e10vq
UNITED STATES SECURITIES AND
EXCHANGE COMMISSION
Washington, D.C.
20549
Form 10-Q
|
|
|
þ
|
|
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
|
|
|
For the quarterly period ended
June 30, 2008
|
or
|
o
|
|
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
|
|
|
For the transition period
from to
|
Commission file number:
001-31216
McAfee, Inc.
(Exact name of registrant as
specified in its charter)
|
|
|
Delaware
|
|
77-0316593
|
(State or other jurisdiction
of
incorporation or organization)
|
|
(I.R.S. Employer
Identification Number)
|
|
|
|
3965 Freedom Circle
Santa Clara, California
(Address of principal
executive offices)
|
|
95054
(Zip
Code)
|
Registrants telephone number, including area code:
(408) 988-3832
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 þ No o
Indicate by check mark whether the registrant is a large
accelerated filer, an accelerated filer, a non-accelerated
filer, or a smaller reporting company. See definitions of
large accelerated filer, accelerated
filer and smaller reporting company in
Rule 12b-2
of the Exchange Act. (Check one):
|
|
|
|
Large
accelerated
filer þ
|
Accelerated
filer o
|
Non-accelerated
filer o
|
Smaller
reporting
company o
|
(Do
not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company
(as defined in
Rule 12b-2
of the Exchange
Act). Yes o No þ
As of July 31, 2008, 151,288,497 shares of the
registrants common stock, $0.01 par value, were
outstanding.
MCAFEE,
INC.
FORM 10-Q
June 30, 2008
CONTENTS
2
PART I:
FINANCIAL INFORMATION
|
|
Item 1.
|
Financial
Statements (Unaudited)
|
MCAFEE,
INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands, except share data)
|
|
|
|
(Unaudited)
|
|
|
ASSETS
|
Current assets:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
602,626
|
|
|
$
|
394,158
|
|
Short-term marketable securities
|
|
|
233,298
|
|
|
|
338,770
|
|
Accounts receivable, net of allowance for doubtful accounts of
$4,474 and $4,076, respectively
|
|
|
201,692
|
|
|
|
232,056
|
|
Prepaid expenses and prepaid taxes
|
|
|
213,620
|
|
|
|
162,574
|
|
Deferred income taxes
|
|
|
261,629
|
|
|
|
256,188
|
|
Other current assets
|
|
|
24,708
|
|
|
|
24,000
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
1,537,573
|
|
|
|
1,407,746
|
|
Long-term marketable securities
|
|
|
295,403
|
|
|
|
585,874
|
|
Property and equipment, net
|
|
|
97,721
|
|
|
|
94,670
|
|
Deferred income taxes
|
|
|
304,154
|
|
|
|
321,342
|
|
Intangible assets, net
|
|
|
207,978
|
|
|
|
220,126
|
|
Goodwill
|
|
|
803,731
|
|
|
|
750,089
|
|
Other assets
|
|
|
63,906
|
|
|
|
34,256
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
3,310,466
|
|
|
$
|
3,414,103
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
38,946
|
|
|
$
|
45,858
|
|
Accrued income taxes
|
|
|
89,617
|
|
|
|
79,553
|
|
Accrued compensation
|
|
|
75,744
|
|
|
|
99,652
|
|
Other accrued liabilities
|
|
|
200,212
|
|
|
|
150,961
|
|
Deferred revenue
|
|
|
843,289
|
|
|
|
801,577
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
1,247,808
|
|
|
|
1,177,601
|
|
Deferred revenue, less current portion
|
|
|
242,549
|
|
|
|
242,936
|
|
Accrued taxes and other long-term liabilities
|
|
|
87,032
|
|
|
|
88,241
|
|
|
|
|
|
|
|
|
|
|
Total liabilities
|
|
|
1,577,389
|
|
|
|
1,508,778
|
|
|
|
|
|
|
|
|
|
|
Commitments and contingencies (Notes 11 and 12)
|
|
|
|
|
|
|
|
|
|
STOCKHOLDERS EQUITY
|
Preferred stock, $0.01 par value:
|
|
|
|
|
|
|
|
|
Authorized: 5,000,000 shares; Issued and outstanding: none
in 2008 and 2007
|
|
|
|
|
|
|
|
|
Common stock, $0.01 par value:
|
|
|
|
|
|
|
|
|
Authorized: 300,000,000 shares; Issued:
178,672,704 shares at June 30, 2008 and
173,148,853 shares at December 31, 2007
|
|
|
|
|
|
|
|
|
Outstanding: 154,559,470 shares at June 30, 2008 and
160,545,422 shares at December 31, 2007
|
|
|
1,787
|
|
|
|
1,732
|
|
Treasury stock, at cost: 24,113,234 shares at June 30,
2008 and 12,603,431 shares at December 31, 2007
|
|
|
(705,457
|
)
|
|
|
(303,270
|
)
|
Additional paid-in capital
|
|
|
1,953,809
|
|
|
|
1,810,290
|
|
Accumulated other comprehensive income
|
|
|
40,868
|
|
|
|
32,498
|
|
Retained earnings
|
|
|
442,070
|
|
|
|
364,075
|
|
|
|
|
|
|
|
|
|
|
Total stockholders equity
|
|
|
1,733,077
|
|
|
|
1,905,325
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholders equity
|
|
$
|
3,310,466
|
|
|
$
|
3,414,103
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
3
MCAFEE,
INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands, except per share data)
|
|
|
|
(Unaudited)
|
|
|
Net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
$
|
199,754
|
|
|
$
|
165,162
|
|
|
$
|
387,972
|
|
|
$
|
332,767
|
|
Subscription
|
|
|
164,243
|
|
|
|
133,291
|
|
|
|
325,217
|
|
|
|
261,659
|
|
Product
|
|
|
32,761
|
|
|
|
16,377
|
|
|
|
53,210
|
|
|
|
35,282
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
396,758
|
|
|
|
314,830
|
|
|
|
766,399
|
|
|
|
629,708
|
|
Cost of net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
|
15,585
|
|
|
|
11,835
|
|
|
|
30,429
|
|
|
|
24,228
|
|
Subscription
|
|
|
46,375
|
|
|
|
39,615
|
|
|
|
92,965
|
|
|
|
77,001
|
|
Product
|
|
|
14,416
|
|
|
|
11,419
|
|
|
|
29,358
|
|
|
|
23,324
|
|
Amortization of purchased technology and patents
|
|
|
13,357
|
|
|
|
8,515
|
|
|
|
26,917
|
|
|
|
16,884
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of net revenue
|
|
|
89,733
|
|
|
|
71,384
|
|
|
|
179,669
|
|
|
|
141,437
|
|
Operating costs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development
|
|
|
61,998
|
|
|
|
54,819
|
|
|
|
120,623
|
|
|
|
109,432
|
|
Marketing and sales
|
|
|
128,887
|
|
|
|
95,147
|
|
|
|
247,244
|
|
|
|
188,228
|
|
General and administrative
|
|
|
58,055
|
|
|
|
42,102
|
|
|
|
100,744
|
|
|
|
86,953
|
|
Investigation costs
|
|
|
266
|
|
|
|
9,148
|
|
|
|
1,642
|
|
|
|
14,200
|
|
Amortization of intangibles
|
|
|
5,636
|
|
|
|
3,556
|
|
|
|
10,976
|
|
|
|
6,238
|
|
Restructuring (benefits) charges
|
|
|
(2,214
|
)
|
|
|
(77
|
)
|
|
|
(2,143
|
)
|
|
|
3,049
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating costs
|
|
|
252,628
|
|
|
|
204,695
|
|
|
|
479,086
|
|
|
|
408,100
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
|
54,397
|
|
|
|
38,751
|
|
|
|
107,644
|
|
|
|
80,171
|
|
Interest and other income, net
|
|
|
10,252
|
|
|
|
18,715
|
|
|
|
23,287
|
|
|
|
33,030
|
|
Gain on investments, net
|
|
|
218
|
|
|
|
151
|
|
|
|
2,680
|
|
|
|
260
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before provision for income taxes
|
|
|
64,867
|
|
|
|
57,617
|
|
|
|
133,611
|
|
|
|
113,461
|
|
Provision for income taxes
|
|
|
17,041
|
|
|
|
9,573
|
|
|
|
55,616
|
|
|
|
22,067
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
47,826
|
|
|
$
|
48,044
|
|
|
$
|
77,995
|
|
|
$
|
91,394
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other comprehensive income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized loss on marketable securities, net of
reclassification adjustment for gains (losses) recognized on
marketable securities during the period and income tax
|
|
$
|
(3,573
|
)
|
|
$
|
(566
|
)
|
|
$
|
(4,510
|
)
|
|
$
|
(97
|
)
|
Foreign currency translation (loss) gain
|
|
|
(5,655
|
)
|
|
|
3,933
|
|
|
|
12,880
|
|
|
|
4,369
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income
|
|
$
|
38,598
|
|
|
$
|
51,411
|
|
|
$
|
86,365
|
|
|
$
|
95,666
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share Basic
|
|
$
|
0.30
|
|
|
$
|
0.30
|
|
|
$
|
0.49
|
|
|
$
|
0.57
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share Diluted
|
|
$
|
0.30
|
|
|
$
|
0.29
|
|
|
$
|
0.48
|
|
|
$
|
0.56
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per share calculation Basic
|
|
|
158,770
|
|
|
|
159,800
|
|
|
|
159,882
|
|
|
|
159,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in per share calculation Diluted
|
|
|
161,553
|
|
|
|
163,814
|
|
|
|
163,367
|
|
|
|
163,487
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
4
MCAFEE,
INC. AND SUBSIDIARIES
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands)
|
|
|
|
(Unaudited)
|
|
|
Cash flows from operating activities:
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
77,995
|
|
|
$
|
91,394
|
|
Adjustments to reconcile net income to net cash provided by
operating activities:
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
57,212
|
|
|
|
40,646
|
|
Impairment of marketable securities
|
|
|
2,570
|
|
|
|
|
|
Provision for (recovery of) doubtful accounts, net
|
|
|
337
|
|
|
|
(124
|
)
|
Non-cash restructuring (benefit) charge
|
|
|
(2,776
|
)
|
|
|
1,286
|
|
Discount amortization on marketable securities
|
|
|
(1,136
|
)
|
|
|
(2,638
|
)
|
Loss on sale of assets and technology
|
|
|
67
|
|
|
|
11
|
|
Gain on sale of investments
|
|
|
(5,251
|
)
|
|
|
(260
|
)
|
Deferred income taxes
|
|
|
18,580
|
|
|
|
3,175
|
|
(Decrease) increase in fair value of options accounted for as
liabilities
|
|
|
(5,483
|
)
|
|
|
1,915
|
|
Non-cash stock-based compensation expense
|
|
|
31,333
|
|
|
|
30,497
|
|
Excess tax benefits from stock-based compensation
|
|
|
(12,464
|
)
|
|
|
(12
|
)
|
Changes in assets and liabilities, net of acquisitions:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
37,860
|
|
|
|
10,333
|
|
Prepaid expenses, prepaid taxes and other assets
|
|
|
(31,207
|
)
|
|
|
(5,648
|
)
|
Accounts payable
|
|
|
(10,036
|
)
|
|
|
1,330
|
|
Accrued taxes and other liabilities
|
|
|
(7,518
|
)
|
|
|
9,552
|
|
Deferred revenue
|
|
|
919
|
|
|
|
5,644
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by operating activities
|
|
|
151,002
|
|
|
|
187,101
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
Purchase of marketable securities
|
|
|
(231,322
|
)
|
|
|
(346,873
|
)
|
Proceeds from sales of marketable securities
|
|
|
378,367
|
|
|
|
111,513
|
|
Proceeds from maturities of marketable securities
|
|
|
245,197
|
|
|
|
217,401
|
|
Acquisitions, net of cash acquired
|
|
|
(55,041
|
)
|
|
|
|
|
(Increase) decrease in restricted cash
|
|
|
(2
|
)
|
|
|
393
|
|
Purchase of patents
|
|
|
|
|
|
|
(9,300
|
)
|
Purchase of property, equipment and leasehold improvements
|
|
|
(21,001
|
)
|
|
|
(18,850
|
)
|
Proceeds from the sale of assets and technology
|
|
|
|
|
|
|
4,105
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities
|
|
|
316,198
|
|
|
|
(41,611
|
)
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities:
|
|
|
|
|
|
|
|
|
Proceeds from issuance of common stock from option plans
|
|
|
87,044
|
|
|
|
|
|
Excess tax benefits from stock-based compensation
|
|
|
12,464
|
|
|
|
12
|
|
Repurchase of common stock
|
|
|
(382,896
|
)
|
|
|
(196
|
)
|
|
|
|
|
|
|
|
|
|
Net cash used in financing activities
|
|
|
(283,388
|
)
|
|
|
(184
|
)
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate fluctuations on cash
|
|
|
24,656
|
|
|
|
7,651
|
|
|
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents
|
|
|
208,468
|
|
|
|
152,957
|
|
Cash and cash equivalents at beginning of period
|
|
|
394,158
|
|
|
|
389,627
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period
|
|
$
|
602,626
|
|
|
$
|
542,584
|
|
|
|
|
|
|
|
|
|
|
Non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
Unrealized loss on marketable securities, net
|
|
$
|
4,510
|
|
|
$
|
97
|
|
|
|
|
|
|
|
|
|
|
Accrual for purchase of property, equipment and leasehold
improvements
|
|
$
|
5,058
|
|
|
$
|
4,676
|
|
|
|
|
|
|
|
|
|
|
Fair value of assets acquired in business combination, excluding
cash acquired
|
|
$
|
64,363
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities assumed in business combination
|
|
$
|
14,062
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
Accrued purchase price
|
|
$
|
1,268
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
Unsettled repurchase of common stock
|
|
$
|
19,291
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
Modification of stock options reclassification from
equity to liability awards
|
|
$
|
|
|
|
$
|
4,326
|
|
|
|
|
|
|
|
|
|
|
Exercise of stock options reclassification from
liability to equity awards
|
|
$
|
16,994
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information:
|
|
|
|
|
|
|
|
|
Cash paid for income taxes
|
|
$
|
13,334
|
|
|
$
|
15,576
|
|
|
|
|
|
|
|
|
|
|
Cash received from income tax refunds
|
|
$
|
3,471
|
|
|
$
|
11,830
|
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these condensed
consolidated financial statements.
5
MCAFEE,
INC. AND SUBSIDIARIES
NOTES TO
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
|
|
1.
|
Organization
and Business
|
McAfee, Inc. and our wholly owned subsidiaries (we,
us or our) are a leading dedicated
security technology company that secures systems and networks
from threats around the world. Our security solutions are
offered primarily to large enterprises, government agencies,
small and medium-sized businesses and consumers either directly
or through a network of qualified partners. We operate our
business in five geographic regions: North America; Europe,
Middle East and Africa (EMEA); Japan; Asia-Pacific,
excluding Japan; and Latin America.
|
|
2.
|
Summary
of Significant Accounting Policies and Basis of
Presentation
|
The accompanying condensed consolidated financial statements
include our accounts as of June 30, 2008 and
December 31, 2007 and for the three and six months ended
June 30, 2008 and June 30, 2007. All intercompany
accounts and transactions have been eliminated in consolidation.
These condensed consolidated financial statements have been
prepared by us, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission
(SEC). Certain information and footnote disclosures
normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United
States of America have been condensed or omitted pursuant to
such rules and regulations. The December 31, 2007 condensed
consolidated balance sheet was derived from audited consolidated
financial statements, but does not include all disclosures
required by accounting principles generally accepted in the
United States of America. However, we believe that all
disclosures are adequate to make the information presented not
misleading. The accompanying unaudited condensed consolidated
financial statements should be read in conjunction with the
audited consolidated financial statements and the notes thereto,
included in our annual report on
Form 10-K
for the year ended December 31, 2007.
In the opinion of our management, all adjustments (which consist
of normal recurring adjustments, except as disclosed herein)
necessary to fairly present our financial position, results of
operations and cash flows for the interim periods presented have
been included. The results of operations for the three and six
months ended June 30, 2008 are not necessarily indicative
of the results to be expected for the full year or for any
future periods.
Significant
Accounting Policies
In the three months ended June 30, 2008, we added the
disclosure of Potential Impairment of Marketable
Securities to our critical accounting policies and,
therefore, have included Marketable Securities in
our significant accounting policies below. We have had no
significant changes in our accounting policies during the six
months ended June 30, 2008 as compared to our accounting
policies for the year ended December 31, 2007.
Marketable
Securities
All marketable securities are classified as
available-for-sale
securities.
Available-for-sale
securities are carried at fair value with resulting unrealized
gains and losses that are considered to be temporary reported,
net of related taxes, as a component of accumulated other
comprehensive income. Premium and discount on debt securities
recorded at the date of purchase are amortized and accreted,
respectively, to interest income using the effective interest
method. Short-term marketable securities are those with
remaining maturities at the consolidated balance sheet date of
less than one year. Long-term marketable securities have
remaining maturities at the consolidated balance sheet date of
one year or greater. Realized gains and losses on sales of all
such investments are reported in earnings and computed using the
specific identification cost method.
We assess the value of our
available-for-sale
marketable securities on a regular basis to assess whether an
other-than-temporary
decline in the fair value has occurred. Factors which we use to
assess whether an other than temporary decline has occurred
include, but are not limited to, the period of time the fair
value is below amortized cost, significant changes in the
operating performance, financial condition or business model of
the issuer or underlying assets, the difference between fair
value and amortized cost, and changes in market conditions. Any
other than temporary decline in value is reported in
earnings and a new cost basis for the marketable security
6
established. In the three months and six months ended
June 30, 2008, we recorded an impairment on a single
marketable security of $2.6 million. We had no impairment
of marketable securities in the three and six months ended
June 30, 2007.
Inventory
Inventory, which consists primarily of finished goods held at
fulfillment partner locations and inventory sold into our
channel that has not been sold through to the end-user, is
stated at the lower of cost or market. Cost is computed using
standard cost, which approximates actual cost on a first in,
first out basis. Inventory balances are included in other
current assets in our condensed consolidated balance sheets and
were $4.7 million as of June 30, 2008 and
$3.0 million as of December 31, 2007.
Deferred
Costs of Revenue
Deferred costs of revenue, which consist primarily of costs
related to revenue-sharing arrangements and royalty
arrangements, are included in prepaid expenses and other assets
on our condensed consolidated balance sheets. We only defer
direct and incremental costs related to revenue-sharing
arrangements and recognize such deferred costs proportionate to
the related revenue recognized. At June 30, 2008, our
deferred costs were $149.0 million.
Investigation
Costs
Investigation costs in 2008 include primarily ongoing legal
expenses arising as a result of our recently completed
investigation into our historical stock option granting
practices and in 2007 include various expenses related to our
recently completed investigation into our historical stock
option granting practices.
Reclassifications
In the condensed consolidated statement of cash flows for the
six months ended June 30, 2007, we have reclassified
$103.7 million within investing activities to properly
reflect partial pay downs received on asset-backed investments
as proceeds from maturities of marketable securities
rather than proceeds from sales of marketable
securities.
Fair
Value Measurements
On January 1, 2008, we adopted Statement of Financial
Accounting Standards (SFAS) No. 157,
Fair Value Measurements
(SFAS 157), which defines fair value,
establishes a framework for measuring fair value, and expands
disclosure requirements regarding fair value measurement. We
hold financial assets, such as available for
7
sale securities and foreign currency contracts, subject to
valuation under SFAS 157. The following table details the
fair value measurements within the fair value hierarchy of our
financial assets (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at June 30, 2008 Using
|
|
|
|
|
|
|
Quoted Prices
|
|
|
Significant Other
|
|
|
Significant
|
|
|
|
|
|
|
in Active Markets
|
|
|
Observable
|
|
|
Unobservable
|
|
|
|
June 30,
|
|
|
Using Identical Assets
|
|
|
Inputs
|
|
|
Inputs
|
|
Description
|
|
2008
|
|
|
(Level 1)(1)
|
|
|
(Level 2)(2)
|
|
|
(Level 3)(3)
|
|
|
Available-for-sale
securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States (U.S.) Government notes and bonds(4)
|
|
$
|
253,059
|
|
|
$
|
221,726
|
|
|
$
|
31,333
|
|
|
$
|
|
|
Corporate notes and bonds(4)
|
|
|
134,215
|
|
|
|
|
|
|
|
134,215
|
|
|
|
|
|
Asset-backed securities(4)
|
|
|
115,141
|
|
|
|
|
|
|
|
115,141
|
|
|
|
|
|
Mortgage-backed securities(4)
|
|
|
26,286
|
|
|
|
|
|
|
|
26,286
|
|
|
|
|
|
Cash and cash equivalents(5)
|
|
|
52,048
|
|
|
|
|
|
|
|
52,048
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
available-for-sale
securities
|
|
|
580,749
|
|
|
|
221,726
|
|
|
|
359,023
|
|
|
|
|
|
Foreign exchange derivatives(6)
|
|
|
715
|
|
|
|
715
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
581,464
|
|
|
$
|
222,441
|
|
|
$
|
359,023
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Level 1 classification is applied to any asset that has a
readily available quoted price from an active market where there
is significant transparency in the executed/quoted price. |
|
(2) |
|
Level 2 classification is applied to assets that have
evaluated prices received from fixed income vendors where the
data inputs to these valuations, which are observable either
directly or indirectly, but do not represent quoted prices from
an active market. |
|
(3) |
|
Level 3 classification is applied to assets when prices are
not derived from existing market data. |
|
(4) |
|
Included in both short-term and long-term marketable securities
on our condensed consolidated balance sheets. |
|
(5) |
|
Included in cash and cash equivalents on our condensed
consolidated balance sheets. |
|
(6) |
|
Included in other current assets and other accrued liabilities
on our condensed consolidated balance sheets. |
In February 2008, the Financial Accounting Standard Board
(FASB) issued FASB Staff Position (FSP)
No. 157-2,
Effective Date of FASB Statement No. 157
(FSP 157-2).
FSP 157-2
delays the effective date of SFAS No. 157 for all
non-financial assets and non-financial liabilities that are not
remeasured at fair value on a recurring basis (at least
annually) until fiscal years beginning after November 15,
2008.
FSP 157-2
is effective for us beginning January 1, 2009 and will be
applied prospectively. We continue to assess the impact that
FSP 157-2
may have on our consolidated financial position and results of
operations.
Fair
Value Option
On January 1, 2008, we adopted SFAS No. 159,
The Fair Value Option for Financial Assets and
Financial Liabilities including an amendment
of FASB Statement No. 1
(SFAS 159). SFAS 159 permits entities
to choose to measure certain financial instruments and other
items at fair value that are not currently required to be
measured at fair value, with unrealized gains and losses related
to these financial instruments reported in earnings at each
subsequent reporting date. We did not elect the fair value
measurement option for any of our financial assets or
liabilities. Therefore, the adoption of SFAS 159 did not
impact our consolidated financial position, results of
operations or cash flows.
Recent
Accounting Pronouncements
Maintenance
Deposits Under Lease Arrangements
In June 2008, the FASB ratified Emerging Issues Task Force
(EITF) Issue
No. 08-3,
Accounting by Lessees for Maintenance
Deposits
(EITF 08-3).
EITF 08-3
provides guidance for accounting for nonrefundable
8
maintenance deposits.
EITF 08-3
is effective for us beginning January 1, 2009. We are
currently assessing the impact of
EITF 08-3
on our consolidated financial position, results of operations
and cash flows.
Hierarchy
of Generally Accepted Accounting Principles
In May 2008, the FASB issued SFAS No. 162,
The Hierarchy of Generally Accepted Accounting
Principles (SFAS 162). SFAS 162
identifies the sources of accounting principles and the
framework for selecting the principles to be used in the
preparation of financial statements that are presented in
conformity with generally accepted accounting principles in the
United States. This Statement is effective 60 days
following the SECs approval of the Public Company
Accounting Oversight Board amendments to AU Section 411,
The Meaning of Present Fairly in Conformity with
Generally Accepted Accounting Principles. We do not
expect SFAS 162 to have a material impact on our
consolidated financial position, results of operations and cash
flows.
Useful
Life of Intangible Assets
In April 2008, the FASB issued FSP
No. 142-3,
Determination of the Useful Life of Intangible
Assets
(FSP 142-3).
FSP 142-3
amends the factors an entity should consider in developing
renewal or extension assumptions used in determining the useful
life of recognized intangible assets under FASB Statement
No. 142, Goodwill and Other Intangible
Assets and the period of expected cash flows used to
measure the fair value under FASB Statement No. 141,
Business Combination.
FSP 142-3
is effective for us beginning January 1, 2009. We currently
are assessing the impact that
FSP 142-3
may have on our consolidated financial position, results of
operations and cash flows.
Derivative
Instruments and Hedging Activities
In March 2008, the FASB issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging
Activities an amendment of FASB Statement
No. 133 (SFAS 161).
SFAS 161 amends SFAS No. 133, Accounting
for Derivative Instruments and Hedging Activities
(SFAS 133), to expand disclosures about an
entitys derivative instruments and hedging activities, but
does not change SFAS 133s scope of accounting.
SFAS 161 is effective for us beginning January 1, 2009.
Noncontrolling
Interests
In December 2007, the FASB issued SFAS No. 160,
Noncontrolling Interests in Consolidated Financial
Statements an amendment of Accounting Research
Bulletin No. 51 (SFAS 160).
SFAS 160 amends Accounting Research
Bulletin No. 51 to establish accounting and reporting
standards for the noncontrolling interest in a subsidiary and
for the deconsolidation of a subsidiary. SFAS 160 is
effective for us beginning January 1, 2009. We do not
expect the adoption of SFAS 160 to have a material impact
on our consolidated financial position, results of operations or
cash flows.
Business
Combinations
In December 2007, the FASB revised SFAS No. 141,
Business Combinations
(SFAS 141(R)), to improve the relevance,
representational faithfulness, and comparability of the
information that a reporting entity provides in its financial
reports about a business combination and its effects.
SFAS 141(R) establishes principles and requirements for
recognizing and measuring identifiable assets and goodwill
acquired, liabilities assumed, and any noncontrolling interest
in an acquisition, at their fair value as of the acquisition
date. SFAS 141(R) is effective for us beginning
January 1, 2009. We will assess how the adoption of
SFAS 141(R) will impact our consolidated financial
position, results of operations and cash flows if we complete an
acquisition after the date of adoption. The accounting treatment
related to pre-acquisition uncertain tax positions will change
when SFAS 141(R) becomes effective. At such time, any
changes to the recognition or measurement of uncertain tax
positions related to pre-acquisition periods will be recorded
through income tax expense, whereas currently the accounting
treatment would require any adjustment to be recognized through
the purchase accounting.
9
|
|
3.
|
Employee
Stock Benefit Plans
|
We record compensation expense for stock-based awards issued to
employees and outside directors in exchange for services
provided based on the estimated fair value of the awards on
their grant dates. Compensation expense is recognized over the
required service or performance period of the awards. Our
stock-based awards include stock options, restricted stock
awards (RSAs), restricted stock units
(RSUs), restricted stock units with
performance-based vesting (PSUs) and our Employee
Stock Purchase Plan (ESPP).
The following table summarizes stock-based compensation expense
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Amortization of fair value of options
|
|
$
|
5,800
|
|
|
$
|
4,214
|
|
|
$
|
11,377
|
|
|
$
|
9,272
|
|
Extension of post-termination exercise period
|
|
|
|
|
|
|
340
|
|
|
|
|
|
|
|
11,078
|
|
Expense (benefit) related to cash settlement of options
|
|
|
|
|
|
|
1,959
|
|
|
|
(382
|
)
|
|
|
2,190
|
|
Restricted stock awards and units
|
|
|
6,482
|
|
|
|
5,236
|
|
|
|
12,307
|
|
|
|
10,147
|
|
Restricted stock units with performance-based vesting
|
|
|
6,894
|
|
|
|
|
|
|
|
7,149
|
|
|
|
|
|
Tender offer
|
|
|
|
|
|
|
|
|
|
|
601
|
|
|
|
|
|
Employee Stock Purchase Plan
|
|
|
500
|
|
|
|
|
|
|
|
500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense
|
|
$
|
19,676
|
|
|
$
|
11,749
|
|
|
$
|
31,552
|
|
|
$
|
32,687
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of fair value of options. We
recognize the fair value of stock options issued to employees
and outside directors as stock-based compensation expense over
the vesting period of the awards. As we adopted
SFAS No. 123(R), Share-Based Payment
(SFAS 123(R)) using the modified
prospective method, these charges include compensation expense
for stock options granted prior to January 1, 2006 but not
yet vested as of January 1, 2006, based on the grant date
fair value estimated in accordance with the pro forma provisions
of SFAS 123, and compensation expense for stock options
granted subsequent to January 1, 2006 based on the grant
date fair value estimated in accordance with the provisions of
SFAS 123(R).
Extension of post-termination exercise
period. From July 2006, when we announced that we
might have to restate our historical financial statements as a
result of our ongoing stock option granting practices
investigation, through December 21, 2007, the date we
became current on our reporting obligations under the Securities
Exchange Act of 1934, as amended, (blackout period),
we imposed restrictions on our ability to issue any shares,
including those pursuant to stock option exercises. In January
2007, we extended the post-termination exercise period for
vested options held by 640 former employees and outside
directors that would expire during the blackout period. As a
result of this modification, we recognized $0.3 million of
stock-based compensation expense in the three months ended
June 30, 2007, and $11.1 million in the six months
ended June 30, 2007, based on the fair value of the
modified options. The expense was calculated in accordance with
the guidance in SFAS 123(R). The options were deemed to
have no value prior to the extension of the life beyond the
blackout period.
Based on the guidance in SFAS 123(R) and related FSPs,
after the January 2007 modification, stock options held by
former employees and outside directors that terminated prior to
such modification became subject to the provisions of
EITF 00-19,
Accounting for Derivative Financial Instruments Indexed
to, and Potentially Settled in, a Companys Own
Stock,
(EITF 00-19).
As a result, in January 2007, these options were reclassified as
liability awards within current liabilities. Accordingly, at the
end of each reporting period, we determined the fair value of
these options utilizing the Black-Scholes valuation model and
recognized any change in fair value of the options in our
condensed consolidated statements of income and comprehensive
income in the period of change.
In November 2007, due to a delay in our becoming current in our
reporting obligations, we extended the post-termination exercise
period for options held by 690 former employees and outside
directors whose service to us terminated subsequent to the
January 2007 modification and those previously modified in
January 2007 as discussed above, until the earlier of
(i) the ninetieth (90th) calendar day after
December 21, 2007, the date we became current in our
reporting obligations under the Securities Exchange Act of 1934,
as amended, (ii) the
10
expiration of the contractual terms of the options, or
(iii) December 31, 2008. Based on the guidance in
SFAS 123(R) and related FSPs, after the November 2007
modification, stock options held by the former employees and
outside directors that terminated subsequent to the January 2007
modification and prior to November 2007 became subject to the
provisions of
EITF 00-19.
As a result, in November 2007, these options were reclassified
as liability awards within current liabilities. Accordingly, at
the end of each reporting period, we determined the fair value
of these options utilizing the Black-Scholes valuation model and
recognized any change in fair value of the options in our
condensed consolidated statements of income and comprehensive
income in the period of change.
As of March 31, 2008, the January 2007 and November 2007
modified options had been exercised or had expired. The fair
values of the options that had been exercised during the first
quarter of 2008 were remeasured on the respective date of
exercise and recorded as an increase to additional paid-in
capital. The options that expired were remeasured to have no
fair value. We recognized no expense in the three months ended
June 30, 2008 and a benefit of $5.5 million in the six
months ended June 30, 2008 related to the change in fair
value of these options. We recognized $1.9 million of
expense related to the change in fair value of these options in
the three and six months ended June 30, 2007. Such amounts
are included in general and administrative expense in our
condensed consolidated statements of income and comprehensive
income, and are not reflected as stock-based compensation
expense. We will not recognize any further expense related to
these extensions of post-termination exercise period.
Cash settlement of options. Certain stock
options held by terminated employees expired during the blackout
period as they could not be exercised during the
90-day
period subsequent to termination. In January 2007, we determined
that we would settle these options in cash. In the three and six
months ended June 30, 2007, we recognized expense of
approximately $2.0 million and $2.2 million,
respectively, based on the change in the liability we recorded
for the intrinsic value of these options. As of
December 31, 2007, we recorded a liability of
$5.7 million based on the intrinsic value of these options
using our December 31, 2007 closing stock price. We paid
$5.2 million in January 2008 to settle these options based
on the average closing price of our common stock subsequent to
December 21, 2007, the date we became current on our
reporting obligations under the Securities Exchange Act of 1934,
as amended. We recognized no expense in the three months ended
June 30, 2008 and recognized a $0.4 million benefit
for the difference between the December 31, 2007 liability
and the amount paid in the six months ended June 30, 2008.
All of these options were cash settled by March 31, 2008,
and we will not recognize any further expense related to these
options.
Restricted stock awards and units. We
recognize stock-based compensation expense for the fair value of
RSAs and RSUs. Fair value is determined as the difference
between the closing price of our common stock on the grant date
and the purchase price of the RSAs and RSUs. The fair value of
these awards is recognized to expense over the requisite service
period of the awards.
Restricted stock units with performance-based
vesting. We recognize stock-based compensation
expense for the fair value of PSUs. These awards vest as
follows: 50% vest only if performance criteria are met
(performance component) and 50% cliff vest four
years from the date of grant, with accelerated vesting if
performance criteria are met (service component).
Certain executive grants have only the performance component.
The performance component will vest one-third each year from the
date of grant, provided that the performance criteria are met
for each respective year. If the performance criteria are not
met in any one year, then the options that would have vested in
that year are forfeited. The performance component is being
recognized as expense one-third each year provided we determine
it is probable that the performance criteria will be met. For
certain of the PSUs, we have not communicated the performance
criteria to the employees. For these awards, the accounting
grant date will not occur until it is known whether the
performance criteria are met, and such achievement or
non-achievement is communicated to the employees. These awards
will be
marked-to-market
at the end of each reporting period through the accounting grant
date, and recognized over the expected vesting period. For the
awards for which the performance criteria have been
communicated, stock-based compensation expense has been measured
on the grant date, and is being recognized over the expected
vesting period.
The service component will cliff vest four years from the grant
date, with an acceleration provision based on the same
performance criteria as the performance component. Each of the
three tranches is being accounted for as a separate award. If
the performance criteria are met for each respective year, the
awards will vest one-third each year
11
from the grant date. The accounting grant date is deemed to have
occurred and stock-based compensation has been measured on the
grant date, and will be recognized over the expected vesting
period.
Tender offer. In January 2008, after we became
current with our reporting obligations under the Securities
Exchange Act of 1934, as amended, we filed a Tender Offer
Statement on Schedule TO with the SEC. The tender offer
extended an offer by us to holders of certain outstanding stock
options to amend the exercise price on certain of their
outstanding options. The purpose of the tender offer was to
amend the exercise price on options to have the same price as
the fair market value on the revised measurement dates that were
identified during the investigation of our historical stock
option grant practices. As part of this tender offer, we will
pay a cash bonus of $1.7 million, of which
$0.4 million was paid to Canadian employees in the six
months ended June 30, 2008, and $1.3 million will be
paid to U.S. employees in 2009, to reimburse optionees who
elected to participate in the tender offer for any increase in
the exercise price of their options resulting from the
amendment. The impact of the cash bonus, as recorded during the
six months ended June 30, 2008, resulted in stock-based
compensation expense of $0.6 million and a decrease to
additional paid-in capital of $1.1 million. We will not
recognize any further expense related to the tender offer.
Employee Stock Purchase Plan. We recognize
stock-based compensation expense for the fair value of employee
stock purchase rights issued pursuant to our ESPP. The estimated
fair value of employee stock purchase rights is based on the
Black-Scholes model. Expense is recognized ratably based on
contributions and the total fair value of the employee stock
purchase rights estimated to be issued.
The following table summarizes pre-tax stock-based compensation
expense recorded in our condensed consolidated statements of
income and comprehensive income by line item in the three and
six months ended June 30, 2008 and 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Cost of net revenue service and support
|
|
$
|
526
|
|
|
$
|
356
|
|
|
$
|
728
|
|
|
$
|
955
|
|
Cost of net revenue subscription
|
|
|
219
|
|
|
|
185
|
|
|
|
317
|
|
|
|
543
|
|
Cost of net revenue product
|
|
|
281
|
|
|
|
199
|
|
|
|
425
|
|
|
|
457
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense included in cost of net revenue
|
|
|
1,026
|
|
|
|
740
|
|
|
|
1,470
|
|
|
|
1,955
|
|
Research and development
|
|
|
4,445
|
|
|
|
3,293
|
|
|
|
8,066
|
|
|
|
8,265
|
|
Marketing and sales
|
|
|
9,115
|
|
|
|
4,812
|
|
|
|
12,863
|
|
|
|
13,325
|
|
General and administrative
|
|
|
5,090
|
|
|
|
2,904
|
|
|
|
9,153
|
|
|
|
9,142
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense included in operating costs
|
|
|
18,650
|
|
|
|
11,009
|
|
|
|
30,082
|
|
|
|
30,732
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense
|
|
|
19,676
|
|
|
|
11,749
|
|
|
|
31,552
|
|
|
|
32,687
|
|
Deferred tax benefit
|
|
|
(5,737
|
)
|
|
|
(2,903
|
)
|
|
|
(8,944
|
)
|
|
|
(9,688
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense, net of tax
|
|
$
|
13,939
|
|
|
$
|
8,846
|
|
|
$
|
22,608
|
|
|
$
|
22,999
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We had no stock-based compensation costs capitalized as part of
the cost of an asset.
At June 30, 2008, the estimated fair value of all unvested
stock options, RSUs, PSUs, RSAs and ESPP grants that have not
yet been recognized as compensation expense was
$104.2 million, net of expected forfeitures. We expect to
recognize this amount over a weighted-average period of
2.3 years. This amount does not reflect compensation
expense relating to 0.7 million PSUs for which the
performance criteria have not been set.
12
Under SFAS 123(R), we use the Black-Scholes model to
estimate the fair value of our option awards and ESPP grants.
The key assumptions used in the model during the three and six
months ended June 30, 2008 and 2007, respectively, are
provided below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Stock option grants:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Risk free interest rate
|
|
|
3.3
|
%
|
|
|
4.6
|
%
|
|
|
3.0
|
%
|
|
|
4.7
|
%
|
Weighted average expected lives (years)
|
|
|
5.9
|
|
|
|
6.5
|
|
|
|
5.9
|
|
|
|
6.3
|
|
Volatility
|
|
|
32.0
|
%
|
|
|
30.0
|
%
|
|
|
36.9
|
%
|
|
|
28.8
|
%
|
Dividend yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
ESPP:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Risk free interest rate
|
|
|
2.0
|
%
|
|
|
|
|
|
|
2.0
|
%
|
|
|
|
|
Weighted average expected lives (years)
|
|
|
0.5
|
|
|
|
|
|
|
|
0.5
|
|
|
|
|
|
Volatility
|
|
|
32.0
|
%
|
|
|
|
|
|
|
32.0
|
%
|
|
|
|
|
Dividend yield
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During the three and six months ended June 30, 2007, we did
not have any ESPP grants.
We derive the expected term of our options through the use of a
lattice model that factors in historical data on employee
exercise and post-vesting employment termination behavior. The
risk-free rate for periods within the contractual life of the
option is based on the U.S. Treasury yield curve in effect
at the time of grant. Since January 1, 2006, we have used
the implied volatility of options traded on our stock with a
term of one year or more to calculate the expected volatility of
our option grants. We have not declared any dividends on our
stock in the past and do not expect to do so in the foreseeable
future.
Internal
Revenue Code Section 409A
Adverse tax consequences resulted from our revision of
accounting measurement dates during our restatement due to our
investigation into our stock option granting practices for stock
options that vested subsequent to December 31, 2004
(409A affected options). These adverse tax
consequences included a penalty tax payable by the option holder
under Internal Revenue Code (IRC) Section 409A
(and, as applicable, similar penalty taxes under state tax
laws). As virtually all holders of options with revised
measurement dates were not involved in or aware of their
incorrect option exercise prices, we took certain actions to
deal with the adverse tax consequences that were incurred by the
holders of such options.
Section 16(a)
Officers and Directors
In December 2006, our board of directors approved the amendment
of 409A affected options for those who were Section 16(a)
officers at the time they received 409A affected options to
increase the exercise price to the fair market value of our
common stock on the revised measurement date. These amended
options are not subject to taxation under IRC Section 409A.
Under Internal Revenue Service (IRS) regulations,
these option amendments had to be completed by December 31,
2006 for anyone subject to Section 16(a) requirements upon
receipt of the 409A affected options. There were no costs
associated with this action, as the modifications increased the
exercise price, which resulted in no incremental expense.
In the three months ended March 31, 2008, for one executive
officer, the exercise price on options were upward repriced to
have the same price as the fair market value on the revised
measurement dates that were identified during the investigation
of our historical stock option grant practices. We will pay this
executive officer a cash bonus of $0.1 million in 2009 as
reimbursement for the increase in the exercise price of his
options resulting from the amendment.
13
IRS
Announcement
2007-18
Compliance
In February 2007, our board of directors approved our
participation in a voluntary program under IRS Announcement
2007-18 and
a similar state of California Announcement, whereby we paid
additional 409A taxes on behalf of certain former
U.S. employees who had already exercised 409A affected
options for the additional taxes they incur under IRC
Section 409A (and, as applicable, similar state of
California tax law). Current and former Section 16(a)
officers and directors were specifically excluded from the
program. Through June 30, 2007, we recorded
$1.3 million of expense associated with this program for
Section 409A affected options exercised during this period.
We had no expense associated with this program in the three and
six months ended June 30, 2008.
Certain
Former Employees Future Exercises of 409A Affected
Options
In May 2007, our board of directors approved cash payments as
necessary to certain former employees who exercised 409A
affected options during 2006 or that may exercise 409A affected
options in the future.
In November 2007, our board of directors approved the unilateral
amendment of 409A affected options held by certain former
employees who did not exercise 409A affected options during 2006
to increase the exercise price to the fair market value of our
common stock on the revised measurement date, and to make cash
payments as compensation for the increase in the exercise prices
of amended options. These amended options would not be subject
to taxation under IRC 409A.
In the three and six months ended June 30, 2008, we
recorded no costs associated with former employees
exercises of certain Section 409A affected options. The
following table summarizes for the three and six months ended
June 30, 2007 costs associated with actions taken by us
with respect to IRC Section 409A (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30, 2007
|
|
|
June 30, 2007
|
|
|
Cost of net revenue
|
|
$
|
|
|
|
$
|
|
|
Research and development
|
|
|
85
|
|
|
|
874
|
|
Marketing and sales
|
|
|
268
|
|
|
|
589
|
|
General and administrative
|
|
|
594
|
|
|
|
788
|
|
|
|
|
|
|
|
|
|
|
Costs associated with IRC Section 409A
|
|
$
|
947
|
|
|
$
|
2,251
|
|
|
|
|
|
|
|
|
|
|
ScanAlert
In January 2008, we acquired 100% of the outstanding shares of
ScanAlert, Inc. (ScanAlert), a provider of a
vulnerability assessment and certification services for
e-commerce
sites, for $54.9 million. The purchase price consisted of
the following (in thousands):
|
|
|
|
|
Cash paid to shareholders
|
|
$
|
42,098
|
|
Escrow deposit
|
|
|
6,382
|
|
Payment to third party for use of patent
|
|
|
4,500
|
|
Hold-back recorded as a liability
|
|
|
1,268
|
|
Direct acquisition costs
|
|
|
660
|
|
|
|
|
|
|
Total purchase price
|
|
$
|
54,908
|
|
|
|
|
|
|
In the fourth quarter of 2007, we paid $4.5 million to a
third party to settle prior alleged patent infringement claims
against ScanAlert and for a fully paid future license for the
use of the patent until its expiration. We have accounted for
this entire amount as part of the ScanAlert purchase price as
the arrangement with the third party was entered into as a
result of the pending ScanAlert acquisition. Of the total
$4.5 million payment, $0.9 million was allocated to
the assumption of the patent infringement liability and
$3.6 million was allocated to prepaid license fees to be
amortized over five years. We have recorded a $1.3 million
long-term liability on our consolidated balance sheet as of
June 30, 2008 for a portion of the purchase price held-back
for future indemnification claims.
14
The amount will be paid out, net of any claims, in July 2009.
Excluding these two items from the total purchase price, cash
paid for the acquisition in 2008 was $49.1 million.
The purchase agreement provides for two earn-out payments
totaling $29.5 million contingent upon the achievement of
ScanAlert net bookings targets during the three-year period
subsequent to the close of the acquisition. The first earn-out
payment is $12.5 million and the second earn-out payment is
$17.0 million. We have not accrued any portion of the
earn-out payments as purchase price as achievement of the
earn-out targets is not determinable beyond a reasonable doubt.
Approximately $1.3 million and $1.8 million of the
first and second earn-out payments, respectively, are subject to
certain employees providing future service. Therefore, these
amounts will be accounted for as post-acquisition compensation
expense to the extent the earn-out targets are probable of being
met. We have assessed the first earn-out target as being
probable and the second earn-out target as not being probable.
We are recognizing the $1.3 million compensatory portion of
the first earn-out as compensation expense from the close of the
acquisition through the end of 2009, resulting in
$0.2 million and $0.3 million of compensation expense
being recognized in the three and six months ended June 30,
2008, respectively.
Our management determined the purchase price allocation based on
estimates of the fair values of the tangible and intangible
assets acquired and liabilities assumed. These estimates were
arrived at utilizing recognized valuation techniques. On the
acquisition date, we recorded $42.7 million of goodwill,
which is deductible for tax purposes due to a
Section 338(h)(10) election under the IRC. Goodwill
resulted primarily from our expectation that we will be able to
provide ScanAlerts service offerings to our customers and
enhance our existing products with those of ScanAlert. We have
incorporated ScanAlerts technology into our existing
SiteAdvisor web rating system. We recorded no in-process
research and development related to this acquisition.
The intangible assets, other than goodwill, are being amortized
over their useful lives of 1.0 to 6.0 years or a
weighted-average period of 5.5 years. As part of the
acquisition, we did not assume any outstanding stock options or
warrants. A performance and retention plan, which covers two
employees and provides for payment of up to $1.5 million
through January 2011, was established at the close of the
acquisition. At June 30, 2008, $0.2 million had been
expensed and no amounts had been paid related to this
performance plan.
The following is a summary of the assets acquired and
liabilities assumed in the acquisition of ScanAlert, as adjusted
for subsequent purchase price adjustments (in thousands):
|
|
|
|
|
Technology
|
|
$
|
4,759
|
|
Other intangibles
|
|
|
14,505
|
|
Goodwill
|
|
|
42,555
|
|
Deferred tax assets
|
|
|
1,970
|
|
Cash
|
|
|
107
|
|
Prepaid license fees
|
|
|
3,627
|
|
Other assets
|
|
|
1,447
|
|
|
|
|
|
|
Total assets acquired
|
|
|
68,970
|
|
Accrued liabilities
|
|
|
8,983
|
|
Deferred revenue
|
|
|
5,079
|
|
|
|
|
|
|
Total liabilities assumed
|
|
|
14,062
|
|
|
|
|
|
|
Net assets acquired
|
|
$
|
54,908
|
|
|
|
|
|
|
The results of operations for ScanAlert have been included in
our results of operations since the date of acquisition. Pro
forma results of operations have not been presented because the
effect of this acquisition was not material to our results of
operations.
15
SafeBoot
In November 2007, we acquired 100% of the outstanding shares of
SafeBoot Holding B.V. (SafeBoot) an enterprise
security software vendor for data protection via encryption and
access control, for $348.3 million. The purchase price
consisted of the following (in thousands):
|
|
|
|
|
Cash paid as of December 31, 2007
|
|
$
|
294,887
|
|
Escrow deposit
|
|
|
43,750
|
|
Direct acquisition and other costs paid in the six months ended
June 30, 2008
|
|
|
6,007
|
|
Fair value of options assumed
|
|
|
3,740
|
|
|
|
|
|
|
Total purchase price before imputed interest
|
|
|
348,384
|
|
Imputed interest
|
|
|
(1,002
|
)
|
|
|
|
|
|
Total purchase price
|
|
$
|
347,382
|
|
|
|
|
|
|
For convenience, we designated October 31, 2007 as the
effective date for this acquisition, which resulted in
$1.0 million of imputed interest being charged to results
of operations.
Our management determined the purchase price allocation based on
estimates of the fair values of the tangible and intangible
assets acquired and liabilities assumed. These estimates were
arrived at utilizing recognized valuation techniques. On the
acquisition date, we recorded $215.8 million of goodwill,
which is deductible for tax purposes due to a
Section 338(g) election under the IRC. Goodwill resulted
primarily from our expectation that we will now be able to
provide our customers with comprehensive data protection,
including endpoint, network, web, email and data security, as
well as risk and compliance solutions. We have integrated
SafeBoot technology into our centralized management console for
enterprise customers. We recorded no in-process research and
development related to this acquisition.
The intangible assets, other than goodwill, are being amortized
over their useful lives of 1.0 to 8.0 years or a
weighted-average period of 4.5 years. As part of the
acquisition, we assumed approximately 0.5 million
outstanding stock options.
The following is a summary of the assets acquired and
liabilities assumed in the acquisition of SafeBoot, as adjusted
for subsequent purchase price adjustments (in thousands):
|
|
|
|
|
Technology
|
|
$
|
102,340
|
|
Other intangibles
|
|
|
41,800
|
|
Goodwill
|
|
|
216,989
|
|
Cash
|
|
|
9,760
|
|
Other assets
|
|
|
24,536
|
|
|
|
|
|
|
Total assets acquired
|
|
|
395,425
|
|
|
|
|
|
|
Accrued liabilities
|
|
|
26,847
|
|
Deferred revenue
|
|
|
9,394
|
|
Deferred tax liabilities
|
|
|
11,802
|
|
|
|
|
|
|
Total liabilities assumed
|
|
|
48,043
|
|
|
|
|
|
|
Net assets acquired
|
|
$
|
347,382
|
|
|
|
|
|
|
A performance and retention plan, which provides for payment of
up to $0.3 million through 2008, was established at the
closing of the acquisition. At June 30, 2008,
$0.3 million had been expensed and $0.2 million had
been paid related to this performance plan.
16
The following unaudited pro forma financial information presents
our combined results with SafeBoot as if the acquisition had
occurred at the beginning of 2007 (in thousands, except per
share data):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30, 2007
|
|
|
June 30, 2007
|
|
|
Pro forma net revenue
|
|
$
|
327,585
|
|
|
$
|
652,658
|
|
|
|
|
|
|
|
|
|
|
Pro forma net income
|
|
$
|
39,152
|
|
|
$
|
73,610
|
|
|
|
|
|
|
|
|
|
|
Pro forma basic net income per share
|
|
$
|
0.25
|
|
|
$
|
0.46
|
|
|
|
|
|
|
|
|
|
|
Pro forma diluted net income per share
|
|
$
|
0.24
|
|
|
$
|
0.45
|
|
|
|
|
|
|
|
|
|
|
Shares used in per share calculation basic
|
|
|
159,800
|
|
|
|
159,799
|
|
|
|
|
|
|
|
|
|
|
Shares used in per share calculation diluted
|
|
|
163,814
|
|
|
|
163,487
|
|
|
|
|
|
|
|
|
|
|
|
|
5.
|
Goodwill
and Other Intangible Assets
|
We perform our annual impairment review as of October 1 of each
year or earlier if indicators of impairment exist. In 2007, this
analysis indicated that goodwill was not impaired. The fair
value of the reporting units was estimated using the average of
the expected present value of future cash flows and of the
market multiple value. We will continue to test for impairment
on an annual basis and on an interim basis if an event occurs or
circumstances change that would more likely than not reduce the
fair value of our reporting units below their carrying amounts.
Goodwill by geographic region is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effects of
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
|
|
|
|
|
|
|
December 31,
|
|
|
Goodwill
|
|
|
|
|
|
Currency
|
|
|
June 30,
|
|
|
|
2007
|
|
|
Acquired
|
|
|
Adjustments
|
|
|
Exchange
|
|
|
2008
|
|
|
North America
|
|
$
|
511,491
|
|
|
$
|
41,459
|
|
|
$
|
437
|
|
|
$
|
(204
|
)
|
|
$
|
553,183
|
|
EMEA
|
|
|
162,174
|
|
|
|
1,196
|
|
|
|
479
|
|
|
|
10,274
|
|
|
|
174,123
|
|
Japan
|
|
|
25,787
|
|
|
|
|
|
|
|
123
|
|
|
|
|
|
|
|
25,910
|
|
Asia-Pacific (excluding Japan)
|
|
|
34,217
|
|
|
|
|
|
|
|
39
|
|
|
|
|
|
|
|
34,256
|
|
Latin America
|
|
|
16,420
|
|
|
|
|
|
|
|
24
|
|
|
|
(185
|
)
|
|
|
16,259
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
750,089
|
|
|
$
|
42,655
|
|
|
$
|
1,102
|
|
|
$
|
9,885
|
|
|
$
|
803,731
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The goodwill acquired during the six months ended June 30,
2008 is due to the acquisition of ScanAlert. The adjustments to
goodwill are a result of purchase accounting adjustments for the
ScanAlert and SafeBoot acquisitions.
The components of intangible assets are as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2008
|
|
|
December 31, 2007
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization
|
|
|
|
|
|
|
|
|
Amortization
|
|
|
|
|
|
|
|
|
|
|
|
|
(Including
|
|
|
|
|
|
|
|
|
(Including
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Effects of
|
|
|
|
|
|
|
|
|
Effects of
|
|
|
|
|
|
|
Average
|
|
|
Gross
|
|
|
Foreign
|
|
|
Net
|
|
|
Gross
|
|
|
Foreign
|
|
|
Net
|
|
|
|
Useful
|
|
|
Carrying
|
|
|
Currency
|
|
|
Carrying
|
|
|
Carrying
|
|
|
Currency
|
|
|
Carrying
|
|
|
|
Life
|
|
|
Amount
|
|
|
Exchange)
|
|
|
Amount
|
|
|
Amount
|
|
|
Exchange)
|
|
|
Amount
|
|
|
Other intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchased technologies
|
|
|
4.3 years
|
|
|
$
|
289,516
|
|
|
$
|
(154,342
|
)
|
|
$
|
135,174
|
|
|
$
|
282,293
|
|
|
$
|
(129,082
|
)
|
|
$
|
153,211
|
|
Trademarks and patents
|
|
|
5.0 years
|
|
|
|
43,406
|
|
|
|
(35,505
|
)
|
|
|
7,901
|
|
|
|
42,922
|
|
|
|
(33,956
|
)
|
|
|
8,966
|
|
Customer base and other intangibles
|
|
|
5.7 years
|
|
|
|
135,185
|
|
|
|
(70,282
|
)
|
|
|
64,903
|
|
|
|
117,731
|
|
|
|
(59,782
|
)
|
|
|
57,949
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
468,107
|
|
|
$
|
(260,129
|
)
|
|
$
|
207,978
|
|
|
$
|
442,946
|
|
|
$
|
(222,820
|
)
|
|
$
|
220,126
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
17
The aggregate amortization expenses for the intangible assets
listed above totaled $19.1 million and $12.1 million
in the three months ended June 30, 2008 and 2007,
respectively, and $38.0 million and $23.1 million in
the six months ended June 30, 2008 and 2007, respectively.
Expected future intangible asset amortization expense as of
June 30, 2008 is as follows (in thousands):
|
|
|
|
|
Fiscal years:
|
|
|
|
|
Remainder of 2008
|
|
$
|
36,823
|
|
2009
|
|
|
62,796
|
|
2010
|
|
|
53,645
|
|
2011
|
|
|
35,336
|
|
2012
|
|
|
12,025
|
|
Thereafter
|
|
|
7,353
|
|
|
|
|
|
|
|
|
$
|
207,978
|
|
|
|
|
|
|
We have initiated certain restructuring actions to reduce our
cost structure and enable us to invest in certain strategic
growth initiatives to enhance our competitive position.
During 2008 (the 2008 Restructuring), we took the
following measures:
|
|
|
|
|
eliminated redundant positions related to the SafeBoot
acquisition; and
|
|
|
|
realigned sales force.
|
During 2006 (the 2006 Restructuring), we took the
following measures:
|
|
|
|
|
reduced our workforce; and
|
|
|
|
continued our efforts to consolidate and dispose of excess
facilities.
|
During 2004 and 2003 (the 2004 and 2003
Restructurings), we took the following measures:
|
|
|
|
|
reduced our workforce;
|
|
|
|
our efforts to consolidate and dispose of excess facilities;
|
|
|
|
moved our European headquarters to Ireland and substantially
vacated a leased facility in Amsterdam;
|
|
|
|
consolidated operations formerly housed in three leased
facilities in Dallas, Texas into our regional headquarters
facility in Plano, Texas;
|
|
|
|
relocated employees from Santa Clara, California
headquarters site to our Plano facility as part of the
consolidation activities; and
|
|
|
|
sold our Sniffer and Magic product lines in 2004.
|
Restructuring benefits in the six months ended June 30,
2008 totaled $2.1 million, consisting of a
$5.1 million benefit, net of accretion, related primarily
to (i) changes in previous estimates of base rent and
sublease income for the Santa Clara lease which was
restructured in 2003 and 2004 and (ii) terminating sublease
agreements for three floors in our Santa Clara facility
which were previously included in our 2003 and 2004
restructuring activities, partially offset by a
$2.9 million charge related to 2008 Restructuring. We
intend to move back into these floors in 2008.
18
2008
Restructuring
Activity and liability balances related to our 2008
restructuring are as follows (in thousands):
|
|
|
|
|
|
|
Severance
|
|
|
Balance, January 1, 2008
|
|
$
|
|
|
Restructuring accrual
|
|
|
2,924
|
|
Cash payments
|
|
|
(1,462
|
)
|
|
|
|
|
|
Balance, June 30, 2008
|
|
$
|
1,462
|
|
|
|
|
|
|
In the six months ended June 30, 2008, we recorded a
restructuring charge of $0.8 million related to the
elimination of certain positions at SafeBoot that were redundant
to positions at McAfee. This charge was recorded in our EMEA. We
also recorded a $2.1 million restructuring charge related
to the realignment of our sales force, of which
$0.5 million and $1.6 million were recorded in North
America and EMEA, respectively.
2006
Restructuring
Activity and liability balances related to our 2006
restructuring are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Lease
|
|
|
Severance
|
|
|
|
|
|
|
Termination
|
|
|
and Other
|
|
|
|
|
|
|
Costs
|
|
|
Benefits
|
|
|
Total
|
|
|
Balance, January 1, 2007
|
|
$
|
|
|
|
$
|
2,390
|
|
|
$
|
2,390
|
|
Restructuring accrual
|
|
|
330
|
|
|
|
2,634
|
|
|
|
2,964
|
|
Adjustment to liability
|
|
|
(24
|
)
|
|
|
(196
|
)
|
|
|
(220
|
)
|
Cash payments
|
|
|
(233
|
)
|
|
|
(4,542
|
)
|
|
|
(4,775
|
)
|
Effects of foreign currency exchange
|
|
|
4
|
|
|
|
7
|
|
|
|
11
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
77
|
|
|
|
293
|
|
|
|
370
|
|
Cash payments
|
|
|
(19
|
)
|
|
|
|
|
|
|
(19
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, June 30, 2008
|
|
$
|
58
|
|
|
$
|
293
|
|
|
$
|
351
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
During 2007, we completed the restructuring activities that we
began in the fourth quarter of 2006 when we permanently vacated
several leased facilities and recorded a $0.3 million
accrual for estimated lease related costs associated with the
permanently vacated facilities. We also recorded a restructuring
charge of $2.6 million in 2007 related to a reduction in
headcount of 33 marketing and sales employees, of which
$0.2 million, $2.3 million and $0.1 million was
recorded in North America, EMEA and Asia-Pacific, respectively.
Lease termination costs will be paid through 2009.
19
2004
and 2003 Restructurings
Activity and liability balances related to our 2004 and 2003
restructuring actions are as follows (in thousands):
|
|
|
|
|
|
|
Lease
|
|
|
|
Termination
|
|
|
|
Costs
|
|
|
Balance, January 1, 2007
|
|
$
|
12,248
|
|
Cash payments
|
|
|
(2,235
|
)
|
Adjustment to liability
|
|
|
5,552
|
|
Effects of foreign currency exchange
|
|
|
99
|
|
Accretion
|
|
|
431
|
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
16,095
|
|
Cash payments
|
|
|
(1,911
|
)
|
Adjustment to liability
|
|
|
(5,393
|
)
|
Reclassification to deferred rent liability
|
|
|
(1,509
|
)
|
Effects of foreign currency exchange
|
|
|
(12
|
)
|
Accretion
|
|
|
242
|
|
|
|
|
|
|
Balance, June 30, 2008
|
|
$
|
7,512
|
|
|
|
|
|
|
Lease termination costs included vacating several leased
facilities, net of estimated sublease income, costs associated
with subleasing the vacated facilities, asset disposals and
discontinued use of certain leasehold improvements and furniture
and equipment primarily in North America. Other costs include
legal expenses incurred in international locations in
conjunction with headcount reductions. Lease termination costs
will be paid through 2013.
The adjustment in 2008 primarily relates to (i) changes in
previous estimates of base rent and sublease income for the
Santa Clara lease and (ii) terminating sublease
agreements for three floors in our Santa Clara facility
which were previously included in our 2003 and 2004
restructuring activities. We intend to move back into these
floors in 2008.
We have a 14.0 million Euro credit facility with a bank.
The credit facility is available on an offering basis, meaning
that transactions under the credit facility will be on such
terms and conditions, including interest rate, maturity,
representations, covenants and events of default, as mutually
agreed between us and the bank at the time of each specific
transaction. The credit facility is intended to be used for
short-term credit requirements, with terms of one year or less.
The credit facility can be cancelled at any time. No balances
were outstanding as of June 30, 2008 and December 31,
2007.
20
A reconciliation of the numerator and denominator of basic and
diluted net income per share is provided as follows (in
thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Numerator Basic and diluted net income
|
|
$
|
47,826
|
|
|
$
|
48,044
|
|
|
$
|
77,995
|
|
|
$
|
91,394
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator Basic
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic weighted average common stock outstanding
|
|
|
158,770
|
|
|
|
159,800
|
|
|
|
159,882
|
|
|
|
159,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator Diluted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic weighted average common stock outstanding
|
|
|
158,770
|
|
|
|
159,800
|
|
|
|
159,882
|
|
|
|
159,799
|
|
Effect of dilutive securities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock options and restricted stock units and awards(1)
|
|
|
2,783
|
|
|
|
4,014
|
|
|
|
3,485
|
|
|
|
3,688
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted weighted average shares
|
|
|
161,553
|
|
|
|
163,814
|
|
|
|
163,367
|
|
|
|
163,487
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share Basic
|
|
$
|
0.30
|
|
|
$
|
0.30
|
|
|
$
|
0.49
|
|
|
$
|
0.57
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per share Diluted
|
|
$
|
0.30
|
|
|
$
|
0.29
|
|
|
$
|
0.48
|
|
|
$
|
0.56
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
In the three months ended June 30, 2008 and 2007,
4.2 million and 1.9 million RSUs and options to
purchase common stock, respectively, were excluded from the
calculation since the effect was anti-dilutive. In addition, we
excluded 1.1 million PSUs for the three months ended
June 30, 2008 because they are contingently issuable shares. |
|
|
|
In the six months ended June 30, 2008 and 2007,
4.7 million and 2.7 million RSUs and options to
purchase common stock, respectively, were excluded from the
calculation since the effect was anti-dilutive. In addition, we
excluded 1.1 million PSUs for the six months ended
June 30, 2008 because they are contingently issuable shares. |
For the three months ended June 30, 2008 and 2007 we had a
tax provision of $17.0 million and $9.6 million,
respectively, reflecting an effective tax rate of 26% and 17%,
respectively. The effective tax rate for the three months ended
June 30, 2008 differs from the U.S. federal statutory
rate (statutory rate) primarily due to the benefit
of lower tax rates in certain foreign jurisdictions. The
effective tax rate for the three months ended June 30, 2007
differed from the statutory rate primarily due to the benefit of
lower tax rates in certain jurisdictions as well as a decrease
in our estimated annual effective tax rate and the resultant
quarterly adjustment necessary to adjust year to date expense to
the revised estimate of our annual effective rate.
For the six months ended June 30, 2008 and 2007 we had a
tax provision of $55.6 million and $22.1 million,
respectively, reflecting an effective tax rate of 42% and 19%,
respectively. The effective tax rate for the six months ended
June 30, 2008 differs from the U.S. statutory rate
primarily due to the negative impact resulting from acquisition
integration activities, which, on a year to date basis, accounts
for 18 percentage points of the effective tax rate, offset
by the benefit of lower tax rates in certain jurisdictions. We
have filed for administrative relief from the negative tax
consequences associated with the acquisition integration
activities with the U.S. Internal Revenue Service. If the
administrative relief is granted, we will reverse the previously
recorded tax expense in the period in which the relief is
granted. The effective tax rate for the six months ended
June 30, 2007 differed from the statutory rate primarily
due to the benefit of lower tax rates in certain foreign
jurisdictions.
21
The earnings from our foreign operations in India are subject to
a tax holiday. In May, 2008, the Indian government extended the
period through which the holiday would be effective to
March 31, 2010. The tax holiday provides for zero percent
taxation on certain classes of income and requires certain
conditions to be met. We were in compliance with these
conditions as of June 30, 2008.
We account for uncertainty in income taxes in accordance with
FASB Interpretation No. 48, Accounting for Uncertainty
in Income Taxes an interpretation of FASB Statement
No. 109 (FIN 48). As a result, we
apply a more-likely-than-not recognition threshold for all
income tax uncertainties. FIN 48 only allows the
recognition of those tax benefits that have a greater than 50%
likelihood of being sustained upon examination by the taxing
authorities. We believe it is reasonably possible that, in the
next 12 months, the amount of unrecognized tax benefits
related to the resolution of federal, state and foreign matters
could be reduced by $5.0 million to $20.0 million as
audits close and statutes expire.
Subsequent to June 30, 2008, we concluded a limited scope
examination of our U.S. federal income tax returns for the
calendar years 2002, 2003, 2004 and 2005 with the Internal
Revenue Service. There will be no material impact on the
financial statements resulting from this examination.
|
|
10.
|
Business
Segment Information
|
We have concluded that we have one business and operate in one
industry. We develop, market, distribute and support computer
and network security solutions for large enterprises,
governments, small and medium-sized businesses and consumer
users, as well as resellers and distributors. Management
measures operations based on our five operating segments: North
America; EMEA; Japan; Asia-Pacific, excluding Japan; and Latin
America. Our chief operating decision maker is our chief
executive officer.
We market and sell anti-virus and security software, hardware
and services through our geographic regions. These products and
services are marketed and sold worldwide primarily through
resellers, distributors, systems integrators, retailers,
original equipment manufacturers, internet service providers and
directly by us. In addition, we offer on our web site, suites of
online products and services personalized for the user based on
the users personal computer configuration, attached
peripherals and resident software. We also offer managed
security and availability applications to corporations and
governments on the internet.
Summarized financial information concerning our net revenue and
income from operations by geographic region is as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Net revenue by region:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
North America
|
|
$
|
204,218
|
|
|
$
|
162,949
|
|
|
$
|
393,968
|
|
|
$
|
327,475
|
|
EMEA
|
|
|
132,340
|
|
|
|
103,346
|
|
|
|
254,588
|
|
|
|
205,036
|
|
Japan
|
|
|
28,152
|
|
|
|
25,024
|
|
|
|
55,171
|
|
|
|
50,236
|
|
Asia-Pacific, excluding Japan
|
|
|
19,247
|
|
|
|
14,651
|
|
|
|
37,283
|
|
|
|
27,943
|
|
Latin America
|
|
|
12,801
|
|
|
|
8,860
|
|
|
|
25,389
|
|
|
|
19,018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue
|
|
$
|
396,758
|
|
|
$
|
314,830
|
|
|
$
|
766,399
|
|
|
$
|
629,708
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income by region:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
North America
|
|
$
|
64,944
|
|
|
$
|
54,105
|
|
|
$
|
121,028
|
|
|
$
|
111,445
|
|
Europe
|
|
|
69,533
|
|
|
|
59,024
|
|
|
|
134,357
|
|
|
|
118,680
|
|
Japan
|
|
|
15,734
|
|
|
|
16,305
|
|
|
|
30,993
|
|
|
|
32,245
|
|
Asia-Pacific, excluding Japan
|
|
|
1,935
|
|
|
|
1,184
|
|
|
|
3,778
|
|
|
|
3,736
|
|
Latin America
|
|
|
7,438
|
|
|
|
5,338
|
|
|
|
15,091
|
|
|
|
12,241
|
|
Corporate
|
|
|
(105,187
|
)
|
|
|
(97,205
|
)
|
|
|
(197,603
|
)
|
|
|
(198,176
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations
|
|
$
|
54,397
|
|
|
$
|
38,751
|
|
|
$
|
107,644
|
|
|
$
|
80,171
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
22
The difference between income from operations and income before
provision for income taxes is reflected on the face of our
condensed consolidated statements of income and comprehensive
income.
The corporate expenses, which are not considered attributable to
any specific geographic region, are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
General and administrative and other operating costs
|
|
$
|
41,948
|
|
|
$
|
45,052
|
|
|
$
|
79,968
|
|
|
$
|
89,195
|
|
Corporate marketing
|
|
|
24,819
|
|
|
|
16,845
|
|
|
|
45,297
|
|
|
|
31,252
|
|
Stock-based compensation
|
|
|
19,676
|
|
|
|
11,749
|
|
|
|
31,552
|
|
|
|
32,687
|
|
Amortization of purchased technology and other intangibles
|
|
|
18,993
|
|
|
|
12,071
|
|
|
|
37,893
|
|
|
|
23,122
|
|
Investigation costs
|
|
|
266
|
|
|
|
9,148
|
|
|
|
1,642
|
|
|
|
14,200
|
|
Acquisition and retention bonuses
|
|
|
1,635
|
|
|
|
2,410
|
|
|
|
3,327
|
|
|
|
4,660
|
|
Restructuring charges
|
|
|
(2,214
|
)
|
|
|
(77
|
)
|
|
|
(2,143
|
)
|
|
|
3,049
|
|
Loss on sale of assets and technology
|
|
|
64
|
|
|
|
7
|
|
|
|
67
|
|
|
|
11
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate expenses
|
|
$
|
105,187
|
|
|
$
|
97,205
|
|
|
$
|
197,603
|
|
|
$
|
198,176
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Settled
Cases
On August 17, 2006, a patent infringement
lawsuit captioned Deep Nines, Inc. v. McAfee,
Inc., No. 9:06CV174, (Deep Nines litigation)
was filed in the United States District Court for the Eastern
District of Texas. The lawsuit asserted that (i) several of
our
Enterprise products infringe a Deep Nines patent and
(ii) we falsely marked certain products with a McAfee
patent that was abandoned after its issuance. On June 18,
2008, the District Court granted, in part, McAfees motion
for summary judgment, thereby removing all accused products from
the case except IntruShield, one of our network protection
offerings. On July 15, 2008, a jury found that certain
applications of IntruShield infringe upon Deep Nines
patent and awarded a one-time, lump sum payment for past and
future damages. On July 29, 2008 we resolved all patent
litigation matters with Deep Nines, Inc. by entering into a
$25.0 confidential settlement agreement. As part of the
settlement, we acquired certain nonexclusive rights and entered
into a mutual release of all related claims. In the three months
ended June 30, 2008, we recorded $9.0 million of legal
settlement costs. The remaining $16.0 million was recorded
as an asset as of June 30, 2008, and will be amortized to
cost of product revenues in our condensed consolidated
statements of income and comprehensive income over the economic
life, which is estimated to be the remaining life of the primary
patent which expires in 2020. We expect dismissal of all
litigation pending between us and Deep Nines, Inc. within
90 days.
In February 2007, we reached a confidential settlement of a
breach of contract, fraud and bad faith lawsuit filed in June
2002 in the United States District Court, District of
Massachusetts for $15.5 million. As part of the settlement,
we acquired and recorded ownership of intangible assets which
were valued at $9.3 million and we expensed
$6.2 million for prior claims, of which $5.0 million
was recognized as expense in the three months ended
June 30, 2006, with the balance of $1.2 million being
expensed in 2004 and prior periods. The case was dismissed in
March 2007.
Open
Cases
We have described below our material legal proceedings and
investigations that are currently pending and are not in the
ordinary course of business. If management believes that a loss
arising from these matters is probable and can reasonably be
estimated, we record the amount of the loss, or the minimum
estimated liability when the loss is estimated using a range,
and no point within the range is more probable than another. As
additional information
23
becomes available, any potential liability related to these
matters is assessed and the estimates are revised, if necessary.
While we cannot predict the likelihood of future claims or
inquiries, we expect that new matters may be initiated against
us from time to time. The results of claims, lawsuits and
investigations also cannot be predicted, and it is possible that
the ultimate resolution of these matters, individually and in
the aggregate, may have a material adverse effect on our
business, financial condition, results of operations or cash
flows.
Government
Inquiries Relating to Historical Stock Option
Practices
In May 2006, we announced that we had commenced an investigation
of our historical stock option granting practices. As a result
of that investigation, we concluded that certain stock options
had been accounted for using incorrect measurement dates, which,
in some instances, were chosen with the benefit of hindsight so
as to intentionally give more favorable exercise prices.
Consequently, certain of our historical financial statements
needed to be restated to correct improper accounting for
improperly priced stock options. In December 2007, we filed our
Form 10-K
for 2006, which included the effects of a restatement of our
audited consolidated financial statements for 2004 and 2005, our
selected financial data for 2002 through 2005, and our unaudited
quarterly financial data for all quarters in 2005 and the first
quarter of 2006.
On May 23, 2006, the SEC notified us that an investigation
had begun regarding our historical stock option grants. On
June 7, 2006, the SEC sent us a subpoena requesting certain
documents related to stock option grants from January 1,
1995 through the date of the subpoena. At or around the same
time, we received a notice of informal inquiry from the
U.S. Department of Justice, the (DOJ),
concerning our stock option granting practices. On
August 15, 2006, we received a grand jury subpoena from the
U.S. Attorneys Office for the Northern District of
California relating to the termination of our former general
counsel, his stock option related activities and the
investigation. On November 6, 2006, we received a document
request from the SEC for option grant data for McAfee.com,
previously one of our consolidated subsidiaries that was a
publicly traded company from December 1999 through September
2002.
On November 2, 2006, the investigative team created by the
Special Committee of our board of directors met with the
Enforcement Staff of the SEC in Washington D.C. and presented
the initial findings of the investigation. Pursuant to
discussions between the investigative team and the SEC during
that meeting, the scope of the investigation was expanded to
include a review of the historical McAfee.com option grants
along with our historical exercise activity with a view toward
determining potential exercise date manipulation and
post-employment arrangements with former executives.
We have provided documents requested, and we are cooperating
with the SEC and DOJ. The SEC investigation is still in its
preliminary stages thus we are unable to determine the ultimate
outcome at this time. As such, no provision has been recorded in
the financial statements for this matter.
Securities
Cases
On May 31, 2006, a purported stockholder derivative
lawsuit styled Dossett v. McAfee, Inc.,
No. 5:06CV3484 (JF) was filed in the United
States District Court for the Northern District of California
against certain of our current and former directors and officers
(Dossett). On June 7, 2006, another purported
stockholders derivative lawsuit styled
Heavy & General Laborers Locals 472 & 172
Pension & Annuity Funds v. McAfee, Inc.,
No. 5:06CV03620 (JF) was filed in the United
States District Court for the Northern District of California
against certain of our current and former directors and officers
(Laborers). The Dossett and Laborers actions
generally allege that we improperly backdated stock option
grants between 1997 and the present, and that certain of our
current and former officers or directors either participated in
this backdating or allowed it to happen. The Dossett and
Laborers actions assert claims purportedly on behalf of us for,
inter alia, breach of fiduciary duty, abuse of control,
constructive fraud, corporate waste, unjust enrichment, gross
mismanagement, and violations of the federal securities laws. On
July 13, 2006, the United States District Court for the
Northern District of California entered an order consolidating
the Dossett and Laborers actions as In re McAfee, Inc.
Derivative Litigation, Master File No. 5:06CV03484 (JF)
(the Consolidated Action). On January 22, 2007,
we moved to dismiss the complaint in the Consolidated Action on
the grounds that plaintiffs lack standing to sue on our behalf
because, inter alia, they did not make a pre-suit demand on our
board of directors. At the parties request, the Court
24
continued on several occasions the due date for the
plaintiffs opposition to our motion to dismiss and the
date for the hearing of that motion. As a result of the
settlement described below, there is no deadline by which
plaintiffs must file an opposition to the motion to dismiss.
On August 7, 2007, a new stockholders derivative
lawsuit styled Webb v. McAfee, Inc., No. C
07 4048 (PVT) was filed in the United States
District Court for the Northern District of California against
certain of our current and former directors and officers
(Webb). The new lawsuit generally alleges the same
facts and causes of action that plaintiffs have asserted in the
Consolidated Action. The plaintiff in Webb requested that his
action be consolidated with the Consolidated Action. On
September 21, 2007, the Court consolidated the Webb action
with the Consolidated Action.
On June 2, 2006, three identical lawsuits
styled Greenberg v. Samenuk, No. 106CV064854,
Gordon v. Samenuk, No. 106CV064855, and Golden v.
Samenuk, No. 106CV064856 were filed in the
Superior Court of the State of California, County of
Santa Clara against certain of our current and former
directors and officers (the State Actions). Like the
Consolidated Action, the State Actions generally allege that we
improperly backdated stock option grants between 2000 and the
present, and that certain of our current and former officers or
directors either participated in this backdating or allowed it
to happen. Like the Consolidated Action, the State Actions
assert claims purportedly on behalf of us for, inter alia,
breach of fiduciary duty, abuse of control, corporate waste,
unjust enrichment, and gross mismanagement. On June 23,
2006, we moved to dismiss these actions in favor of the
first-filed Consolidated Action. On September 18, 2006, the
Court consolidated the State Actions and denied our motions to
dismiss, but stayed the State Actions due to the first-filed
action in federal court. The stay, which was continued by the
Court on several occasions, expired in December 2007.
In December 2007, we reached a tentative settlement with the
plaintiffs in the Consolidated Action and the State Actions. The
tentative agreement must be submitted to and approved by the
Court. We accrued $13.8 million in the condensed
consolidated financial statements as of June 30, 2006 due
to our ongoing stock option investigation and restatement
related to expected payments pursuant to the tentative
settlement and expect to complete the documentation and the
required approvals in the second half of 2008. While we cannot
predict the ultimate outcome of the lawsuits in the event that
the tentative settlement is not approved by the Court, the
provision recorded in the financial statements represents our
best estimate at this time.
Certain investment bank underwriters, our company, and certain
of our directors and officers have been named in a putative
class action for violation of the federal securities laws in the
United States District Court for the Southern District of New
York, captioned In re McAfee.com Corp. Initial Public
Offering Securities Litigation, 01 Civ. 7034
(SAS). This is one of a number of cases challenging underwriting
practices in the initial public offerings (IPOs) of
more than 300 companies. These cases have been coordinated
for pretrial proceedings as In re Initial Public Offering
Securities Litigation, 21 MC 92 (SAS). Plaintiffs generally
allege that certain underwriters engaged in undisclosed and
improper underwriting activities, namely the receipt of
excessive brokerage commissions and customer agreements
regarding post-offering purchases of stock in exchange for
allocations of IPO shares. Plaintiffs also allege that various
investment bank securities analysts issued false and misleading
analyst reports. The complaint against us claims that the
purported improper underwriting activities were not disclosed in
the registration statements for McAfee.coms IPO and seeks
unspecified damages on behalf of a purported class of persons
who purchased our securities or sold put options during the time
period from December 1, 1999 to December 6, 2000. On
February 19, 2003 the Court issued an Opinion and Order
dismissing certain of the claims against us with leave to amend.
We accepted a settlement proposal on July 15, 2003.
We, together with the other issuer defendants and plaintiffs,
entered into a stipulation of settlement and release of claims
against the issuer defendants that was submitted to the Court
for approval in June 2004. On August 31, 2005, the Court
preliminarily approved the settlement which, among other things,
was conditioned upon class certification. In December 2006, the
appellate court overturned the certification of classes making
it unlikely that the proposed settlement would receive final
Court approval. As a result, on June 25, 2007, the Court
entered an order terminating the proposed settlement. Plaintiffs
have indicated that they will seek to amend their allegations
and file amended complaints. It is uncertain whether there will
be any revised or future settlement. Thus, the ultimate outcome,
and any ultimate effect on us, cannot be precisely determined at
this time.
25
Other
In February 2008, a former executive notified us of his intent
to seek arbitration of claims associated with his employment. He
alleges that McAfee breached his employment contract and
committed certain additional wrongful acts related to the
expiration of his stock options. The arbitration demand was
filed on April 11, 2008 and we anticipate that arbitration
will begin in December of 2008. We believe these claims are
without merit, and intend to contest them vigorously.
Additionally, we have filed counterclaims against the former
executive. No provision has been recorded in the financial
statements related to this matter.
On January 7, 2007, a former executive filed an arbitration
demand with the American Arbitration Association, Dallas Texas,
(the Texas arbitration) seeking the arbitration of
claims associated with his employment. The Texas arbitration is
scheduled to begin in November 2008. On September 5, 2007,
a Complaint for Damages and Other Relief was also
filed by the same former executive, in the Superior Court of the
State of California, County of Santa Clara,
No. 107CV-093592
(the California litigation). The California
litigation generally contained the same claims as were filed in
the Texas arbitration. A Motion to Compel Arbitration of the
California litigation with the Texas arbitration was granted in
December 2007. We have filed counterclaims against the former
executive, who was terminated. The board determined this
termination was for cause. We believe the claims associated with
the Texas arbitration and the California litigation are without
merit. We intend to vigorously contest these claims, and no
provision has been recorded in the financial statements for
either the Texas arbitration or the California litigation.
In addition, we are engaged in certain legal and administrative
proceedings incidental to our normal business activities and
believe that these matters will not have a material adverse
effect on our financial position, results of operations or cash
flows.
|
|
12.
|
Warranty
Accrual and Guarantees
|
We offer a 90 day warranty on our hardware and software
products and record a liability for the estimated future costs
associated with warranty claims, which is based upon historical
experience and our estimate of the level of future costs. A
reconciliation of the change in our warranty obligation as of
June 30, 2008 and December 31, 2007 follows (in
thousands):
|
|
|
|
|
|
|
Warranty
|
|
|
|
Accrual
|
|
|
Balance, January 1, 2007
|
|
$
|
662
|
|
Additional accruals
|
|
|
1,546
|
|
Costs incurred during the period
|
|
|
(1,719
|
)
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
489
|
|
Additional accruals
|
|
|
1,966
|
|
Costs incurred during the period
|
|
|
(1,736
|
)
|
|
|
|
|
|
Balance, June 30, 2008
|
|
$
|
719
|
|
|
|
|
|
|
The following is a summary of certain guarantee and
indemnification agreements as of June 30, 2008:
|
|
|
|
|
Under the terms of our software license agreements with our
customers, we agree that in the event the software sold
infringes upon any patent, copyright, trademark, or any other
proprietary right of a third-party, we will indemnify our
customer licensees against any loss, expense, or liability from
any damages that may be awarded against our customer. We include
this infringement indemnification in our software license
agreements and selected managed service arrangements. In the
event the customer cannot use the software or service due to
infringement and we can not obtain the right to use, replace or
modify the license or service in a commercially feasible manner
so that it no longer infringes, then we may terminate the
license and provide the customer a pro-rata refund of the fees
paid by the customer for the infringing license or service. We
have recorded no liability associated with this indemnification,
as we are not aware of any pending or threatened infringement
actions that are probable losses. We believe the estimated fair
value of these intellectual property indemnification clauses is
minimal.
|
26
|
|
|
|
|
Under the terms of certain vendor agreements, in particular,
vendors used as part of our managed services, we have agreed
that in the event the service provided to the customer by the
vendor on behalf of us infringes upon any patent, copyright,
trademark, or any other proprietary right of a third-party, we
will indemnify our vendor, against any loss, expense, or
liability from any damages that may be awarded against our
vendor. No maximum liability is stipulated in these vendor
agreements. We have recorded no liability associated with this
indemnification, as we are not aware of any pending or
threatened infringement actions or claims that are probable
losses. We believe the estimated fair value of these
indemnification clauses is minimal.
|
|
|
|
As permitted under Delaware law, we have agreements whereby we
indemnify our officers and directors for certain events or
occurrences while the officer or director is, or was, serving at
our request in such capacity. The maximum potential amount of
future payments we could be required to make under these
indemnification agreements is not limited; however, we have
director and officer insurance coverage that reduces our
exposure and may enable us to recover a portion or all of any
future amounts paid. We cannot estimate the fair value of these
indemnification agreements in excess of applicable insurance
coverage due the fact that the insurers are denying coverage in
many instances where we believe coverage should apply. We
believe we will prevail in these insurance coverage disputes.
|
|
|
|
Under the terms of our agreements to sell Magic in January 2004,
Sniffer in July 2004 and McAfee Labs assets in December 2004, we
agreed to indemnify the purchasers for any breach of
representations or warranties in the agreement as well as for
any liabilities related to the assets prior to sale that were
not included in the purchaser assumed liabilities (undiscovered
liabilities). Subject to limited exceptions, the maximum
potential loss related to the indemnifications is
$10.0 million, $200.0 million and $1.5 million,
respectively. To date, we have paid no amounts under the
representations and warranties indemnifications. We have not
recorded any accruals related to these agreements.
|
If we believe a liability associated with any of the
aforementioned indemnifications becomes probable and the amount
of the liability is reasonably estimable or the minimum amount
of a range of loss is reasonably estimable, then an appropriate
liability will be established.
|
|
13.
|
Related
Party Transaction
|
David G. DeWalt, our chief executive officer, is a director of
Polycom, Inc., one of our customers. We recognized
$0.1 million of revenue from Polycom, Inc. during the three
and six months ended June 30, 2008. At June 30, 2008,
our outstanding accounts receivable balance related to Polycom,
Inc. was $0.1 million. Our deferred revenue balance related
to Polycom, Inc. was $0.1 million at June 30, 2008.
Denis J. OLeary, one of our directors, is also a director
of Fiserv, Inc., one of our customers. We recognized less than
$0.1 million of revenue from Fiserv, Inc. during the six
months ended June 30, 2008. At June 30, 2008, we had
no outstanding accounts receivable balance related to Fiserv,
Inc. Our deferred revenue balance related to Fiserv. Inc. was
$0.2 million at June 30, 2008.
From July 1, 2008 through the date of this filing, we have
repurchased approximately 3.4 million shares of our common
stock in the open market for approximately $112.6 million.
In July 2008, we signed a definitive agreement to acquire
privately-owned Reconnex for $46.0 million in cash.
Reconnex is a data loss prevention company with technology that
learns and adapts to automate the ongoing protection of data.
Reconnexs technology helps an organization protect the
information assets on its network without requiring upfront
knowledge of what needs to be protected. Closing of the
transaction is subject to customary closing conditions and there
can be no assurance that the transaction will be consummated. We
expect the acquisition to close during the three months ended
September 30, 2008.
27
|
|
Item 2.
|
Managements
Discussion and Analysis of Financial Condition and Results of
Operations
|
Forward-Looking
Statements; Trademarks
This Report on
Form 10-Q
contains forward-looking statements that involve risks and
uncertainties. These statements include, without limitation,
statements regarding our expectations, beliefs, intentions or
strategies regarding the future. All forward-looking statements
included in this Report on
Form 10-Q
are based on information available to us on the date hereof.
These statements involve known and unknown risks, uncertainties
and other factors, which may cause our actual results to differ
materially from those implied by the forward-looking statements.
In some cases, you can identify forward-looking statements by
terminology such as may, could,
expects, plans, anticipates,
believes, estimates,
predicts, potential,
targets, goals, projects,
continue, or variations of such words, similar
expressions, or the negative of these terms or other comparable
terminology. Although we believe that the expectations reflected
in the forward-looking statements are reasonable, we cannot
guarantee future results, levels of activity, performance or
achievements. Therefore, actual results may differ materially
and adversely from those expressed in any forward-looking
statements. Neither we nor any other person can assume
responsibility for the accuracy and completeness of
forward-looking statements. Important factors that may cause
actual results to differ from expectations include, but are not
limited to, those discussed in Risk Factors in
Part II, Item 1A in this quarterly report and in
Part I, Item 1A in our annual report on
Form 10-K
for the fiscal year ended December 31, 2007. We undertake
no obligation to revise or update publicly any forward-looking
statements for any reason. We encourage you to read these
sections carefully.
This report includes registered trademarks and trade names of
McAfee and other corporations. Trademarks or trade names owned
by McAfee
and/or its
affiliates include: McAfee, ePolicy
Orchestrator, ePO, VirusScan,
IntruShield, Entercept,
Foundstone, SiteAdvisor,
Avert, Preventsys, Total
Protection, SecurityAlliance, McAfee
Security, SafeBoot, ScanAlert and
Hacker Safe.
The following discussion should be read in conjunction with the
condensed consolidated financial statements and related notes
included elsewhere in this report. The results shown herein are
not necessarily indicative of the results to be expected for the
full year or any future periods.
Overview
and Executive Summary
We are a leading dedicated security technology company that
secures systems and networks from threats around the world. We
empower home users, businesses, government agencies, service
providers and our partners with the ability to block attacks,
prevent disruptions, and continuously track and improve their
security. We apply business discipline and a pragmatic approach
to security that is based on four principles of security risk
management: identify and prioritize assets; determine acceptable
risk; protect against threats; and enforce and measure
compliance. We incorporate some or all of these principles into
our solutions. Our solutions protect systems and networks,
blocking immediate threats while proactively providing
protection from future threats.
We also provide software to manage and enforce security policies
for organizations of any size. Finally, we incorporate expert
services and technical support to ensure a solution is actively
meeting our customers needs. These integrated solutions
help our customers solve problems, enhance security and reduce
costs.
We have one business and operate in one industry, developing,
marketing, distributing and supporting computer and network
security solutions for large enterprises, governments, small and
medium-sized businesses and consumers either directly or through
a network of qualified partners. We derive our revenue from
three sources: (i) service and support revenue, which
include support and maintenance, training, consulting and web
security revenue; (ii) subscription revenue, which consists
of revenue from online subscription arrangements; and
(iii) product revenue, which includes revenue from
perpetual software licenses (those with a one-time license fee)
and hardware sales and retail product sales. We continue to
focus our efforts on building a full line of complementary
network and system protection solutions. During the fourth
quarter of 2007, we acquired SafeBoot for $347.4 million
net of imputed interest. During the first quarter of 2008, we
acquired ScanAlert for $54.9 million, of which $49.1 was
paid in the three months ended March 31, 2008 and
$4.5 million was paid in the last quarter of 2007. We have
recorded a $1.3 million long-term liability on our
consolidated balance sheet as of June 30, 2008 for a
portion
28
of the purchase price held-back for future indemnification
claims. The amount will be paid out, net of any claims, in July
2009.
We evaluate our consolidated financial performance utilizing a
variety of indicators. Two of the primary indicators that we
utilize are total net revenue and net income. As discussed more
fully below, our net revenue in the three months ended
June 30, 2008 grew by $82.0 million to
$396.8 million from $314.8 million in the three months
ended June 30, 2007. Our net revenue in the six months
ended June 30, 2008 grew by $136.7 million to
$766.4 million from $629.7 million in the six months
ended June 30, 2007. We believe net revenue is a key
indicator of the growth and health of our business. Our net
revenue is directly impacted by corporate information
technology, government and consumer spending levels. We believe
net income is a key indicator of the profitability of our
business. Our net income for the three months ended
June 30, 2008 decreased by $0.2 million to
$47.8 million from $48.0 million for the three months
ended June 30, 2007. Our net income for the six months
ended June 30, 2008 declined by $13.4 million to
$78.0 million from $91.4 million for the six months
ended June 30, 2007, primarily due to an increase in our
effective tax rate discussed in Provision for Income
Taxes below, partially offset by improved income from
operations.
Critical
Accounting Policies and Estimates
We have added disclosure of Potential Impairment of
Marketable Securities to our critical accounting
policies and estimates during the six months ended June 30,
2008. We had no significant changes in our critical accounting
policies and estimates during the six months ended June 30,
2008 as compared to the critical accounting policies and
estimates disclosed in Managements Discussion and
Analysis of Financial Condition and Results of
Operations included in our annual report on
Form 10-K
for the year ended December 31, 2007.
Potential
Impairment of Marketable Securities
All of our marketable securities are classified as
available-for-sale
securities. We assess the value of our
available-for-sale
marketable securities on a regular basis to assess whether an
other-than-temporary
decline in the fair value has occurred. This determination
requires significant judgment and actual results may be
materially different than our estimate. Factors that we use to
assess whether an other than temporary decline has occurred
include, but are not limited to, the period of time the fair
value is below amortized cost, significant changes in the
operating performance, financial condition or business model of
the issuer or underlying assets, and changes in market
conditions. When a decline in value is deemed to be
other-than-temporary,
we recognize an impairment loss in the current periods
operating results to the extent of the decline. Actual values
could be different from those estimated by management, which
could have a material effect on our operating results and
financial position. In the three and six months ended
June 30, 2008, we recorded an impairment on a single
marketable security of $2.6 million, which is included in
interest and other income on our condensed consolidated
statements of income and comprehensive income. We had no
impairment of marketable securities in the three and six months
ended June 30, 2007.
Fair
Value Measurements
On January 1, 2008, we adopted Statement of Financial
Accounting Standards (SFAS) 157, which defines fair
value, establishes a framework for measuring fair value, and
expands disclosure requirements regarding fair value
measurement. We hold financial assets, such as available for
sale securities and foreign currency contracts, subject to
valuation under SFAS 157. In February 2008, the Financial
Accounting Standard Board (FASB) issued FASB Staff
Position (FSP)
No. 157-2,
Effective Date of FASB Statement No. 157
(FSP 157-2).
FSP 157-2
delays the effective date of SFAS No. 157 for all
non-financial assets and non-financial liabilities that are not
remeasured at fair value on a recurring basis (at least
annually) until fiscal years beginning after November 15,
2008.
FSP 157-2
is effective for us beginning January 1, 2009 and will be
applied prospectively. We continue to assess the impact that
FSP 157-2
may have on our consolidated financial position and results of
operations. See Note 2 to the condensed consolidated
financial statements for further discussion.
29
Results
of Operations
Net
Revenue
The following table sets forth, for the periods indicated, a
year-over-year
comparison of the key components of our net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
$
|
199,754
|
|
|
$
|
165,162
|
|
|
$
|
34,592
|
|
|
|
21
|
%
|
|
$
|
387,972
|
|
|
$
|
332,767
|
|
|
$
|
55,205
|
|
|
|
17
|
%
|
Subscription
|
|
|
164,243
|
|
|
|
133,291
|
|
|
|
30,952
|
|
|
|
23
|
|
|
|
325,217
|
|
|
|
261,659
|
|
|
|
63,558
|
|
|
|
24
|
|
Product
|
|
|
32,761
|
|
|
|
16,377
|
|
|
|
16,384
|
|
|
|
100
|
|
|
|
53,210
|
|
|
|
35,282
|
|
|
|
17,928
|
|
|
|
51
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$
|
396,758
|
|
|
$
|
314,830
|
|
|
$
|
81,928
|
|
|
|
26
|
%
|
|
$
|
766,399
|
|
|
$
|
629,708
|
|
|
$
|
136,691
|
|
|
|
22
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percentage of total net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
|
50
|
%
|
|
|
53
|
%
|
|
|
|
|
|
|
|
|
|
|
51
|
%
|
|
|
53
|
%
|
|
|
|
|
|
|
|
|
Subscription
|
|
|
42
|
|
|
|
42
|
|
|
|
|
|
|
|
|
|
|
|
42
|
|
|
|
41
|
|
|
|
|
|
|
|
|
|
Product
|
|
|
8
|
|
|
|
5
|
|
|
|
|
|
|
|
|
|
|
|
7
|
|
|
|
6
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The increase in net revenue in the three months ended
June 30, 2008 compared to the three months ended
June 30, 2007 reflected (i) a $57.6 million, or
32%, increase in our corporate business and (ii) a
$24.3 million, or 18%, increase in our consumer business.
The increase in net revenue in the six months ended
June 30, 2008 compared to the six months ended
June 30, 2007 reflected (i) an $87.6 million, or
24%, increase in our corporate business and (ii) a
$49.1 million, or 19%, increase in our consumer business.
Transactions from our corporate business include the sale of
product offerings intended for enterprise, mid-market and small
business use. Transactions from our consumer business include
the sale of product offerings primarily intended for consumer
use, as well as any revenues or activities associated with
providing an overall safe consumer experience on the internet or
cellular networks. The latter category includes annotation,
scanning and search revenue associated with ScanAlert and
SiteAdvisor as the primary benefit of such offerings is to
protect the consumer internet and mobile experience and a
majority of the fees generated are based on underlying consumer
activity. In the three months ended June 30, 2008,
approximately 80% of our total net revenue came from
prior-period deferred revenue.
Net revenue from our corporate business increased during the
three months ended June 30, 2008 compared to the three
months ended June 30, 2007 primarily due to a 41% increase
in revenues from our network protection offerings, a 30%
increase in revenues from our end point solutions, which
includes increased revenue from our system security solutions
and new revenue from data encryption products integrated from
our SafeBoot acquisition, and a 24% increase in our
vulnerability and risk management offerings. During the three
months ended June 30, 2008, we also experienced an increase
in the sale of our hardware solutions, which allows for higher
upfront revenue recognition.
Net revenue from our corporate business increased during the six
months ended June 30, 2008 compared to the six months ended
June 30, 2007 primarily due to a 30% increase in revenues
from our network protection offerings, a 23% increase in
revenues from our end point solutions, which includes increased
revenue from our system security solutions and new revenue from
data encryption products integrated from our SafeBoot
acquisition, and a 16% increase in our vulnerability and risk
management offerings.
During the three and six months ended June 30, 2008
compared to the three and six months ended June 30, 2007,
we generally increased price points for our end point solutions.
We also experienced an increase in both the number and size of
larger transactions sold to customers through a solution selling
approach which bundles multiple
30
products and services into suite offerings, which positively
impacted deferred revenue and will impact our revenue in future
periods.
Net revenue from our consumer market increased during the three
and six months ended June 30, 2008 compared to the three
and six months ended June 30, 2007 primarily due to
(i) online subscriber growth due to an increase in our
customer base, (ii) increased online renewal subscriptions
from a larger customer base, and (iii) increased percentage
of suite sales from lower-priced suites to higher-priced suites.
We continued to strengthen our relationships with strategic
partners, such as Acer, Dell, Sony Computer and Toshiba.
Net
Revenue by Geography
The following table sets forth, for the periods indicated, net
revenue in each of the five geographic regions in which we
operate:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
North America
|
|
$
|
204,218
|
|
|
$
|
162,949
|
|
|
$
|
41,269
|
|
|
|
25
|
%
|
|
$
|
393,968
|
|
|
$
|
327,475
|
|
|
$
|
66,493
|
|
|
|
20
|
%
|
Europe, Middle East and Africa (EMEA)
|
|
|
132,340
|
|
|
|
103,346
|
|
|
|
28,994
|
|
|
|
28
|
|
|
|
254,588
|
|
|
|
205,036
|
|
|
|
49,552
|
|
|
|
24
|
|
Japan
|
|
|
28,152
|
|
|
|
25,024
|
|
|
|
3,128
|
|
|
|
13
|
|
|
|
55,171
|
|
|
|
50,236
|
|
|
|
4,935
|
|
|
|
10
|
|
Asia-Pacific, excluding Japan
|
|
|
19,247
|
|
|
|
14,651
|
|
|
|
4,596
|
|
|
|
31
|
|
|
|
37,283
|
|
|
|
27,943
|
|
|
|
9,340
|
|
|
|
33
|
|
Latin America
|
|
|
12,801
|
|
|
|
8,860
|
|
|
|
3,941
|
|
|
|
44
|
|
|
|
25,389
|
|
|
|
19,018
|
|
|
|
6,371
|
|
|
|
34
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
$
|
396,758
|
|
|
$
|
314,830
|
|
|
$
|
81,928
|
|
|
|
26
|
%
|
|
$
|
766,399
|
|
|
$
|
629,708
|
|
|
$
|
136,691
|
|
|
|
22
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percentage of total net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
North America
|
|
|
51
|
%
|
|
|
52
|
%
|
|
|
|
|
|
|
|
|
|
|
52
|
%
|
|
|
52
|
%
|
|
|
|
|
|
|
|
|
EMEA
|
|
|
34
|
|
|
|
33
|
|
|
|
|
|
|
|
|
|
|
|
33
|
|
|
|
33
|
|
|
|
|
|
|
|
|
|
Japan
|
|
|
7
|
|
|
|
8
|
|
|
|
|
|
|
|
|
|
|
|
8
|
|
|
|
8
|
|
|
|
|
|
|
|
|
|
Asia-Pacific, excluding Japan
|
|
|
5
|
|
|
|
4
|
|
|
|
|
|
|
|
|
|
|
|
4
|
|
|
|
4
|
|
|
|
|
|
|
|
|
|
Latin America
|
|
|
3
|
|
|
|
3
|
|
|
|
|
|
|
|
|
|
|
|
3
|
|
|
|
3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenue
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue outside of North America accounted for approximately
49% of total net revenue in both the three and six months ended
June 30, 2008, and 48% of total net revenue in both the
three and six months ended June 30, 2007. Net revenue from
North America and EMEA has historically comprised between 80%
and 90% of our business.
The increase in total net revenue in North America during the
three months ended June 30, 2008 was primarily related to
(i) a $23.1 million increase in corporate revenue in
North America due to increased revenue from our network
protection offerings, our end point solutions and our
vulnerability and risk management offerings and (ii) an
$18.2 million increase in consumer revenue in North America
due to an increase in our customer base and increased percentage
of suite sales from lower-priced suites to higher-priced suites.
The increase in total net revenue in North America during the
six months ended June 30, 2008 was primarily related to
(i) a $30.3 million increase in corporate revenue in
North America due to increased revenue from our network
protection offerings, our end point solutions and our
vulnerability and risk management offerings and (ii) a
$36.2 million increase in consumer revenue in North America
due to an increase in our customer base and increased
conversions from point products to suite offerings.
31
The increase in total net revenue in EMEA during the three
months ended June 30, 2008 was attributable to (i) a
$25.3 million increase in corporate revenue due to
increased revenue from our network protection offerings and our
end point solutions, offset by a slight decline in our
vulnerability and risk management offerings and (ii) a
$3.6 million increase in consumer revenue due to an
increase in our customer base, expansion to additional countries
and increased percentage of suite sales from lower-priced suites
to higher-priced suites. In addition, corporate revenue and
consumer revenue in EMEA was positively impacted by the
strengthening Euro against the United States (U.S.)
Dollar, which resulted in an approximate $22.9 million
impact to EMEA net revenue in the three months ended
June 30, 2008 compared to the three months ended
June 30.
The increase in total net revenue in EMEA during the six months
ended June 30, 2008 was attributable to (i) a
$42.1 million increase in corporate revenue due to
increased revenue from our network protection offerings, our end
point solutions, and our vulnerability and risk management
offerings and (ii) a $7.4 million increase in consumer
revenue due to an increase in our customer base, expansion to
additional countries and increased percentage of suite sales
from lower-priced suites to higher-priced suites. In addition,
corporate revenue and consumer revenue in EMEA was positively
impacted by the strengthening Euro against the U.S. Dollar,
which resulted in an approximate $40.4 million impact to
EMEA net revenue in the six months ended June 30, 2008
compared to the six months ended June 30, 2007.
Our Japan, Latin America and Asia-Pacific operations combined
have historically comprised less than 20% of our total net
revenue, and we expect this trend to continue.
Risks inherent in international revenue include the impact of
longer payment cycles, greater difficulty in accounts receivable
collection, unexpected changes in regulatory requirements,
seasonality, political instability, tariffs and other trade
barriers, currency fluctuations, a high incidence of software
piracy in some countries, product localization, international
labor laws and our relationship with our employees and regional
work councils and difficulties staffing and managing foreign
operations. These factors may have a material adverse effect on
our future international revenue.
Service
and Support Revenue
The following table sets forth, for the periods indicated, each
category of our service and support revenue as a percent of
total service and support revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Net service and support revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Support and maintenance
|
|
$
|
186,125
|
|
|
$
|
157,750
|
|
|
$
|
28,375
|
|
|
|
18
|
%
|
|
$
|
362,066
|
|
|
$
|
317,980
|
|
|
$
|
44,086
|
|
|
|
14
|
%
|
Consulting, training and other services
|
|
|
13,629
|
|
|
|
7,412
|
|
|
|
6,217
|
|
|
|
84
|
|
|
|
25,906
|
|
|
|
14,787
|
|
|
|
11,119
|
|
|
|
75
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total service and support revenue
|
|
$
|
199,754
|
|
|
$
|
165,162
|
|
|
$
|
34,592
|
|
|
|
21
|
%
|
|
$
|
387,972
|
|
|
$
|
332,767
|
|
|
$
|
55,205
|
|
|
|
17
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percentage of service and support revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Support and maintenance
|
|
|
93
|
%
|
|
|
96
|
%
|
|
|
|
|
|
|
|
|
|
|
93
|
%
|
|
|
96
|
%
|
|
|
|
|
|
|
|
|
Consulting, training and other services
|
|
|
7
|
|
|
|
4
|
|
|
|
|
|
|
|
|
|
|
|
7
|
|
|
|
4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total service and support revenue
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support revenue includes revenue from software
support and maintenance contracts, training, consulting and
other services. The increase in service and support revenue in
the three and six months ended June 30, 2008 compared to
the three and six months ended June 30, 2007 was
attributable to an increase in support and maintenance primarily
due to amortization of previously deferred revenue from support
arrangements and an
32
increase in sales of support renewals. In addition, revenue from
consulting increased due to increased revenue from our
consulting services that provide deployment support.
Although we expect our service and support revenue to increase,
our growth rate and net revenue depend significantly on renewals
of support arrangements as well as our ability to respond
successfully to the pace of technological change and expand our
customer base. If our renewal rate decreases or our pace of new
customer acquisition slows, our net revenue and operating
results would be adversely affected.
Subscription
Revenue
The following table sets forth, for the periods indicated, the
change in subscription revenue from June 30, 2007 to
June 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
2008 vs. 2007
|
|
June 30,
|
|
2008 vs. 2007
|
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
|
(Dollars in thousands)
|
|
Total subscription revenue
|
|
$
|
164,243
|
|
|
$
|
133,291
|
|
|
$
|
30,952
|
|
|
|
23
|
%
|
|
$
|
325,217
|
|
|
$
|
261,659
|
|
|
$
|
63,558
|
|
|
|
24
|
%
|
Subscription revenue includes revenue from online subscription
arrangements. The increases in subscription revenue in the three
and six months ended June 30, 2008 compared to the three
and six months ended June 30, 2007 were attributable to
(i) increases in our online subscription arrangements due
to our continued relationships with strategic partners, such as
Acer, Dell, Sony Computer and Toshiba, (ii) increases in
revenue from our McAfee Total Protection Service for small and
mid-market businesses and (iii) increases in royalties from
sales by our strategic partners. Subscription revenue continues
to be positively impacted by our launch of McAfee Consumer
Suites, including McAfee VirusScan Plus, McAfee Internet
Security, and McAfee Total Protection Solutions, as these suites
utilize a subscription-based model.
Product
Revenue
The following table sets forth, for the periods indicated, each
major category of our product revenue as a percent of total
product revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
|
|
|
|
|
|
(Dollars in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
Net product revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Licenses
|
|
$
|
17,071
|
|
|
$
|
8,144
|
|
|
$
|
8,927
|
|
|
|
110
|
%
|
|
$
|
26,705
|
|
|
$
|
18,218
|
|
|
$
|
8,487
|
|
|
|
47
|
%
|
Hardware
|
|
|
13,319
|
|
|
|
4,980
|
|
|
|
8,339
|
|
|
|
167
|
|
|
|
22,090
|
|
|
|
12,513
|
|
|
|
9,577
|
|
|
|
77
|
|
Retail and other
|
|
|
2,371
|
|
|
|
3,253
|
|
|
|
(882
|
)
|
|
|
(27
|
)
|
|
|
4,415
|
|
|
|
4,551
|
|
|
|
(136
|
)
|
|
|
(3
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total product revenue
|
|
$
|
32,761
|
|
|
$
|
16,377
|
|
|
$
|
16,384
|
|
|
|
100
|
%
|
|
$
|
53,210
|
|
|
$
|
35,282
|
|
|
$
|
17,928
|
|
|
|
51
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Percentage of product revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Licenses
|
|
|
52
|
%
|
|
|
50
|
%
|
|
|
|
|
|
|
|
|
|
|
50
|
%
|
|
|
52
|
%
|
|
|
|
|
|
|
|
|
Hardware
|
|
|
41
|
|
|
|
30
|
|
|
|
|
|
|
|
|
|
|
|
42
|
|
|
|
35
|
|
|
|
|
|
|
|
|
|
Retail and other
|
|
|
7
|
|
|
|
20
|
|
|
|
|
|
|
|
|
|
|
|
8
|
|
|
|
13
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total product revenue
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
100
|
%
|
|
|
100
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Product revenue includes revenue from perpetual software
licenses, hardware sales and retail product sales. The increases
in product revenue for the three and six months ended
June 30, 2008, compared to the three and six months ended
June 30, 2007, were attributable to (i) decreased
incentive rebates and funds provided to our partners for
marketing which are recorded as an offset to revenue,
(ii) increased revenue from our data protection solutions
and upgrade initiatives related to our total protection
solutions and (iii) increased revenue from our network
protection solutions which have a higher hardware content and
therefore more significant upfront revenue realization, offset
by a slight decrease in our retail and other revenue.
33
Cost
of Net Revenue
The following table sets forth, for the periods indicated a
comparison of cost of net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Cost of net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
$
|
15,585
|
|
|
$
|
11,835
|
|
|
$
|
3,750
|
|
|
|
32
|
%
|
|
$
|
30,429
|
|
|
$
|
24,228
|
|
|
$
|
6,201
|
|
|
|
26
|
%
|
Subscription
|
|
|
46,375
|
|
|
|
39,615
|
|
|
|
6,760
|
|
|
|
17
|
|
|
|
92,965
|
|
|
|
77,001
|
|
|
|
15,964
|
|
|
|
21
|
|
Product
|
|
|
14,416
|
|
|
|
11,419
|
|
|
|
2,997
|
|
|
|
26
|
|
|
|
29,358
|
|
|
|
23,324
|
|
|
|
6,034
|
|
|
|
26
|
|
Amortization of purchased technology and patents
|
|
|
13,357
|
|
|
|
8,515
|
|
|
|
4,842
|
|
|
|
57
|
|
|
|
26,917
|
|
|
|
16,884
|
|
|
|
10,033
|
|
|
|
59
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of net revenue
|
|
$
|
89,733
|
|
|
$
|
71,384
|
|
|
$
|
18,349
|
|
|
|
26
|
%
|
|
$
|
179,669
|
|
|
$
|
141,437
|
|
|
$
|
38,232
|
|
|
|
27
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Components of gross margin:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service and support
|
|
$
|
184,169
|
|
|
$
|
153,327
|
|
|
|
|
|
|
|
|
|
|
$
|
357,543
|
|
|
$
|
308,539
|
|
|
|
|
|
|
|
|
|
Subscription
|
|
|
117,868
|
|
|
|
93,676
|
|
|
|
|
|
|
|
|
|
|
|
232,252
|
|
|
|
184,658
|
|
|
|
|
|
|
|
|
|
Product
|
|
|
18,345
|
|
|
|
4,958
|
|
|
|
|
|
|
|
|
|
|
|
23,852
|
|
|
|
11,958
|
|
|
|
|
|
|
|
|
|
Amortization of purchased technology and patents
|
|
|
(13,357
|
)
|
|
|
(8,515
|
)
|
|
|
|
|
|
|
|
|
|
|
(26,917
|
)
|
|
|
(16,884
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total gross margin
|
|
$
|
307,025
|
|
|
$
|
243,446
|
|
|
|
|
|
|
|
|
|
|
$
|
586,730
|
|
|
$
|
488,271
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total gross margin percentage
|
|
|
77
|
%
|
|
|
77
|
%
|
|
|
|
|
|
|
|
|
|
|
77
|
%
|
|
|
78
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of
Service and Support Revenue
Cost of service and support revenue consists principally of
salaries, benefits and stock-based compensation related to
employees providing customer support, training and consulting
services. During 2008, we recognized for the first time, costs
related to delivering annotation, scanning and search services
associated with ScanAlert and SiteAdvisor. In addition, the cost
of service and support revenue increased for the three and six
months ended June 30, 2008 compared to the three and six
months ended June 30, 2007 due to increased professional
services costs related to McAfee Consulting Services. The cost
of service and support revenue as a percentage of service and
support revenue for the three and six months ended June 30,
2008 remained consistent when compared to the same periods in
2007.
We anticipate the cost of service and support revenue will
increase in absolute dollars driven primarily by additional
growth in our Foundstone Consulting Services, which includes
threat modeling, security assessments and education, and McAfee
Consulting Services, which provide product design and deployment
support.
Cost of
Subscription Revenue
Cost of subscription revenue consists primarily of costs related
to the sale of online subscription arrangements, the majority of
which include revenue-share arrangements and royalties paid to
our strategic partners, and the costs of media, manuals and
packaging related to McAfee Consumer Suites, as these suites
utilize a subscription-based model. The increases in
subscription costs for the three and six months ended
June 30, 2008 compared to the three and six months ended
June 30, 2007 were primarily attributed to an increase in
the volume of online subscription arrangements and royalties
paid to our online strategic partners. Cost of subscription
revenue as a percentage of subscription revenue decreased
slightly for the three months ended June 30, 2008, but
remained consistent for the six months ended June 30, 2008
when compared to the same periods in 2007.
We anticipate that the cost of subscription revenue will
increase in absolute dollars due to increased demand for our
subscription-based products with associated revenue-sharing
costs.
34
Cost of
Product Revenue
Cost of product revenue consists primarily of the cost of media,
manuals and packaging for products distributed through
traditional channels and, with respect to hardware-based
security products, the cost of computer platforms, other
hardware and embedded third party components. The cost of
product revenue for the three and six months ended June 30,
2008 increased from the three and six months ended June 30,
2007 due to increased sales of network protection solutions.
Cost of product revenue for the three and six months ended
March 31, 2008 decreased as a percentage of product revenue
compared to the same periods in 2007, due primarily to increased
margins on corporate revenue resulting from an increase in both
the number and size of larger transactions sold to customers
through a solution selling approach and more significant upfront
revenue realization without any additional product costs.
We anticipate that cost of product revenue will increase or
decrease in absolute dollars depending on the mix and size of
certain enterprise-related transactions.
Amortization
of Purchased Technology and Patents
The increase in amortization of purchased technology and patents
in the three and six months ended June 30, 2008 compared to
the three and six months ended June 30, 2007 is driven by
the acquisitions of ScanAlert in February 2008 and SafeBoot in
November 2007. Amortization for the purchased technology and
patents related to these acquisitions was $7.0 million and
$13.6 million in the three and six months ended
June 30, 2008, respectively.
Our purchased technology is being amortized over estimated
useful lives of up to seven years. Amortization associated with
purchased technology recorded as of June 30, 2008 is
expected to be an aggregate of approximately $26.0 million
for the remainder of 2008.
Gross
Margin
Our gross margins were relatively flat in the three and six
months ended June 30, 2008 compared to the three and six
months ended June 30, 2007. Gross margins may fluctuate in
the future due to various factors, including the mix of products
sold, sales discounts, revenue-sharing arrangements, material
and labor costs, warranty costs and amortization of purchased
technology and patents.
Stock-based
Compensation Expense
We record compensation expense for stock-based awards issued to
employees and outside directors in exchange for services
provided based on the estimated fair value of the awards on
their grant dates. Compensation expense is recognized over the
required service or performance period of the awards. Our
stock-based awards include stock options, restricted stock
awards (RSAs), restricted stock units
(RSUs), restricted stock units with
performance-based vesting (PSUs) and our Employee
Stock Purchase Plan (ESPP).
The following table summarizes stock-based compensation expense
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Amortization of fair value of options
|
|
$
|
5,800
|
|
|
$
|
4,214
|
|
|
$
|
11,377
|
|
|
$
|
9,272
|
|
Extension of post-termination exercise period
|
|
|
|
|
|
|
340
|
|
|
|
|
|
|
|
11,078
|
|
Expense (benefit) related to cash settlement of options
|
|
|
|
|
|
|
1,959
|
|
|
|
(382
|
)
|
|
|
2,190
|
|
Restricted stock awards and units
|
|
|
6,482
|
|
|
|
5,236
|
|
|
|
12,307
|
|
|
|
10,147
|
|
Restricted stock units with performance-based vesting
|
|
|
6,894
|
|
|
|
|
|
|
|
7,149
|
|
|
|
|
|
Tender offer
|
|
|
|
|
|
|
|
|
|
|
601
|
|
|
|
|
|
Employee Stock Purchase Plan
|
|
|
500
|
|
|
|
|
|
|
|
500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense
|
|
$
|
19,676
|
|
|
$
|
11,749
|
|
|
$
|
31,552
|
|
|
$
|
32,687
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
35
Amortization of fair value of options. We
recognize the fair value of stock options issued to employees
and outside directors as stock-based compensation expense over
the vesting period of the awards. Stock-based compensation
expense related to these grants increased for the three and six
month periods ended June 30, 2008 compared to the same
periods in the prior year. The increase is due to the grant of a
greater number of options in the six months ended June 30,
2008 compared to the same prior-year period, resulting in
greater expense amortization in 2008 and to the amortization of
the fair value of options assumed in the fourth quarter of 2007
as a result of the acquisition of SafeBoot.
Extension of post-termination exercise
period. From July 2006, when we announced that we
might have to restate our historical financial statements as a
result of our ongoing stock option granting practices
investigation, through December 21, 2007, the date we
became current on our reporting obligations under the Securities
Exchange Act of 1934, as amended, (blackout period),
we imposed restrictions on our ability to issue any shares,
including those pursuant to stock option exercises.
We recognized stock-based compensation expense of
$0.3 million and $11.1 million in the three and six
months ended June 30, 2007, respectively, related to the
January 2007 extension of the post-termination exercise period
for options that would expire during the blackout period. The
compensation charges were based on the fair value of the options
after the modification. There were no such charges in 2008. We
will not recognize any further expense related to these
extensions of post-termination exercise period.
Cash settlement of options. Certain stock
options held by terminated employees expired during the blackout
period as they could not be exercised during the
90-day
period subsequent to termination. In January 2007, we determined
that we would settle these options in cash. In the three and six
months ended June 30, 2007, we recognized expense of
approximately $2.0 million and $2.2 million,
respectively, based on the change in the liability we recorded
for the intrinsic value of these options. We recognized no
expense in the three months ended June 30, 2008 and
recognized a benefit of $0.4 million for the difference
between the December 31, 2007 liability and the amount paid
in the six months ended June 30, 2008. All of these options
were cash settled by March 31, 2008, and we will not
recognize any further expense related to these options.
Restricted stock awards and units. We
recognize stock-based compensation expense for the fair value of
RSAs and RSUs. Fair value is determined as the difference
between the closing price of our common stock on the grant date
and the purchase price of the RSAs and RSUs. The fair value of
these awards is recognized to expense over the requisite service
period of the awards. Stock-based compensation expense related
to these awards increased for the three and six month periods
ended June 30, 2008 compared to the same periods in the
prior year. The increase is due to the grant of 0.6 million
RSUs during the first six months of 2008.
Restricted stock units with performance-based
vesting. We recognize stock-based compensation
for the fair value of PSUs. For awards that vest based only on
performance criteria, the expense is recognized over the
performance period, approximately one year from the date the
performance criteria are set. For certain of these awards, the
performance criteria have not been communicated to the employee,
therefore, these awards will be
marked-to-market
until it is known whether the performance criteria have been
achieved. For awards that have a performance and service
criteria, we recognize expense over the performance period if
the performance criteria have been determined, otherwise we
recognize expense over the service period. For the awards that
are
marked-to-market,
expense will fluctuate in connection with our closing stock
price.
Tender offer. In January 2008, we extended an
offer to holders of certain stock options to amend the exercise
price of the options. The purpose of amending the exercise price
was to cure the adverse tax consequences resulting from certain
options being granted
in-the-money
in prior periods. In connection with amending the exercise
price, we will pay to the holders of options that accepted the
offer an amount of cash to compensate them for the increase in
the exercise price of their options. We accounted for this offer
as an option modification, and recorded stock-based compensation
expense of $0.6 million for the incremental fair value of
the option after the modification over the fair value before the
modification. We will not recognize any further expense related
to the tender offer.
Employee Stock Purchase Plan. We recognize
stock-based compensation expense for the fair value of employee
stock purchase rights issued pursuant to our ESPP. Expense is
recognized ratably based on contributions and the total fair
value of the employee stock purchase rights estimated to be
issued. We did not issue employee
36
stock purchase rights during the blackout period, and resumed
granting awards under our ESPP in the second quarter of 2008.
The following table summarizes pre-tax stock-based compensation
expense recorded in our condensed consolidated statements of
income and comprehensive income by line item in the three and
six months ended June 30, 2008 and 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
2008
|
|
|
2007
|
|
|
Cost of net revenue service and support
|
|
$
|
526
|
|
|
$
|
356
|
|
|
$
|
728
|
|
|
$
|
955
|
|
Cost of net revenue subscription
|
|
|
219
|
|
|
|
185
|
|
|
|
317
|
|
|
|
543
|
|
Cost of net revenue product
|
|
|
281
|
|
|
|
199
|
|
|
|
425
|
|
|
|
457
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense included in cost of net revenue
|
|
|
1,026
|
|
|
|
740
|
|
|
|
1,470
|
|
|
|
1,955
|
|
Research and development
|
|
|
4,445
|
|
|
|
3,293
|
|
|
|
8,066
|
|
|
|
8,265
|
|
Marketing and sales
|
|
|
9,115
|
|
|
|
4,812
|
|
|
|
12,863
|
|
|
|
13,325
|
|
General and administrative
|
|
|
5,090
|
|
|
|
2,904
|
|
|
|
9,153
|
|
|
|
9,142
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock-based compensation expense included in operating costs
|
|
|
18,650
|
|
|
|
11,009
|
|
|
|
30,082
|
|
|
|
30,732
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense
|
|
|
19,676
|
|
|
|
11,749
|
|
|
|
31,552
|
|
|
|
32,687
|
|
Deferred tax benefit
|
|
|
(5,737
|
)
|
|
|
(2,903
|
)
|
|
|
(8,944
|
)
|
|
|
(9,688
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense, net of tax
|
|
$
|
13,939
|
|
|
$
|
8,846
|
|
|
$
|
22,608
|
|
|
$
|
22,999
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For existing employees, we grant RSUs that vest over a specified
period of time based on service or based on the achievement of
performance criteria and, in certain cases, stock options. For
new employees, we continue to primarily grant stock options and,
in certain cases, RSUs that vest over a specified period of time
based on service or based on the achievement of performance
criteria. Going forward, our management and compensation
committee will consider utilizing all types of equity
compensation to reward top-performing employees.
At June 30, 2008, the estimated fair value of all unvested
stock options, RSUs, PSUs, RSAs and ESPP grants that have not
yet been recognized as compensation expense was
$104.2 million, net of expected forfeitures. We expect to
recognize this amount over a weighted-average period of
2.3 years. This amount does not reflect compensation
expense relating to 0.7 million PSUs for which the
performance criteria have not been set.
Internal
Revenue Code Section 409A
Adverse tax consequences resulted from our revision of
accounting measurement dates during our restatement due to our
investigation into our stock option granting practices for stock
options that vested subsequent to December 31, 2004
(409A affected options). These adverse tax
consequences included a penalty tax payable by the option holder
under Internal Revenue Code (IRC) Section 409A
(and, as applicable, similar penalty taxes under state tax
laws). As virtually all holders of options with revised
measurement dates were not involved in or aware of their
incorrect option exercise prices, we took certain actions to
deal with the adverse tax consequences that were incurred by the
holders of such options. As a result of these actions, we
recognized expense of $0.9 million and $2.3 million in
the three and six months ended June 30, 2007, respectively.
We have not recognized any expense in 2008 and we do not expect
any additional expense related to these actions in the future.
37
Operating
Costs
Research
and Development
The following table sets forth, for the periods indicated, a
comparison of our research and development expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30
|
|
|
2008 vs. 2007
|
|
|
June 30
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Research and development(1)
|
|
$
|
61,998
|
|
|
$
|
54,819
|
|
|
$
|
7,179
|
|
|
|
13
|
%
|
|
$
|
120,623
|
|
|
$
|
109,432
|
|
|
$
|
11,191
|
|
|
|
10
|
%
|
Percentage of net revenue
|
|
|
16
|
%
|
|
|
17
|
%
|
|
|
|
|
|
|
|
|
|
|
16
|
%
|
|
|
17
|
%
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes stock-based compensation charges of $4,445 and $3,293
in the three months ended June 30, 2008 and 2007,
respectively, and $8,066 and $8,265 in the six months ended
June 30, 2008 and 2007, respectively. |
Research and development expenses consist primarily of salary,
benefits, and stock-based compensation for our development and a
portion of our technical support staff, contractors fees
and other costs associated with the enhancements of existing
products and services and development of new products and
services. The increase in research and development expenses in
the three months ended June 30, 2008 compared to the three
months ended June 30, 2007 was primarily attributable to
(i) a $5.8 million increase in salary and benefit
expense for individuals performing research and development
activities due to an increase in average headcount and salary
increases, (ii) a $1.5 million increase due to
strengthening foreign currencies in EMEA and Japan against the
U.S. Dollar in the three months ended June 30, 2008
compared to the same prior-year period, (iii) a
$1.2 million increase in stock-based compensation expense
and (iv) a $1.2 million increase in contract labor,
partially offset by (i) a $1.9 million decrease
attributable to acquisition-related bonuses, primarily related
to the SiteAdvisor acquisition and (ii) decreases in
various other expenses related to research and development
activities.
The increase in research and development expenses in the six
months ended June 30, 2008 compared to the six months ended
June 30, 2007 was primarily attributable to (i) a
$10.9 million increase in salary and benefit expense for
individuals performing research and development activities due
to an increase in average headcount and salary increases,
(ii) a $2.9 million increase due to strengthening
foreign currencies in EMEA and Japan against the
U.S. Dollar in the six months ended June 30, 2008
compared to the same prior-year period and (iii) a
$1.1 million increase in contract labor, partially offset
by (i) a $3.5 million decrease attributable to
acquisition-related bonuses, primarily related to the
SiteAdvisor acquisition and (ii) decreases in various other
expenses related to research and development activities.
We believe that continued investment in product development is
critical to attaining our strategic objectives. We expect
research and development expenses will increase in absolute
dollars during the remainder of 2008.
Marketing
and Sales
The following table sets forth, for the periods indicated, a
comparison of our marketing and sales expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Marketing and sales(1)
|
|
$
|
128,887
|
|
|
$
|
95,147
|
|
|
$
|
33,740
|
|
|
|
35
|
%
|
|
$
|
247,244
|
|
|
$
|
188,228
|
|
|
$
|
59,016
|
|
|
|
31
|
%
|
Percentage of net revenue
|
|
|
32
|
%
|
|
|
30
|
%
|
|
|
|
|
|
|
|
|
|
|
32
|
%
|
|
|
30
|
%
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes stock-based compensation charges of $9,115 and $4,812
in the three months ended June 30, 2008 and 2007,
respectively, and $12,863 and $13,325 in the six months ended
June 30, 2008 and 1007, respectively. |
Marketing and sales expenses consist primarily of salary,
commissions, stock-based compensation and benefits and costs
associated with travel for marketing and sales personnel,
advertising and promotions. The increase in marketing and sales
expenses during the three months ended June 30, 2008
compared to the three months ended June 30, 2007 reflected
(i) a $19.8 million increase in salary and benefit
expense, including commissions, for
38
individuals performing marketing and sales activities due to an
increase in average headcount and salary increases, (ii) a
$6.7 million increase related to agreements with strategic
partners, (iii) a $4.3 million increase in stock-based
compensation expense, (iv) a $4.0 million increase due
to strengthening foreign currencies in EMEA and Japan against
the U.S. Dollar in the three months ended June 30,
2008 compared to the same prior-year period, (v) a
$3.0 million increase related to worldwide travel expense
and (vi) increases in various other expenses associated
with marketing and sales activities, partially offset by a
$2.3 million decrease in contract labor.
The increase in marketing and sales expenses during the six
months ended June 30, 2008 compared to the six months ended
June 30, 2007 reflected (i) a $38.3 million
increase in salary and benefit expense, including commissions,
for individuals performing marketing and sales activities due to
an increase in average headcount and salary increases,
(ii) an $11.3 million increase due to strengthening
foreign currencies in EMEA and Japan against the
U.S. Dollar in the six months ended June 30, 2008
compared to the same prior-year period, (iii) a
$6.7 million increase related to agreements with strategic
partners, (iv) a $6.3 million increase related to
worldwide travel expense and (v) a $3.0 million
increase due to increased investment in sales, marketing,
promotion and advertising programs, including marketing spend
for SiteAdvisor and corporate branding initiatives, partially
offset by decreases in various other expenses related to
marketing and sales activities.
We anticipate that marketing and sales expenses will increase in
absolute dollars primarily due to agreements with our strategic
partners, our planned branding initiatives and our additional
investment in sales capacity for 2008.
General
and Administrative
The following table sets forth, for the periods indicated, a
comparison of our general and administrative expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
General and administrative(1)
|
|
$
|
58,055
|
|
|
$
|
42,102
|
|
|
$
|
15,953
|
|
|
|
38
|
%
|
|
$
|
100,744
|
|
|
$
|
86,953
|
|
|
$
|
13,791
|
|
|
|
16
|
%
|
Percentage of net revenue
|
|
|
15
|
%
|
|
|
13
|
%
|
|
|
|
|
|
|
|
|
|
|
13
|
%
|
|
|
14
|
%
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes stock-based compensation charges of $5,090 and $2,904
in the three months ended June 30, 2008 and 2007,
respectively, and $9,153 and $9,142 in the six months ended
June 30, 2008 and 2007, respectively. |
General and administrative expenses consist principally of
salary, stock-based compensation and benefit costs for executive
and administrative personnel, professional services and other
general corporate activities. The increase in general and
administrative expenses during the three months ended
June 30, 2008 compared to the three months ended
June 30, 2007 reflected (i) a $5.5 million
increase in legal expenses and settlement costs primarily
associated with a patent infringement lawsuit and
indemnification costs related to our current and former officers
and directors, (ii) a $4.4 million increase in salary
and benefit expense for individuals performing general and
administrative activities due to an increase in average
headcount and salary increases, (iii) a $2.2 million
increase in contract labor, (iv) a $2.2 million
increase in stock-based compensation expense, (v) a
$1.7 million increase due to strengthening foreign
currencies in EMEA and Japan against the U.S. Dollar in the
three months ended June 30, 2008 compared to the same
prior-year period, and (vi) a $1.2 million increase in
acquisition-related costs, primarily related to the SafeBoot
acquisition, partially offset by (i) $1.9 million
decrease in expense related to the change in fair value of
certain stock options subject to the provisions of
EITF 00-19
and (ii) decreases in various other expenses related to
general and administrative activities.
The increase in general and administrative expenses during the
six months ended June 30, 2008 compared to the six months
ended June 30, 2007 reflected (i) an $8.0 million
increase in salary and benefit expense for individuals
performing general and administrative activities due to an
increase in average headcount and salary increases, (ii) a
$5.0 million increase due to strengthening foreign
currencies in EMEA and Japan against the U.S. Dollar in the
six months ended June 30, 2008 compared to the same
prior-year period, (iii) a $4.0 million increase in
contract labor, (iv) a $3.3 million increase in legal
expenses and settlement costs primarily associated with a patent
infringement lawsuit and indemnification costs related to our
current and former officers and directors, (v) a $2.2
increase in acquisition-related costs, primarily related to the
SafeBoot acquisition, partially offset by
39
(i) $5.5 million benefit related to the change in fair
value of certain stock options subject to the provisions of
EITF 00-19
recognized in the six months ended June 30, 2008 compared
to $1.9 million expense recorded in the six months ended
June 30, 2007 and (ii) decreases in various other
expenses related to general and administrative activities.
We anticipate that general and administrative expenses will
increase in absolute dollars during the remainder of 2008.
Investigation
Costs
The following table sets forth, for the periods indicated, a
comparison of investigation costs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
2008 vs. 2007
|
|
June 30,
|
|
2008 vs. 2007
|
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
|
(Dollars in thousands)
|
|
Investigation costs
|
|
$
|
266
|
|
|
$
|
9,148
|
|
|
$
|
(8,882
|
)
|
|
|
(97
|
)%
|
|
$
|
1,642
|
|
|
$
|
14,200
|
|
|
$
|
(12,558
|
)
|
|
|
(88
|
)%
|
Investigation costs consist principally of costs arising as a
result of our recently completed investigation into our
historical stock option granting practices. The decrease in
investigation costs during the three and six months ended
June 30, 2008 compared to the three and six months ended
June 30, 2007 is attributable to a decrease in costs
associated with the investigation. The costs in 2008 are
primarily all ongoing legal costs associated with the
investigation.
Amortization
of Intangibles
The following table sets forth, for the periods indicated, a
comparison of the amortization of intangibles:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
2008 vs. 2007
|
|
June 30,
|
|
2008 vs. 2007
|
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
|
(Dollars in thousands)
|
|
Amortization of intangibles
|
|
$
|
5,636
|
|
|
$
|
3,556
|
|
|
$
|
2,080
|
|
|
|
58
|
%
|
|
$
|
10,976
|
|
|
$
|
6,238
|
|
|
$
|
4,738
|
|
|
|
76
|
%
|
Intangibles consist of identifiable intangible assets such as
trademarks and customer lists. The increase in amortization of
intangibles was attributable to our 2008 and 2007 acquisitions,
in which we acquired approximately $60.0 million of
intangible assets related to the SafeBoot and ScanAlert
acquisitions.
Restructuring
(Benefits) Charges
The following table sets forth, for the periods indicated, a
comparison of our restructuring charges:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
2008 vs. 2007
|
|
June 30,
|
|
2008 vs. 2007
|
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
|
(Dollars in thousands)
|
|
Restructuring (benefits) charges
|
|
$
|
(2,214
|
)
|
|
$
|
(77
|
)
|
|
$
|
(2,137
|
)
|
|
|
**
|
|
|
$
|
(2,143
|
)
|
|
$
|
3,049
|
|
|
$
|
(5,192
|
)
|
|
|
**
|
|
|
|
|
** |
|
Calculation not meaningful. |
Restructuring benefits in the three months ended June 30,
2008 totaled $2.2 million. We recorded a $2.7 million
benefit related primarily to (i) changes in previous
estimates of base rent and sublease income for the
Santa Clara lease which was restructured in 2003 and 2004
and (ii) terminating sublease agreements for three floors
in our Santa Clara facility which were previously included
in our 2003 restructuring activities, offset by a charge of
$0.5 million related to the elimination of certain
positions at SafeBoot that were redundant to positions at McAfee
and the realignment of our sales force. During the three months
ended June 30, 2007, we recorded a $0.1 million
benefit primarily related to previous estimates of a reduction
in headcount.
Restructuring benefits in the six months ended June 30,
2008 totaled $2.1 million. We recorded a $5.1 million
benefit related primarily to (i) changes in previous
estimates of base rent and sublease income for the
Santa Clara lease which was restructured in 2003 and 2004
and (ii) terminating sublease agreements for three floors
in our
40
Santa Clara facility which were previously included in our
2003 restructuring activities, offset by a charge of
$2.9 million related to the elimination of certain
positions at SafeBoot that were redundant to positions at McAfee
and the realignment of our sales force. During the six months
ended June 30, 2007, we permanently vacated several leased
facilities and recorded a $0.3 million accrual for
estimated lease related costs associated with the permanently
vacated facilities and we recorded a restructuring charge of
$2.4 million related to a reduction in headcount. In
addition, during the six months ended June 30, 2007, we
recorded accretion on prior year restructurings of
$0.3 million.
Interest
and Other Income, Net
The following table sets forth, for the periods indicated, a
comparison of our interest and other income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
Six Months Ended
|
|
|
|
|
June 30,
|
|
2008 vs. 2007
|
|
June 30,
|
|
2008 vs. 2007
|
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
2008
|
|
2007
|
|
$
|
|
%
|
|
|
(Dollars in thousands)
|
|
Interest and other income, net
|
|
$
|
10,252
|
|
|
$
|
18,715
|
|
|
$
|
(8,463
|
)
|
|
|
(45
|
)%
|
|
$
|
23,287
|
|
|
$
|
33,030
|
|
|
$
|
(9,743
|
)
|
|
|
(29
|
)%
|
Interest and other income includes interest earned on
investments, as well as net foreign currency transaction gains
or losses. The decrease in interest and other income in the
three months ended June 30, 2008 compared to the three
months ended June 30, 2007 is partially due to (i) a
lower average rate of annualized return on our investments from
approximately 6% in the three months ended June 30, 2007 to
approximately 4% in the three months ended June 30, 2008
and (ii) a decrease in our average cash, cash equivalents
and marketable securities of $165.9 million in the three
months ended June 30, 2008 compared to the three months
ended June 30, 2007.
The decrease in interest and other income in the six months
ended June 30, 2008 compared to the six months ended
June 30, 2007 is partially due to (i) a lower average
rate of annualized return on our investments from approximately
5% in the six months ended June 30, 2007 to approximately
4% in the six months ended June 30, 2008 and (ii) a
decrease in our average cash, cash equivalents and marketable
securities of $84.5 million in the six months ended
June 30, 2008 compared to the six months ended
June 30, 2007.
During the three months ended June 30, 2008 and 2007, we
recorded a net foreign currency transaction loss in our
condensed consolidated statements of income of $0.6 million
and $0.4 million, respectively, and $1.5 million and
$1.1 million in the six months ended June 30, 2008 and
2007, respectively.
We anticipate that interest and other income will decrease
during the remainder 2008 as a result of a declining interest
rate environment and lower cash balances due to our stock
repurchase program.
Gain on
Investments, Net
During both the three months ended June 30, 2008 and 2007,
we recognized a gain on the sales of marketable securities of
$0.2 million. During the six months ended June 30,
2008 and 2007, we recognized a gain on the sales of marketable
securities of $2.7 million and $0.3 million,
respectively. Our investments are classified as
available-for-sale
and we may sell securities from time to time to move funds into
investments with more lucrative yields or for liquidity
purposes, thus resulting in gains and losses on sale. In
addition, in the three and six months ended June 30, 2008,
we recognized an
other-than-temporary
impairment charge of $2.6 million related to a single
marketable security.
Provision
for Income Taxes
The following table sets forth, for the periods indicated, a
comparison of our provision for income taxes:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
June 30,
|
|
|
2008 vs. 2007
|
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
2008
|
|
|
2007
|
|
|
$
|
|
|
%
|
|
|
|
(Dollars in thousands)
|
|
|
Provision for income taxes
|
|
$
|
17,041
|
|
|
$
|
9,573
|
|
|
$
|
7,468
|
|
|
|
78
|
%
|
|
$
|
55,616
|
|
|
$
|
22,067
|
|
|
$
|
33,549
|
|
|
|
152
|
%
|
Effective tax rate
|
|
|
26
|
%
|
|
|
17
|
%
|
|
|
|
|
|
|
|
|
|
|
42
|
%
|
|
|
19
|
%
|
|
|
|
|
|
|
|
|
41
We estimate our annual effective tax rate based on year to date
operating results and our forecast of operating results for the
remainder of the year, by jurisdiction, and apply this rate to
the year to date operating results. If our actual results, by
jurisdiction, differ from each successive interim periods
forecasted operating results or if we change our forecast of
operating results for the remainder of the year, our effective
tax rate will change accordingly, affecting tax expense for both
that successive interim period as well as
year-to-date
interim results.
The effective tax rate for the three months ended June 30,
2008 differs from the U.S. federal statutory rate
(statutory rate) primarily due to the benefit of
lower tax rates in certain foreign jurisdictions. The effective
tax rate for the three months ended June 30, 2007 differed
from the statutory rate primarily due to the benefit of lower
tax rates in certain jurisdictions as well as a decrease in our
estimated annual effective tax rate and the resultant quarterly
adjustment necessary to adjust year to date expense to the
revised estimate of our annual effective rate.
The effective tax rate for the six months ended June 30,
2008 differs from the statutory rate primarily due to the
negative impact resulting from acquisition integration
activities, which, on a year to date basis, accounts for
18 percentage points of the effective tax rate, offset by
the benefit of lower tax rates in certain jurisdictions. We have
filed for administrative relief from the negative tax
consequences associated with the acquisition integration
activities with the U.S. Internal Revenue Service. If the
administrative relief is granted, we will reverse the previously
recorded tax expense in the period in which the relief is
granted. The effective tax rate for the six months ended
June 30, 2007 differed from the statutory rate primarily
due the benefit of lower tax rates in certain jurisdictions. The
increase in the effective tax rate for the six months ended
June 30, 2008 as compared to the same prior period in 2007
primarily relates to the negative impact of the acquisition
integration activities recognized in 2008, the loss of certain
tax credits due to legislative sunset provisions that became
effective at the end of 2007, and higher non-deductible expenses
compared to the prior year.
The earnings from our foreign operations in India are subject to
a tax holiday. In May 2008, the Indian government extended the
period through which the holiday would be effective to
March 31, 2010. The tax holiday provides for zero percent
taxation on certain classes of income and requires certain
conditions to be met. We were in compliance with these
conditions as of June 30, 2008.
Subsequent to June 30, 2008, we concluded a limited scope
examination of our U.S. federal income tax returns for the
calendar years 2002, 2003, 2004 and 2005 with the Internal
Revenue Service. There will be no material impact on the
financial statements resulting from this examination.
Acquisitions
ScanAlert
In January 2008, we acquired 100% of the outstanding shares of
ScanAlert, a provider of a vulnerability assessment and
certification services for
e-commerce
sites, for $54.9 million. Of this amount, we paid
$4.5 million in the fourth quarter of 2007 to a third party
to settle prior alleged patent infringement claims against
ScanAlert and for a fully paid future license for the use of the
patent until its expiration and we paid $49.0 million, net
of cash received, in the three months ended June 30, 2008.
We have recorded a $1.3 million long-term liability on our
consolidated balance sheet as of June 30, 2008 for a
portion of the purchase price held-back for future
indemnification claims.
We have incorporated ScanAlerts technology into our
existing SiteAdvisor web rating system. The results of
operations for ScanAlert have been included in our results of
operations since the date of acquisition. See Note 4 to the
condensed consolidated financial statements for further
discussions.
42
Liquidity
and Capital Resources
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
|
(In thousands)
|
|
|
Net cash provided by operating activities
|
|
$
|
151,002
|
|
|
$
|
187,101
|
|
Net cash provided by (used in) investing activities
|
|
|
316,198
|
|
|
|
(41,611
|
)
|
Net cash used in financing activities
|
|
|
(283,388
|
)
|
|
|
(184
|
)
|
Overview
At June 30, 2008, our cash, cash equivalents and marketable
securities totaled $1,131.3 million and we did not have any
debt. Our principal source of liquidity was our existing cash,
cash equivalents and short-term marketable securities of
$835.9 million. During the six months ended June 30,
2008, we had $392.2 million of net proceeds from the sale
or maturity of marketable securities, we received
$87.0 million from proceeds from the issuance of common
stock under our employee options plans and we had net income of
$78.0 million. We paid $49.0 million, net of cash
received, for the purchase of 100% of the outstanding shares of
ScanAlert, Inc. and we paid $6.0 million for direct
acquisition costs accrued at December 31, 2007 for our
acquisition of SafeBoot. In addition, we used
$382.9 million for repurchases of our common stock,
including commissions, and $21.0 million for purchases of
property and equipment. Of the $382.9 million used for
stock repurchases, $368.0 million was used for share
repurchases in the open market and $14.9 million was used
to repurchase shares of common stock in connection with our
obligation to holders of restricted stock to withhold the number
of shares required to satisfy the holders tax liabilities
in connection with the vesting of such shares.
Our management plans to use our cash and cash equivalents for
future operations, potential acquisitions and repurchases of our
common stock on the open market. We believe that our cash and
cash equivalent balances and cash that we generate over time
from operations will be sufficient to satisfy our anticipated
cash needs for working capital and capital expenditures for at
least the foreseeable future.
Operating
Activities
Net cash provided by operating activities in the six months
ended June 30, 2008 and 2007 was primarily the result of
our net income of $78.0 million and $91.4 million,
respectively. Net income for the six months ended June 30,
2008 was adjusted for non-cash items such as depreciation and
amortization of $57.2 million, non-cash stock-based
compensation expense of $31.3 million, changes in deferred
income taxes of $18.6 million, and changes in various
assets and liabilities such as a decrease in accounts receivable
of $37.9 million, an increase in prepaid expenses, prepaid
taxes and other assets of $31.2 million, a decrease in
accounts payable of $10.0 million, a decrease in accrued
taxes and other liabilities of $7.5 million, and an
increase in deferred revenue of $0.9 million.
Net income for the six months ended June 30, 2007 was
adjusted for non-cash items such as depreciation and
amortization of $40.6 million, non-cash stock-based
compensation expense of $30.5 million, changes in deferred
income taxes of $3.2 million, and changes in various assets
and liabilities such as a decrease in accounts receivable of
$10.3 million, an increase in accrued taxes and other
liabilities of $9.6 million, an increase in deferred
revenue of $5.6 million and an increase in prepaid
expenses, prepaid taxes, and other assets of $5.6 million.
Historically, our primary source of operating cash flow was the
collection of accounts receivable from our customers and the
timing of payments to our vendors and service providers. One
measure of the effectiveness of our collection efforts is
average accounts receivable days sales outstanding, or
DSO. DSOs were 46 days in each of the three
months ended June 30, 2008 and 2007, respectively. We
calculate accounts receivable DSO on a net basis by
dividing the net accounts receivable balance at the end of the
quarter by the amount of net revenue recognized for the quarter
multiplied by 90 days. We expect DSOs to vary from period
to period because of changes in quarterly revenue and the
effectiveness of our collection efforts and the impact of
acquisitions. In the first six months of 2008 and in 2007, we
did not make any significant changes to our payment terms for
our customers, which are generally net 30. We expect
our DSOs will continue to be impacted by the acquisition of
SafeBoot due
43
to SafeBoot having longer payment terms, which do not exceed
90 days, and a slower collection process compared to McAfee.
Our operating cash flows, including changes in accounts payable
and accrued liabilities, are impacted by the timing of payments
to our vendors for accounts payable and taxing authorities. We
typically pay our vendors and service providers in accordance
with invoice terms and conditions, and take advantage of invoice
discounts when available. The timing of future cash payments in
future periods will be impacted by the nature of accounts
payable arrangements and strategic partner arrangements. In the
six months ended June 30, 2008 and 2007, we did not make
any significant changes to our payment timing to our vendors.
Our cash and marketable securities balances are held in numerous
locations throughout the world, including substantial amounts
held outside the United States. As of June 30, 2008,
approximately $457.7 million was held outside the United
States. We utilize a variety of tax planning and financing
strategies to ensure that our worldwide cash is available in the
locations in which it is needed.
We incurred material expenses in 2007 as a direct result of the
investigation into our historical stock option granting
practices and related accounting. These costs primarily related
to professional services for the investigation, legal,
historical accounting and tax guidance. In addition, we incurred
costs related to litigation, the investigation by the SEC, the
grand jury subpoena from the U.S. Attorneys Office
for the Northern District of California and the preparation and
review of our restated consolidated financial statements. We
expect that we may be subject to certain fines
and/or
penalties resulting from the findings of the investigation. We
cannot reasonably estimate the range of fines
and/or
penalties, if any, that might be incurred as a result of the
investigation. We expect to pay for these fines
and/or
penalties with available cash.
In the ordinary course of business, we enter into various
agreements with minimum contractual commitments including
telecom contracts, naming rights and advertising, software
licensing, royalty and distribution-related agreements. In 2008,
we entered into additional advertising, software licensing,
royalty and distribution-related agreements totaling
approximately $245 million which expire at various times
through 2010. These commitments are in the ordinary course of
our business and we expect to meet these and our other
obligations as they become due through available cash and
internally generated funds. We expect to continue generating
positive working capital through our operations. However, we
cannot predict whether current trends and conditions will
continue or what the effect on our business might be from the
competitive environment in which we operate. In addition, we
currently cannot predict the outcome of the litigation described
in Note 11 in our condensed consolidated financial
statements.
Investing
Activities
Our investing activities for the six months ended June 30,
2008 and 2007 are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
Net proceeds from sales or maturities (purchases) of marketable
securities
|
|
$
|
392,242
|
|
|
$
|
(17,959
|
)
|
Acquisitions, net of cash acquired
|
|
|
(55,041
|
)
|
|
|
|
|
(Increase) decrease in restricted cash
|
|
|
(2
|
)
|
|
|
393
|
|
Purchase of property, equipment and leasehold improvements
|
|
|
(21,001
|
)
|
|
|
(18,850
|
)
|
Purchase of patents
|
|
|
|
|
|
|
(9,300
|
)
|
Proceeds from the sale of assets and technology
|
|
|
|
|
|
|
4,105
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities
|
|
$
|
316,198
|
|
|
$
|
(41,611
|
)
|
|
|
|
|
|
|
|
|
|
Investments
In the six months ended June 30, 2008, net proceeds from
the sale and maturity of marketable securities were
$392.2 million compared to net purchases of marketable
securities of $18.0 million in the six months ended
June 30, 2007. We have classified our investment portfolio
as
available-for-sale,
and our investments are made with a
44
policy of capital preservation and liquidity as the primary
objectives. We generally hold investments in money market,
U.S. government fixed income, U.S. government agency
fixed income, mortgage-backed and investment grade corporate
fixed income securities to maturity; however, we may sell an
investment at any time if the quality rating of the investment
declines, the yield on the investment is no longer attractive or
we are in need of cash. Because we invest only in investment
securities that are highly liquid with a ready market, we
believe that the purchase, maturity or sale of our investments
has no material impact on our overall liquidity. We expect to
continue our investing activities, including investment
securities of a short-term and long-term nature.
Acquisitions
During the six months ended June 30, 2008, we paid
$49.0 million, net of cash acquired, related to the
acquisition of ScanAlert, Inc. and $6.0 million for direct
acquisition costs accrued at December 31, 2007 for our
acquisition of SafeBoot. Our available cash and equity
securities may be used to acquire or invest in complementary
companies, products and technologies in the future.
Restricted
Cash
Restricted cash, which is included in other assets, at both
June 30, 2008 and December 31, 2007 consists primarily
of cash collateral related to leases in the United States and
India, as well as workers compensation insurance coverage.
Property
and Equipment
The $21.0 million of property and equipment purchased
during the six months ended June 30, 2008 and the
$18.9 million of property and equipment purchased during
the six months ended June 30, 2007 was primarily for
purchases of computers, equipment and software for ongoing
projects.
We anticipate that we will continue to purchase property and
equipment necessary in the normal course of our business. The
amount and timing of these purchases and the related cash
outflows in future periods is difficult to predict and is
dependent on a number of factors including our hiring of
employees, the rate of change in computer hardware/software used
in our business and our business outlook.
Patents
In February 2007, we reached a confidential settlement of a
breach of contract, fraud and bad faith lawsuit filed in June
2002 in the U.S. District Court, District of Massachusetts.
As part of the settlement, we acquired and recorded ownership of
intangible assets valued at $9.3 million. The case was
dismissed in March 2007.
Proceeds
from the sale of assets and technology
The $4.1 million of proceeds from the sale of assets during
the six months ended June 30, 2007 was primarily related to
the sale of our fractional interests in corporate aircraft.
Financing
Activities
Our financing activities for the six months ended June 30,
2008 and 2007 are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended
|
|
|
|
June 30,
|
|
|
|
2008
|
|
|
2007
|
|
|
Proceeds from issuance of common stock from option plans
|
|
$
|
87,044
|
|
|
$
|
|
|
Excess tax benefits from stock-based compensation
|
|
|
12,464
|
|
|
|
12
|
|
Repurchase of common stock
|
|
|
(382,896
|
)
|
|
|
(196
|
)
|
|
|
|
|
|
|
|
|
|
Net cash used in financing activities
|
|
$
|
(283,388
|
)
|
|
$
|
(184
|
)
|
|
|
|
|
|
|
|
|
|
45
Stock
Option and Stock Purchase Plans
Historically, our recurring cash flows provided by financing
activities have been from the receipt of cash from the issuance
of common stock under our stock option plans and ESPP. Beginning
in July 2006, we suspended purchases under our ESPP and
prohibited our employees from exercising stock options due to
the announced investigation into our historical stock option
granting practices and our inability to become current on our
reporting obligations under the Securities Exchange Act of 1934,
as amended. Therefore, in the six months ended June 30,
2007, we received no proceeds from the issuance of common stock
under stock option plans and ESPP. On December 21, 2007, we
became current on our reporting obligations and our employees
were able to exercise stock options for the first time in over
18 months. In June 2008, we reinstated our ESPP with a
six-month offering period, a 15% discount and a six-month
look-back feature. We received cash proceeds from these plans in
the amount of $87.0 million in the six months ended
June 30, 2008. We do not expect proceeds from the exercise
of stock options to be as significant in future quarterly
periods.
While we expect to continue to receive these proceeds in future
periods, the timing and amount of such proceeds are difficult to
predict and are contingent on a number of factors including the
price of our common stock, the number of employees participating
in the plans and general market conditions. For existing
employees, we grant RSUs that vest over a specified period of
time based on service or based on the achievement of performance
criteria and, in certain cases, stock options. For new
employees, we continue to primarily grant stock options and, in
certain cases, RSUs that vest over a specified period of time
based on service or based on the achievement of performance
criteria. Going forward, our management and compensation
committee will consider utilizing all types of equity
compensation to reward top-performing employees. If management
and our compensation committee decide to grant only RSUs and
PSUs, which provide no proceeds to us, going forward, our
proceeds from issuance of common stock will be significantly
less than proceeds that we received historically.
Excess
Tax Benefits from Stock-Based Compensation
The excess tax benefit reflected as a financing cash inflow in
the six months ended June 30, 2008 and 2007 represents
excess tax benefits realized relating to stock-based payments to
our employees, in accordance with SFAS 123(R). There is a
corresponding cash outflow included in cash flows from operating
activities.
Repurchase
of Common Stock
In January 2008, our board of directors authorized the
repurchase of up to $750.0 million of our common stock from
time to time in the open market or through privately negotiated
transactions through July 2009, depending on market conditions,
share price and other factors. During the six months ended
June 30, 2008, we used $368.0 million to repurchase
11.1 million shares of our common stock in the open market,
including commissions paid on these transactions. Of the
11.1 million shares repurchased, 0.6 million shares
had not settled, therefore, we recorded a liability for
$19.3 million.
During the six months ended June 30, 2008 and 2007, we used
$14.9 million and $0.2 million, respectively, to
repurchase shares of common stock in connection with our
obligation to holders of restricted stock to withhold the number
of shares required to satisfy the holders tax liabilities
in connection with the vesting of such shares. These shares were
not part of the publicly announced repurchase program.
In May 2006, we suspended repurchases of our common stock in the
open market due to the announced investigation into our
historical stock option granting practices until
December 21, 2007, the date we became current on our filing
obligations. Therefore, in the six months ended June 30,
2007, we had no repurchases of our common stock pursuant to a
publicly announced plan or program.
From July 1, 2008 through the date of this filing, we have
repurchased approximately 3.4 million shares of our common
stock in the open market for approximately $112.6 million.
We may repurchase up to an additional $250.0 million of our
common stock in the open market or through privately negotiated
transactions through July 2009, depending upon market
conditions, share price and other factors.
46
Credit
Facility
We have a 14.0 million Euro credit facility with a bank.
The credit facility is available on an offering basis, meaning
that transactions under the credit facility will be on such
terms and conditions, including interest rate, maturity,
representations, covenants and events of default, as mutually
agreed between us and the bank at the time of each specific
transaction. The credit facility is intended to be used for
short-term credit requirements, with terms of one year or less.
The credit facility can be cancelled at any time. No balances
were outstanding as of June 30, 2008 and December 31,
2007.
Recent
Accounting Pronouncements
See Note 2 to the condensed consolidated financial
statements.
|
|
Item 3.
|
Quantitative
and Qualitative Disclosures about Market Risk
|
Our market risks at June 30, 2008, are consistent with
those discussed in Item 7A of our annual report on
Form 10-K
for the year ended December 31, 2007 filed with the SEC.
|
|
Item 4.
|
Controls
and Procedures
|
Evaluation
of Disclosure Controls and Procedures
Our management, with the participation of our chief executive
officer and our chief financial officer, have evaluated the
effectiveness of our disclosure controls and procedures (as
defined in
Rules 13a-15(e)
and
15d-15(e)
under the Securities Exchange Act of 1934, as amended) and
concluded that because of the material weaknesses in our
internal controls over financial reporting discussed below, our
disclosure controls and procedures were not effective as of
June 30, 2008.
A control system, no matter how well conceived and operated, can
provide only reasonable assurance that the objectives of the
control system are met. Our management, including our chief
executive officer and chief financial officer, does not expect
that our disclosure controls and procedures or internal control
over financial reporting will prevent all errors and fraud.
Further, the design of a control system must reflect the fact
that there are resource constraints, and the benefits of
controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control
issues within our company have been detected. These inherent
limitations include the reality that judgments in
decision-making can be faulty, and that breakdowns can occur
because of simple errors or mistakes. The design of any control
system is also based, in part, upon certain assumptions about
the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under
all potential future conditions. Over time, controls may become
inadequate because of changes in conditions, or the degree of
compliance with the policies or procedures may deteriorate.
Because of the inherent limitations in a control system,
misstatements due to error or fraud may occur and not be
detected.
Material
Weaknesses in Internal Control over Financial
Reporting
A material weakness is a deficiency, or combination of
deficiencies, in internal control over financial reporting, such
that there is a reasonable possibility that a material
misstatement of the annual or interim financial statements will
not be prevented or detected on a timely basis. Our management
identified the following material weakness in our internal
controls over financial reporting as of June 30, 2008.
Our management identified errors in the tax calculations for the
quarterly and annual financial statements resulting from:
(i) historical analyses not being prepared in sufficient
detail, (ii) current period tax calculations not being
accurately prepared, and (iii) reviews of tax calculations
not being performed with sufficient precision. Due to the number
and amount of the errors identified resulting from these
internal control deficiencies and the absence of mitigating
controls, management has concluded that these internal control
deficiencies constitute a material weakness in internal control
because there is a reasonable possibility that a material
misstatement of the interim and annual financial statements
would not have been prevented or detected on a timely basis.
47
As described below under the heading Changes in
Internal Controls Over Financial Reporting, we have
taken a number of steps designed to improve our accounting for
income taxes.
Changes
in Internal Controls Over Financial Reporting
Except as described below, there have been no changes in our
internal control over financial reporting since March 31,
2008 that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.
During the second quarter, we continued the process of
remediating the material weakness in accounting for income taxes
by hiring highly qualified and experienced tax accounting
personnel. We will continue to make personnel additions and
changes, and as necessary, implement additional remedial steps
as indicated below:
|
|
|
|
|
We have automated key elements of the calculation of the
provision for income taxes and the account reconciliation
processes by implementing a new tax accounting system.
|
|
|
|
We have redesigned our income tax reconciliation process to
facilitate improved data collection and analysis.
|
|
|
|
We have provided extensive training to our tax accounting
personnel and will continue to enhance the training programs in
the future.
|
|
|
|
We continue to improve our interim and annual review processes
for various calculations including the tax provision computation
process.
|
We believe the above steps will provide us with the
infrastructure and processes necessary to accurately calculate
our tax provision on a quarterly basis. We will continue to
implement these remedial steps to ensure operating effectiveness
of the improved internal controls over financial reporting.
PART II:
OTHER INFORMATION
|
|
Item 1.
|
Legal
Proceedings
|
Settled
Cases
On August 17, 2006, a patent infringement
lawsuit captioned Deep Nines, Inc. v. McAfee,
Inc., No. 9:06CV174, (Deep Nines litigation)
was filed in the United States District Court for the Eastern
District of Texas. The lawsuit asserted that (i) several of
our Enterprise products infringe a Deep Nines patent and
(ii) we falsely marked certain products with a McAfee
patent that was abandoned after its issuance. On June 18,
2008, the District Court granted, in part, McAfees motion
for summary judgment, thereby removing all accused products from
the case except IntruShield, one of our network protection
offerings. On July 15, 2008, a jury found that certain
applications of IntruShield infringe upon Deep Nines
patent and awarded a one-time, lump sum payment for past and
future damages. On July 29, 2008 we resolved all patent
litigation matters with Deep Nines, Inc. by entering into a
$25.0 confidential settlement agreement. As part of the
settlement, we acquired certain nonexclusive rights and mutual
release of all related claims. In the three months ended
June 30, 2008, we recorded $9.0 million of legal
settlement costs. The remaining $16.0 million was recorded
as a prepaid asset as of June 30, 2008, and will be
amortized to cost of product revenues in our condensed
consolidated statements of income and comprehensive income over
the economic life, which is estimated to be the remaining life
of the primary patent which expires in 2020. We expect dismissal
of all litigation pending between us and Deep Nines, Inc. within
90 days.
In February 2007, we reached a confidential settlement of a
breach of contract, fraud and bad faith lawsuit filed in June
2002 in the United States District Court, District of
Massachusetts for $15.5 million. As part of the settlement,
we acquired and recorded ownership of intangible assets which
were valued at $9.3 million and we expensed
$6.2 million for prior claims, of which $5.0 million
was recognized as expense in the three months ended
June 30, 2006, with the balance of $1.2 million being
expensed in 2004 and prior periods. The case was dismissed in
March 2007.
48
Open
Cases
We have described below our material legal proceedings and
investigations that are currently pending and are not in the
ordinary course of business. If management believes that a loss
arising from these matters is probable and can reasonably be
estimated, we record the amount of the loss, or the minimum
estimated liability when the loss is estimated using a range,
and no point within the range is more probable than another. As
additional information becomes available, any potential
liability related to these matters is assessed and the estimates
are revised, if necessary. While we cannot predict the
likelihood of future claims or inquiries, we expect that new
matters may be initiated against us from time to time. The
results of claims, lawsuits and investigations also cannot be
predicted, and it is possible that the ultimate resolution of
these matters, individually and in the aggregate, may have a
material adverse effect on our business, financial condition,
results of operations or cash flows.
Government
Inquiries Relating to Historical Stock Option
Practices
In May 2006, we announced that we had commenced an investigation
of our historical stock option granting practices. As a result
of that investigation, we concluded that certain stock options
had been accounted for using incorrect measurement dates, which,
in some instances, were chosen with the benefit of hindsight so
as to intentionally give more favorable exercise prices.
Consequently, certain of our historical financial statements
needed to be restated to correct improper accounting for
improperly priced stock options. In December 2007, we filed our
Form 10-K
for 2006, which included the effects of a restatement of our
audited consolidated financial statements for 2004 and 2005, our
selected financial data for 2002 through 2005, and our unaudited
quarterly financial data for all quarters in 2005 and the first
quarter of 2006.
On May 23, 2006, the SEC notified us that an investigation
had begun regarding our historical stock option grants. On
June 7, 2006, the SEC sent us a subpoena requesting certain
documents related to stock option grants from January 1,
1995 through the date of the subpoena. At or around the same
time, we received a notice of informal inquiry from the
U.S. Department of Justice, the (DOJ),
concerning our stock option granting practices. On
August 15, 2006, we received a grand jury subpoena from the
U.S. Attorneys Office for the Northern District of
California relating to the termination of our former general
counsel, his stock option related activities and the
investigation. On November 6, 2006, we received a document
request from the SEC for option grant data for McAfee.com,
previously one of our consolidated subsidiaries that was a
publicly traded company from December 1999 through September
2002.
On November 2, 2006, the investigative team created by the
Special Committee of our board of directors met with the
Enforcement Staff of the SEC in Washington D.C. and presented
the initial findings of the investigation. Pursuant to
discussions between the investigative team and the SEC during
that meeting, the scope of the investigation was expanded to
include a review of the historical McAfee.com option grants
along with our historical exercise activity with a view toward
determining potential exercise date manipulation and
post-employment arrangements with former executives.
We have provided documents requested, and we are cooperating
with the SEC and DOJ. The SEC investigation is still in its
preliminary stages thus we are unable to determine the ultimate
outcome at this time. As such, no provision has been recorded in
the financial statements for this matter.
Securities
Cases
On May 31, 2006, a purported stockholder derivative
lawsuit styled Dossett v. McAfee, Inc.,
No. 5:06CV3484 (JF) was filed in the United
States District Court for the Northern District of California
against certain of our current and former directors and officers
(Dossett). On June 7, 2006, another purported
stockholders derivative lawsuit styled
Heavy & General Laborers Locals 472 & 172
Pension & Annuity Funds v. McAfee, Inc.,
No. 5:06CV03620 (JF) was filed in the United
States District Court for the Northern District of California
against certain of our current and former directors and officers
(Laborers). The Dossett and Laborers actions
generally allege that we improperly backdated stock option
grants between 1997 and the present, and that certain of our
current and former officers or directors either participated in
this backdating or allowed it to happen. The Dossett and
Laborers actions assert claims purportedly on behalf of us for,
inter alia, breach of fiduciary duty, abuse of control,
constructive fraud, corporate waste, unjust enrichment, gross
mismanagement, and
49
violations of the federal securities laws. On July 13,
2006, the United States District Court for the Northern District
of California entered an order consolidating the Dossett and
Laborers actions as In re McAfee, Inc. Derivative Litigation,
Master File No. 5:06CV03484 (JF) (the
Consolidated Action). On January 22, 2007, we
moved to dismiss the complaint in the Consolidated Action on the
grounds that plaintiffs lack standing to sue on our behalf
because, inter alia, they did not make a pre-suit demand on our
board of directors. At the parties request, the Court
continued on several occasions the due date for the
plaintiffs opposition to our motion to dismiss and the
date for the hearing of that motion. As a result of the
settlement described below, there is no deadline by which
plaintiffs must file an opposition to the motion to dismiss.
On August 7, 2007, a new stockholders derivative
lawsuit styled Webb v. McAfee, Inc., No. C
07 4048 (PVT) was filed in the United States
District Court for the Northern District of California against
certain of our current and former directors and officers
(Webb). The new lawsuit generally alleges the same
facts and causes of action that plaintiffs have asserted in the
Consolidated Action. The plaintiff in Webb requested that his
action be consolidated with the Consolidated Action. On
September 21, 2007, the Court consolidated the Webb action
with the Consolidated Action.
On June 2, 2006, three identical lawsuits
styled Greenberg v. Samenuk, No. 106CV064854,
Gordon v. Samenuk, No. 106CV064855, and Golden v.
Samenuk, No. 106CV064856 were filed in the
Superior Court of the State of California, County of
Santa Clara against certain of our current and former
directors and officers (the State Actions). Like the
Consolidated Action, the State Actions generally allege that we
improperly backdated stock option grants between 2000 and the
present, and that certain of our current and former officers or
directors either participated in this backdating or allowed it
to happen. Like the Consolidated Action, the State Actions
assert claims purportedly on behalf of us for, inter alia,
breach of fiduciary duty, abuse of control, corporate waste,
unjust enrichment, and gross mismanagement. On June 23,
2006, we moved to dismiss these actions in favor of the
first-filed Consolidated Action. On September 18, 2006, the
Court consolidated the State Actions and denied our motions to
dismiss, but stayed the State Actions due to the first-filed
action in federal court. The stay, which was continued by the
Court on several occasions, expired in December 2007.
In December 2007, we reached a tentative settlement with the
plaintiffs in the Consolidated Action and the State Actions. The
tentative agreement must be submitted to and approved by the
Court. We accrued $13.8 million in the condensed
consolidated financial statements as of June 30, 2006 due
to our ongoing stock option investigation and restatement
related to expected payments pursuant to the tentative
settlement and expect to complete the documentation and the
required approvals in the second half of 2008. While we cannot
predict the ultimate outcome of the lawsuits in the event that
the tentative settlement is not approved by the Court, the
provision recorded in the financial statements represents our
best estimate at this time.
Certain investment bank underwriters, our company, and certain
of our directors and officers have been named in a putative
class action for violation of the federal securities laws in the
United States District Court for the Southern District of New
York, captioned In re McAfee.com Corp. Initial Public
Offering Securities Litigation, 01 Civ. 7034
(SAS). This is one of a number of cases challenging underwriting
practices in the initial public offerings (IPOs) of
more than 300 companies. These cases have been coordinated
for pretrial proceedings as In re Initial Public Offering
Securities Litigation, 21 MC 92 (SAS). Plaintiffs generally
allege that certain underwriters engaged in undisclosed and
improper underwriting activities, namely the receipt of
excessive brokerage commissions and customer agreements
regarding post-offering purchases of stock in exchange for
allocations of IPO shares. Plaintiffs also allege that various
investment bank securities analysts issued false and misleading
analyst reports. The complaint against us claims that the
purported improper underwriting activities were not disclosed in
the registration statements for McAfee.coms IPO and seeks
unspecified damages on behalf of a purported class of persons
who purchased our securities or sold put options during the time
period from December 1, 1999 to December 6, 2000. On
February 19, 2003 the Court issued an Opinion and Order
dismissing certain of the claims against us with leave to amend.
We accepted a settlement proposal on July 15, 2003.
We, together with the other issuer defendants and plaintiffs,
entered into a stipulation of settlement and release of claims
against the issuer defendants that was submitted to the Court
for approval in June 2004. On August 31, 2005, the Court
preliminarily approved the settlement which, among other things,
was conditioned upon class certification. In December 2006, the
appellate court overturned the certification of classes making
it unlikely that
50
the proposed settlement would receive final Court approval. As a
result, on June 25, 2007, the Court entered an order
terminating the proposed settlement. Plaintiffs have indicated
that they will seek to amend their allegations and file amended
complaints. It is uncertain whether there will be any revised or
future settlement. Thus, the ultimate outcome, and any ultimate
effect on us, cannot be precisely determined at this time.
Other
In February 2008, a former executive notified us of his intent
to seek arbitration of claims associated with his employment. He
alleges that McAfee breached his employment contract and
committed certain additional wrongful acts related to the
expiration of his stock options. The arbitration demand was
filed on April 11, 2008 and we anticipate that arbitration
will begin in December of 2008. We believe these claims are
without merit, and intend to contest them vigorously.
Additionally, we have filed counterclaims against the former
executive. No provision has been recorded in the financial
statements related to this matter.
On January 7, 2007, a former executive filed an arbitration
demand with the American Arbitration Association, Dallas Texas,
(the Texas arbitration) seeking the arbitration of
claims associated with his employment. The Texas arbitration is
scheduled to begin in November 2008. On September 5, 2007,
a Complaint for Damages and Other Relief was also
filed by the same former executive, in the Superior Court of the
State of California, County of Santa Clara,
No. 107CV-093592
(the California litigation). The California
litigation generally contained the same claims as were filed in
the Texas arbitration. A Motion to Compel Arbitration of the
California litigation with the Texas arbitration was granted in
December 2007. We have filed counterclaims against the former
executive, who was terminated. The board determined this
termination was for cause. We believe the claims associated with
the Texas arbitration and the California litigation are without
merit. We intend to vigorously contest these claims, and no
provision has been recorded in the financial statements for
either the Texas arbitration or the California litigation.
In addition, we are engaged in certain legal and administrative
proceedings incidental to our normal business activities and
believe that these matters will not have a material adverse
effect on our financial position, results of operations or cash
flows.
Investing in our common stock involves a high degree of risk.
Some but not all of the risks we face are described below. Any
of the following risks could materially adversely affect our
business, operating results, financial condition and cash flows
and reduce the value of an investment in our common stock.
We face
intense competition and we expect competitive pressures to
increase in the future. This competition could have a negative
impact on our business and financial results.
The markets for our products are intensely competitive and we
expect both product and pricing competition to increase. If our
competitors gain market share in the markets for our products,
our sales could grow more slowly or decline. Competitive
pressures could also lead to increases in expenses such as
advertising expenses, product rebates, product placement fees,
and marketing funds provided to our channel partners.
Advantages
of larger competitors
Our principal competitors in each of our product categories and
geographic markets are described in
Business Competition in our 2007
Form 10-K.
Our competitors include some large enterprises such as
Microsoft, Cisco Systems, Symantec, IBM, Google and Trend Micro.
Some of our competitors have longer operating histories, more
extensive international operations, greater name recognition,
larger technical staffs, established relationships with more
distributors and hardware vendors
and/or
greater financial, technical and marketing resources than we do.
Increasingly, our competitors are large vendors of hardware or
operating system software. These competitors are continuously
incorporating system and network protection functionality into
their products, and enhancing that functionality either through
internal development or increasingly through acquisitions. For
example, in 2006 Microsoft released its consumer security
solution and continues to boost the security functionality of
its Windows
51
platform through its acquisition strategy. More details about
competitors expanding their system and network protection
offerings are described in Business
Competition in our 2007
Form 10-K.
These large vendors have significantly greater product
development and acquisition budgets and resources than we do.
This might enable them to provide greater functionality and to
expand that functionality more quickly than we are able to do.
Consumer
business competition
More than 40% of our revenue comes from our consumer business.
Our growth of this business relies on direct sales and sales
through relationships with ISPs such as AOL, Cox and Comcast,
and PC OEMs, such as Acer, Dell, Sony Computer and Toshiba. As
competition in this market increases, we have and will continue
to experience pricing pressures that could have a negative
effect on our ability to sustain our revenue and market share
growth. As our consumer business becomes increasingly more
dependent upon the partner model, our retail businesses may
continue to decline. Further, as penetration of the consumer
anti-virus market through the ISP model increases, we expect
that pricing and competitive pressures in this market will
become even more acute.
Low-priced
or free competitive products
Security protection is increasingly being offered by third
parties at significant discounts to our prices or, in some cases
is bundled for free. For example, Microsoft over time has sought
to add security features to its operating systems that would
provide functionality similar to what our products offer, while
at the same time making it more difficult for us to integrate
our products with its operating systems. The widespread
inclusion of lower-priced or free products that perform the same
or similar functions as our products within computer hardware or
other companies software products could reduce the
perceived need for our products or render our products obsolete
and unmarketable even if these incorporated
products are inferior or more limited than our products. The
expansion of these competitive trends could have a significant
negative impact on our sales and financial results.
We also face competition from numerous smaller companies,
shareware and freeware authors and open source projects that may
develop competing products, as well as from future competitors,
currently unknown to us, who may enter the markets because the
barriers to entry are fairly low. Smaller
and/or newer
companies often compete aggressively on price.
We face
product development risks due to rapid changes in our industry.
Failure to keep pace with these changes could harm our business
and financial results.
The markets for our products are characterized by rapid
technological developments, continually-evolving industry trends
and standards and ongoing changes in customer requirements. Our
success depends on our ability to timely and effectively keep
pace with these developments.
Keeping
pace with industry changes
We must enhance and expand our product offerings to reflect
industry trends, new technologies and new operating environments
as they become increasingly important to customer deployments.
For example, we must expand our offerings for virtual computer
environments; we must continue to expand our security
technologies for mobile environments to support a broader range
of mobile devices such as mobile phones and personal digital
assistants; we must develop products that are compatible with
new or otherwise emerging operating systems, while remaining
compatible with popular operating systems such as Linux,
Suns Solaris, UNIX, Macintosh
OS
X,
and Windows XP, NT and Vista; and we must continue to expand our
business models beyond traditional software licensing and
subscription models. Specifically, software-as-a-service (SaaS)
is becoming an increasingly important method and business model
for the delivery of applications. Because of the advantages that
SaaS models offer to customers over traditional software sales
and licensing, competitors using SaaS models to a greater extent
than we do could enjoy growth in their businesses and, as a
result, we could lose business to such competitors.
We must also continuously work to ensure that our products meet
changing industry certifications and standards. Failure to keep
pace with any changes that are important to our customers could
cause us to lose customers and could have a negative impact on
our business and financial results.
52
Impact
of product development delays or competitive
announcements
Our ability to adapt to changes can be hampered by product
development delays. We may experience delays in product
development as we have at times in the past. Complex products
like ours may contain undetected errors or version compatibility
problems, particularly when first released, which could delay or
adversely impact market acceptance. In addition, we may choose
not to deliver a previously announced, partially-developed
product, thereby increasing our development costs without a
corresponding benefit. For example, if Microsoft incorporates a
product that performs the same or similar function as one of our
products under development into the Windows platform, we might
discontinue development if we believe the Microsoft product will
undermine the market for our product. This could happen even if
Microsofts product is inferior or more limited than our
product, especially if the Microsoft product is lower-priced or
made available at no additional cost to customers. The
occurrence of these events could negatively impact our business.
If our
products do not work properly, we could experience negative
publicity, damage to our reputation, legal liability, declining
sales and increased expenses.
Failure
to protect against security breaches
Our products are used to protect and manage computer systems and
networks that may be critically important to our customers.
Customers rely on our products to protect against security
risks, prevent the loss of sensitive data and manage compliance
activities. Because of the complexity of our products, they
could contain undetected errors when first introduced and when
new versions or enhancements are released. We have from time to
time found errors in versions of our products, and we may find
such errors in the future. Furthermore, because of the
complexity of the environments in which our products operate,
our products may have errors or defects that customers identify
after deployment.
Failures, errors or defects in our products could result in
security breaches or compliance violations for our customers,
disruption or damage to their networks or other negative
consequences. Any such product problems could have a negative
impact on us as well. For example, failure of our products to
identify or block viruses could result in negative publicity,
damage to our reputation, declining sales, increased expenses
and customer relation issues. Such failures could also result in
product liability damage claims against us by our customers,
even though our license agreements with our customers typically
contain provisions designed to limit our exposure to potential
product liability claims. Furthermore, the correction of defects
could divert the attention of engineering personnel from our
product development efforts. A major security breach at one of
our customers that is attributable to or not preventable by our
products could be very damaging to our business. Any actual or
perceived breach of network or computer security at one of our
customers, regardless of whether the breach is attributable to
our products, could adversely affect the markets
perception of our security products.
False
alarms
Our system protection software products have in the past, and
these products and our intrusion protection products may at
times in the future, falsely detect viruses or computer threats
that do not actually exist. These false alarms, while typical in
the security industry, may impair the perceived reliability of
our products and may therefore adversely impact market
acceptance of our products. In addition, we have in the past
been subject to litigation claiming damages related to a false
alarm, and similar claims may be made in the future.
Our email and web solutions (anti-spam, anti-spyware and safe
search products) may falsely identify emails, programs or web
sites as unwanted spam, potentially unwanted
programs or unsafe. They may also fail to
properly identify unwanted emails, programs or unsafe web sites,
particularly because spam emails, spyware or malware are often
designed to circumvent anti-spam or spyware products and to
incorrectly identify legitimate web sites as unsafe. Parties
whose emails or programs are incorrectly blocked by our
products, or whose web sites are incorrectly identified as
unsafe or as utilizing phishing techniques, may seek redress
against us for labeling them as spammers or unsafe
and/or for
interfering with their businesses. In addition, false
identification of emails or programs as unwanted spam or
potentially unwanted programs may discourage potential customers
from using or continuing to use these products.
53
Customer
misuse of products
Our products may also not work properly if they are misused or
abused by customers or non-customer third parties who obtain
access and use of our products. These situations may arise where
an organization uses our products in a manner that impacts their
end users or employees privacy or where our products
are misappropriated to censor private access to the Internet.
Any of these situations could impact the perceived reliability
of our products, result in negative press coverage, negatively
affect our reputation and adversely impact our financial results.
Our
international operations involve risks that could divert the
time and attention of management, increase our expenses and
otherwise adversely impact our business and financial
results.
Our international operations increase our risks in several
aspects of our business, including but not limited to risks
relating to revenue, legal and tax compliance, and the overall
political climate and potential political instability. Net
revenue in our operating regions outside of North America
represented 49% of total net revenue in the six months ended
June 30, 2008, increasing from 48% in the six months ended
June 30, 2007. The risks associated with our continued
focus on international operations could adversely affect our
business and financial results.
Revenue
risks
Revenue risks include, among others, longer payment cycles,
greater difficulty in collecting accounts receivable, tariffs
and other trade barriers, seasonality, currency fluctuations,
and the high incidence of software piracy and fraud in some
countries. The primary product development risk to our revenue
is our ability to deliver new products in a timely manner and to
successfully localize our products for a significant number of
international markets in different languages.
Legal
and compliance risks
We face a variety of legal and compliance risks. One primary
legal risk is that some of our computer security solutions,
particularly those incorporating encryption technology, may be
subject to export restrictions. As a result, some products
cannot be exported to international customers without prior
United States (U.S.) government approval. The list
of products and end users for which export approval is required,
and the related regulatory policies, are subject to revision by
the U.S. government at any time. The cost of compliance
with U.S. and international export laws and changes in
existing laws could affect our ability to sell certain products
in certain markets and could have a material adverse effect on
our international revenue and expense. If we, or our resellers,
fail to comply with applicable law and regulations, we may
become subject to penalties and fines or restrictions that may
adversely affect our business.
Another significant legal risk resulting from our international
operations is compliance with the Foreign Corrupt Practices Act
(FCPA). In many foreign countries, particularly in
those with developing economies, it may be common for non-McAfee
personnel to engage in business practices that are prohibited by
the FCPA or other U.S. laws and regulations. For example,
in some countries it is customary to make payments to government
regulators in order to encourage prompt and desirable regulatory
actions. Such payments by U.S. companies, employees,
distributors, partners, or agents of U.S. companies are
prohibited by the FCPA. Although we have implemented training
along with policies and procedures designed to ensure compliance
with this and similar laws, there can be no assurance that all
of our employees, and agents, as well as those companies to
which we outsource certain of our business operations, will not
take actions in violation of our policies. Any such violation,
even if prohibited by our policies and training programs, could
have a material adverse effect on our business.
Other legal risks include international labor laws and our
relationship with our employees and regional work councils;
compliance with more stringent consumer protection and privacy
laws; and unexpected changes in regulatory requirements. Our
principal tax risks are potentially adverse tax consequences due
to foreign value-added taxes, restrictions on the repatriation
of earnings and changes in tax laws.
54
Currency
exchange and interest rate risks
A significant portion of our transactions outside of the
U.S. are denominated in foreign currencies. Accordingly,
our future operating results will continue to be subject to
fluctuations in foreign currency rates. Fluctuations in currency
exchange rates and economic instability, such as higher interest
rates in the U.S. and inflation, could reduce our
customers ability to obtain financing for software
products, or could make our products more expensive or could
increase our costs of doing business in certain countries During
the six months ended June 30, 2008 and 2007, we recorded a
net foreign currency transaction loss of $1.5 million and
$1.1 million respectively in our consolidated statements of
income and comprehensive income. We may be positively or
negatively affected by fluctuations in foreign currency rates in
the future, especially if international sales continue to grow
as a percentage of our total sales.
General
operating risks
More general risks of international business operations include
the increased costs of establishing, managing and coordinating
the activities of geographically dispersed and culturally
diverse operations (particularly sales and support, and shared
service centers) located on multiple continents in a wide range
of time zones.
We face a
number of risks related to our product sales through
distributors and other third parties.
Significant
percentage of sales through distributors
We sell a significant amount of our products through third party
intermediaries such as distributors, value-added resellers, PC
OEMs, ISPs and other distribution channel partners (referred to
collectively as distributors). Reliance on third parties for
distribution exposes us to a variety of risks, some of which are
described below, that could have a material adverse impact on
our business and financial results.
Limited
control over timing of product delivery
We have limited control over the timing of the delivery of our
products to customers by third-party distributors. We generally
do not require our resellers and OEM partners to meet minimum
sales volumes, so their sales may vary significantly from period
to period. In particular, the volume of our products shipped by
our OEM partners depends on the volume of computers shipped by
the PC OEMs, which is outside of our control. These factors can
make it difficult for us to forecast our revenue accurately and
they also can cause our revenue to fluctuate unpredictably.
Competitive
aspects of distributor relationships
Our distributors may sell other vendors products that
compete with our products. Although we offer our distributors
incentives to focus on sales of our products, they may give
greater priority to products of our competitors, for a variety
of reasons. In order to maximize sales of our products rather
than those of our competitors, we must effectively support these
partners with, among other things, appropriate financial
incentives to encourage them to invest in sales tools, such as
online sales and technical training and product collateral
needed to support their customers and prospects. If we do not
properly support our partners, they may focus more on our
competitors products, and their sales of our products
would decline.
Our PC OEMs partners are also in a position to exert competitive
pricing pressure. Competition for OEMs business continues
to increase, and it gives the OEMs leverage to demand lower
product prices from us in order to secure their business. Even
if we negotiate what we believe are favorable pricing terms when
we first establish a relationship with an OEM, at the time of
the renewal of the agreement, we may be required to renegotiate
our agreement with them on less favorable terms. Lower net
prices for our products would adversely impact our operating
margins.
Loss
of distributors
We invest significant time, money and resources to establish and
maintain relationships with our distributors, but we have no
assurance that any particular relationship will continue for any
specific period of time. The agreements we have with our
distributors, including those with Ingram Micro Inc. and Tech
Data Corporation, our
55
two largest distributors, can generally be terminated by either
party without cause with no or minimal notice or penalties. If
any significant distributor terminates its agreement with us, we
could experience a significant interruption in the distribution
of our products and our revenues could decline. We could also
lose the benefit of our investment of time, money and resources
in the distributor relationship.
A significant portion of our net revenue is attributable to a
fairly small number of distributors. Our top ten distributors
represented 37% and 38% of our net revenue for the six months
ended June 30, 2008 and 2007, respectively. Reliance on a
relatively small number of third parties for a significant
portion of our distribution exposes us to significant risks to
net revenue and net income if our relationship with one or more
of our key distributors is terminated for any reason.
Although a distributor can terminate its relationship with us
for any reason, one factor that may lead to termination is a
divergence of our business interests and those of our
distributors and potential conflicts of interest. For example,
our acquisition activity has resulted in the termination of
distributor relationships that no longer fit with the
distributors business priorities. Future acquisition
activity could cause similar termination of, or disruption in,
our distributor relationships, which could adversely impact our
revenues
Credit
risk
Some of our distributors may experience financial difficulties,
which could adversely impact our collection of accounts
receivable. Our allowance for doubtful accounts was
approximately $4.5 million as of June 30, 2008. We
regularly review the collectability and credit-worthiness of our
distributors to determine an appropriate allowance for doubtful
accounts. Our uncollectible accounts could exceed our current or
future allowances, which could adversely impact our financial
results.
We face
risks associated with past and future acquisitions.
We may buy or make investments in complementary companies,
products and technologies. We may not realize the anticipated
benefits from these acquisitions. Future acquisitions could
result in significant acquisition-related charges and dilution
to our stockholders in addition to the risks noted below.
We face a number of risks relating to our acquisitions,
including the following, any of which could harm our ability to
achieve the anticipated benefits of our past or future
acquisitions.
Integration
Integration of an acquired company or technology is a complex,
time consuming and expensive process. The successful integration
of an acquisition requires, among other things, that we
integrate and retain key management, sales, research and
development and other personnel; integrate the acquired products
into our product offerings from both an engineering and sales
and marketing perspective; integrate and support preexisting
supplier, distribution and customer relationships; coordinate
research and development efforts; and consolidate duplicate
facilities and functions and integrate back-office accounting,
order processing and support functions.
The geographic distance between the companies, the complexity of
the technologies and operations being integrated and the
disparate corporate cultures being combined may increase the
difficulties of integrating an acquired company or technology.
Managements focus on the integration of operations may
distract attention from our
day-to-day
business and may disrupt key research and development, marketing
or sales efforts. In addition, it is common in the technology
industry for aggressive competitors to attract customers and
recruit key employees away from companies during the integration
phase of an acquisition. If integration of our acquired
businesses or assets is not successful, we may experience
adverse financial or competitive effects.
Internal
controls, policies and procedures
Acquired companies or businesses are likely to have different
standards, controls, contracts, procedures and policies, making
it more difficult to implement and harmonize company-wide
financial, accounting, billing, information and other systems.
This risk is amplified by the increased costs and efforts in
connection with compliance with the Sarbanes-Oxley Act.
Acquisitions of privately held
and/or
non-US companies are particularly
56
challenging because their prior practices in these areas
typically do not meet the requirements of the Sarbanes-Oxley Act.
Use of
cash and securities
Our available cash and securities may be used to acquire or
invest in companies or products. Moreover, when we acquire a
company, we may have to incur or assume that companys
liabilities, including liabilities that may not be fully known
at the time of acquisition. To the extent we continue to make
acquisitions, we will require additional cash
and/or
shares of our common stock as payment. The use of securities
would cause dilution for our existing stockholders.
Key
employees from acquired companies may be difficult to retain and
assimilate
The success of many acquisitions depends to a great extent on
our ability to retain key employees from the acquired company.
This can be challenging, particularly in the highly competitive
market for technical personnel. Retaining key executives for the
long-term can also be difficult due to other opportunities
available to them. It could be difficult, time consuming and
expensive to replace any key management members or other
critical personnel that do not accept employment with McAfee
following the acquisition. In addition to retaining key
employees, we must integrate them into our company, which can be
difficult and costly. Changes in management or other critical
personnel may be disruptive to our business and might also
result in our loss of some unique skills and the departure of
existing employees
and/or
customers.
Accounting
consequences
Acquisitions may result in substantial accounting charges for
restructuring and other expenses, write-offs of in-process
research and development, future impairment of goodwill,
amortization of intangible assets and stock-based compensation
expense, any of which could materially adversely affect our
operating results.
Following an acquisition, we may be required to defer the
recognition of revenue that we receive from the sale of products
that we acquired, or from the sale of a bundle of products that
includes products that we acquired, if we have not established
vendor specific objective evidence (VSOE) of the
separate value of the acquired product. A delay in the
recognition of revenue from sales of acquired products or
bundles that include acquired products may cause fluctuations in
our quarterly financial results and may adversely affect our
operating margins. If our quarterly financial results or our
predictions of future financial results fail to meet the
expectations of securities analysts and investors, our stock
price could be negatively affected.
Critical
personnel may be difficult to attract, assimilate and
retain.
Our success depends in large part on our ability to attract and
retain senior management personnel, as well as technically
qualified and highly-skilled sales, consulting, technical,
finance and marketing personnel. Other than members of executive
management who have at will employment agreements,
our employees are not typically subject to an employment
agreement or non-competition agreement. In the recent past we
have experienced significant turnover in our senior management
team and in our worldwide sales and finance organizations and
replacing this personnel remains difficult.
It could be difficult, time consuming and expensive to replace
any key management member or other critical personnel.
Integrating new management and other key personnel also may be
difficult and costly. Changes in management or other critical
personnel may be disruptive to our business and might also
result in our loss of unique skills and the departure of
existing employees
and/or
customers. It may take significant time to locate, retain and
integrate qualified management personnel.
Other personnel related issues that we may encounter include:
Competition
for personnel; need for competitive pay packages
Competition for qualified individuals in our industry is
intense. To attract and retain critical personnel, we believe
that we must maintain an open and collaborative work
environment. We also believe we need to provide a
57
competitive compensation package, including stock options, other
stock awards and other incentives. Increases in shares available
for issuance under our stock option plans require stockholder
approval. Institutional stockholders, or our other stockholders,
may not approve future requests for increases in shares
available under our equity incentive plans. For example, at our
2003 annual meeting held in December 2003, our stockholders did
not approve a proposed increase in shares available for grant
under our employee stock option plans. We continue to evaluate
our compensation programs and in particular our equity
compensation philosophy. In the future, we may decide to issue
fewer stock options, RSAs, RSUs or PSUs, possibly impairing our
ability to attract and retain necessary personnel. Conversely,
issuing a comparable number of stock options RSAs, RSUs or PSUs,
could adversely impact our results of operations due to the
accounting charges required in connection with equity
compensation and the dilutive impact on earning per share.
Risks
relating to new hires and senior management
changes
We continue to hire in key areas and have added a number of new
employees in connection with our acquisitions. We have also
increased our hiring in Bangalore, India in connection with the
relocation of a significant portion of our research and
development operations to India.
During 2007, we experienced significant changes in our senior
management team, as a number of officers resigned or were
terminated and several key management positions were vacant for
a significant period of time. In April 2007, David DeWalt was
hired as our chief executive officer and president. Later in
2007 we also appointed other senior executives. In April 2008,
we announced we had hired Albert Rocky Pimentel as
our new chief financial officer and chief operating officer. We
may continue to experience changes in senior management going
forward.
For new employees, including senior management, there may be
reduced levels of productivity as recent additions or hires are
trained or otherwise assimilate and adapt to our organization
and culture. The significant turnover in our senior management
team during 2007 and 2008 may make it difficult to attract
new employees and retain existing employees. Further, this
turnover may also make it difficult to execute on our business
plan and achieve our planned financial results.
Our
financial results can fluctuate significantly, making it
difficult for us to accurately estimate operating
results.
Impact
of fluctuations
Over the years our revenues, gross margins and operating results
have fluctuated significantly from quarter to quarter and from
year to year, and we expect fluctuations in our operating
results to continue in the future. Thus, our operating results
for prior periods may not be effective predictors of our future
performance. The fluctuations make it difficult for us to
accurately estimate operating results. Furthermore, because our
expenses are based in part on our expectations regarding future
revenues, expenses in the short term are relatively fixed. This
makes it difficult for us to adjust our expenses in time to
compensate for any unexpected revenue shortfall in a given
period.
Volatility in our quarterly financial results may make it more
difficult for us to raise capital in the future or pursue
acquisitions that involve issuances of our stock. If our
quarterly financial results or our predictions of future
financial results fail to meet the expectations of securities
analysts and investors, our stock price could be negatively
affected.
Factors that may cause our revenues, gross margins and other
operating results to fluctuate significantly from period to
period, include, but are not limited to the following:
Timing
of product orders
A significant portion of our revenue in any quarter comes from
previously deferred revenue, which is a somewhat predictable
component of our quarterly revenue. However, a meaningful part
of revenue depends on contracts entered into or orders booked
and shipped in the current quarter. Typically we generate the
most orders in the last month of our quarters. Some customers
believe they can enhance their bargaining power by waiting until
the end of our quarter to place their order. Any failure or
delay in closing significant new orders in a given quarter could
58
have a material adverse impact on our results for that quarter.
Also, personnel limitations and system processing constraints
could adversely impact our ability to process the large number
of orders that typically occur near the end of a fiscal quarter.
Reliability
and timeliness of expense data
We increasingly rely upon third-party manufacturers to
manufacture our hardware-based products, therefore, our reliance
on their ability to provide us with timely and accurate product
cost information exposes us to risk. A failure of our
third-party manufacturers to provide us with timely and accurate
product cost information may impact our costs of goods sold and
negatively impact our ability to accurately and timely report
our operating results.
Issues
relating to third party distribution, manufacturing and
fulfillment relationships
We rely heavily on third parties to distribute our products. Any
changes in the performance of the relationships with our
distribution partners can impact our operating results. We also
rely on third parties to manufacture our products. Changes in
our supply chain could result in product fulfillment delays that
contribute to fluctuations in operating results from period to
period. We typically fulfill delivery of our hardware-based
products from centralized distribution centers. We have in the
past and may in the future make changes in our product delivery
network. Changes in our product delivery network may disrupt our
ability to timely and efficiently meet our product delivery
commitments, particularly at the end of a quarter. As a result,
we may experience increased costs in the short term as temporary
delivery solutions are implemented to address unanticipated
delays in product delivery. In addition, product delivery delays
may negatively impact our ability to recognize revenue if
shipments are delayed at the end of a quarter.
Product
mix
Another source of fluctuations in our operating results and, in
particular, gross profit margins, is the mix of products we sell
and services we offer, including the mix between corporate
versus consumer products; hardware-based compared to
software-based products; perpetual licenses versus subscription
licenses; and maintenance and support services compared to
consulting services or product revenue. Product mix can impact
operating expenses as well as the amount of revenue and the
timing of revenue recognition, so our profitability can
fluctuate significantly based on product mix.
Timing
of new products and customers
The timing of the introduction and adoption of new products,
product upgrades or updates by us or our competitors can have a
significant impact on revenue from period to period. For
example, revenues tend to be higher shortly after we introduce
new products compared to periods without new products. Our
revenues may decline after new product introductions by
competitors. In addition, the volume, size, and terms of new
customer licenses can cause fluctuations in our revenue.
Additional
cash and non-cash sources of fluctuations
A number of other factors that are peripheral to our core,
ongoing business operations and our cash flow also contribute to
variability in our operating results. These include, but are not
limited to, expenses related to our acquisition and disposition
activities, stock-based compensation expense, unanticipated
costs associated with litigation or investigations, costs
related to Sarbanes-Oxley compliance efforts, costs and charges
related to certain extraordinary events such as restructurings
and financial restatements, substantial declines in estimated
values of long-lived assets below the value at which they are
reflected in our financial statements, and changes in generally
accepted accounting principles.
Conditions
and changes in the national and global economic and political
environments may adversely affect our business and financial
results.
Adverse economic conditions in markets in which we operate can
harm our business. Economic growth in the U.S. slowed in
the fourth quarter of 2007 and remained slow for the first two
quarters of 2008. Many customers may
59
delay or reduce technology purchases as a result of this slow
down or if the U.S. economy remains slow or contracts or
other countries economies slow. This could result in
reductions in sales of our products, longer sales cycles, slower
adoption of new technologies and increased price competition. In
addition, weakness in the end-user market could negatively
affect the cash flow of our distributors and resellers who
could, in turn, delay paying their obligations to us. This would
increase our credit risk exposure and cause delays in our
recognition of revenues on future sales to these customers.
Specific economic trends, such as declines in the demand for
PCs, servers, and other computing devices, or softness in
corporate information technology spending, could have a more
direct impact on our business. Any of these events would likely
harm our business, operating results, cash flows and financial
condition.
Recent turmoil in the political environment in many parts of the
world, including terrorist activities and military actions, the
continuing tension in and surrounding Iraq, and increases in
energy costs due to instability in oil-producing regions may
continue to put pressure on global economic conditions. If
global economic and market conditions, or economic conditions in
the United States or other key markets deteriorate, we may
experience material impacts on our business, operating results,
cash flows and financial condition.
We have
experienced, and may continue to experience, material weaknesses
and significant deficiencies in our internal control and
financial reporting environment, which impacts the accuracy,
completeness and timeliness of our external financial
reporting.
Section 404 of the Sarbanes-Oxley Act requires that
management report annually on the effectiveness of our internal
control over financial reporting and identify any material
weaknesses in our internal control and financial reporting
environment. In our
Form 10-K
for the year ended December 31, 2007, our management
identified a material weakness relating to our accounting for
income taxes. We have implemented, and will continue to
implement, additional controls and procedures to address the
material weakness related to accounting for income taxes. See
Item 9A, Controls and Procedures in our
2007
Form 10-K
and Item 4, Controls and Procedures in
this
Form 10-Q,
for details of these material weakness remediation programs.
These efforts have resulted, and could further result, in
significant expenses and could divert management attention away
from operating our business. Even though our management believes
that our efforts to remediate internal control deficiencies have
improved the operation of our internal control over financial
reporting, we cannot be certain that the measures we have taken
or we are planning to take will sufficiently and satisfactorily
remediate the identified material weaknesses. Ongoing material
weaknesses in internal controls create a reasonable possibility
that a material misstatement of our interim and annual financial
statements would not be prevented or detected on a timely basis.
If management identifies additional material weaknesses or
significant deficiencies in the future, their correction could
require additional remedial measures which could be costly and
time-consuming. In addition, the presence of further material
weaknesses could result in financial statement errors which in
turn could require us to restate our operating results. If a
material weakness is identified for a future period year-end or
if our previously identified material weaknesses are not
remediated, our independent auditors would be unable to express
an opinion on the effectiveness of our internal controls. This
in turn could damage investor confidence in the accuracy and
completeness of our financial reports, which could affect our
stock price and potentially subject us to litigation.
We face
numerous risks relating to the enforceability of our
intellectual property rights and our use of third party
intellectual property, many of which could result in the loss of
our intellectual property rights as well as other material
adverse impacts on our business and financial results and
condition.
Limited
protection of our intellectual property rights against potential
infringers
We rely on a combination of contractual rights, trademarks,
trade secrets, patents and copyrights to establish and protect
proprietary rights in our software. However, the steps we have
taken to protect our proprietary software may not deter its
misuse, theft or misappropriation. Competitors may independently
develop technologies or products that are substantially
equivalent or superior to our products or that inappropriately
incorporate our proprietary technology into their products. We
are aware that a number of users of our security products have
not paid license, technical support, or subscription fees to us.
Certain jurisdictions may not provide adequate legal
infrastructure for effective protection of our intellectual
property rights. Changing legal interpretations of liability
60
for unauthorized use of our software or lessened sensitivity by
corporate, government or institutional users to refraining from
intellectual property piracy or other infringements of
intellectual property could also harm our business.
Frequency,
expense and risks of intellectual property litigation in the
network and system security market
Litigation may be necessary to enforce and protect our trade
secrets, patents and other intellectual property rights.
Similarly, we may be required to defend against claimed
infringement by others. For example, as discussed in
Item 1, Legal Proceedings, we recently
settled a patent infringement case that sought to prevent us
from selling certain of our products.
The litigation process is subject to inherent uncertainties, so
we may not prevail in litigation matters regardless of the
merits of our position. In addition to the expense and
distraction associated with litigation, adverse determinations
could cause us to lose our proprietary rights, prevent us from
manufacturing or selling our products, require us to obtain
licenses of patents or other intellectual property rights that
may be held invalid or infringed upon by our products (licenses
may not be available on reasonable commercial terms or at all),
and subject us to significant liabilities, including monetary
liabilities.
If we acquire technology to include in our products from third
parties, our exposure to infringement actions may increase
because we must rely upon these third parties to verify the
origin and ownership of any software we acquire. Similarly, we
face exposure to infringement actions if we hire software
engineers who were previously employed by competitors and those
employees inadvertently or deliberately incorporate proprietary
technology of our competitors into our products despite efforts
by our competitors and us to prevent such infringement.
Potential
risks of using of open source software
Like many other software companies, we use and distribute
open source software in order to add functionality
to our products quickly and inexpensively. We face certain risks
relating to our use of open source code. Open source license
terms may be ambiguous and may result in unanticipated or
uncertain obligations regarding our products. For example, the
scope and requirements of the most common open source software
license, the GNU General Public License (GPL) have
not been interpreted in court. Our use of GPL or other open
source software could subject certain portions of our
proprietary software to the GPL requirements or other similar
requirements. That may have an adverse impact on our sale of the
products incorporating the open source software. Other forms of
open source software licensing present license compliance risks
for us. If we fail to comply with the license obligations, we
could be sued
and/or lose
the right to use the open source code.
Our use of open source code could also result in us developing
and selling products that infringe third-party intellectual
property rights. It may be difficult for us to accurately
determine the developers of the open source code and whether the
code incorporates proprietary software. We have processes and
controls in place that are designed to address these risks and
concerns, including a review process for screening requests from
our development organizations for the use of open source.
However, we cannot be sure that all open source is submitted for
approval prior to use in our products.
We also have processes and controls in place to review the use
of open source in the products developed by companies that we
acquire. Despite having conducted appropriate due diligence
prior to completing the acquisition, products or technologies
that we acquire may nonetheless include open source software
that was not identified during the initial due diligence. Our
ability to commercialize products or technologies of acquired
companies that incorporate open source software or to otherwise
fully realize the anticipated benefits of any acquisition may be
restricted for the reasons described in the preceding two
paragraphs.
61
Our
strategic alliances and our relationships with manufacturing
partners expose us to a range of business risks and
uncertainties that could have a material adverse impact on our
business and financial results.
Strategic
alliances
Uncertainty of realizing anticipated
benefits. We have entered into strategic
alliances with numerous third parties to support our future
growth plans. These relationships may include technology
licensing, joint technology development and integration,
research cooperation, co-marketing activities and sell-through
arrangements. We face a number of risks relating to our
strategic alliances, including those described below. These
risks may prevent us from realizing the desired benefits from
our strategic alliances on a timely basis or at all, which could
have a negative impact on our business and financial results.
Challenges relating to integrated
products. Strategic alliances require significant
coordination between the parties involved, particularly if an
alliance requires that we integrate the other companys
products with our products. This could involve significant time
and expenditure by our technical staff and the technical staff
of our strategic partner. The integration of products from
different companies may be more difficult than we anticipate,
and the risk of integration difficulties, incompatible products
and undetected programming errors or defects may be higher than
that normally associated with new products. The marketing and
sale of products that result from strategic alliances might also
be more difficult than that normally associated with new
products. Sales and marketing personnel may require special
training, as the new products may be more complex than our other
products.
We invest significant time, money and resources to establish and
maintain relationships with our strategic partners, but we have
no assurance that any particular relationship will continue for
any specific period of time. Our agreements relating to our
strategic alliances are terminable without cause with no or
minimal notice or penalties. If we lose a significant strategic
partner, we could lose the benefit of our investment of time,
money and resources in the relationship. In addition, we could
be required to incur significant expenses to develop a new
strategic alliance or to determine and implement an alternative
plan to pursue the opportunity that we targeted with the former
partner.
Third-party
manufacturing relationships
Less control of the manufacturing process and
outcome. We rely on a limited number of third
parties to manufacture some of our hardware-based network
protection and system protection products. We expect the number
of our hardware-based products and our reliance on third-party
manufacturers to increase as we continue to expand these types
of solutions. We also rely on third parties to replicate and
package our boxed software products. This reliance on third
parties involves a number of risks that could have a negative
impact on our business and financial results. These risks
include, but are not limited to, lack of control over the
quality and timing of the manufacturing process, limited control
over the cost of manufacturing, and the potential absence or
unavailability of adequate manufacturing capacity.
Inadequate capacity. If any of our third-party
manufacturers fails for any reason to manufacture products of
acceptable quality, in required volumes, and in a cost-effective
and timely manner, it could be costly as well as disruptive to
product shipments. We might be required to seek additional
manufacturing capacity, which might not be available on
commercially reasonable terms or at all. Even if additional
capacity was available, the process of qualifying a new vendor
could be lengthy and could cause significant delays in product
shipments and could strain partner and customer relationships.
In addition, supply disruptions or cost increases could increase
our costs of goods sold and negatively impact our financial
performance. Our risk is relatively greater in situations where
our hardware products contain critical components supplied by a
single or a limited number of third parties. Any significant
shortage of components could lead to cancellations of customer
orders or delays in placement of orders, which would adversely
impact revenue.
Hardware obsolescence. Hardware-based products
may face greater obsolescence risks than software products. We
could incur losses or other charges in disposing of obsolete
hardware inventory. In addition, to the extent that our
third-party manufacturers upgrade or otherwise alter their
manufacturing processes, our
62
hardware-based products could face supply constraints or risks
associated with the transition of hardware-based products to new
platforms. This could increase the risk of losses or other
charges associated with obsolete inventory.
Our tax
strategy may expose us to risk.
We are generally required to account for taxes in each
jurisdiction in which we operate. This process may require us to
make assumptions, interpretations and judgments with respect to
the meaning and application of promulgated tax laws and related
administrative and judicial interpretations thereof of the
jurisdictions in which we operate. The positions that we take
and our interpretations of the tax laws may differ from the
positions and interpretations of the tax authorities in the
jurisdictions in which we operate. We are presently under audit
in many jurisdictions, including notably California and The
Netherlands. An adverse outcome in one or more of these ongoing
audits, or in any future audits that may occur, could have a
significant negative impact on our cash position and net income.
Although we have established reserves for these audit
contingencies, there can be no assurance that the reserves will
be sufficient to cover our ultimate liabilities.
Our provision for income taxes is subject to volatility and can
be adversely affected by a variety of factors, including but not
limited to changes in tax laws, regulations and accounting
principles (including accounting for uncertain tax positions),
or interpretations of those changes. Significant judgment is
required to determine the recognition and measurement attributes
prescribed in FIN 48. In addition, FIN 48 applies to
all income tax positions, including the potential recovery of
previously paid taxes, which if settled unfavorably could
adversely impact our provision for income taxes or goodwill.
Increased
customer demands on our technical support services may adversely
affect our relationships with our customers and negatively
impact our financial results.
We offer technical support services with many of our products.
We may be unable to respond quickly enough to accommodate
short-term increases in customer demand for support services. We
also may be unable to modify the format of our support services
to compete with changes in support services provided by
competitors or successfully integrate support for our customers.
Further customer demand for these services, without
corresponding revenues, could increase costs and adversely
affect our operating results.
We have outsourced a substantial portion of our worldwide
consumer support functions to third-party service providers. If
these companies experience financial difficulties, service
disruptions, do not maintain sufficiently skilled workers and
resources to satisfy our contracts, or otherwise fail to perform
at a sufficient level under these contracts, the level of
support services to our customers may be significantly
disrupted, which could materially harm our relationships with
these customers.
We face
risks related to customer outsourcing to system
integrators.
Some of our customers have outsourced the management of their
information technology departments to large system integrators.
If this trend continues, our established customer relationships
could be disrupted and our products could be displaced by
alternative system and network protection solutions offered by
system integrators that do not bundle our solutions. Significant
product displacements could negatively impact our revenue and
have a material adverse effect on our business.
If we
fail to effectively upgrade or modify our information technology
system, we may not be able to accurately report our financial
results or prevent fraud.
As part of our efforts to continue improving our internal
control over financial reporting, we upgraded our existing SAP
information technology system during 2007 in order to automate
certain controls that were previously performed manually. We may
experience difficulties in transitioning to new or upgraded
systems and in applying maintenance patches to existing systems,
including loss of data and decreases in productivity as
personnel become familiar with new, upgraded or modified
systems. Our management information systems will require
modification and refinement as we grow and as our business needs
change, which could prolong the difficulties we experience with
systems transitions, and we may not always employ the most
effective systems for our purposes. If we experience
difficulties in implementing new or upgraded information systems
or experience significant system
63
failures, or if we are unable to successfully modify our
management information systems and respond to changes in our
business needs, our operating results could be harmed or we may
fail to meet our reporting obligations. We may also experience
similar results if we have difficulty applying routine
maintenance patches to existing systems in a timely manner.
Computer
hackers may damage our products, services and
systems.
Due to our high profile in the network and system protection
market, we have been a target of computer hackers who have,
among other things, created viruses to sabotage or otherwise
attack our products and services, including our various web
sites. For example, we have seen the spread of viruses, or
worms, that intentionally delete anti-virus and firewall
software. Similarly, hackers may attempt to penetrate our
network security and misappropriate proprietary information or
cause interruptions of our internal systems and services. Also,
a number of web sites have been subject to denial of service
attacks, where a web site is bombarded with information requests
eventually causing the web site to overload, resulting in a
delay or disruption of service. If successful, any of these
events could damage users or our own computer systems. In
addition, since we do not control disk duplication by
distributors or our independent agents, media containing our
software may be infected with viruses.
Business
interruptions may impede our operations and the operations of
our customers.
We are continually updating or modifying our accounting and
other internal and external facing business systems.
Modifications of these types of systems are often disruptive to
business and may cause us to incur higher costs than we
anticipate. Failure to properly manage this process could
materially harm our business operations.
In addition, we and our customers face a number of potential
business interruption risks that are beyond our respective
control. Natural disasters or other events could interrupt our
business or the business of our customers, and each of us is
reliant on external infrastructure that may be antiquated. Our
corporate headquarters in California is located near a major
earthquake fault. The potential impact of a major earthquake on
our facilities, infrastructure and overall operations is not
known, but could be quite severe. Despite safety precautions
that have been implemented, an earthquake could seriously
disrupt our entire business process. We are largely uninsured
for losses and business disruptions caused by an earthquake and
other natural disasters.
Our
investment portfolio is subject to volatility, losses and
liquidity limitations. Continued negative conditions on the
global credit markets could impair the value of or limit our
access to our investments.
Investment income is a significant component of our net income.
The ability to achieve our investment objectives is affected by
many factors, some of which are beyond our control. We invest
our cash, cash equivalents and marketable securities in a
variety of investment vehicles in a number of countries with and
in the custody of financial institutions with high credit
ratings. While our investment policy and strategy attempt to
manage interest rate risk, limit credit risk, and only invest in
what we view as very high-quality debt securities, the outlook
for our investment holdings is dependent on general economic
conditions, interest rate trends and volatility in the financial
marketplace, which can all affect the income that we receive,
the value of our investments, and our ability to sell them. To
this end, we cannot assure you that continued or worsening
conditions in the global credit markets would not negatively
impact our investment portfolio or impact our ability to access
certain of these funds in the future. To mitigate these risks,
we do not hold any
sub-prime
mortgages, auction rate securities or structured investment
vehicles.
The outlook for our investment income is dependent on the amount
of any share repurchases or acquisitions that we effect and the
amount of cash flows from operations that are available for
investment. Any significant decline in our investment income or
the value of our investments could have an adverse effect on our
results of operations or financial condition. During the three
months ending June 30, 2008, we recorded an
other-than-temporary
impairment charge of $2.6 million related to marketable
securities.
Most of our cash and investments held outside the United States
are subject to fluctuations in currency exchange rates.
Furthermore, the majority of these offshore
investment holdings could be repatriated to the United States,
but, under current law, would be subject to U.S. federal
income tax, less any applicable foreign tax credits.
64
These tax limitations, local regulations and potential further
capital market turmoil, could limit our ability to utilize these
offshore funds.
Our
historical stock option granting practices have resulted in, and
could continue to result in, continued or new litigation,
regulatory proceedings, government enforcement actions and
remedial actions, all of which have had, and will continue to
have, a negative impact on our business and financial
results.
In May 2006, we announced that we had commenced an investigation
of our historical stock option granting practices. As a result
of that investigation, we concluded that certain stock options
had been accounted for using incorrect measurement dates, which,
in some instances, were chosen with the benefit of hindsight so
as to intentionally give more favorable exercise prices.
Consequently, certain of our historical financial statements
needed to be restated to correct improper accounting for
improperly priced stock options. In December 2007, we filed our
Form 10-K
for 2006, which included the effects of a restatement of our
audited consolidated financial statements for 2004 and 2005, our
selected financial data for 2002 through 2005, and our unaudited
quarterly financial data for all quarters in 2005 and the first
quarter of 2006.
Shortly after we announced an internal investigation of our
historical stock option granting practices, both the SEC and the
DOJ, commenced investigations of our stock option practices. The
filing of our restated consolidated financial statements did not
resolve the pending SEC or DOJ inquiries. We are engaged in
ongoing discussions with, and continue to provide information
to, the SEC regarding certain of our prior period consolidated
financial statements. The resolution of the SEC inquiry into our
historical stock option granting practices could require us to
file additional restatements of our prior consolidated financial
statements or require that we take other actions not presently
contemplated.
As part of the remedial actions we have taken in connection with
the investigation and restatement, we terminated the employment
of certain employees, including former executive officers. We
are involved in litigation and other legal proceedings in
connection with such terminations, as well as other stockholder
lawsuits related to our historical stock option granting
practices. We expect that there may be additional legal
proceedings in the future which will require additional
management time and additional expense. Any resolution of the
legal proceedings may require us to make severance, settlement
or other related payments in the future. See Note 11 to the
consolidated financial statements included elsewhere in the
report for more details about ongoing legal proceedings.
We cannot predict the outcome of the pending government
inquiries or stockholder or other lawsuits, and we may face
additional government inquiries, stockholder lawsuits and other
legal proceedings. We cannot predict what, if any, enforcement
action the SEC or DOJ will take with respect to our failure to
be current in our periodic reports or our historical stock
option granting practices.
As a result of our investigation and our conclusion that certain
options had been mispriced, some of our employees and former
employees were potentially exposed to significantly increased
income tax liabilities and penalties
and/or were
unable to realize the benefits of their stock options. We have
taken a number of steps to remedy this situation for employees,
which has contributed to increased operating expenses. We
believe we have taken, or are in the process of taking all
corrective actions to compensate for the economic effects of
mispriced stock options for many of our current and former
employees and directors, but it is possible that there will be
other actions required.
All of the events described above have required us to devote
significant management time and to incur significant accounting,
legal, and other expenses. These consequences have diverted
management attention from business operations and have affected
our financial condition and results of operations. We anticipate
that these impacts will continue to varying degrees in future
periods.
Pending
or future litigation could have a material adverse impact on our
results of operation, financial condition and
liquidity.
In addition to intellectual property litigation, from time to
time, we have been, and may be in the future, subject to other
litigation including stockholder derivative actions or actions
brought by current or former employees.
65
Where we can make a reasonable estimate of the liability
relating to pending litigation and determine that an adverse
liability resulting from such litigation is probable, we record
a related liability. As additional information becomes
available, we assess the potential liability and revise
estimates as appropriate. However, because of the inherent
uncertainties relating to litigation, the amount of our
estimates could be wrong. In addition to the related cost and
use of cash, pending or future litigation could cause the
diversion of managements attention. In this regard, we and
a number of our current and former officers and directors are
involved in or the subject of various legal actions. Managing,
defending and indemnity obligations related to these actions
have caused significant diversion of managements and the
board of directors time and resulted in material expense
to us. See Note 11 to the consolidated financial statements
for additional information with respect to currently pending
legal matters.
We face
risks related to our 2006 settlement agreement with the
SEC.
On February 9, 2006, the United States District Court for
the Northern District of California entered a final judgment
permanently enjoining us and our officers and agents from future
violations of the securities laws. This final judgment resolved
the charges filed against us in connection with the SECs
investigation of our accounting practices that commenced in
March 2002. As a result of the judgment, we will forfeit for
three years the ability to invoke the safe harbor
for the forward-looking statements provision of the Private
Securities Litigation Reform Act (Reform Act). This
safe harbor provided us enhanced protection from liability
related to forward-looking statements if the forward-looking
statements were either accompanied by meaningful cautionary
statements or were made without actual knowledge that they were
false or misleading. While we may still rely on the
bespeaks caution doctrine that existed prior to the
Reform Act for defenses against securities lawsuits, without the
statutory safe harbor, it may be more difficult for us to defend
against any such claims. In addition, due to the permanent
restraint and injunction against violating applicable securities
laws, any future violation of the securities laws would be a
violation of a federal court order and potentially subject us to
a contempt order. For instance, if, at some point in the future,
we were to discover a fact that caused us to restate our
financial statements similar to the restatements that were the
subject of the SEC action, we could be found to have violated
the final judgment. We cannot predict whether the SEC might
assert that our failure to remain current in our periodic
reporting obligations or our historical stock option practices
violated the final judgment or what, if any, enforcement action
the SEC might take upon such a determination. Further, any
collateral criminal or civil investigation, proceeding or
litigation related to any future violation of the judgment, such
as the compliance actions mandated by the judgment, could result
in the distraction of management from our
day-to-day
business and may materially and adversely affect our reputation
and results of operations.
Our stock
price has been volatile and is likely to remain
volatile.
During 2007 and up to the date of this filing, our stock price
was highly volatile, ranging from a high of $41.35 to a low of
$28.00. On July 31, 2008, our stocks closing price
was $32.75. Announcements, business developments, such as a
material acquisitions or dispositions, litigation developments
and our ability to meet the expectations of investors with
respect to our operating and financial results, may contribute
to current and future stock price volatility. In addition,
third-party announcements such as those made by our partners and
competitors may contribute to current and future stock price
volatility. For example, future announcements by Microsoft
Corporation related to its consumer and corporate security
solutions may contribute to future volatility in our stock
price. Certain types of investors may choose not to invest in
stocks with this level of stock price volatility.
In addition to the volatility that is related to our business
activities and those of others in our industry, our stock price
may also experience volatility that is completely unrelated to
our performance or that of the security industry. During 2007
through July 2008, the major US and international stock markets
have been extremely volatile. Fluctuations in these broad market
indices can impact McAfees stock price regardless of
McAfees performance.
66
Our
charter documents and Delaware law and our rights plan may
impede or discourage a takeover, which could lower our stock
price.
Our
charter documents and Delaware law
Under our certificate of incorporation, our board of directors
has the authority to issue up to 5.0 million shares of
preferred stock and to determine the price, rights, preferences,
privileges and restrictions, including voting rights, of those
shares without any further vote or action by our stockholders.
The issuance of preferred stock could have the effect of making
it more difficult for a third party to acquire a majority of our
outstanding voting stock and could have the effect of
discouraging a change of control of the company or changes in
management.
Our classified board and other provisions of Delaware law and
our certificate of incorporation and bylaws, could also delay or
make a merger, tender offer or proxy contest involving us or
changes in our board of directors and management more difficult.
For example, any stockholder wishing to make a stockholder
proposal (including director nominations) at our 2009 annual
meeting must meet the qualifications and follow the procedures
specified under both the Securities Exchange Act of 1934 and our
bylaws.
Our
rights plan
Our board of directors has adopted a stockholders rights
plan. The rights would become exercisable on the tenth day after
a person or group announces the acquisition of 15% or more of
our common stock or announces the commencement of a tender or
exchange offer the consummation of which would result in
ownership by the person or group of 15% or more of our common
stock. If the rights become exercisable, the holders of the
rights (other than the person acquiring 15% or more of our
common stock) will be entitled to acquire in exchange for the
rights exercise price, shares of our common stock or
shares of any company in which we are merged with a value equal
to twice the rights exercise price. The rights plan makes
it more difficult for a third party to acquire a majority of our
outstanding voting stock and discourages a change of control of
the company not approved by our board of directors.
|
|
Item 2.
|
Unregistered
Sales of Equity Securities and Use of Proceeds
|
Stock
Repurchases
In January 2008, our board of directors authorized the
repurchase of up to $750.0 million of our common stock in
the open market or through privately negotiated transactions
through July 2009, depending upon market conditions, share price
and other factors. During the three months ended on
June 30, 2008, we repurchased approximately
7.7 million shares of our common stock in the open market
for approximately $273.7 million, excluding commissions
paid. During the three months ended June 30, 2008, we used
$1.2 million to repurchase shares of common stock in
connection with our obligation to holders of restricted stock
units to withhold the number of shares required to satisfy the
holders tax liabilities in connection with the vesting of
such shares. These shares were not part of the publicly
announced repurchase program.
The table below sets forth all repurchases by us of our common
stock during the three months ended June 30, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Approximate Dollar
|
|
|
|
|
|
|
|
|
|
Total Number of
|
|
|
Value of Shares
|
|
|
|
Total
|
|
|
|
|
|
Shares Purchased as
|
|
|
That May Yet
|
|
|
|
Number of
|
|
|
Average
|
|
|
Part of Publicly
|
|
|
Be Purchased
|
|
|
|
Shares
|
|
|
Price Paid
|
|
|
Announced Plan or
|
|
|
Under Our Stock
|
|
Period
|
|
Purchased
|
|
|
Per Share
|
|
|
Repurchase Program
|
|
|
Repurchase Program
|
|
|
|
(In thousands, except price per share)
|
|
|
April 1, 2008 through April 30, 2008
|
|
|
18
|
|
|
$
|
35.03
|
|
|
|
|
|
|
$
|
636,593
|
|
May 1, 2008 through May 31, 2008
|
|
|
4,059
|
|
|
|
35.61
|
|
|
|
4,054
|
|
|
|
492,234
|
|
June 1, 2008 through June 30, 2008
|
|
|
3,617
|
|
|
|
35.85
|
|
|
|
3,607
|
|
|
|
362,917
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
7,694
|
|
|
$
|
35.72
|
|
|
|
7,661
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
67
|
|
Item 3.
|
Defaults
upon Senior Securities
|
None.
|
|
Item 4.
|
Submission
of Matters to a Vote of Security Holders
|
None.
|
|
Item 5.
|
Other
Information
|
None.
(a) Exhibits. The exhibits listed in the
accompanying Exhibit Index are filed or incorporated by
reference as part of this Report.
68
SIGNATURES
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.
McAfee Inc.
/s/ Albert
A. Rocky Pimentel
Albert A. Rocky Pimentel
Chief Financial Officer and Chief Operating Officer
August 7, 2008
69