SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
|6 Months Ended|
Jun. 30, 2015
|Accounting Policies [Abstract]|
|NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES||
Basis of Presentation and Principles of Consolidation
The unaudited consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States of America ("US GAAP") and present the consolidated financial statements of the Company and its wholly-owned subsidiaries. In the preparation of consolidated financial statements of the Company, all intercompany transactions and balances were eliminated. All adjustments (consisting of normal recurring items) necessary to present fairly the Company's consolidated financial position as of June 30, 2015, and the results of operations and cash flows for the three and six months ended June 30, 2015 have been included. The results of operations for the three and six months ended June 30, 2015 are not necessarily indicative of the results to be expected for the full year. Other than where noted, the accounting policies and procedures employed in the preparation of these consolidated financial statements have been derived from the audited financial statements of the Company for the year ended December 31, 2014, which are contained in Form 10-K as filed with the Securities and Exchange Commission (SEC) on March 26, 2015. The consolidated balance sheet as of December 31, 2014 was derived from those financial statements.
The Company considers all highly liquid debt instruments and other short-term investments with maturity of three months or less, when purchased, to be cash equivalents. The Company maintains cash and cash equivalent balances at one financial institution that is insured by the Federal Deposit Insurance Corporation. The Companys accounts at this institution are insured up to $250,000 by the Federal Deposit Insurance Corporation ("FDIC"). As of June 30, 2015, the Company had bank balances exceeding the FDIC insurance limit. To reduce its risk associated with the failure of such financial institution, the Company evaluates at least annually the rating of the financial institution in which it holds deposits. Pursuant to the agreement with Fortress, the Company has agreed to a minimum cash covenant in the amount of $1,000,000.
Use of Estimates and Assumptions
The preparation of financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates made by management include, but are not limited to, estimating the useful lives of patent assets, the assumptions used to calculate fair value of warrants and options granted, goodwill impairment, realization of long-lived assets, deferred income taxes, unrealized tax positions and business combination accounting.
The Company has a policy of reserving for questionable accounts based on its best estimate of the amount of probable credit losses in its existing accounts receivable. The Company periodically reviews its accounts receivable to determine whether an allowance is necessary based on an analysis of past due accounts and other factors that may indicate that the realization of an account may be in doubt. Account balances deemed to be uncollectible are charged to the bad debt expense after all means of collection have been exhausted and the potential for recovery is considered remote. At June 30, 2015 and December 31, 2014, the allowance for bad debt was $0 and $0, respectively. Accounts receivable, net at June 30, 2015 and December 31, 2014, amounted to $704,061 and $216,997, respectively. As of June 30, 2015, accounts receivable related to one license accounted for approximately 12% of the Companys total accounts receivable, accounts receivable related to recurring royalties represented approximately 34% of total accounts receivable and the Company had a receivable from an indemnification claim to be paid by the seller of a portfolio purchased by the Company in the amount of $375,750 or 54% of total accounts receivable. As of December 31. 2014, 86% of total accounts receivable were associated with outstanding recurring royalties and 14% were associated with one outstanding license payment.
Concentration of Revenue and Geographic Area
Patent license revenue from enforcement activities is from either the United States or Germany. Revenue attributable to the United States involves US patents; revenue attributable to Germany is based on the enforcement of German patents and in the event that the Company enters into a worldwide license, the revenue is allocated between the two. The Company does not currently have enforcement actions in any other countries.
Revenues from five licenses accounted for approximately 63% of the Companys operating revenues for the three months ended June 30, 2015 and revenue from five licenses accounting for 100% of the revenue for the three months ended June 30, 2014.
While the Company has a growing portfolio of patents, the Company has historically received a significant portion of its revenue and expects that a significant portion of its future revenues will be based on one-time grants of similar non-recurring, non-exclusive, non-assignable licenses to a relatively small number of entities and their affiliates. Further, with the expected small number of firms with which the Company enters into license agreements, and the amount and timing of such license agreements, the Company also expects that its revenues may be highly variable from one period to the next.
The Company recognizes revenue in accordance with ASC Topic 605, Revenue Recognition. Revenue is recognized when (i) persuasive evidence of an arrangement exists, (ii) all obligations have been substantially performed, (iii) amounts are fixed or determinable and (iv) collectability of amounts is reasonably assured.
The Company considers its licensing and enforcement activities as one unit of accounting under ASC 605-25, Multiple-Element Arrangements as the delivered items do not have value to customers on a standalone basis, there are no undelivered elements and there is no general right of return relative to the license. Under ASC 605-25, the appropriate recognition of revenue is determined for the combined deliverables as a single unit of accounting and revenue is recognized upon delivery of the final elements, including the license for past and future use, and the release.
Also, due to the fact that the settlement element and license element for past and future use are the major central business, the Company does not present these two elements as different revenue streams in its statement of operations. The Company does not expect to provide licenses that do not provide some form of settlement or release. The Company derived approximately 79% and 100% of its revenues for the three months ended June 30, 2015 and June 30, 2014, respectively, and 91% and 100% of its revenues for the six months ended June 30, 2015 and June 30, 2014, respectively, from the one-time issuance of non-recurring, non-exclusive, non-assignable licenses for certain of the Companys patents, with the balance comprised of recurring royalties and Opus subscription fees.
The Companys subsidiaries entered into eight license agreements during the three months ended June 30, 2015.
Cost of Revenue
Cost of revenue mainly includes expenses incurred in connection with the Companys patent enforcement activities, such as legal fees, consulting costs, patent maintenance, royalty fees for acquired patents and other related expenses. Cost of revenue does not include patent amortization expenses, which are included as a separate line item in operating expenses and cost of revenue also does not include expenses related to product development, integration or support, as these are included in general and administrative expenses.
Prepaid Expenses, Bonds Posted and Other Current Assets
Prepaid expenses and other current assets of $124,436 and $438,391 at June 30, 2015 and December 31, 2014, respectively, consist primarily of costs paid for future services and the unamortized portion of a convertible loan fee, which will occur within a year. Prepaid expenses include prepayments in cash and equity instruments for public relation services, business advisory, consulting, and prepaid insurance, which are being amortized over the terms of their respective agreements. In addition, the Company had outstanding litigation bonds in the amount of $1,790,241 and $1,946,196 at June 30, 2015 and December 31, 2014, respectively. These bonds were entered into in Germany after the first instance of litigation of some of the Companys patents in German courts and the difference in the balance of the litigation bonds at December 31, 2014 versus June 30, 2015 is attributable solely to currency translation.
Fair Value of Financial Instruments
The Company adopted FASB ASC 820, Fair Value Measurements and Disclosures (ASC 820), for assets and liabilities measured at fair value on a recurring basis. ASC 820 establishes a common definition for fair value to be applied to existing US GAAP that require the use of fair value measurements, establishes a framework for measuring fair value and expands disclosure about such fair value measurements. The adoption of ASC 820 did not have an impact on the Companys financial position or operating results, but did expand certain disclosures. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Additionally, ASC 820 requires the use of valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. These inputs are prioritized below:
The carrying amounts reported in the consolidated balance sheet for cash, accounts receivable, bonds posted with courts, accounts payable, and accrued expenses, approximate their estimated fair market value based on the short-term maturity of these instruments. The carrying value of notes payable and other long-term liabilities approximates fair value as the related interest rates approximate rates currently available to the Company. Based on changes in the expected timing of proceeds from the Clouding portfolio of patents, the Company reduced the value of the Clouding IP earn out liability, a level 3 liability, in the amount of $2,304,301; a reduction in the short-term Clouding IP earn out liability represented $1,208,516 of this amount and a reduction in the long-term earn out liability represented $1,095,785 of this amount. The Company used a discounted cash flow model as the valuation technique, using unobservable inputs of timing of proceeds and probability of revenue amounts to be recognized in the future. The Company treated this change in forecast for the Clouding portfolio of patents as a triggering event and recognized a patent impairment of $766,498, using the discounted cash flow model. A more detailed description can be found in Note 3 below.
Accounting for Acquisitions
In the normal course of its business, the Company makes acquisitions of patent assets and may also make acquisitions of businesses. With respect to each such transaction, the Company evaluates facts of the transaction and follows the guidelines prescribed in accordance with ASC 805 Business Combinations to determine the proper accounting treatment for each such transaction and then records the transaction in accordance with the conclusions reached in such analysis. The Company performs such analysis with respect to each material acquisition within the consolidated group of entities.
The Company accounts for income taxes pursuant to the provision of ASC 740-10, Accounting for Income Taxes which requires, among other things, an asset and liability approach to calculating deferred income taxes. The asset and liability approach requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the carrying amounts and the tax bases of assets and liabilities. A valuation allowance is provided to offset any net deferred tax assets for which management believes it is more likely than not that the net deferred asset will not be realized.
The Company follows the provision of the ASC 740-10 related to Accounting for Uncertain Income Tax Position. When tax returns are filed, it is highly certain that some positions taken would be situated upon examination by the taxing authorities, while others are subject to uncertainty about the merits of the position taken or the amount of the position that would be ultimately sustained. In accordance with the guidance of ASC 740-10, the benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management believes it is more likely that not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any. Tax positions taken are not offset or aggregated with other positions.
Tax positions that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority. The portion of the benefits associated with tax positions taken that exceeds the amount measured as described above should be reflected as a liability for uncertain tax benefits in the accompanying balance sheet along with any associated interest and penalties that would be payable to the taxing authorities upon examination. The Company believes its tax positions are all highly certain of being upheld upon examination. As such, the Company has not recorded a liability for uncertain tax benefits.
The Company has adopted ASC 740-10-25 Definition of Settlement, which provides guidance on how an entity should determine whether a tax position is effectively settled for the purpose of recognizing previously unrecognized tax benefits and provides that a tax position can be effectively settled upon the completion and examination by a taxing authority without being legally extinguished. For a tax position considered effectively settled, an entity would recognize the full amount of tax benefit, even if the tax position is not considered more likely than not to be sustained based solely on the basis of its technical merits and the statute of limitations remains open. The federal and state income tax returns of the Company are subject to examination by the Internal Revenue Service and state taxing authorities, generally for three years after they were filed. The Company is in the process of filing the previous years tax returns. After review of the prior year financial statements and the results of operations through June 30, 2015, the Company has recorded a deferred tax asset in the amount of $10,257,415, from which the Company expects to realize benefits in the future, and an deferred tax liability of $1,256,480.
The Company files U.S. and state income tax returns with varying statutes of limitations. The 2011 through 2014 tax years generally remain subject to examination by federal and state tax authorities.
Basic and Diluted Net Earnings (Loss) per Share
Net earnings (loss) per common share is calculated in accordance with ASC Topic 260: Earnings Per Share (ASC 260). Basic earnings (loss) per share is computed by dividing net earnings (loss) by the weighted average number of shares of common stock outstanding during the period. The computation of diluted net earnings (loss) per share does not include dilutive common stock equivalents in the weighted average shares outstanding, as they would be anti-dilutive. The Company has options to purchase 2,866,393 shares of common stock and warrants to purchase 2,021,308 shares of common stock outstanding at June 30, 2015, which were excluded from the computation of diluted shares outstanding, as they would have had an anti-dilutive impact on the Companys net loss.
The following table sets forth the computation of basic and diluted loss per share:
Intangible assets include patents purchased and patents acquired in lieu of cash in licensing transactions. The patents purchased are recorded based on the cost to acquire them and patents acquired in lieu of cash are recorded at their fair market value. The costs of these assets are amortized over their remaining useful lives. Useful lives of intangible assets are periodically evaluated for reasonableness and the assets are tested for impairment whenever events or changes in circumstances indicate that the carrying amount may no longer be recoverable. Based on changes in the expected timing of proceeds from the Clouding portfolio, the Company took an impairment charge as of June 30, 2015 in the carrying value of the Clouding patent intangible assets in the amount of $766,498.
Goodwill is tested for impairment at the reporting unit level at least annually in accordance with ASC 350, and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. When conducting its annual goodwill impairment assessment, the Company initially performs a qualitative evaluation of whether it is more likely than not that goodwill is impaired. If it is determined by a qualitative evaluation that it is more likely than not that goodwill is impaired, the Company then applies a two-step impairment test. The two-step impairment test first compares the fair value of the Companys reporting unit to its carrying or book value. If the fair value of the reporting unit exceeds its carrying value, goodwill is not impaired and the Company is not required to perform further testing. If the carrying value of the reporting unit exceeds its fair value, the Company determines the implied fair value of the reporting units goodwill and if the carrying value of the reporting units goodwill exceeds its implied fair value, then an impairment loss equal to the difference is recorded in the consolidated statement of operations. The Company performs the annual testing for impairment of goodwill at the reporting unit level during the quarter ended September 30. The Company did not record any impairment charges to its goodwill during the three and six months ended June 30, 2015 and 2014.
Other Intangible Assets
In accordance with ASC 350-30-65, Intangibles - Goodwill and Others, the Company assesses the impairment of identifiable intangibles whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors the Company considers to be important which could trigger an impairment review include the following:
When the Company determines that the carrying value of intangibles may not be recoverable based upon the existence of one or more of the above indicators of impairment and the carrying value of the asset cannot be recovered from projected undiscounted cash flows, the Company records an impairment charge. The Company measures any impairment based on a projected discounted cash flow method using a discount rate determined by management to be commensurate with the risk inherent in the current business model. The Company did not record any impairment charges to its Other Intangible Assets during the three and six months ended June 30, 2015 and 2014.
The Company accounts for the impairment or disposal of long-lived assets according to the ASC 360 Property, Plant and Equipment. The Company continually monitors events and changes in circumstances that could indicate that the carrying amounts of long-lived assets may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to the estimated future net undiscounted cash flows expected to be generated by the asset. When necessary, impaired assets are written down to estimated fair value based on the best information available. Estimated fair value is generally based on either appraised value or measured by discounting estimated future cash flows. Considerable management judgment is necessary to estimate discounted future cash flows. Accordingly, actual results could vary significantly from such estimates. The Company recognizes an impairment loss when the sum of expected undiscounted future cash flows is less than the carrying amount of the asset. The Company did not record any impairment charges on its long-lived assets during the three and six months ended June 30, 2015 and 2014.
Stock-based compensation is accounted for based on the requirements of the Share-Based Payment Topic of ASC 718 which requires recognition in the consolidated financial statements of the cost of employee and director services received in exchange for an award of equity instruments over the period the employee or director is required to perform the services in exchange for the award (presumptively, the vesting period). The ASC also requires measurement of the cost of employee and director services received in exchange for an award based on the grant-date fair value of the award.
Pursuant to ASC Topic 505-50, for share-based payments to consultants and other third-parties, compensation expense is determined at the measurement date. The expense is recognized over the vesting period of the award. Until the measurement date is reached, the total amount of compensation expense remains uncertain. The Company initially records compensation expense based on the fair value of the award at the reporting date. As stock-based compensation expense is recognized based on awards expected to vest, forfeitures are also estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. For the three and six months ended June 30, 2015, the expected forfeiture rate was 12.8% and 12.8%, respectively, which resulted in an expense of $5,947 and $6,670, respectively, recognized in the Companys compensation expenses. The Company will continue to re-assess the impact of forfeitures if actual forfeitures increase in future quarters.
Certain prior year reported amounts have been reclassified to conform to the current year presentation. The Company recorded an adjustment to the purchase price allocation and such adjustment has been retroactively reflected in the comparative information for the prior period presented. The reclassification did not have an impact on previously issued net income (loss) or Total Shareholders Equity.
Recent Accounting Pronouncements
In April 2015, the FASB issued new guidance on the presentation of debt issuance costs (ASU 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs), effective for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years and should be applied retrospectively to all periods presented. Early adoption of the new guidance is permitted for financial statements that have not been previously issued. The new guidance will require that debt issuance costs be presented in the balance sheet as a direct deduction from the related debt liability rather than as an asset, consistent with debt discounts. The Company adapted ASU 2015-03 and as such, the debt issuance cost for Fortress was presented in the balance sheet as a direct deduction from the related debt liability.
In August 2014, the FASB issued Accounting Standards Update No. 2014-15, Disclosure of Uncertainties About an Entity's Ability to Continue as a Going Concern. This standard update provides guidance around management's responsibility to evaluate whether there is substantial doubt about an entity's ability to continue as a going concern and to provide related footnote disclosures. The new guidance is effective for all annual and interim periods ending after December 15, 2016. The new guidance will not have an impact on the Company's consolidated financial statements.
In May 2014, the Financial Accountings Standards Board (FASB) issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers, or ASU 2014-09, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The standard will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective and shall take effective on January 1, 2017. The standard permits the use of either the retrospective or cumulative effect transition method and the early application of the standard is not permitted. The Company is presently evaluating the effect that ASU 2014-09 will have on its consolidated financial statements and related disclosures and has not yet selected a transition method.
The entire disclosure for all significant accounting policies of the reporting entity.
Reference 1: http://www.xbrl.org/2003/role/presentationRef