (11,883)
TV Guide Channel .............. 24,251 22,226 2,025
Other ......................... 15,530 20,264 (6,314)
-------- -------- --------
Total .................... $212,793 $255,487 $(42,694)
======== ======== ========
TV Guide Magazine continues to face declines in circulation due to slower
new subscriber growth, lower renewal rates and reduced newsstand sales. At March
31, 2002, TV Guide Magazine had a circulation of 9.0 million compared to 9.7
million as of the same point in time in 2001. The C-band direct-to-home
satellite market, in which SNG operates, continues to decline due to the growth
of the newer generation direct broadcast satellite systems and continued cable
system expansions. During the three-month period ended March 31, 2002, the
number of C-band subscribers in the industry decreased by 9% to approximately
753,000 subscribers. At March 31, 2002, SNG provided service to 477,000 of these
subscribers, a decrease of 13% from the subscribers served by SNG as of December
31, 2001. We expect the declines in the circulation of TV Guide Magazine and the
subscriber base of the C-band industry, and the resulting impacts on revenues in
this sector, to continue. TV Guide Channel had 50.5 million subscribers as of
March 31, 2002, relatively unchanged from 50.8 million subscribers as of March
31, 2001.
On November 2, 1999, SNG signed an agreement with EchoStar whereby SNG
promotes and solicits orders for EchoStar's direct broadcast subscription
service, the DISH Network. In exchange, SNG receives an initial commission for
each current or past SNG subscriber who subscribes to the DISH Network and a
monthly residual commission over the life of the agreement. This agreement has
resulted in an acceleration of the decline in the number of SNG subscribers and
this effect is expected to continue.
Expenses for this sector were $162.6 million for the quarter ended March
31, 2002 compared to $185.5 million for the same period in 2001. A significant
portion of the expenses in this sector are those attributable to the paper,
printing, and postage associated with TV Guide Magazine and programming acquired
by SNG for programming packages sold to its customers. The decrease in expenses
of $22.9 million in this sector is primarily due to the decrease in circulation
of TV Guide Magazine and reduced programming expenses associated with the
decrease in the number of C-band subscribers.
The Company has traditionally operated a magazine distribution business
which was responsible for distributing approximately 90 titles with a combined
circulation of approximately 410 million copies per year in addition to the TV
Guide Magazine. Due to the change in business environment, and following the
general approach of discontinuing non-core activities in order to focus on its
core business, the Company is considering business alternatives, including
contracting with a third party for distribution of TV Guide Magazine and
assigning the existing distribution contracts to that same party. The
distribution business generates approximately $12.6 million in annual revenue
with no significant impact on EBITDA.
Liquidity and Capital Resources
For the three months ended March 31, 2002, net cash flows from operating
activities were $91.8 million. This cash flow, plus existing cash resources and
proceeds from the exercise of stock options of $533,000, was used to fund $30.5
million for repayment of long-term debt and capital lease obligations, $2.4
million for capital expenditures, $10.5 million for additions to intangible
assets, primarily patent prosecution and litigation costs, and $4.6 million for
distributions to minority interests, primarily in SNG.
At March 31, 2002, the Company's cash, cash equivalents and marketable
securities classified as current assets aggregated $431.4 million.
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The Company's wholly owned subsidiary, TV Guide, has a $300 million
six-year revolving credit facility and a $300 million four-year amortizing term
loan, both expiring in February 2005 with a group of banks. Borrowings under the
credit facilities bear interest (2.9% at March 31, 2002) either at the banks'
prime rate or LIBOR, both plus a margin based on a sliding scale tied to TV
Guide's leverage ratio, as defined in the facility. The credit facilities are
guaranteed by certain subsidiaries of TV Guide and the stock of TV Guide's
subsidiaries is pledged as collateral. The credit facilities impose restrictions
on TV Guide's ability to pay dividends to Gemstar tied to TV Guide's leverage
ratio. This restriction does not apply to Gemstar's ability to pay dividends. As
of March 31, 2002, TV Guide had available borrowing capacity under the six-year
revolving credit facility of $161.4 million. Principal payments of $45 million
in the remainder of 2002, $90 million in 2003 and $23 million in 2004 are due
under the $300 million amortizing term loan. Outstanding borrowings under both
credit facilities at March 31, 2001 were $296.4 million. Outstanding letters of
credit issued under the credit facilities at March 31, 2002 were $200,000.
The Company collects in advance a majority of its TV Guide magazine
subscription fees, SNG subscription fees and certain of its UVTV superstation
and TV Guide Channel revenues. In addition, the Company receives nonrefundable
prepaid license fees from certain licensees. As of March 31, 2002, deferred
revenue totaled $355.0 million. The Company's liability for prepaid magazine
subscriptions is limited to the unearned prepayments in the event customers
cancel their subscriptions. The Company's liability for other prepayments is
limited to a refund of unearned prepayments in the event that the Company is
unable to provide service. No material refunds have been paid to date.
The Company does not have any material commitments for capital
expenditures. The Company believes that the anticipated cash flows from
operations, and existing cash, cash equivalents and short-term marketable
securities balances, will be sufficient to satisfy its expected working capital,
capital expenditure and debt requirements in the foreseeable future.
At March 31, 2002, approximately $221.4 million, or 59%, of the Company's
receivables are due from five entities, inclusive of $113.5 million due from
Scientific-Atlanta (see Technology and Licensing Sector above). The Company
currently believes these receivables to be realizable; however, events may occur
in the future which could cause the Company to change its assessment of the
amount of recoverability.
In April 2002, the Company's Board of Directors authorized an extension of
its authorization granted in September 2001 to repurchase up to $300 million of
the Company's outstanding shares of common stock. The authorization permits the
Company to purchase shares in the open market at prevailing prices, or in
privately negotiated transactions at then prevailing prices. During the period
subsequent to the date the extension was authorized through May 6, 2002, the
Company repurchased 3.2 million shares for an aggregate price of $32.6 million.
In connection with the acquisition of TV Guide in 2000, News Corp. became a
stockholder of the Company. As of March 31, 2002, News Corp. directly and
indirectly owns approximately 42% of the Company's outstanding common stock and
has the right to designate six directors on the Company's board. The Company
earned advertising revenues of $4.6 million and $7.4 million for the three
months ended March 31, 2002 and 2001, respectively, from entities controlled by
News Corp. During those same periods, the Company acquired programming from News
Corp. controlled entities of $1.7 million and $2.6 million, respectively. Prior
to its acquisition of TV Guide, the Company did not have any significant
transactions with News Corp. As of March 31, 2002 and December 31, 2001, the
Company had receivables due from News Corp. controlled entities totaling $1.6
million and $4.6 million, respectively, and payables due to News Corp.
controlled entities totaling $521,000 and $302,000, respectively. In addition,
the Company purchases paper through a paper procurement arrangement with News
Corp. at negotiated prices with paper suppliers based on the combined paper
requirements of the two organizations.
Liberty Media, formerly an indirect wholly owned subsidiary of AT&T Corp.,
directly or indirectly owned approximately 21% of the issued and outstanding
common stock of the Company from the date of the acquisition of TV Guide in 2000
until May 2, 2001, the date Liberty Media sold its interest in the Company to
News Corp. For the period January 1, 2001 to March 31, 2001, the Company
purchased programming from Liberty Media controlled affiliates of $3.3 million.
During the period, the Company also sold video, program promotion and guide
services of $5.0 million to BIS and its consolidated affiliates. In addition,
the Company purchased production services and was provided satellite transponder
facilities and uplink services from BIS consolidated affiliates of $1.8 million.
BIS is also wholly owned by AT&T Corp. Prior to its acquisition of TV Guide, the
Company did not have any significant transactions with Liberty Media or BIS.
The Company has included in the amounts discussed above, transactions with
News Corp., BIS, and Liberty Media and all entities in which BIS, Liberty Media
and News Corp. have an interest greater than 50%. In addition, the Company has
transactions with entities in which BIS, Liberty Media and News Corp. own,
directly or indirectly, 50% or less.
The Company has multiple transactions with Thomson multimedia, Inc.,
including Thomson's licensing of the Company's VCR Plus+, GUIDE Plus+ and eBook
technologies, Thomson's advertising on the Company's platforms, primarily the
interactive
22
program guide platforms, the Company's participation in marketing and promotion
campaigns on Thomson products carrying the Company's technology, and the two
companies being joint venture partners in the sale of advertising on electronic
program guides on televisions. During the three months ended March 31, 2002 and
2001, revenues earned from the relationship with Thomson were $12.9 million and
$15.0 million, respectively, and expenses incurred were $3.6 million and $4.7
million, respectively. As of March 31, 2002, the Company has receivables due
from and a payable due to Thomson totaling $51.8 million and $37.0 million,
respectively. Subsequent to March 31, 2002, the Company received payments of
$33.7 million from Thomson and made payments of $14.4 million to Thomson.
The Company's accounting policy with respect to patent prosecution and
litigation costs to protect and enforce the Company's intellectual property
rights is to defer such costs as intangible assets as they are incurred. The
Company has been engaged in a proceeding before the United States International
Trade Commission in which approximately $45.5 million of legal and related costs
have been incurred and capitalized to date ($7.5 million for the three months
ended March 31, 2002) as intangible assets with a carrying value of $40.2
million as of March 31, 2002. The Company is currently awaiting a ruling on this
matter. Should such a ruling be adverse to the Company, the Company may be
required to expense all or a portion of the legal costs previously capitalized
related to this proceeding, including all or a portion of the costs incurred
subsequent to March 31, 2002.
Recent Accounting Pronouncements
In November 2001, the Financial Accounting Standards Board's ("FASB's")
Emerging Issues Task Force ("EITF") reached a consensus on EITF Issue No. 01-09,
Accounting for Consideration Given by a Vendor to a Customer (Including a
Reseller of the Vendor's Products). EITF No. 01-09, which is effective for
periods commencing after December 31, 2001, clarifies the income statement
classification of costs incurred by a vendor for certain cooperative advertising
and product placement paid to a vendor's customers. As a result of the EITF
consensus, certain of the Company's cooperative advertising and product
placement costs previously classified as operating expenses have been reflected
as a reduction of revenues earned from that activity. Where applicable, amounts
presented in prior periods have been reclassified to comply with the income
statement classifications for the current period. Approximately $10.3 million of
cooperative advertising and product placement costs previously classified as
expenses have been reflected as a reduction of revenues in the income statement
for the three months ended March 31, 2001.
In July 2001, the FASB issued Statement 142, Goodwill and Other Intangible
Assets. Statement 142 requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment at least annually in accordance with the provisions of Statement 142.
The Company adopted the provisions of Statement 142 effective January 1, 2002.
In connection with the adoption of Statement 142, the Company evaluated its
existing intangible assets that were acquired in prior purchase business
combinations, and made any necessary reclassifications in order to conform with
the criteria outlined in Statement No. 141, Business Combinations, for
recognition apart from goodwill. In addition, the Company reassessed the useful
lives and residual values of all intangible assets acquired in purchase business
combinations, and made any necessary amortization period adjustments. Finally,
the Company tested goodwill and any intangible assets identified as having an
indefinite useful life for impairment in accordance with the provisions of
Statement 142. As a result of the application of these new rules, the Company
reported a transitional impairment loss for indefinite lived intangible assets
of $297.8 million ($187.8 million, net of tax) as the cumulative effect of a
change in accounting principle in the Company's condensed consolidated statement
of operations for the three months ended March 31, 2002. Additionally, the
Company has completed the first step of the transitional goodwill impairment
test under Statement 142, which requires the Company to compare the fair value
of its reporting units to the carrying value of the net assets of the respective
reporting units. The amount of the impairment charge cannot be reliably
determined at March 31, 2002 because the second step of the transitional
impairment test has not been completed. The Company is required to complete the
second step of the transitional impairment test by the end of the 2002 fiscal
year. However, based on the analysis performed to date, management expects that
the impairment charge will be approximately $5 billion. When recorded, the
charge will be reflected as the cumulative effect of an accounting change in the
first quarter of 2002. The carrying value of goodwill at March 31, 2002 was $5.5
billion.
In October 2001, the FASB issued Statement No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. This statement replaces Statement
No. 121. However, it retains the fundamental provisions of Statement No. 121 for
recognition and measurement of the impairment of long-lived assets to be held
and used and for measurement of long-lived assets to be disposed of by sale.
This statement applies to all long-lived assets, including discontinued
operations, and replaces the provisions of APB Opinion No. 30, Reporting Results
of Operations-Reporting the Effects of Disposal of a Segment of a Business, for
the disposal of segments of a business. This statement requires that those
long-lived assets be measured at the lower of carrying amount or fair value less
cost to sell, whether reported in continuing operations or in discontinued
operations. The Company adopted this statement effective January 1, 2002.
Adoption of this statement did not have a material impact on the condensed
consolidated financial statements.
23
Cautionary Statement for Purposes of the "Safe Harbor" Provisions of the Private
Securities Litigation Reform Act of 1995
The foregoing "Management's Discussion and Analysis of Financial Condition
and Results of Operations" section and other portions of this report on Form
10-Q contain various "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, which represent the Company's expectations or
beliefs concerning future events. Statements containing expressions such as
"may," "will," "continues," "believes," "anticipates," "estimates", "plans" or
"expects" used in the Company's periodic reports on Forms 10-K, 10-K/A and 10-Q
filed with the Securities and Exchange Commission are intended to identify
forward-looking statements. The Company cautions that these and similar
statements included in this report and in previously filed periodic reports
including reports filed on Forms 10-K, 10-K/A and 10-Q are further qualified by
important factors that could cause actual results to differ materially from
those in the forward-looking statement, including, without limitation, those
referred to below in "Certain Factors Affecting Business, Operating Results and
Financial Condition" and elsewhere in this Form 10-Q. Such statements reflect
the current views of the Company or its management with respect to future events
and are subject to certain risks, uncertainties and assumptions including, but
are not limited to those discussed below. Such factors, together with the other
information in this Form 10-Q, should be considered carefully in evaluating an
investment in the Company's Common Stock. The cautionary statements contained or
referred to in this section should be considered in connection with any
subsequent written or oral forward-looking statements that the Company or
persons acting on the Company's behalf may issue. The Company undertakes no
obligation to review or confirm analysts' expectations or estimates or to
release publicly any revisions to any forward-looking statements to reflect
events or circumstances after the date of this report or to reflect the
occurrence of unanticipated events.
Certain Factors Affecting Business, Operating Results and Financial Condition
We may experience slower growth and decreased profit margins.
Prior to the acquisition of TV Guide, the Company experienced significant
revenue growth and produced substantial profit margins. Subsequent to the
acquisition, while revenues have been greater due to the addition of TV Guide,
our profit margins have been lower due to the impacts of the lower margins
contributed by the TV Guide businesses. We do not expect to experience, in
percentage terms, the rapid revenue growth that we experienced before the
merger. In fact, as certain of our significant businesses are in declining
markets, we may experience a decrease in revenues as the revenue growth produced
by our emerging businesses may not be significant enough to offset the revenue
decreases of our businesses operating in declining markets. Also, in keeping
with our philosophy of focusing on core business activities, we may decide to
divest or discontinue certain non-core businesses, which may result in further
reductions of revenues and profits.
We face competition in many areas and the competition could negatively
impact our operating results.
We face competition from a wide range of other companies in the
communications, advertising, media, entertainment, information, Internet
services, software and technology fields. The competitive environment could,
among other results, require price reductions for our products, require
increased spending on marketing and product development, limit our ability to
develop new products and services, limit our ability to expand our customer base
or even result in attrition in our customer base. These results could negatively
impact our operating results.
New products and rapid technological change may adversely affect our
operations.
The emergence of new consumer entertainment products and technologies,
changes in consumer preferences and other factors may limit the life cycle of
our technologies and any future products we might develop. Our future operations
could be adversely impacted by our ability to identify emerging trends in our
markets and to develop and market new products and services that respond to
competitive offerings, technological changes and changing consumer preferences
in a timely manner and at competitive costs.
24
The marketing and market acceptance of our IPGs may not be as rapid as we
expected.
The market for our IPGs has only recently begun to develop, is rapidly
evolving and is increasingly competitive. Demand and market acceptance for our
IPGs are subject to uncertainty and risk. We cannot predict whether, or how
fast, this market will grow or how long it can be sustained. For GUIDE Plus+,
which is incorporated in consumer electronics products, the deployment rate will
be dependent on the strength or weakness of the consumer electronics industry,
and in particular, the sale of television sets. For TV Guide Interactive, which
is incorporated into digital set-top boxes, the deployment rate will be
dependent on the growth of digital cable subscribers. If the market for our IPGs
develops more slowly than expected or becomes saturated with competitors, our
operating results could be adversely impacted.
Composition of IPG license revenue may change.
The Company historically has charged a per unit license fee for the
incorporation of our IPG technology into hardware devices, including
televisions, VCRs, digital cable set-top boxes, digital satellite receivers, and
others. The Company has begun to enter into direct agreements with cable MSOs
and other service providers to provide IPG services based on a per subscriber
per month fee, such fee being inclusive of the per unit license fee otherwise
chargeable to the supplier of the set-top box to the licensed MSO. The impacts
of signing such agreements with service providers are that the Company will
recognize less license fees at the time of shipment of the set-top box, but will
establish a revenue stream with potentially much greater net present value when
cable subscribers activate their digital service. The Company believes that the
recurring revenue model based on a per subscriber per month fee is superior to
the per unit license fee not only because it brings a much higher long-term
value to the Company, but also because it aligns the Company closer with the
decision maker - in this case, the service provider. During the past 18 months,
the Company has entered into over 120 long-term license agreements with cable
MSOs and other service providers, including Comcast, Charter and Adelphia, in
the U.S. The effect of the Company's success in entering into these agreements
may act to reduce license fees recognized in 2002, and depending on the timing
of certain events, also in 2003, even though it is expected that after such a
transition period, the Company will experience growth as digital cable continues
to rollout.
Continued consolidation of the cable industry could change the terms of
existing agreements; the impact of these changes is not certain.
The Company has entered into agreements with a large number of cable MSOs
for distribution of our IPGs. If, as expected, consolidation of the cable
industry continues, some of the agreements may be affected by mergers,
acquisitions or system-swaps. Even though the Company has sought to protect
itself against such eventuality with provisions in these agreements, it is
conceivable that certain combinations of events could change the terms of the
agreements and such changes could have either positive or negative results on
our operations.
Advertising revenues are impacted by technology, consumer acceptance of our
products, competition, adverse economic conditions and seasonality.
We expect to derive a significant portion of our revenues from the sale of
advertising. Our IPGs must have the technology to effectively deliver
advertising, consumers must accept our products to create a broad advertising
base and advertisers must accept our IPGs as an effective medium for advertising
delivery. As a new media, we must be able to demonstrate its effectiveness with
quantitative research, which is currently underway. The rate for advertising on
the IPG platform, and hence its value, will depend on the availability, quality
and results of this research. We compete with other media for advertising
placements, which can result in lower prices and reductions in advertising
revenues. Adverse economic conditions could significantly impact our
advertisers' ability and willingness to spend additional amounts on advertising
generally. Additionally, our advertising revenues are subject to seasonal
fluctuations.
25
Our business may be adversely affected by changes in the consumer
electronics market.
We derive significant revenues from manufacturer license fees for our VCR
Plus+ and IPG technologies. We do not manufacture such hardware. We depend on
the cooperation of third-party consumer electronics manufacturers to incorporate
our technology into their products. Many of our license agreements do not
require the inclusion of our technology into any specific number or percentage
of units shipped by the licensees, and only a few of these agreements guarantee
a minimum licensing fee over their term. Accordingly, we cannot control or
predict the number of models or units shipped by any manufacturer employing our
technology. Demand for new consumer electronics devices, such as television
sets, VCRs, integrated satellite receiver decoders, personal computers and
Internet appliances, may be adversely impacted by increasing market saturation,
durability of products in the marketplace, new competing products and alternate
consumer entertainment options. Our future operating results are dependent on
continued growth in consumer electronics employing our technologies and any
decline in sales of consumer electronics products employing our technologies
could have an adverse impact on our operating results.
Dependence on the cooperation of cable systems, television broadcasters,
publications and data providers could adversely affect our revenues.
Program guide and advertising data is delivered to network headends, cable
headends, and broadcast stations for inclusion in the vertical blanking interval
of television signals and to local affiliate cable systems for delivery to
set-top boxes in subscribers homes via the out-of-band frequencies of local
cable systems. There can be no assurance that these delivery mechanisms will
distribute the data without error or that the agreements governing certain of
these relationships can be maintained on economical terms. Our data broadcast
through the vertical blanking interval can be, and has been in the past in
certain markets, deleted or modified by some of the local cable systems.
Widespread deletion or modification of such data could have a material adverse
impact on the Company's GUIDE Plus+ business. We purchase some of our program
guide information from commercial vendors. The quality, accuracy or timeliness
of such data may not continue to meet our standards or be acceptable to
consumers. Our VCR Plus+ system relies on consumer access to PlusCode numbers
through licensed publications. We are dependent on the maintenance and renewal
of agreements governing the PlusCode publications to ensure the distribution of
the PlusCodes.
Seasonality and variability of consumer electronic product shipments may
affect our revenues and results of operations on a quarterly or annual basis.
Shipments of consumer electronics products tend to be higher in the third
and fourth calendar quarters. General advertising also tends to be higher in the
fourth quarter. In addition, manufacturer shipments vary from quarter to quarter
depending on a number of factors, including retail inventory levels and retail
promotional activities. Newsstand sales of our print products tend to be higher
in the first and fourth calendar quarters. As a result, we may experience
variability in our licensing and advertising revenues.
VCR Plus+ revenues may be limited due to full penetration of the product in
a declining market.
Future growth of revenues derived from VCR Plus+ may be limited by the fact
that virtually all major VCR manufacturers have licensed the VCR Plus+
technology and the fact that we have already expanded into most major markets
worldwide. The worldwide shipment of VCRs has been declining and this decline is
expected to accelerate as they are replaced by digital recording devices. Even
though VCR Plus+ is now being incorporated into some digital recording devices,
there is no assurance that this practice will become widespread. In addition,
our IPG technology may be more relevant than our VCR Plus+ technology for these
digital recording devices.
TV Guide Magazine, which is a significant business, has experienced
significant declines in circulation and EBITDA and such declines are expected to
continue.
We provide TV Guide Magazine to households and newsstands and customized
monthly program guides to customers of cable and satellite service providers. TV
Guide Magazine has seen circulation decline significantly over the past several
years. The primary causes of these declines have been the continued effects of
increased competition from television listings included in local newspapers,
free television listings supplements in Sunday newspapers, electronic program
guides and other sources. Declines in TV Guide Magazine's circulation and EBITDA
are expected to continue, and the declines could be significant.
26
Paper and postal price increases can materially raise our costs associated
with the production and delivery of the TV Guide print products, including TV
Guide Magazine.
The price of paper can be a significant factor affecting TV Guide
Magazine's operating performance. We do not hedge against increases in paper
costs. If paper prices do increase and we cannot pass these costs on to our
customers, the increases may have a material adverse effect on us. Postage for
product distribution and direct mail solicitations is also a significant,
uncontrollable expense to us. Postal rates increased in February 2001 and again
in July 2001 and may increase in the future.
Our C-band business, which is a significant business, is declining. These
declines may accelerate due to competing technologies and the subscriber
conversion arrangement with EchoStar.
We market entertainment services to C-band satellite dish owners in the
United States through our approximately 80% owned subsidiary, SNG. The C-band
satellite industry is shrinking generally due to the continued expansion of
cable systems and direct broadcast satellite services. C-band satellite dishes
are substantially larger and less attractive than direct broadcast satellite
dishes, which are small and less obtrusive. Recently enacted legislation may
permit direct broadcast satellite programmers to offer more attractive
programming than SNG. We expect the decline in the C-band industry to continue.
In November 1999, SNG announced an exclusive direct broadcast satellite
marketing alliance agreement with EchoStar to convert the existing and inactive
C-band customers of SNG to the high power (small satellite dish) DISH Network
service. Under the conversion process, EchoStar compensates SNG on a per
subscriber basis, both upon successful conversion and with residual payments
over time. We anticipate that this agreement will accelerate the subscriber
decline in our C-band business.
Leverage associated with the debt assumed in the TV Guide acquisition may
adversely impact our financial operations.
As of March 31, 2002, we had outstanding approximately $296.4 million of TV
Guide long-term debt, which we acquired in the TV Guide merger. During the
remainder of 2002, scheduled debt retirements aggregate $45 million. TV Guide's
debt is significant and could have a number of potential consequences such as:
the ability to obtain any necessary financing in the future for working capital,
capital expenditures, acquisitions, debt service requirements and other purposes
may be limited; a significant amount of our earnings may be dedicated to the
payment of principal and interest on debt and therefore would be unavailable for
financing operations and other business activities; the debt level and the
covenants contained in the debt instruments could limit flexibility in planning
for, or reacting to, changes in business because certain financing options may
be limited or prohibited; the degree of leverage may be more than that of
competitors, placing us at a competitive disadvantage; and the debt level may
make us more vulnerable in the event of a downturn in our business or the
economy in general.
The stock price of the Company has been volatile, and such volatility has
continued since the merger with TV Guide.
The market price of our common stock has historically been volatile. It is
likely that the market price of our common stock will continue to be subject to
significant fluctuations. We believe that future announcements concerning us,
our competitors or our principal customers, including technological innovations,
new product introductions, governmental regulations, litigation or changes in
earnings estimated by analysts, may cause the market price of our common stock
to fluctuate substantially in the future. Sales of substantial amounts of
outstanding common stock in the public market could materially adversely affect
the market price of our common stock. Further, in recent years the stock market
has experienced extreme price fluctuation in equity securities of technology
companies. Such price and volume fluctuations often have been unrelated to the
operating performance of those companies. These fluctuations as well as general
economic, political and market conditions, such as recessions, international
currency fluctuations, or tariffs and other trade barriers, may materially and
adversely affect the market price of our common stock.
We have a significant amount of receivables due from five entities.
At March 31, 2002, approximately $221.4 million, or 59%, of the Company's
receivables are due from five entities, inclusive of $113.5 million due from
Scientific-Atlanta (see Liquidity and Capital Resources above). The Company
currently believes these receivables to be realizable; however, events may occur
in the future which could cause the Company to change its assessment of
recoverability.
27
We have significant intangible assets on our balance sheet that may be
subject to impairment.
In July 2000, we acquired TV Guide in a transaction accounted for as a
purchase. In that transaction, close to $10 billion of the purchase price was
allocated to intangible assets. We were required under accounting principles
generally accepted in the United States of America in place through December 31,
2001 to review our intangible assets periodically for impairment when
circumstances indicate the carrying value of the intangible assets may not be
recoverable through future operations. New accounting standards effective
January 1, 2002 eliminated the recoverability test for certain intangible assets
and require that such assets be reported at the lower of cost or fair value. We
have experienced a decline in our stock price and market capitalization since
the date of the TV Guide acquisition similar to other companies in our
industries. Should adverse economic conditions continue, or should other events
impacting the value of certain of our businesses occur, we may be required to
record a significant charge to earnings in our financial statements in the
period any impairment of our goodwill or other intangible assets is determined.
At December 31, 2001, our goodwill and intangible assets approximated $8.6
billion. The Company reported transitional impairment losses for indefinite
lived intangible assets of $297.8 million ($187.8 million, net of tax) upon
adoption of the new standard in the first quarter of 2002. Additionally, the
Company has completed the first step of the transitional goodwill impairment
test under Statement 142, which requires the Company to compare the fair value
of its reporting units to the carrying value of the net assets of the respective
reporting units. The amount of the impairment charge cannot be reliably
determined at March 31, 2002 because the second step of the transitional
impairment test has not been completed. The Company is required to complete the
second step of the transitional impairment test by the end of the 2002 fiscal
year. However, based on the analysis performed to date, management expects that
the impairment charge will be approximately $5 billion. When recorded, the
charge will be reflected as the cumulative effect of an accounting change in the
first quarter of 2002. The carrying value of goodwill at March 31, 2002 was $5.5
billion. Future impairment charges may result if circumstances indicate that an
impairment exists.
We invest in securities of technology companies, many of which have
experienced a decrease in value.
We hold investments in technology companies. Due to the recent price
volatility in the general stock market, and in particular the price volatility
of securities of technology companies, we realized other than temporary
decreases in the market value of our investments in technology companies and
wrote down their carrying value during 2001. We may realize further other than
temporary decreases in the market value of certain investments in future
periods.
Any infringement by us on patent rights of others could result in
litigation.
Patents of third parties may have an important bearing on our ability to
offer certain of our products and services. Many of our competitors as well as
other companies and individuals have obtained, and may be expected to obtain in
the future, patents that concern products or services related to the types of
products and services we plan to offer. We cannot provide assurance that we will
be aware of all patents containing claims that may pose a risk of infringement
by our products and services. In addition, patent applications in the U.S. are
generally confidential until a patent is issued and so we cannot evaluate the
extent to which our products and services may be covered or asserted to be
covered by claims contained in pending patent applications. In general, if one
or more of our products or services were to infringe patents held by others, we
may be required to stop developing or marketing the products or services, to
obtain licenses to develop and market the services from the holders of the
patents or to redesign the products or services in such a way as to avoid
infringing the patent claims. We cannot assess the extent to which we may be
required in the future to obtain licenses with respect to patents held by
others, whether the licenses would be available or, if available, whether we
would be able to obtain the licenses on commercially reasonable terms. If we
were unable to obtain the licenses, we may not be able to redesign our products
or services to avoid infringement.
An unfavorable outcome of certain legal proceedings may adversely affect
our business and operating results.
The Company is engaged in a number of legal proceedings in which the
Company alleges that EchoStar, Scientific-Atlanta, Pioneer, and SCI Systems are
infringing certain of the Company's patents. One of these proceedings is a
hearing before Administrative Law Judge Paul Luckern of the International Trade
Commission ("ITC"). Legal arguments have concluded and the Company is currently
awaiting a ruling on this matter. Even though the ITC has no jurisdiction to
award monetary damages and there are no counterclaims asserted against the
Company in that proceeding and only three out of a large number of the Company's
relevant patents are involved, an unfavorable ruling in the ITC may have
negative effects with respect to these three patents in Federal Court cases
currently pending, and may have a negative impact on the Company, including
having to expense some or all of the litigation costs in this proceeding, and to
expense further legal fees for appeal and other legal actions with respect to
these patents. Similarly, unfavorable rulings in the other proceedings,
including a set of cases pending in the United States District Court for the
Northern District of Georgia, may also have negative impact on the Company,
including a change in the assessment of recoverability of certain receivables,
that may be greater or smaller depending on the nature of the rulings.
28
Dependence on key employees could affect our future success.
We are dependent on certain key members of our management, operations and
development staff, including Henry C. Yuen, our Chief Executive Officer, the
loss of whose services could have a material adverse effect on the Company.
Although we have employment contracts with certain key employees, such
employment contracts would generally not restrict the employee's ability to
leave the Company. Furthermore, recruiting and retaining additional qualified
engineering, marketing, and operations personnel will be critical to our
success. In addition, we may not be able to recruit or retain such personnel on
acceptable terms. Failure to attract and retain key personnel could have a
material adverse effect on our business, operating results and financial
condition.
Our corporate governance structure is unusual and requires stockholders and
directors to meet specified voting requirements before taking certain actions.
There is no assurance that the arrangements contained in our certificate of
incorporation or bylaws will prove to be a successful model for managing our
company.
Our bylaws provide that Henry C. Yuen is Chairman of the Board (so long as
he is a director) and Chief Executive Officer until July 2005 unless he dies,
resigns or is terminated for disability or for cause in accordance with his
employment agreement. This bylaw requirement can only be changed with the
approval of nine of the twelve members of the board of directors or by the
affirmative vote of 66 2/3% or more of the voting power of our common stock. It
would be difficult for any amendment to this bylaw requirement to be made
without the support of Mr. Yuen. Mr. Yuen is entitled to designate six members
of the board of directors and The News Corporation Limited is entitled to
designate six members of the board of directors. The News Corporation Limited
(who beneficially owns approximately 42% of our outstanding common stock) has
agreed to vote its shares of our common stock for, or to use its best efforts to
cause its respective designees on the board of directors to vote for, the
election of Mr. Yuen as a director, the appointment of Mr. Yuen as Chairman of
the Board and Chief Executive Officer and the election of five other designees
of Mr. Yuen as directors.
Our bylaws require approval of seven of the twelve members of the board of
directors for certain itemized fundamental decisions. As a result, if all six
directors designated by Mr. Yuen or all six directors designated by News
Corporation vote to oppose any fundamental decision identified in the bylaws,
then we will not be able to take such action.
In addition, our bylaws provide that, except for matters delegated to board
committees, matters identified in the bylaws as "fundamental decisions" and
matters that require approval by supermajority vote of stockholders, if a matter
is brought before the board of directors and if there is a tie vote with respect
to such matter, then the exclusive power to approve or disapprove that matter
will generally be exercised by the Tie-breaking Committee (of which Mr. Yuen is
the sole member) until the earlier of July 2005 or the date Mr. Yuen ceases to
be Chief Executive Officer. Thereafter, until the third annual board of
directors' meeting following (1) the date Mr. Yuen ceases to be Chief Executive
Officer or, if later, (2) July 2005, the TVG Director Committee, the members of
which are currently the six members of the board of directors designated by The
News Corporation Limited or their successors, will generally have the ability to
resolve tie votes.
Our interests may diverge from those of substantial stockholders.
The News Corporation Limited and Henry C. Yuen have significant influence
over our business and affairs as a result of a stockholders agreement, their
respective beneficial ownership of our common stock, and, in Mr. Yuen's case,
his officer positions. Due to the significant value of their respective
investments in the Company, and Mr. Yuen's role as Chairman and Chief Executive
Officer, it is unlikely that their interests would diverge significantly from
the Company's or its other shareholders. Nevertheless, investor interests can in
some limited circumstances differ from each other and from other corporate
interests and it is possible that these significant stockholders with a stake in
corporate management may have interests that differ from those of other
stockholders and of the Company itself.
29
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to the impact of interest rate changes and changes
in the market values of its investments. The Company's exposure to market rate
risk for changes in interest rates relates primarily to its investment portfolio
and variable rate debt issued under TV Guide's $300 million six-year revolving
credit facility and $300 million amortizing term loan. The Company has not used
derivative financial instruments in its investment portfolio or to hedge for
interest rate fluctuations on its debt. The Company invests its excess cash in
debt instruments of the U.S. Government and its agencies, and in high-quality
corporate issuers and, by policy, limits the amount of credit exposure to any
one issuer. The Company protects and preserves its invested funds by limiting
default, market and reinvestment risk. Investments in both fixed rate and
floating rate interest earning instruments carry a degree of interest rate risk.
Fixed rate securities may have their fair market value adversely impacted due to
a rise in interest rates, while floating rate securities may produce less income
than expected if interest rates fall. Due in part to these factors, the
Company's future investment income may fall short of expectations due to changes
in interest rates or the Company may suffer losses in principal if forced to
sell securities which have declined in market value due to changes in interest
rates. Because the interest rates on the credit facilities are variable, based
upon the banks' prime rate or LIBOR, the Company's interest expense and cash
flow are impacted by interest rate fluctuations. At March 31, 2002, the Company
had $296.4 million in outstanding borrowings under the credit facilities. If
interest rates were to increase or decrease by 100 basis points, the result,
based upon the existing outstanding debt, would be an annual increase or
decrease of $3.0 million in interest expense and a corresponding decrease or
increase of $3.0 million in the Company's operating cash flow.
PART II. OTHER INFORMATION
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ITEM 1. LEGAL PROCEEDINGS
The following is a description of lawsuits known to the Company that have
been filed subsequent to the Company's December 31, 2001 10-K filing and
lawsuits that have undergone significant changes since that filing.
In April and May 2002, the Company and its principal executive officers and
directors were served with a number of complaints, filed in the United States
District Court for the Central District of California, alleging violations of
the Securities Exchange Act of 1934 (the "1934 Act") and the Securities Act of
1933 (the "1933 Act"). Also named in several of the complaints is The News
Corporation Limited ("News Corp."), a shareholder of the Company. The fifteen
complaints name some or all of the same parties as defendants, and purport to
state claims on behalf of all persons who purchased the Company's common stock
during various periods, the broadest of which is August 11, 1999 through April
4, 2002. More particularly, the alleged claims are brought under Section 10(b)
and 20(a) of the 1934 Act, Section 11 of the 1933 Act and SEC Rule 10b-5. The
essence of the allegations is that the defendants allegedly intentionally failed
to properly account for revenue accrued from Scientific-Atlanta; for a
non-monetary transaction, pursuant to which intellectual property rights were
obtained in exchange for cash and advertising credits; and failed to properly
record the fair value of technology investments and marketable securities
acquired in connection with the Company's acquisition of TV Guide, Inc.
Plaintiffs allege that this had the effect of materially overstating the
Company's reported financial results.
The Company anticipates that the District Court will consolidate the
fifteen lawsuits (and any subsequently filed lawsuits) into one case, and that
following consolidation, a consolidated amended complaint will be filed. The
Company believes that the allegations are without merit and intends to defend
the actions vigorously.
In April and May 2002, the Company, along with its principal executive
officers and directors, were also sued in four purported shareholder derivative
actions. Three of these actions were filed in the Superior Court of the State of
California for the County of Los Angeles and one action was filed in the Court
of Chancery of the State of Delaware, County of New Castle. These purported
derivative lawsuits allege various breaches of fiduciary duty and violations of
the California Corporations Code based upon the same general set of alleged
facts and circumstances as the federal shareholder suits. The Company believes
the allegations are without merit and intends to defend the actions vigorously.
On October 18, 1999, a former employee of ODS Technologies, L.P. ("ODS"),
now a majority owned subsidiary of the Company, filed a complaint against ODS
and TV Guide in a Florida federal court, which complaint was amended on November
12, 1999, asserting causes of action for violations of certain federal statutes
governing pension plans and for equitable estoppel. The amended complaint sought
an unspecified amount of damages for benefits allegedly due to the plaintiff
under his employment agreement with ODS. On April 22, 2002, the Court granted
ODS and TV Guide summary judgment dismissing the case.
30
On May 3, 2000, a complaint was filed in the U.S. District Court for the
Southern District of New York against Murdoch Magazines Distribution, Inc. (now
named TV Guide Distribution, Inc. and a wholly owned subsidiary of the Company)
and other parties by United Magazine Company, Inc. ("Unimag") and related
entities. The complaint alleges claims against Murdoch Magazines for violation
of the Robinson-Patman Act, breach of implied covenants of good faith and fair
dealing, promissory estoppel, breach of fiduciary duty, misappropriation of
business property and trade secrets, tortious destruction of business, breach of
confidential relationship and violation of federal and state antitrust laws. The
complaint seeks monetary damages, plus treble and punitive damages, attorneys'
fees and costs. On August 31, 2000, Unimag filed an amended complaint, (i)
adding TV Guide Distribution, Inc. as a named defendant, (ii) adding six other
national distributors as defendants, and (iii) adding claims for unjust
enrichment and violation of the New York Franchise Sales Act. The Company filed
a motion to dismiss all of the claims asserted against it. On May 1, 2001, the
Court heard oral argument on the Company's motion to dismiss, and an Opinion and
Order was issued on May 31, 2001, dismissing all fifteen counts in Unimag's
Amended Complaint, most with prejudice and some with leave to replead. On June
21, 2001, Unimag and the other plaintiffs filed a Second Amended Complaint, in
essence alleging violations of the Robinson-Patman Act, breach of fiduciary
duties and confidential relationships by the national distributor defendants and
Murdoch Magazines, along with tort and statutory claims. All defendants,
including Murdoch Magazines, have filed motions to dismiss portions of the
Second Amended Complaint. By Opinion and Order dated December 17, 2001, the
Court granted the motions in part and denied them in part. The claims for breach
of fiduciary duties and confidential relationships against the national
distributor defendants and Murdoch Magazines were dismissed with prejudice. The
Robinson-Patman claims remain, along with certain statutory claims. On February
4, 2002, the defendants, including Murdoch Magazines, filed their answers and
counterclaims against plaintiffs. The counterclaims seek recovery of tens of
millions of dollars owed by plaintiffs to the national distributors, including
Murdoch Magazines, for unpaid invoices. On March 13, 2002, plaintiffs replied to
the defendants' answers and counterclaims and asserted a number of affirmative
defenses and reply counterclaims that revived certain contractual and tort
claims that the Court had previously dismissed. The defendants, including
Murdoch Magazines, are moving to strike and dismiss these affirmative defenses
and reply counterclaims. In the meantime, the Court has set a two-year discovery
period to conclude by April 2004, and discovery has been proceeding.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
a. Exhibits
None
b. Reports on Form 8-K
No reports on Form 8-K were filed by the Company during the quarter ended
March 31, 2002.
31
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
GEMSTAR-TV GUIDE INTERNATIONAL, INC.
(Registrant)
Date: May 15, 2002 By: /s/ ELSIE MA LEUNG
------------------------------------
Elsie Ma Leung
Co-President,
Chief Financial Officer and Director
(Principal Financial and
Accounting Officer)
32