Q2 10Q 2015



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2015
OR
¨
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 0-23137
 
 RealNetworks, Inc.
 
 
(Exact name of registrant as specified in its charter)
 
Washington
 
91-1628146
(State of incorporation)
 
(I.R.S. Employer
Identification Number)
 
 
 
 
 
1501 First Avenue South, Suite 600
Seattle, Washington
 
98134
(Address of principal executive offices)
 
(Zip Code)
 
(206) 674-2700
 
 
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the 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  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
 
¨
  
Accelerated filer
ý
 
 
 
 
Non-accelerated filer
 
¨  (Do not check if a smaller reporting company)
  
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  ¨    No   ý
The number of shares of the registrant’s Common Stock outstanding as of July 31, 2015 was 36,176,118.




TABLE OF CONTENTS
 
 
Page
 
 

2



PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements
REALNETWORKS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
 
June 30,
2015
 
December 31,
2014
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
92,663

 
$
103,253

Short-term investments
18,337

 
58,453

Trade accounts receivable, net of allowances
21,922

 
15,257

Deferred costs, current portion
305

 
702

Deferred tax assets, net, current portion
645

 
652

Prepaid expenses and other current assets
9,108

 
8,980

Total current assets
142,980

 
187,297

Equipment, software, and leasehold improvements, at cost:
 
 
 
Equipment and software
71,552

 
74,100

Leasehold improvements
3,737

 
3,590

Total equipment, software, and leasehold improvements, at cost
75,289

 
77,690

Less accumulated depreciation and amortization
61,886

 
61,442

Net equipment, software, and leasehold improvements
13,403

 
16,248

Restricted cash equivalents and investments
3,000

 
3,000

Investment in and advances to Rhapsody
5,121

 
10,000

Available for sale securities
2,394

 
2,676

Other assets
3,187

 
2,299

Deferred costs, non-current portion
204

 
316

Deferred tax assets, net, non-current portion
916

 
999

Other intangible assets, net
9,181

 
10,109

Goodwill
17,001

 
17,355

Total assets
$
197,387

 
$
250,299

 
 
 
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
18,241

 
$
18,653

Accrued and other current liabilities
22,803

 
25,286

Deferred tax liabilities, net, current portion
1,580

 
1,628

Deferred revenue, current portion
3,637

 
5,301

Total current liabilities
46,261

 
50,868

Deferred revenue, non-current portion
124

 
235

Deferred rent
1,240

 
1,215

Deferred tax liabilities, net, non-current portion
693

 
702

Other long-term liabilities
458

 
81

Total liabilities
48,776

 
53,101

Commitments and contingencies

 

Shareholders’ equity:
 
 
 
Preferred stock, $0.001 par value, no shares issued and outstanding:
 
 
 
Series A: authorized 200 shares

 

Undesignated series: authorized 59,800 shares

 

Common stock, $0.001 par value authorized 250,000 shares; issued and outstanding 36,165 shares in 2015 and 36,099 shares in 2014
36

 
36

Additional paid-in capital
623,701

 
617,756

Accumulated other comprehensive loss
(57,534
)
 
(55,252
)
Retained deficit
(417,592
)
 
(365,342
)
Total shareholders’ equity
148,611

 
197,198

Total liabilities and shareholders’ equity
$
197,387

 
$
250,299

See accompanying notes to unaudited condensed consolidated financial statements.

3



REALNETWORKS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(In thousands, except per share data)
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Net revenue (A)
$
33,954

 
$
40,825

 
$
64,551

 
$
86,549

Cost of revenue (B)
19,832

 
20,786

 
36,379

 
39,572

Extinguishment of liability

 

 

 
(10,580
)
Gross profit
14,122

 
20,039

 
28,172

 
57,557

Operating expenses:
 
 
 
 
 
 
 
Research and development
11,801

 
13,267

 
24,180

 
27,326

Sales and marketing
14,047

 
16,016

 
26,884

 
37,739

General and administrative
7,008

 
8,577

 
14,291

 
17,894

Restructuring and other charges
1,964

 
541

 
2,449

 
1,757

Lease exit and related charges
9

 
470

 
87

 
549

Total operating expenses
34,829

 
38,871

 
67,891

 
85,265

Operating income (loss)
(20,707
)
 
(18,832
)
 
(39,719
)
 
(27,708
)
Other income (expenses):
 
 
 
 
 
 
 
Interest income, net
250

 
180

 
450

 
316

Gain (loss) on sale of available for sale securities, net
94

 

 
393

 
2,371

Equity in net loss of Rhapsody
(6,916
)
 
(1,802
)
 
(13,096
)
 
(2,640
)
Other income (expense), net
(112
)
 
(95
)
 
331

 
(172
)
Total other income (expenses), net
(6,684
)
 
(1,717
)
 
(11,922
)
 
(125
)
Income (loss) before income taxes
(27,391
)
 
(20,549
)
 
(51,641
)
 
(27,833
)
Income tax expense (benefit)
390

 
480

 
609

 
966

Net income (loss)
$
(27,781
)
 
$
(21,029
)
 
$
(52,250
)
 
$
(28,799
)
 
 
 
 
 
 
 
 
Basic net income (loss) per share
$
(0.77
)
 
$
(0.59
)
 
$
(1.45
)
 
$
(0.80
)
Diluted net income (loss) per share
$
(0.77
)
 
$
(0.59
)
 
$
(1.45
)
 
$
(0.80
)
Shares used to compute basic net income (loss) per share
36,106

 
35,890

 
36,105

 
35,865

Shares used to compute diluted net income (loss) per share
36,106

 
35,890

 
36,105

 
35,865

 
 
 
 
 
 
 
 
Comprehensive income (loss):
 
 
 
 
 
 
 
Unrealized investment holding gains (losses), net of reclassification adjustments
$
(191
)
 
$
(38
)
 
$
(285
)
 
$
(3,613
)
Foreign currency translation adjustments, net of reclassification adjustments
588

 
216

 
(1,997
)
 
191

Total other comprehensive income (loss)
397

 
178

 
(2,282
)
 
(3,422
)
Net income (loss)
(27,781
)
 
(21,029
)
 
(52,250
)
 
(28,799
)
Comprehensive income (loss)
$
(27,384
)
 
$
(20,851
)
 
$
(54,532
)
 
$
(32,221
)
 
 
 
 
 
 
 
 
(A) Components of net revenue:
 
 
 
 
 
 
 
License fees
$
6,921

 
$
6,664

 
$
14,210

 
$
15,243

Service revenue
27,033

 
34,161

 
50,341

 
71,306

 
$
33,954

 
$
40,825

 
$
64,551

 
$
86,549

(B) Components of cost of revenue:
 
 
 
 
 
 
 
License fees
$
1,428

 
$
2,170

 
$
3,171

 
$
4,382

Service revenue
18,404

 
18,616

 
33,208

 
35,190

 
$
19,832

 
$
20,786

 
$
36,379

 
$
39,572

See accompanying notes to unaudited condensed consolidated financial statements.

4



REALNETWORKS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
 
Six Months Ended
June 30,
 
2015
 
2014
Cash flows from operating activities:
 
 
 
Net income (loss)
$
(52,250
)
 
$
(28,799
)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
4,894

 
6,145

Stock-based compensation
2,583

 
3,010

Equity in net loss of Rhapsody
13,096

 
2,640

Deferred income taxes, net
(23
)
 
10

Gain on sale of available for sale securities
(393
)
 
(2,371
)
Realized translation gain

 
(48
)
Extinguishment of liability

 
(10,580
)
Fair value of warrants, net of mark to market adjustments
(1,128
)
 

Interest receivable on advance to Rhapsody
(121
)
 

Net change in certain operating assets and liabilities:
 
 
 
Trade accounts receivable
(7,091
)
 
3,346

Prepaid expenses and other assets
429

 
94

Accounts payable
(26
)
 
(114
)
Accrued and other liabilities
(3,542
)
 
(4,111
)
Net cash provided by (used in) operating activities
(43,572
)
 
(30,778
)
Cash flows from investing activities:
 
 
 
Purchases of equipment, software, and leasehold improvements
(859
)
 
(1,689
)
Proceeds from sale of available for sale securities
459

 
2,754

Purchases of short-term investments
(8,514
)
 
(48,326
)
Proceeds from sales and maturities of short-term investments
48,630

 
52,663

Acquisitions, net of cash acquired
(161
)
 
(733
)
Advance to Rhapsody
(5,000
)
 

Other

 
(467
)
Net cash provided by (used in) investing activities
34,555

 
4,202

Cash flows from financing activities:
 
 
 
Proceeds from issuance of common stock (stock options and stock purchase plan)
276

 
580

Tax payments from shares withheld upon vesting of restricted stock
(10
)
 
(307
)
Payment of contingent consideration

 
(696
)
Net cash provided by (used in) financing activities
266

 
(423
)
Effect of exchange rate changes on cash and cash equivalents
(1,839
)
 
214

Net increase (decrease) in cash and cash equivalents
(10,590
)
 
(26,785
)
Cash and cash equivalents, beginning of period
103,253

 
151,235

Cash and cash equivalents, end of period
$
92,663

 
$
124,450

 
 
 
 
Supplemental disclosure of cash flow information:
 
 
 
Cash received from income tax refunds
$
965

 
$
97

Cash paid for income taxes
$
872

 
$
1,074

Non-cash investing activities:
 
 
 
Increase (decrease) in accrued purchases of equipment, software, and leasehold improvements
$
(39
)
 
$
(321
)
Acquisition of intangible assets
$
312

 
$

See accompanying notes to unaudited condensed consolidated financial statements.


5



REALNETWORKS, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Quarters and Six Months Ended June 30, 2015 and 2014
Note 1
Description of Business and Summary of Significant Accounting Policies
Description of Business. RealNetworks, Inc. and subsidiaries is a leading global provider of network-delivered digital media applications and services that make it easy to manage, play and share digital media. The Company also develops and markets software products and services that enable the creation, distribution and consumption of digital media, including audio and video.
Inherent in our business are various risks and uncertainties, including a limited history of certain of our product and service offerings. RealNetworks' success will depend on the acceptance of our technology, products and services and the ability to generate related revenue.
In this Quarterly Report on Form 10-Q (10-Q or Report), RealNetworks, Inc. and Subsidiaries is referred to as “RealNetworks”, the “Company”, “we”, “us”, or “our”. "RealPlayer" and other trademarks of ours appearing in this report are our property.
Basis of Presentation. The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. Intercompany balances and transactions have been eliminated in consolidation.
The unaudited condensed consolidated financial statements reflect all adjustments, consisting only of normal, recurring adjustments that, in the opinion of management, are necessary for a fair presentation of the results of operations for the periods presented. Operating results for the quarter and six months ended June 30, 2015 are not necessarily indicative of the results that may be expected for any subsequent period or for the year ending December 31, 2015. Certain information and disclosures normally included in financial statements prepared in conformity with accounting principles generally accepted in the United States of America (GAAP) have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission (SEC).
These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2014 (the 10-K).
Use of Estimates. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, 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.
Note 2
Recent Accounting Pronouncements
    
In August 2014, the Financial Accounting Standards Board (FASB) issued a new standard, "Disclosure of Uncertainties About an Entity's Ability to Continue as a Going Concern". This standard 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 in certain circumstances. The new guidance is effective for all annual and interim periods ending after December 15, 2016. We are currently evaluating the impact, if any, the adoption of this standard will have on our consolidated financial statements.
In May 2014, the FASB issued new revenue recognition guidance. The guidance will require an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The new guidance will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The new guidance is effective for us on January 1, 2018; with early adoption permitted beginning January 1, 2017. The guidance permits the use of either the retrospective or cumulative effect transition method. We are evaluating the effect that the guidance will have on our consolidated financial statements and related disclosures. We have not yet selected a transition method nor determined the effect of the standard on our ongoing financial reporting.     
There have been no other recent accounting pronouncements or changes in accounting pronouncements to be implemented that are of significance or potential significance to RealNetworks.


6



Note 3
Stock-Based Compensation
Total stock-based compensation expense recognized in our unaudited condensed consolidated statements of operations and comprehensive income (loss) includes amounts related to stock options, restricted stock units, and employee stock purchase plans and was as follows (in thousands):
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Total stock-based compensation expense
$
1,254

 
$
1,673

 
$
2,583

 
$
3,010

The fair value of options granted determined using the Black-Scholes model used the following weighted-average assumptions:
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Expected dividend yield
0
%
 
0
%
 
0
%
 
0
%
Risk-free interest rate
1.70
%
 
1.20
%
 
1.26
%
 
1.19
%
Expected life (years)
5.5

 
3.8

 
4.4

 
3.8

Volatility
42
%
 
40
%
 
37
%
 
40
%

The total stock-based compensation amounts for 2015 and 2014 disclosed above are recorded in their respective line items within operating expenses in the unaudited condensed consolidated statements of operations and comprehensive income (loss). As of June 30, 2015, $12.8 million of total unrecognized compensation cost, net of estimated forfeitures, related to stock awards. The unrecognized compensation cost is expected to be recognized over a weighted-average period of approximately 2 years.
Note 4
Rhapsody Joint Venture
As of June 30, 2015 we owned approximately 43% of the issued and outstanding stock of Rhapsody and account for our investment using the equity method of accounting.
Rhapsody was initially formed in 2007 as a joint venture between RealNetworks and MTV Networks, a division of Viacom International Inc. (MTVN), to own and operate a business-to-consumer digital audio music service known as Rhapsody.
Following certain restructuring transactions effective March 31, 2010, we began accounting for our investment in Rhapsody using the equity method of accounting. As part of the 2010 restructuring transactions, RealNetworks contributed $18.0 million in cash, the Rhapsody brand and certain other assets, including content licenses, in exchange for shares of convertible preferred stock of Rhapsody, carrying a $10.0 million preference upon certain liquidation events.
We recorded our share of losses of Rhapsody of $6.9 million and $13.1 million for the quarters and six months ended June 30, 2015, and $1.8 million and $2.6 million for the quarters and six months ended June 30, 2014. Because of the $10.0 million liquidation preference on the preferred stock we hold in Rhapsody, under the equity method of accounting we did not record any share of Rhapsody losses that would reduce our carrying value of Rhapsody, which is impacted by Rhapsody equity transactions, below $10.0 million, until Rhapsody's book value was reduced below $10.0 million which occurred in the first quarter of 2015. As of June 30, 2015, the carrying value of our Rhapsody equity investment is zero, as we do not record any share of Rhapsody losses that would reduce our carrying value of Rhapsody below zero unless we commit to provide financial support for Rhapsody.
In March 2015, RealNetworks extended a $5.0 million loan to Rhapsody, as did the other 43% owner of Rhapsody. The loans have original maturity dates of June 2018 or earlier if Rhapsody's certain loan to an external strategic partner is repaid in full. During June 2015, Rhapsody's external strategic partner repaid half of its loan to Rhapsody and the maturity date of the second half was extended to August 2015. The loans to Rhapsody bear interest at the greater of prime plus 5.25% or 9% per annum, and interest accrues and is due upon final maturity. As of June 30, 2015, RealNetworks accrued $0.1 million of interest income on the loan which is included in Interest income, net on the unaudited condensed consolidated statements of operations and comprehensive income (loss). The interest receivable is included in Investment in and advances to Rhapsody on the

7



unaudited condensed consolidated balance sheet. In April 2015, RealNetworks and the other 43% owner of Rhapsody each provided a $5.0 million guaranty to Rhapsody's senior secured lender, related to the senior lender's loans to Rhapsody, which mature in April 2018. The guaranties were released in June 2015 upon the partial repayment of Rhapsody's loan by the external strategic partner.
Summarized financial information for Rhapsody, which represents 100% of their financial information, is as follows (in thousands):
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Net revenue
$
50,063

 
$
42,427

 
$
96,387

 
$
84,430

Gross profit
7,753

 
7,870

 
15,843

 
16,991

Net loss
(12,061
)
 
(4,717
)
 
(20,985
)
 
(6,347
)
Note 5
Fair Value Measurements
Items Measured at Fair Value on a Recurring Basis
The following table presents information about our financial assets that have been measured at fair value on a recurring basis as of June 30, 2015 and December 31, 2014, and indicates the fair value hierarchy of the valuation inputs utilized to determine such fair value (in thousands).

 
Fair Value Measurements as of
 
Amortized Cost as of
 
June 30, 2015
 
June 30, 2015
 
Level 1
 
Level 2
 
Level 3
 
Total
 
 
Cash and cash equivalents:
 
 
 
 
 
 
 
 
 
Cash
$
21,147

 
$

 
$

 
$
21,147

 
$
21,147

Money market funds
11,856

 

 

 
11,856

 
11,856

Corporate notes and bonds

 
59,660

 

 
59,660

 
59,660

Total cash and cash equivalents
33,003

 
59,660

 

 
92,663

 
92,663

Short-term investments:
 
 
 
 
 
 
 
 
 
Corporate notes and bonds

 
18,337

 

 
18,337

 
18,332

U.S. government agency securities

 

 

 

 

Total short-term investments

 
18,337

 

 
18,337

 
18,332

Restricted cash equivalents and investments

 
3,000

 

 
3,000

 
3,000

Equity investment in publicly traded securities
2,394

 

 

 
2,394

 
362

Warrant issued by Rhapsody (included in Other assets)

 

 
1,128

 
1,128

 

Total
$
35,397

 
$
80,997

 
$
1,128

 
$
117,522

 
$
114,357



8



 
Fair Value Measurements as of
 
Amortized Cost as of
 
December 31, 2014
 
December 31, 2014
 
Level 1
 
Level 2
 
Level 3
 
Total
 
 
Cash and cash equivalents:
 
 
 
 
 
 
 
 
 
Cash
$
30,105

 
$

 
$

 
$
30,105

 
$
30,105

Money market funds
11,629

 

 

 
11,629

 
11,630

Corporate notes and bonds

 
61,519

 

 
61,519

 
61,520

Total cash and cash equivalents
41,734

 
61,519

 

 
103,253

 
103,255

Short-term investments:
 
 
 
 
 
 
 
 
 
Corporate notes and bonds

 
51,453

 

 
51,453

 
51,438

U.S. government agency securities
7,000

 

 

 
7,000

 
7,000

Total short-term investments
7,000

 
51,453

 

 
58,453

 
58,438

Restricted cash equivalents and investments

 
3,000

 

 
3,000

 
3,000

Equity investment in publicly traded securities
2,676

 

 

 
2,676

 
428

Total
$
51,410

 
$
115,972

 
$

 
$
167,382

 
$
165,121


Restricted cash equivalents and investments amounts as of June 30, 2015, and December 31, 2014 relate to cash pledged as collateral against a letter of credit in connection with a lease agreement.
Realized gains or losses on sales of short-term investment securities for the quarters and six months ended June 30, 2015 and 2014 were not significant. Gross unrealized gains and gross unrealized losses on short-term investment securities as of June 30, 2015 and December 31, 2014 were also not significant.
Investments with remaining contractual maturities of five years or less are classified as short-term because the investments are marketable and highly liquid, and we have the ability to utilize them for current operations. Contractual maturities of short-term investments as of June 30, 2015 (in thousands):
 
 
Estimated
Fair Value
Within one year
$
16,915

Between one year and five years
1,422

Total short-term investments
$
18,337

Our equity investment in a publicly traded company as of June 30, 2015 and December 31, 2014 consisted of J-Stream Inc., a Japanese media services company. This equity investment is accounted for as available for sale.
During the quarter and six months ended June 30, 2015, we sold a portion of J-Stream shares we held, resulting in cash proceeds of $0.1 million and $0.5 million, respectively and pre-tax gains of $0.1 million and $0.4 million, respectively. In March 2014, we sold a portion of the J-Stream shares we held, resulting in cash proceeds of $2.8 million and a pre-tax gain of $2.4 million. The gains on the sale of these securities are reported in Other income (expense), net, in the unaudited condensed consolidated statements of operations and comprehensive income (loss).
In February 2015, Rhapsody issued warrants to purchase Rhapsody common shares to each of RealNetworks and Rhapsody's one other 43% stockholder. The warrants were issued as compensation for past services provided by RealNetworks and the other 43% stockholder, and both warrants covered the same number of underlying shares. The exercise price of the warrants was equal to the fair value of the underlying shares on the issuance date, and we used the Black-Scholes option-pricing model to calculate the fair value of the warrant, using an expected term of 5 years and expected volatility of 55%. On the date of issuance, we recognized and recorded the $1.2 million fair value of the warrant issued to RealNetworks within Other assets in the unaudited condensed consolidated balance sheets, and as an expense reduction within General and administrative expense in the unaudited condensed consolidated statements of operations and comprehensive income (loss). The warrants are free-standing derivatives and as such their fair value is determined each quarter using updated inputs in the Black-Scholes option-pricing model. During the quarter ended June 30, 2015, the change in the fair value of the warrants from that originally recorded was insignificant.

9



Items Measured at Fair Value on a Non-recurring Basis
Certain of our assets and liabilities are measured at estimated fair value on a non-recurring basis, using Level 3 inputs. These instruments are subject to fair value adjustments only in certain circumstances (for example, when there is evidence of impairment). During the six months ended June 30, 2015 and 2014, we did not record any impairments on those assets required to be measured at fair value on a non-recurring basis.
Note 6
Allowance for Doubtful Accounts Receivable and Sales Returns
Activity in the allowance for doubtful accounts receivable and sales returns (in thousands):
 
 
Allowance For
 
Doubtful
Accounts
Receivable
 
Sales
Returns
Balances, December 31, 2014
$
1,288

 
$
354

Addition (reduction) to allowance
139

 
(194
)
Amounts written off
(98
)
 
(6
)
Foreign currency translation
(68
)
 

Balances, June 30, 2015
$
1,261

 
$
154

One customer accounted for 47% and one customer accounted for 10% of trade accounts receivable as of June 30, 2015. At December 31, 2014, one customer accounted for 21% and one other customer accounted for 15% of trade accounts receivable.
One customer accounted for 30% of consolidated revenue, or $10.2 million, and one customer accounted for 11% or $3.8 million of consolidated revenue during the quarter ended June 30, 2015; both are reflected in our Mobile Entertainment segment. One customer accounted for 24% of consolidated revenue, or $15.5 million, during the six months ended June 30, 2015, also reflected in our Mobile Entertainment segment.
One customer accounted for 21% of consolidated revenue, or $8.6 million, during the quarter ended June 30, 2014 and 19%, or $16.4 million, during the six months ended June 30, 2014 and is reflected in our Mobile Entertainment segment. One additional customer accounted for 12% of consolidated revenue, or $10.5 million, during the six months ended June 30, 2014 and is reflected in our RealPlayer segment.

Note 7
Other Intangible Assets
Other intangible assets (in thousands):
 
 
 
 
June 30, 2015
 
December 31, 2014
 
 
 
Gross
Amount
 
Accumulated
Amortization
 
Net
 
Gross
Amount
 
Accumulated
Amortization
 
Net
Amortizing intangible assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
Customer relationships
 
$
33,090

 
$
31,405

 
$
1,685

 
$
33,853

 
$
31,643

 
$
2,210

 
Developed technology
 
27,809

 
25,799

 
2,010

 
28,261

 
25,699

 
2,562

 
Patents, trademarks and tradenames
 
4,191

 
3,512

 
679

 
3,817

 
3,528

 
289

 
Service contracts
 
6,190

 
5,883

 
307

 
6,312

 
5,764

 
548

 
 
 
71,280

 
66,599

 
4,681

 
72,243

 
66,634

 
5,609

Non-amortizing intangible assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
Trademarks and tradenames
 
4,500

 

 
4,500

 
4,500

 

 
4,500

 
Total
 
$
75,780

 
$
66,599

 
$
9,181

 
$
76,743

 
$
66,634

 
$
10,109



10



An asset purchase relating to our Games business was completed in the first quarter of 2015 and resulted in an intangible asset of $0.5 million being recorded in the first quarter, the date the transaction closed. Cash for the transaction was subsequently paid in April 2015.

No impairments of other intangible assets were recognized in either of the six months ended June 30, 2015 or 2014.
Note 8
Goodwill
Changes in goodwill (in thousands):
 
Balance, December 31, 2014
$
17,355

Effects of foreign currency translation
(354
)
Balance, June 30, 2015
$
17,001


Goodwill by segment (in thousands):
 
 
June 30,
2015
RealPlayer Group
$
957

Mobile Entertainment
1,952

Games
14,092

Total goodwill
$
17,001



No impairment of goodwill was recognized in either of the six months ended June 30, 2015 or 2014.

Note 9
Accrued and Other Current Liabilities
Accrued and other current liabilities (in thousands):
 
 
June 30, 2015
 
December 31, 2014
Royalties and other fulfillment costs
$
4,038

 
$
4,868

Employee compensation, commissions and benefits
6,603

 
7,711

Sales, VAT and other taxes payable
6,007

 
5,896

Other
6,155

 
6,811

Total accrued and other current liabilities
$
22,803

 
$
25,286


Note 10
Restructuring Charges
Restructuring and other charges in 2015 and 2014 consist of costs associated with the ongoing reorganization of our business operations and our ongoing expense re-alignment efforts. The expense amounts in both years relate primarily to severance costs due to workforce reductions.
Restructuring charges are as follows (in thousands):

11



 
Employee Separation Costs
Costs incurred and charged to expense for the six months ended June 30, 2015
$
2,449

Costs incurred and charged to expense for the six months ended June 30, 2014
$
1,757


Changes to the accrued restructuring liability (which is included in Accrued and other current liabilities) for 2015 (in thousands) are as follows:
 
Employee Separation Costs
Accrued liability at December 31, 2014
$
449

Costs incurred and charged to expense for the six months ended June 30, 2015
2,449

Cash payments
(1,201
)
Accrued liability at June 30, 2015
$
1,697


Note 11
Lease Exit and Related Charges
As a result of the reduction in use of RealNetworks' office space, losses have been recognized representing rent and contractual operating expenses over the remaining life of the leases, and related write-downs of leasehold improvements to their estimated fair value. We may incur similar charges in the future.
Changes to accrued lease exit and related charges (which is included in Accrued and other current liabilities) for 2015 (in thousands) are as follows:
 
Accrued loss at December 31, 2014
$
234

Additions and adjustments to the lease loss accrual, including sublease income
83

Less amounts paid, net of sublease amounts
(102
)
Accrued loss at June 30, 2015
$
215


12



Note 12
Shareholders’ Equity
Accumulated Other Comprehensive Income (Loss)

Changes in components of accumulated other comprehensive income (in thousands):
 
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
 
 
2015
 
2014
 
2015
 
2014
Investments
 
 
 
 
 
 
 
 
 
Accumulated other comprehensive income (loss), beginning of period
 
$
2,158

 
$
2,822

 
$
2,252

 
$
6,397

 
Unrealized gains (losses), net of tax effects of $(60), $0, $56 and $0
 
(97
)
 
(38
)
 
108

 
(1,242
)
 
Reclassification adjustments for losses (gains) included in other income (expense), net of tax effects of $0, $0, $(1) and $(4)
 
(94
)
 

 
(393
)
 
(2,371
)
 
Net current period other comprehensive income
 
(191
)
 
(38
)
 
(285
)
 
(3,613
)
 
Accumulated other comprehensive income (loss) balance, end of period
 
$
1,967

 
$
2,784

 
$
1,967

 
$
2,784

Foreign currency translation
 
 
 
 
 
 
 
 
 
Accumulated other comprehensive income (loss), beginning of period
 
$
(60,089
)
 
$
(54,117
)
 
$
(57,504
)
 
$
(54,092
)
 
Translation adjustments
 
588

 
216

 
(1,997
)
 
239

 
Reclassification adjustments for losses (gains) included in other income (expense)
 

 

 

 
(48
)
 
Net current period other comprehensive income
 
588

 
216

 
(1,997
)
 
191

 
Accumulated other comprehensive income (loss) balance, end of period
 
$
(59,501
)
 
$
(53,901
)
 
$
(59,501
)
 
$
(53,901
)
Total accumulated other comprehensive income (loss), end of period
 
$
(57,534
)
 
$
(51,117
)
 
$
(57,534
)
 
$
(51,117
)

Note 13
Income Taxes
As of June 30, 2015, there have been no material changes to RealNetworks’ uncertain tax positions disclosures as provided in Note 14 of the 2014 10-K. However, as a result of the closure of our United States federal audit for the year ended December 31, 2012, we anticipate a decrease in the Company’s total unrecognized tax benefit by an amount up to $3.3 million within the next 12 months, which will have no impact on the financial statements since the Company maintains a valuation allowance on its deferred tax assets.
We file numerous consolidated and separate income tax returns in the U.S including federal, state and local, as well as foreign jurisdictions. With few exceptions, we are no longer subject to U.S federal income tax examinations for tax years before 2013 or state, local, or foreign income tax examinations for years before 1993. We are currently under audit by various states and foreign jurisdictions for certain tax years subsequent to 1993.
Note 14
Earnings (Loss) Per Share
Basic net income (loss) per share (EPS) is computed by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted EPS is computed by dividing net income (loss) by the weighted average number of common and dilutive potential common shares outstanding during the period. Basic and diluted EPS (in thousands, except per share amounts):
 

13



 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Net income (loss)
$
(27,781
)
 
$
(21,029
)
 
$
(52,250
)
 
$
(28,799
)
 
 
 
 
 
 
 
 
Weighted average common shares outstanding used to compute basic EPS
36,106

 
35,890

 
36,105

 
35,865

Dilutive effect of stock based awards

 

 

 

Weighted average common shares outstanding used to compute diluted EPS
36,106

 
35,890


36,105


35,865

 
 
 
 
 
 
 
 
Basic EPS
$
(0.77
)
 
$
(0.59
)
 
$
(1.45
)
 
$
(0.80
)
Diluted EPS
$
(0.77
)
 
$
(0.59
)
 
$
(1.45
)
 
$
(0.80
)
During the quarter and six months ended June 30, 2015, 6.0 million and 6.1 million shares of common stock, respectively, of potentially issuable shares from stock awards were excluded from the calculation of diluted EPS because of their antidilutive effect.
During the quarter and six months ended June 30, 2014, 6.3 million and 6.2 million shares of common stock, respectively, of potentially issuable shares from stock awards were excluded from the calculation of diluted EPS because of their antidilutive effect.
Note 15
Commitments and Contingencies
We may become subject to legal proceedings, governmental investigations and claims in the ordinary course of business, including employment claims, contract-related claims, and claims of alleged infringement of third-party patents, trademarks and other intellectual property rights. Such claims, even if not meritorious, could force us to expend significant financial and managerial resources. In addition, given the broad distribution of some of our consumer products, any individual claim related to those products could give rise to liabilities that may be material to us. In the event of a determination adverse to us, we may incur substantial monetary liability, and/or be required to change our business practices. Either of these could have a material adverse effect on our consolidated financial statements.  
Note 16
Guarantees
In the ordinary course of business, RealNetworks is subject to potential obligations for standard warranty and indemnification provisions that are contained within many of our customer license and service agreements. Our warranty provisions are consistent with those prevalent in our industry, and we do not have a history of incurring losses on warranties; therefore, we do not maintain accruals for warranty-related obligations. With regard to indemnification provisions, nearly all of our carrier contracts obligate us to indemnify our carrier customers for certain liabilities that may be incurred by them. We have received in the past, and may receive in the future, claims for indemnification from carrier customers.
See Note 4, Rhapsody Joint Venture, for a discussion of the $5.0 million guaranty provided by RealNetworks in April 2015 related to a loan Rhapsody made to an external strategic partner, which was released in June 2015.
In relation to the patents and other technology assets we sold to Intel in the second quarter of 2012, we have specific obligations to indemnify Intel for breaches of the representations and warranties that we made and covenants that we agreed to in the asset purchase agreement for certain potential future intellectual property infringement claims brought by third parties against Intel. The amount of any potential liabilities related to our indemnification obligations to Intel will not be determined until a claim has been made, but we are obligated to indemnify Intel up to the amount of the gross purchase price that we received in the sale.  

14



Note 17
Segment Information
We have three reportable segments: (1) RealPlayer Group, which includes our new RealPlayer Cloud product, our RealPlayer media player software and related products and our SuperPass service; (2) Mobile Entertainment, which includes our SaaS services, our LISTEN product, and the residual components of our Helix business; and (3) Games, which includes all our games-related businesses, including licenses, online games subscription services, advertising on games sites and social network sites, microtransactions from online and social games, and mobile games.
We allocate certain corporate expenses which are directly attributable to supporting the business to our reportable segments. These corporate expenses include but are not limited to a portion of finance, legal, human resources and headquarters facilities. Remaining expenses, which are not directly attributable to supporting the business, are reported as corporate items. Also reported in our corporate segment were restructuring charges as well as lease exit and related charges, and in 2014 the extinguishment of the liability associated with our historical music business.
RealNetworks reports three reportable segments based on factors such as how we manage our operations and how our Chief Operating Decision Maker reviews results. Our Chief Operating Decision Maker is considered to be the CEO Staff (CEOS), which includes the Chief Executive Officer, Chief Financial Officer, our Presidents and General Counsel. The CEOS reviews financial information presented on both a consolidated basis and on a business segment basis. The accounting policies used to derive segment results are the same as those described in Note 1, Description of Business and Summary of Significant Accounting Policies, in the 10-K.
Segment results for the quarters and six months ended June 30, 2015 and 2014 (in thousands):
RealPlayer Group
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Revenue
$
7,344

 
$
8,556

 
$
15,357

 
$
23,771

Cost of revenue
4,317

 
3,620

 
8,429

 
7,138

Gross profit
3,027

 
4,936

 
6,928

 
16,633

Operating expenses
13,001

 
12,489

 
25,376

 
30,276

Operating income (loss)
$
(9,974
)
 
$
(7,553
)
 
$
(18,448
)
 
$
(13,643
)


Mobile Entertainment
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Revenue
$
18,515

 
$
23,182

 
$
32,995

 
$
43,095

Cost of revenue
13,079

 
14,298

 
22,585

 
26,248

Gross profit
5,436

 
8,884

 
10,410

 
16,847

Operating expenses
5,301

 
9,424

 
10,934

 
19,040

Operating income (loss)
$
135

 
$
(540
)
 
$
(524
)
 
$
(2,193
)



15



Games
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Revenue
$
8,095

 
$
9,087

 
$
16,199

 
$
19,683

Cost of revenue
2,286

 
2,717

 
5,080

 
5,846

Gross profit
5,809

 
6,370

 
11,119

 
13,837

Operating expenses
8,719

 
8,769

 
17,402

 
18,535

Operating income (loss)
$
(2,910
)
 
$
(2,399
)
 
$
(6,283
)
 
$
(4,698
)


Corporate
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
Cost of revenue
$
150

 
$
151

 
$
285

 
$
340

Extinguishment of liability

 

 

 
(10,580
)
Operating expenses
7,808

 
8,189

 
14,179

 
17,414

Operating income (loss)
$
(7,958
)
 
$
(8,340
)
 
$
(14,464
)
 
$
(7,174
)

Our customers consist primarily of consumers and corporations located in the U.S., Europe, Republic of Korea and various foreign countries (Rest of the World). Revenue by geographic region (in thousands):
 
 
Quarters Ended
June 30,
 
Six Months Ended
June 30,
 
2015
 
2014
 
2015
 
2014
United States
$
12,303

 
$
15,092

 
$
24,652

 
$
35,520

Europe
3,728

 
6,968

 
7,891

 
15,380

Republic of Korea
12,375

 
11,092

 
18,699

 
21,386

Rest of the World
5,548

 
7,673

 
13,309

 
14,263

Total net revenue
$
33,954

 
$
40,825

 
$
64,551

 
$
86,549


Long-lived assets (which consist of equipment, software, leasehold improvements, other intangible assets, and goodwill) by geographic region (in thousands) are as follows:
 
 
June 30,
2015
 
December 31,
2014
United States
$
30,198

 
$
33,421

Europe
6,172

 
6,696

Republic of Korea
438

 
547

Rest of the World
2,777

 
3,048

Total long-lived assets
$
39,585

 
$
43,712



16



Note 18
Related Party Transactions
 See Note 4, Rhapsody Joint Venture, and Note 5, Fair Value Measurements, for details on transactions involving Rhapsody.

Note 19
Subsequent Event

As described in detail in the Current Report on Form 8-K dated July 24, 2015, we announced an agreement to sell the Slingo and Social Casino portion of our games business to Gaming Realms plc, a publicly-traded, London-based online gaming company, for $18.0 million. The consideration for the sale is comprised of $10.0 million of cash which will be paid at closing, with the remainder payable either all in cash or a mix of cash and Gaming Realms stock, at RealNetworks' election, on the first and second anniversaries of the closing. The transaction is expected to close in the third quarter of 2015 and is subject to a financing contingency, as well as other customary closing conditions.

17



Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
This Quarterly Report on Form 10-Q and the documents incorporated herein by reference contain forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on current expectations, estimates, and projections about RealNetworks’ industry, products, management’s beliefs, and certain assumptions made by management. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. All statements contained in this report that do not relate to matters of historical fact should be considered forward-looking statements. Forward-looking statements include statements with respect to:
the expected benefits and other consequences of our growth plans, strategic initiatives, and restructurings;
our expected introduction, and related monetization, of new and enhanced products, services and technologies across our businesses;
future revenues, operating expenses, income and other taxes, tax benefits, net income (loss) per diluted share available to common shareholders, acquisition costs and related amortization, and other measures of results of operations;
the effects of our past acquisitions and expectations for future acquisitions and divestitures;
plans, strategies and expected opportunities for future growth, increased profitability and innovation;
the expected financial position, performance, growth and profitability of, and investment in, our businesses and the availability of resources;
the effects of legislation, regulations, administrative proceedings, court rulings, settlement negotiations and other factors that may impact our businesses;
the continuation and expected nature of certain customer relationships;
impacts of competition and certain customer relationships on the future financial performance and growth of our businesses;
our involvement in potential claims, legal proceedings and government investigations, and the potential outcomes and effects of such potential claims, legal proceedings and governmental investigations on our business, prospects, financial condition or results of operations;
the effects of U.S. and foreign income and other taxes on our business, prospects, financial condition or results of operations; and
the effect of economic and market conditions on our business, prospects, financial condition or results of operations.
These statements are not guarantees of future performance and actual actions or results may differ materially. These statements are subject to certain risks, uncertainties and assumptions that are difficult to predict, including those noted in the documents incorporated herein by reference. Particular attention should also be paid to the cautionary language in Item 1A of Part II entitled “Risk Factors.” RealNetworks undertakes no obligation to update publicly any forward-looking statements as a result of new information, future events or otherwise, unless required by law. Readers should, however, carefully review the risk factors included in other reports or documents filed by RealNetworks from time to time with the Securities and Exchange Commission, particularly the Quarterly Reports on Form 10-Q and any Current Reports on Form 8-K.
Overview
We manage our business and report revenue and operating income (loss) in three segments: (1) RealPlayer Group, (2) Mobile Entertainment, and (3) Games. Within our RealPlayer Group, we launched RealTimesTM, a new product that builds on our RealPlayer Cloud service, in the second quarter of 2015. RealTimes has enhanced functionality, including photos, and more expansive features. Our RealPlayer Cloud users have the opportunity to freely upgrade their service to RealTimes. Although our new RealTimes and RealPlayer Cloud products have begun to generate some revenue, this group's revenue is derived mainly from the sale of our RealPlayer software and related products. Our Mobile Entertainment business generates revenue primarily from the sale of its SaaS services, which include ringback tones, music on demand, and intercarrier messaging. Our Games business, through its Slingo, GameHouse and Zylom brands, derives revenue from sales of games licenses, online games subscription services, advertising on games sites and social networks, microtransactions within online and social games, and sales of mobile games.
In July 2015, we announced the signing of an agreement to sell the Slingo and social casino portion of our games business to Gaming Realms plc, a London-based online gaming company, for $18.0 million. The transaction is expected to close in the third quarter of 2015 and is subject to certain closing conditions as further described in Note 19, Subsequent Event, to the unaudited condensed consolidated financial statements included in Item 1 of Part I of this 10-Q.
We allocate certain corporate expenses which are directly attributable to supporting our businesses, including but not limited to a portion of finance, legal, human resources and headquarters facilities, to our reportable segments. The allocation of these costs to our business units ensures accountability for financial and operational performance within each of our reportable

18



segments. Our most significant expenses relate to cost of revenue, compensating employees, and selling and marketing our products and services.
For the quarter and six months ended June 30, 2015, our consolidated revenue declined by $6.9 million and $22.0 million, respectively, compared to the same periods in 2014. Revenue declined by $4.7 million and $10.1 million in Mobile Entertainment, $1.2 million and $8.4 million in our RealPlayer Group, and $1.0 million and $3.5 million in Games.

Revenue from our legacy products continues to decline as a result of certain ongoing changes in our businesses and market-driven factors. Our SaaS business within Mobile Entertainment continues to be negatively impacted by the proliferation of smartphone applications and services, some of which do not depend on our carrier customers for distribution to consumers. In addition, we continue to experience pricing pressure from carriers for our intercarrier messaging services and we ceased investing in our Helix product in the fourth quarter of 2014. In our Games segment we continued our focus on stabilizing the subscriber base while adding social and mobile games in order to monetize on multi-platform game play experiences. In our RealPlayer Group segment, revenue has been negatively impacted as a result of our 2014 transition to a new third party distribution partner at significantly lower rates compared to our previous partner, and lower distribution in our RealPlayer Plus licensing business as we move away from our legacy products.     

As of June 30, 2015, we had $111.0 million in unrestricted cash, cash equivalents and short-term investments, compared to $161.7 million as of December 31, 2014. The 2015 decrease of cash, cash equivalents, and short-term investments from December 31, 2014 was due primarily to our ongoing negative cash flows used in operating activities that included significant cash expenditures related to new product launches, which totaled $43.6 million in the first six months of 2015.
Over the past several quarters, we have developed a plan to embrace cloud and mobile solutions as customer preferences have changed. We have implemented strategic initiatives, and executed certain restructuring efforts, all in an effort to grow our businesses, move towards profitability, and streamline our operations. In line with our growth plan, we have continued to invest in our business units, with a focus on our RealPlayer business. For example, during the first half of 2014, we released RealPlayer Cloud worldwide and in May of 2015, we launched RealTimes, our newest, feature-rich photo and video service. With approximately 13 million cumulative registered users, we expect to continue to invest in this growth initiative, predominately in the area of further product and business development. In addition, our Games group launched Slingo Adventure worldwide on Facebook and on mobile platforms during the second half of 2014, followed by the release of Slingo Shuffle and the latest title in our Delicious-branded series of casual games in the second quarter of 2015. Our investments thus far have negatively impacted our operating results, and we expect to make further investments.

    
Condensed consolidated results of operations were as follows (dollars in thousands):
 
 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Total revenue
$
33,954

 
$
40,825

 
$
(6,871
)
 
(17
)%
 
$
64,551

 
$
86,549

 
$
(21,998
)
 
(25
)%
Cost of revenue
19,832

 
20,786

 
(954
)
 
(5
)%
 
36,379

 
39,572

 
(3,193
)
 
(8
)%
Extinguishment of liability

 

 

 
N/A

 

 
(10,580
)
 
10,580

 
(100
)%
Gross profit
14,122

 
20,039

 
(5,917
)
 
(30
)%
 
28,172

 
57,557

 
(29,385
)
 
(51
)%
Gross margin
42
%
 
49
%
 
 
 
 
 
44
%
 
67
%
 
 
 
 
Operating expenses
34,829

 
38,871

 
(4,042
)
 
(10
)%
 
67,891

 
85,265

 
(17,374
)
 
(20
)%
Operating income (loss)
$
(20,707
)
 
$
(18,832
)
 
$
(1,875
)
 
(10
)%
 
$
(39,719
)
 
$
(27,708
)
 
$
(12,011
)
 
(43
)%
In the second quarter of 2015, our total consolidated revenue declined by $6.9 million, compared with the year-earlier period. The reduction in revenue resulted from a decline of $4.7 million in Mobile Entertainment, $1.2 million in our RealPlayer Group, and $1.0 million in Games, due to the factors described above. Gross margin decreased to 42% from 49% during the quarter ended June 30, 2015, in large part due to lower margins realized by our Mobile Entertainment and RealPlayer groups, as described in more detail in Segment Operating Results below. Operating expenses decreased by $4.0 million in the quarter ended June 30, 2015, compared with the prior year, primarily due to reduced personnel and related costs of $5.0 million. These cost savings were partially offset by an increase in marketing spend of $1.0 million in our RealPlayer group to support the launch of RealTimes.
For the six months ended June 30, 2015, our total consolidated revenue declined by $22.0 million, compared with the year-earlier period. The reduction in revenue primarily resulted from a decline of $10.1 million in our Mobile Entertainment

19



segment, mostly attributable to a decline in our ringback tone and music on demand businesses. Revenue decreased by $8.4 million in our RealPlayer Group due to the transition to a new third party distribution arrangement in the second quarter of 2014 at significantly lower rates compared to our previous partner. Additionally, Games revenue decreased by $3.5 million, primarily due to a decline in sales of Games subscriptions and download PC games. Gross margin decreased to 44% from 67% for the year-earlier period primarily due to the extinguishment of the liability in the first quarter of 2014 described below. Operating expenses decreased by $17.4 million in the six months ended June 30, 2015, compared with the prior year primarily due to reductions in personnel and related costs of $10.7 million and to reduced marketing spend of $4.4 million.
During the quarter ended March 31, 2014 certain accrued royalty liabilities of $10.6 million associated with our historical music business, which had originally been recorded based on statutory rates, were extinguished.
    
    

Segment Operating Results
RealPlayer Group
RealPlayer Group segment results of operations were as follows (dollars in thousands):
 
 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Revenue
$
7,344

 
$
8,556

 
$
(1,212
)
 
(14
)%
 
$
15,357

 
$
23,771

 
$
(8,414
)
 
(35
)%
Cost of revenue
4,317

 
3,620

 
697

 
19
 %
 
8,429

 
7,138

 
1,291

 
18
 %
Gross profit
3,027

 
4,936

 
(1,909
)
 
(39
)%
 
6,928

 
16,633

 
(9,705
)
 
(58
)%
Gross margin
41
%
 
58
%
 
 
 
 
 
45
%
 
70
%
 
 
 
 
Operating expenses
13,001

 
12,489

 
512

 
4
 %
 
25,376

 
30,276

 
(4,900
)
 
(16
)%
Operating income (loss)
$
(9,974
)
 
$
(7,553
)
 
$
(2,421
)
 
(32
)%
 
$
(18,448
)
 
$
(13,643
)
 
$
(4,805
)
 
(35
)%

Total RealPlayer Group revenue decreased by $1.2 million in the quarter ended June 30, 2015, compared with the year-earlier period. This decrease was primarily a result of our transition to a new third party distribution arrangement in the second quarter of 2014 at significantly lower rates than we had with our previous partner, which resulted in a decrease to our third party distribution revenue of $1.8 million. In addition, our RealPlayer Plus license revenue continues to decline and for the quarter, decreased by $0.4 million. Our RealPlayer subscription revenue decreased by $0.1 million, due to a decrease in our SuperPass and related products offset by an increase to RealPlayer Cloud and RealTimes revenue as we move to monetize and develop RealTimes. These declines were offset, in part, by an increase in intellectual property license revenue of $1.4 million compared to the second quarter of 2014.
Total RealPlayer Group revenue decreased by $8.4 million in the six months ended June 30, 2015, compared with the year-earlier period. This decrease was primarily a result of our transition to a new third party distribution arrangement at significantly lower rates compared to our previous partner which caused a decrease in our third party distribution revenue of $8.0 million. Further contributing to the decline was a decrease in RealPlayer license revenue of $1.6 million. Subscription revenue declined by $0.5 million due to a decrease in our SuperPass and related products offset by an increase to our RealPlayer Cloud and RealTimes revenue. These decreases were offset in part by an increase of $2.1 million for distribution of intellectual property licenses compared with the year-earlier period.
Cost of revenue increased by $0.7 million during the quarter ended June 30, 2015, compared with the year-earlier period. This increase was primarily due to higher bandwidth costs related to our RealPlayer Cloud and RealTimes products of $0.9 million.
Cost of revenue increased by $1.3 million during the six months ended June 30, 2015, compared with the year-earlier period. Bandwidth costs increased by $1.9 million compared with the year-earlier period, offset partially by lower royalties of $0.4 million.
Gross margin during the quarter and six months ended June 30, 2015 declined primarily as a result of our transition to a new third party distribution arrangement at significantly lower rates compared to our previous partner and a large increase in bandwidth costs to support our RealPlayer Cloud and RealTimes services.

20



Operating expenses increased by $0.5 million in the quarter ended June 30, 2015, compared with the year-earlier period primarily due to increased marketing spend related to our RealTimes product, partially offset by reductions in personnel and related costs, as well as research and development expenses as discussed below in our Consolidated Operating Expenses.
Operating expenses decreased by $4.9 million in the six months ended June 30, 2015, compared with the year-earlier period primarily due to decreased marketing spend of $3.6 million related to our transition to a new third party distribution arrangement, along with reductions in personnel and related costs of $0.9 million.
  
Mobile Entertainment
Mobile Entertainment segment results of operations were as follows (dollars in thousands): 
 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Revenue
$
18,515

 
$
23,182

 
$
(4,667
)
 
(20
)%
 
$
32,995

 
$
43,095

 
$
(10,100
)
 
(23
)%
Cost of revenue
13,079

 
14,298

 
(1,219
)
 
(9
)%
 
22,585

 
26,248

 
(3,663
)
 
(14
)%
Gross profit
5,436

 
8,884

 
(3,448
)
 
(39
)%
 
10,410

 
16,847

 
(6,437
)
 
(38
)%
Gross margin
29
%
 
38
%
 
 
 
 
 
32
%
 
39
%
 
 
 
 
Operating expenses
5,301

 
9,424

 
(4,123
)
 
(44
)%
 
10,934

 
19,040

 
(8,106
)
 
(43
)%
Operating income (loss)
$
135

 
$
(540
)
 
$
675

 
125
 %
 
$
(524
)
 
$
(2,193
)
 
$
1,669

 
76
 %
Total Mobile Entertainment revenue decreased by $4.7 million in the quarter ended June 30, 2015, compared with the year-earlier period. This decrease was primarily due to a decrease of $3.0 million in our ringback tones and intercarrier messaging businesses and a decrease in Helix licensing revenue of $1.1 million as we ceased investing in this business in the fourth quarter of 2014.
Total Mobile Entertainment revenue decreased by $10.1 million in the six months ended June 30, 2015, compared with the year-earlier period. The decline was primarily due to a decrease in our SaaS business of $7.2 million, where ringback tone revenue declined by $4.1 million and music on demand revenue declined by $2.3 million. Further, our Helix licensing revenue declined by $2.0 million as we ceased investing in this business in the fourth quarter of 2014.
Cost of revenue decreased by $1.2 million and $3.7 million in the quarter and six months ended June 30, 2015, compared with the year-earlier period, primarily related to ceasing our investment in the Helix business in the fourth quarter of 2014 and reduced music on demand revenue.
Gross margin declined for the quarter and six months ended June 30, 2015, due to a decline in higher margin revenues such as in our ringback tones business.
Operating expenses decreased by $4.1 million and $8.1 million for the quarter and six months ended June 30, 2015, compared with the year-earlier period, primarily due to reductions in personnel and related costs of $2.8 million and $5.2 million respectively, and a decrease in marketing spend of $0.6 million and $1.3 million, respectively.
Games
Games segment results of operations were as follows (dollars in thousands):
 
 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Revenue
$
8,095

 
$
9,087

 
$
(992
)
 
(11
)%
 
$
16,199

 
$
19,683

 
$
(3,484
)
 
(18
)%
Cost of revenue
2,286

 
2,717

 
(431
)
 
(16
)%
 
5,080

 
5,846

 
(766
)
 
(13
)%
Gross profit
5,809

 
6,370

 
(561
)
 
(9
)%
 
11,119

 
13,837

 
(2,718
)
 
(20
)%
Gross margin
72
%
 
70
%
 
 
 
 
 
69
%
 
70
%
 
 
 
 
Operating expenses
8,719

 
8,769

 
(50
)
 
(1
)%
 
17,402

 
18,535

 
(1,133
)
 
(6
)%
Operating income (loss)
$
(2,910
)
 
$
(2,399
)
 
$
(511
)
 
(21
)%
 
$
(6,283
)
 
$
(4,698
)
 
$
(1,585
)
 
(34
)%
Total Games revenue decreased by $1.0 million in the quarter ended June 30, 2015, compared with the year-earlier period primarily due to lower revenue from our subscription products of $1.1 million.

21



Total Games revenue decreased by $3.5 million in the six months ended June 30, 2015, compared with the year-earlier period. Lower revenue from our subscription products, advertising, and downloadable PC games, due to declines in our storefront and subscription businesses contributed $2.7 million, $1.3 million and $1.2 million, respectively, to the overall decrease. These declines were partially offset by an increase in our mobile games revenue of $1.7 million.
Cost of revenue decreased by $0.4 million and $0.8 million in the quarter and six months ended June 30, 2015, respectively, compared with the year-earlier period. The decreases were due to the decrease in partner royalties expense, which has a direct correlation with the decrease in subscription and downloadable PC games revenue. The decrease in cost of revenue was also due to a decline in our advertising business.
Gross margin showed little fluctuation during the quarter and six months ended June 30, 2015.
Operating expenses declined by $1.1 million in the six months ended June 30, 2015, compared with the year-earlier period. The decrease was due to reductions in personnel and related costs of $1.0 million.
Corporate
We allocate certain corporate expenses which are directly attributable to supporting the business to our reportable segments. These allocated corporate expenses include, but are not limited to a portion of finance, legal, human resources and headquarters facilities. Remaining expenses, which are not directly attributable to supporting the business, are reported as corporate items. All restructuring, extinguishment of liability, and lease exit and related charges, are included in the corporate segment.

Corporate segment results of operations were as follows (dollars in thousands):
 
 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Cost of revenue
$
150

 
$
151

 
$
(1
)
 
(1
)%
 
$
285

 
$
340

 
$
(55
)
 
(16
)%
Extinguishment of liability

 

 

 
N/A
 

 
(10,580
)
 
10,580

 
(100
)%
Operating expenses
7,808

 
8,189

 
(381
)
 
(5
)%
 
14,179

 
17,414

 
(3,235
)
 
(19
)%
Operating income (loss)
$
(7,958
)
 
$
(8,340
)
 
$
382

 
5
 %
 
$
(14,464
)
 
$
(7,174
)
 
$
(7,290
)
 
(102
)%
Operating expenses decreased by $0.4 million in the quarter ended June 30, 2015 compared with the year-earlier period. The decrease was primarily due to reduced personnel and related costs of $1.6 million, offset by an increase in restructuring costs of $1.0 million.
Operating expenses decreased by $3.2 million in the six months ended June 30, 2015, compared with the year-earlier period. The decrease was primarily due to reduced personnel and related costs of $3.5 million.
During the quarter ended March 31, 2014 certain accrued royalty liabilities of $10.6 million associated with our historical music business, which had originally been recorded based on statutory rates, were extinguished.
Consolidated Operating Expenses
Our operating expenses consist primarily of salaries and related personnel costs including stock based compensation, consulting fees associated with product development, sales commissions, amortization of certain intangible assets capitalized in our acquisitions, professional service fees, advertising costs, and restructuring charges. Operating expenses were as follows (dollars in thousands):
 

22



 
Quarters ended June 30,
 
Six months ended June 30,
 
2015
 
2014
 
$ Change
 
% Change
 
2015
 
2014
 
$ Change
 
% Change
Research and development
$
11,801

 
$
13,267

 
$
(1,466
)
 
(11
)%
 
$
24,180

 
$
27,326

 
$
(3,146
)
 
(12
)%
Sales and marketing
14,047

 
16,016

 
(1,969
)
 
(12
)%
 
26,884

 
37,739

 
(10,855
)
 
(29
)%
General and administrative
7,008

 
8,577

 
(1,569
)
 
(18
)%
 
14,291

 
17,894

 
(3,603
)
 
(20
)%
Restructuring and other charges
1,964

 
541

 
1,423

 
263
 %
 
2,449

 
1,757

 
692

 
39
 %
Lease exit and related charges