Immersion Corporation
IMMERSION CORP (Form: 10-Q, Received: 11/04/2016 16:12:20)

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 September 30, 2016
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 000-27969
IMMERSION CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
 
94-3180138
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
50 Rio Robles, San Jose, California 95134
(Address of principal executive offices)(Zip Code)
(408) 467-1900
(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, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
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
Number of shares of common stock outstanding at October 28, 2016 : 28,834,412 .



Table of Contents

IMMERSION CORPORATION
INDEX
 
 
 
 
 
Page
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 


2

Table of Contents

PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS

IMMERSION CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
(Unaudited)
 
 
September 30, 2016
 
December 31, 2015
ASSETS
 
 
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
61,974

 
$
25,013

Short-term investments
 
32,931

 
39,918

Accounts and other receivables (net of allowances for doubtful accounts of $0 and $15)
 
3,248

 
1,213

Prepaid expenses and other current assets
 
2,995

 
2,790

Total current assets
 
101,148

 
68,934

Property and equipment, net
 
4,068

 
4,589

Deferred income tax assets
 
25,510

 
24,633

Prepaid income taxes
 
6,502

 
6,995

Intangibles and other assets, net
 
395

 
264

Total assets
 
$
137,623

 
$
105,415

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
2,418

 
$
650

Accrued compensation
 
3,242

 
4,840

Other current liabilities
 
4,242

 
2,999

Deferred revenue
 
7,622

 
6,696

Total current liabilities
 
17,524

 
15,185

Long-term deferred revenue
 
27,489

 
2,516

Other long-term liabilities
 
926

 
1,099

Total liabilities
 
45,939

 
18,800

Contingencies (Note 13)
 

 

Stockholders’ equity:
 
 
 
 
Common stock and additional paid-in capital — $0.001 par value; 100,000,000 shares authorized; 35,439,389 and 34,845,310 shares issued, respectively; 28,817,745 and 28,329,416 shares outstanding, respectively
 
219,114

 
212,115

Accumulated other comprehensive income
 
118

 
86

Accumulated deficit
 
(81,181
)
 
(79,948
)
Treasury stock at cost: 6,621,644 and 6,515,894 shares, respectively
 
(46,367
)
 
(45,638
)
Total stockholders’ equity
 
91,684

 
86,615

Total liabilities and stockholders’ equity
 
$
137,623

 
$
105,415

See accompanying Notes to Condensed Consolidated Financial Statements.


3

Table of Contents

IMMERSION CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(In thousands, except per share amounts)
(Unaudited)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
 
Royalty and license
 
$
26,049

 
$
13,944

 
$
47,112

 
$
45,895

Development, services, and other
 
257

 
369

 
681

 
928

Total revenues
 
26,306

 
14,313

 
47,793

 
46,823

Costs and expenses:
 
 
 
 
 
 
 
 
Cost of revenues (exclusive of amortization of intangibles shown separately below)
 
51

 
117

 
133

 
347

Sales and marketing
 
3,535

 
3,198

 
10,735

 
11,078

Research and development
 
2,951

 
3,471

 
10,229

 
10,697

General and administrative
 
9,654

 
6,241

 
30,745

 
21,253

Amortization of intangibles
 
1

 
3

 
6

 
18

Total costs and expenses
 
16,192

 
13,030

 
51,848

 
43,393

Operating income (loss)
 
10,114

 
1,283

 
(4,055
)
 
3,430

Interest and other income (expense)
 
664

 
(84
)
 
909

 
(63
)
Income (loss) from continuing operations before benefit (provision) for income taxes
 
10,778

 
1,199

 
(3,146
)
 
3,367

Benefit (provision) for income taxes
 
(3,760
)
 
(1,015
)
 
1,264

 
(1,647
)
Income (loss) from continuing operations
 
7,018

 
184

 
(1,882
)
 
1,720

Income from discontinued operations
 

 

 
649

 

Net income (loss)
 
$
7,018

 
$
184

 
$
(1,233
)
 
$
1,720

Basic net income (loss) per share:
 
 
 
 
 
 
 
 
Continuing operations
 
0.24

 
0.01

 
(0.07
)
 
0.06

Discontinued operations
 
0.00

 
0.00

 
0.02

 
0.00

Total
 
$
0.24

 
$
0.01

 
$
(0.05
)
 
$
0.06

Shares used in calculating basic net income (loss) per share
 
28,849

 
28,190

 
28,726

 
28,027

Diluted net income (loss) per share:

 
 
 
 
 
 
 
 
Continuing operations

 
0.24

 
0.01

 
(0.07
)
 
0.06

Discontinued operations

 
0.00

 
0.00

 
0.02

 
0.00

Total

 
$
0.24

 
$
0.01

 
$
(0.05
)
 
$
0.06

Shares used in calculating diluted net income (loss) per share
 
29,298

 
29,134

 
28,726

 
28,893

Other comprehensive income
 
 
 
 
 
 
 
 
Change in unrealized gains on short-term investments
 
(23
)
 
5

 
32

 
9

Total other comprehensive income
 
(23
)
 
5

 
32

 
9

Total comprehensive income (loss)
 
$
6,995

 
$
189

 
$
(1,201
)
 
$
1,729

See accompanying Notes to Condensed Consolidated Financial Statements.

4

Table of Contents

IMMERSION CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
 
Nine Months Ended September 30,
 
 
2016
 
2015
Cash flows provided by operating activities:
 
 
 
 
Net income (loss)
 
$
(1,233
)
 
$
1,720

Adjustments to reconcile net income (loss) to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization of property and equipment
 
677

 
772

Amortization of intangibles
 
6

 
18

Stock-based compensation
 
4,803

 
4,245

Allowance for doubtful accounts
 
2

 
(6
)
Loss on disposal of equipment
 

 
10

Income from discontinued operations

 
(649
)
 

Changes in operating assets and liabilities:
 
 
 
 
Accounts and other receivables
 
(2,037
)
 
1,524

Deferred income taxes
 
(1,228
)
 
10,417

Prepaid income taxes
 
493

 
(7,495
)
Prepaid expenses and other current assets
 
(205
)
 
(2,177
)
Other operating assets
 
(258
)
 
(24
)
Accounts payable
 
1,768

 
870

Accrued compensation and other current liabilities
 
(342
)
 
1,169

Deferred revenue
 
25,899

 
1,041

Other long-term liabilities
 
(173
)
 
240

Net cash provided by operating activities
 
27,523

 
12,324

Cash flows provided by investing activities:
 
 
 
 
Purchases of short-term investments
 
(25,360
)
 
(28,972
)
Proceeds from maturities of short-term investments
 
32,500

 
38,000

Purchases of property and equipment
 
(169
)
 
(4,383
)
Proceeds from discontinued operations
 
1,000

 

Net cash provided by investing activities
 
7,971

 
4,645

Cash flows provided by financing activities:
 
 
 
 
Issuance of common stock under employee stock purchase plan
 
307

 
367

Exercise of stock options
 
1,889

 
1,451

Purchase of treasury stock
 
(729
)
 

Net cash provided by financing activities
 
1,467

 
1,818

Net increase in cash and cash equivalents
 
36,961

 
18,787

Cash and cash equivalents:
 
 
 
 
Beginning of period
 
25,013

 
14,380

End of period
 
$
61,974

 
$
33,167

Supplemental disclosure of cash flow information
 
 
 
 
Cash paid (received) for taxes
 
$
(427
)
 
$
136

Supplemental disclosure of noncash operating, investing, and financing activities
 
 
 
 
Amounts accrued for property and equipment
 
$
5

 
$
30

Release of Restricted Stock Units and Awards under company stock plan
 
$
1,945

 
$
2,771

See accompanying Notes to Condensed Consolidated Financial Statements.

5


IMMERSION CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2016
(Unaudited)
1.    SIGNIFICANT ACCOUNTING POLICIES

Description of Business
Immersion Corporation (the “Company”) was incorporated in 1993 in California and reincorporated in Delaware in 1999. The Company focuses on the creation, design, development, and licensing of innovative haptic technologies that allow people to use their sense of touch more fully as they engage with cutting-edge products and experience the digital world around them. The Company has adopted a “hybrid” business model, under which it provides advanced tactile software, related tools, and technical assistance to certain customers; and offers licenses to the Company's patented intellectual property (“IP”) to other customers.
Principles of Consolidation and Basis of Presentation
The condensed consolidated financial statements include the accounts of Immersion Corporation and its wholly-owned subsidiaries: Immersion Canada Corporation; Immersion International, LLC; Immersion Medical, Inc.; Immersion Japan K.K.; Immersion Ltd.; Immersion Software Ireland Ltd.; Haptify, Inc.; Immersion (Shanghai) Science & Technology Company, Ltd.; and Immersion Technology International Ltd. All intercompany accounts, transactions, and balances have been eliminated in consolidation.
The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X and, therefore, do not include all information and footnotes necessary for a complete presentation of the financial position, results of operations, and cash flows, in conformity with GAAP. These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements included in the Company’s Annual Report on Form 10-K, for the fiscal year ended December 31, 2015 . In the opinion of management, all adjustments consisting of only normal and recurring items necessary for the fair presentation of the financial position and results of operations for the interim periods presented have been included.
The results of operations for the three months and nine months ended September 30, 2016 are not necessarily indicative of the results to be expected for the full year.
Segment Information
The Company develops, licenses, and supports a wide range of software and IP that more fully engage users’ sense of touch when operating digital devices. The Company focuses on the following target application areas: mobility and consumer electronics, automotive, gaming, commercial and industrial, and medical. The Company’s chief operating decision maker (“CODM”) is the Chief Executive Officer. The CODM allocates resources to and assesses the performance of the Company using information about its financial results as one operating and reporting segment.
Revenue Recognition
The Company recognizes revenues in accordance with applicable accounting standards, including ASC 605-10-S99, “Revenue Recognition” (“ASC 605-10-S99”); ASC 605-25, “Multiple Element Arrangements” (“ASC 605-25”); and ASC 985-605, “Software-Revenue Recognition” (“ASC 985-605”). The Company derives its revenues from two principal sources: royalty and license fees, and development contract and service fees. As described below, management judgments, assumptions, and estimates must be made and used in connection with the revenue recognized in any accounting period. Material differences may result in the amount and timing of revenue for any period based on the judgments and estimates made by management. Specifically, in connection with each transaction, the Company must evaluate whether: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the fee is fixed or determinable, and (iv) collectibility is probable. The Company applies these criteria as discussed below.


6


Persuasive evidence of an arrangement exists . For a license arrangement, the Company requires a written contract, signed by both the customer and the Company.
Delivery has occurred . The Company delivers software to customers physically and also delivers software electronically. For electronic deliveries, delivery occurs when the Company provides the customer access codes or “keys” that allow the customer to take immediate possession of the software.
The fee is fixed or determinable . The Company’s arrangement fee is based on the use of standard payment terms, which are those that are generally offered to the majority of customers. For transactions involving extended payment terms, the Company deems these fees not to be fixed or determinable for revenue recognition purposes and revenue is deferred until the fees become due and payable.
Collectibility is probable. To recognize revenue, the Company must judge collectibility of fees, which is done on a customer-by-customer basis pursuant to the Company’s credit review policy. The Company typically sells to customers with whom there is a history of successful collection. For new customers, the Company evaluates the customer’s financial condition and ability to pay. If it is determined that collectibility is not probable based upon the credit review process or the customer’s payment history, revenue is recognized when payment is received.
Royalty and license revenue — The Company licenses its patents and software to customers in a variety of industries such as mobility, gaming, automotive, and medical devices. Certain of these are variable fee arrangements where the royalties earned by the Company are based on unit or sales volumes of the respective licensees. The Company also enters into fixed license fee arrangements. The terms of the royalty agreements generally require licensees to give notification of royalties due to the Company within 30 45 days of the end of the quarter during which their related sales occur. As the Company is unable to reliably estimate the licensees’ sales in any given quarter to determine the royalties due to it, the Company recognizes royalty revenues based on royalties reported by licensees and when all revenue recognition criteria are met. Certain royalties are based upon customer shipments or revenues and could be subject to change and may result in out of period adjustments. The Company recognizes fixed license fee revenue for licenses when earned under the terms of the agreements, which is generally recognized on a straight-line basis over the expected term of the license.
Development, services, and other revenue — Development, services, and other revenue are composed of engineering services (engineering services and/or development contracts), and in limited cases, post contract customer support (“PCS”). Engineering services revenues are recognized under the proportional performance accounting method based on physical completion of the work to be performed or completed performance method. A provision for losses on contracts is made, if necessary, in the period in which the loss becomes probable and can be reasonably estimated. Revisions in estimates are reflected in the period in which the conditions become known. To date, such losses have not been significant. Revenue from PCS is typically recognized over the period of the ongoing obligation, which is generally consistent with the contractual term.
Multiple element arrangements — The Company enters into multiple element arrangements in which customers purchase time-based non-exclusive licenses that cannot be resold to others, which include a combination of software and/or IP licenses, engineering services, and in limited cases PCS. For arrangements that are software based and include software and engineering services, the services are generally not essential to the functionality of the software, and customers may purchase engineering services to facilitate the adoption of the Company’s technology, but they may also decide to use their own resources or appoint other engineering service organizations to perform these services. For arrangements that are in substance subscription arrangements, the entire arrangement fee is recognized ratably over the contract term, subject to any limitations related to extended payment terms. For arrangements involving upfront fees for services and royalties earned by the Company based on unit or sales volumes of the respective licensees, and the services are performed ratably over the arrangement or are front-end loaded, the upfront fees are recognized ratably over the contract term and royalties based on unit or sales volume are recognized when they become fixed and determinable. As the Company is unable to reliably estimate the licensees’ sales in any given quarter to determine the royalties due to it, the Company recognizes per unit or sales volume driven royalty revenues based on royalties reported by licensees and when all revenue recognition criteria are met.
Recent Accounting Pronouncements
In March 2016, the FASB issued ASU 2016-09 “Compensation - Stock Compensation: Topic 718” (“ASU 2016-09”) which simplifies several aspects of the accounting for share-based payment transactions, including income tax consequences, classification of awards as either equity or liabilities, and classification in the statement of cash flows. The standard is effective for periods beginning after December 15, 2016, with early adoption permitted. The Company is currently in the process of evaluating the effect of this standard on its consolidated financial statements, but does not believe that it will have a significant impact.
In February 2016, the FASB issued ASU 2016-02 “Leases: Topic 842” (“ASU 2016-02”), which supersedes the existing guidance for lease accounting in Topic 840, Leases. The FASB issued the ASU to increase transparency and comparability

7


among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. ASU 2016-02 requires lessees to recognize a lease liability and a right-of-use asset for all leases. Lessor accounting remains largely unchanged. This ASU is effective for periods beginning after December 15, 2018, with early adoption permitted. An entity will be required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.
In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09 “Revenue from Contracts with Customers: Topic 606” (“ASU 2014-09”) which will supersede the current revenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific guidance. The core principle of ASU 2014-09 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. Further, the guidance requires improved disclosures to help users of financial statements better understand the nature, amount, timing, and uncertainty of revenue that is recognized. In August 2015, the FASB issued ASU No. 2015-14 “Revenue from Contracts with Customers: Deferral of the Effective Date”, which deferred the effective date of ASU 2014-09 for periods beginning after December 15, 2016 to December 15, 2017, with early adoption permitted but not earlier than the original effective date. In March 2016, the FASB issued ASU 2016-08 "Revenue from Contracts with Customers (Topic 606), Principal versus Agent Considerations" ("ASU 2016-08") which further provides updates to revenue recognition guidance relating to considerations for reporting revenue gross versus net. In April 2016, the FASB issued ASU 2016-10 "Revenue from Contracts with Customers (Topic 606), Identifying Performance Obligations and Licensing" ("ASU 2016-10"), which further provides additional updates to revenue recognition guidance relating to performance obligations and accounting for licensing revenue. In May 2016, the FASB issued ASU 2016-12 "Revenue from Contracts with Customers (Topic 606), Narrow-Scope Improvements and Practical Expedients" ("ASU 2016-12") which further provides updates to revenue recognition guidance relating to scope and practical expedients for revenue recognition. Accordingly, ASU 2014-09, ASU 2016-08, ASU 2016-10, and ASU 2016-12 are effective for the Company and are expected to be adopted in the first quarter of fiscal 2018. These standards permit companies to either apply the requirements retrospectively to all prior periods presented, or apply the requirements in the year of adoption through a cumulative adjustment. The Company is in the process of determining the method of adoption and evaluating the impact on its consolidated financial statements.


2.    FAIR VALUE MEASUREMENTS
Cash Equivalents and Short-term Investments
The financial instruments of the Company measured at fair value on a recurring basis are cash equivalents and short-term investments.
The Company’s fixed income available-for-sale securities consist of high quality, investment grade securities. The Company values these securities based on pricing from pricing vendors, who may use quoted prices in active markets for identical assets (Level 1) or inputs other than quoted prices that are observable either directly or indirectly (Level 2) in determining fair value.
The types of instruments valued based on quoted market prices in active markets include money market accounts. Such instruments are generally classified within Level 1 of the fair value hierarchy.
The types of instruments valued based on quoted prices in markets that are less active, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency are generally classified within Level 2 of the fair value hierarchy and include U.S. treasury securities.
The types of instruments valued based on unobservable inputs which reflect the reporting entity’s own assumptions or data that market participants would use in valuing an instrument are generally classified within Level 3 of the fair value hierarchy. The Company had no Level 3 instruments as of September 30, 2016 and December 31, 2015 .
Financial instruments measured at fair value on a recurring basis as of September 30, 2016 and December 31, 2015 are classified based on the valuation technique in the table below:

8


 
 
September 30, 2016
 
 
 
 
Fair value measurements using
 
 
 
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
 
 
(In thousands)
Assets:
 
 
 
 
 
 
 
 
U.S. Treasury securities
 
$

 
$
32,931

 
$

 
$
32,931

Money market accounts
 
34,009

 

 

 
34,009

Total assets at fair value
 
$
34,009

 
$
32,931

 
$

 
$
66,940

The above table excludes $28.0 million of cash held in banks.
 
 
 
December 31, 2015
 
 
 
 
Fair value measurements using
 
 
 
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
 
 
(In thousands)
Assets:
 
 
 
 
 
 
 
 
U.S. Treasury securities
 
$

 
$
39,918

 
 
 
$
39,918

Money market accounts
 
14,032

 

 

 
14,032

Total assets at fair value
 
$
14,032

 
$
39,918

 
$

 
$
53,950

The above table excludes $11.0 million of cash held in banks.
U.S. Treasury securities are classified as short-term investments, and money market accounts are classified as cash equivalents on the Company’s condensed consolidated balance sheets.
Short-term Investments
 
 
 
September 30, 2016
 
 
Amortized
Cost
 
Gross
Unrealized
Holding
Gains
 
Gross
Unrealized
Holding
Losses
 
Fair
Value
 
 
(In thousands)
U.S. Treasury securities
 
$
32,914

 
$
17

 
$

 
$
32,931

Total
 
$
32,914

 
$
17

 
$

 
$
32,931

 
 
December 31, 2015
 
 
Amortized
Cost
 
Gross
Unrealized
Holding
Gains
 
Gross
Unrealized
Holding
Losses
 
Fair
Value
 
 
(In thousands)
U.S. Treasury securities
 
$
39,933

 
$

 
$
(15
)
 
$
39,918

Total
 
$
39,933

 
$

 
$
(15
)
 
$
39,918


9


The contractual maturities of the short-term investments (classified as available-for-sale securities) on September 30, 2016 and December 31, 2015 were all due within one year. There were no transfers of instruments between Level 1 and 2 during the three months and nine months ended September 30, 2016 and the year ended December 31, 2015 .

3.    ACCOUNTS AND OTHER RECEIVABLES
 
 
 
September 30, 2016
 
December 31, 2015
 
 
(In thousands)
Trade accounts receivable
 
$
2,871

 
$
935

Receivables from vendors and other
 
377

 
278

Accounts and other receivables
 
$
3,248

 
$
1,213


4.    PROPERTY AND EQUIPMENT
 
 
 
September 30, 2016
 
December 31, 2015
 
 
(In thousands)
Computer equipment and purchased software
 
$
3,513

 
$
3,564

Machinery and equipment
 
886

 
923

Furniture and fixtures
 
1,340

 
1,361

Leasehold improvements
 
3,853

 
3,838

Total
 
9,592

 
9,686

Less accumulated depreciation
 
(5,524
)
 
(5,097
)
Property and equipment, net
 
$
4,068

 
$
4,589


5.    INTANGIBLES AND OTHER ASSETS
 
 
September 30, 2016
 
December 31, 2015
 
 
(In thousands)
Purchased patents and other purchased intangible assets
 
$
4,605

 
$
4,605

Less: Accumulated amortization of purchased patents and other purchased intangibles
 
(4,605
)
 
(4,599
)
Purchased patents and other purchased intangible assets, net
 

 
6

Other assets
 
395

 
258

Intangibles and other assets, net
 
$
395

 
$
264

The Company amortizes its intangible assets related to purchased patents over their estimated useful lives, generally 10 years from the purchase date. The Company recorded $1,000 and $6,000 in amortization of purchased patents in the three months and nine months ended September 30, 2016 , respectively. The Company recorded $3,000 and $18,000 in amortization of purchased patents in the three months and nine months ended September 30, 2015 , respectively.  



10


6.    OTHER CURRENT LIABILITIES
 
 
 
September 30, 2016
 
December 31, 2015
 
 
(In thousands)
Accrued legal
 
$
3,154

 
$
1,458

Accrued services
 
341

 
849

Income taxes payable
 
135

 
129

Other current liabilities
 
612

 
563

Total other current liabilities
 
$
4,242

 
$
2,999


7.     LONG-TERM DEFERRED REVENUE
Long-term deferred revenue consisted of the following:
 
 
September 30, 2016
 
December 31, 2015
 
 
(In thousands)
Deferred revenue for Sony Computer Entertainment
 
$

 
$
1,263

Other deferred revenue
 
27,489

 
1,253

Long-term deferred revenue
 
$
27,489

 
$
2,516

Long-term deferred revenue primarily represents billings for license and other fees that have been deferred and are being recognized over the expected term of the licenses.

8.    STOCK-BASED COMPENSATION
Stock Options and Awards
The Company’s equity incentive program is a long-term retention program that is intended to attract, retain, and provide incentives for talented employees, consultants, officers, and directors and to align stockholder and employee interests. The Company may grant time based options, market condition based options, stock appreciation rights, restricted stock, restricted stock units (“RSUs”), performance shares, performance units, and other stock-based or cash-based awards to employees, officers, directors, and consultants. Under this program, stock options may be granted at prices not less than the fair market value on the date of grant for stock options. These options generally vest over four years and expire from seven to ten  years from the date of grant. In addition to time based vesting, market condition based options are subject to a market condition: the closing price of the Company stock must exceed a certain level for a number of trading days within a specified timeframe or the options will be cancelled before the expiration of the options. Restricted stock generally vests over one year. RSUs generally vest over three years. Awards granted other than an option or stock appreciation right reduce the common stock shares available for grant under the program by 1.75 shares for each share issued.
 
September 30, 2016
Common stock shares available for grant
451,337

Standard and market condition stock options outstanding
3,661,163

Restricted stock awards outstanding
77,540

RSU's outstanding
527,410

Employee Stock Purchase Plan
The Company has an Employee Stock Purchase Plan (“ESPP”). Under the ESPP, eligible employees may purchase common stock through payroll deductions at a purchase price of 85% of the lower of the fair market value of the Company’s common stock at the beginning of the offering period or the purchase date. Participants may not purchase more than 2,000  shares in a six -month offering period or purchase stock having a value greater than $25,000 in any calendar year as measured at the beginning of the offering period. A total of 1,000,000  shares of common stock has been reserved for issuance under the ESPP. As of September 30, 2016 , 649,383 shares had been purchased since the inception of the ESPP in 1999. Under ASC 718-10, the ESPP is considered a compensatory plan and the Company is required to recognize compensation cost related to the fair value of the award purchased under the ESPP. Shares purchased under the ESPP for the nine months ended

11


September 30, 2016 are listed below. Shares purchased under the ESPP for the nine months ended September 30, 2015 are 45,820 . The intrinsic value listed below is calculated as the difference between the market value on the date of purchase and the purchase price of the shares.
 
 
 
Nine Months Ended September 30, 2016
Shares purchased under ESPP
45,825

Average price of shares purchased under ESPP
$
6.70

Intrinsic value of shares purchased under ESPP
$
54,000

Summary of Standard Stock Options
The following table sets forth the summary of activity with respect to standard stock options granted under the Company’s stock option plans for the nine months ended September 30, 2016 :
 
 
Nine Months Ended September 30, 2016
Beginning outstanding balance
 
3,596,533

Granted
 
638,469

Exercised
 
(312,676
)
Forfeited
 
(239,826
)
Expired
 
(246,337
)
Ending outstanding balance
 
3,436,163

Aggregate intrinsic value of options exercised
 
$
732,000

Weighted average fair value of options granted
 
3.60


The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the exercise price of the Company’s common stock for the options that were in-the-money.
Information regarding these standard stock options outstanding at September 30, 2016 is summarized below:
 
 
Number of
Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life (years)
 
Aggregate
Intrinsic
Value
(in millions)
September 30, 2016
 
 
 
 
 
 
 
 
Options outstanding
 
3,436,163

 
$
8.43

 
4.10
 
$
3.5

Options vested and expected to vest using estimated forfeiture rates
 
3,220,554

 
8.42

 
3.98
 
3.4

Options exercisable
 
2,131,951

 
8.17

 
3.26
 
3.1

Summary of Market Condition Based Stock Options
The following table sets forth activity with respect to market condition based stock options granted under the Company’s stock option plans for the nine months ended September 30, 2016 :

12


 
 
Nine Months Ended September 30, 2016
Beginning outstanding balance
 
200,000

Granted
 
75,000

Exercised
 

Canceled
 
(50,000
)
Ending outstanding balance
 
225,000

Aggregate intrinsic value of options exercised
 
$

Weighted average fair value of options granted
 
3.68

Information regarding these market condition based stock options outstanding at September 30, 2016 is summarized below:
 
 
Number of
Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life (years)
 
Aggregate
Intrinsic
Value
(in millions)
September 30, 2016
 
 
 
 
 
 
 
 
Options outstanding
 
225,000

 
$
8.39

 
5.75
 
$

Options vested and expected to vest using estimated forfeiture rates
 
205,625

 
8.38

 
5.74
 

Options exercisable
 
56,250

 
8.09

 
5.42
 

Summary of Restricted Stock Units
RSU activity for the nine months ended September 30, 2016 was as follows:
 
 
Nine Months Ended September 30, 2016
Beginning outstanding balance
 
487,117

Awarded
 
320,880

Released
 
(214,222
)
Forfeited
 
(66,365
)
Ending outstanding balance
 
527,410

Weighted average grant date fair value of RSUs granted
 
$
8.04

Total fair value of RSUs released
 
1,806,000

Information regarding RSUs outstanding at September 30, 2016 is summarized below:
 
 
Number of
Shares
 
Weighted
Average
Remaining
Contractual
Life (years)
 
Aggregate
Intrinsic
Value
(in millions)
September 30, 2016
 
 
 
 
 
 
RSUs outstanding
 
527,410

 
1.15
 
$
4.3

RSUs vested and expected to vest using estimated forfeiture rates
 
420,790

 
1.03
 
3.4


13


Summary of Restricted Stock Awards
Restricted stock award activity for the nine months ended September 30, 2016 was as follows:
 
 
Nine Months Ended September 30, 2016
Beginning outstanding balance
 
21,356

Awarded
 
77,540

Released
 
(21,356
)
Forfeited
 

Ending outstanding balance
 
77,540

Weighted average grant date fair value of restricted stock awarded
 
$
6.52

Total fair value of restricted stock awards released
 
139,000

Stock Plan Assumptions
The assumptions used to value option grants under the Company’s stock plans were as follows:
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Standard Stock Options
 
 
 
 
 
 
 
 
Expected life (in years)
 
4.5

 
4.6

 
4.5

 
4.7

Volatility
 
55
%
 
56
%
 
55
%
 
56
%
Interest rate
 
0.8
%
 
1.5
%
 
1.1
%
 
1.4
%
Dividend yield
 
N/A

 
N/A

 
N/A

 
N/A


 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Market Condition Based Stock Options
 
 
 
 
 
 
 
 
Expected life (in years)
 
N/A
 
N/A
 
7.0

 
7.0

Volatility
 
N/A
 
N/A
 
59
%
 
65
%
Interest rate
 
N/A
 
N/A
 
1.6
%
 
1.9
%
Dividend yield
 
N/A
 
N/A
 
N/A

 
N/A

 
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Employee Stock Purchase Plan
 
 
 
 
 
 
 
 
Expected life (in years)
 
0.5

 
0.5

 
0.5

 
0.5

Volatility
 
53
%
 
53
%
 
53
%
 
48
%
Interest rate
 
0.4
%
 
0.2
%
 
0.4
%
 
0.1
%
Dividend yield
 
N/A

 
N/A

 
N/A

 
N/A


14


Compensation Costs
Total stock-based compensation recognized in the condensed consolidated statements of operations and comprehensive loss is as follows:
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
 
 
(In thousands)
Statement of Operations Classifications
 
 
 
 
 
 
 
 
Sales and marketing
 
$
335

 
$
302

 
$
895

 
$
853

Research and development
 
257

 
276

 
1,041

 
1,036

General and administrative
 
622

 
698

 
2,867

 
2,356

Total
 
$
1,214

 
$
1,276

 
$
4,803

 
$
4,245


As of September 30, 2016 , there was $7.4 million of unrecognized compensation cost, adjusted for estimated forfeitures, related to non-vested stock options, restricted stock awards and RSUs granted to the Company’s employees and directors. This cost will be recognized over an estimated weighted-average period of approximately 2.60 years for standard options, 2.75 years for market condition based options, 1.90 years for RSUs, and 0.67 years for restricted stock awards. Total unrecognized compensation cost will be adjusted for future changes in estimated forfeitures.

9.    STOCKHOLDERS’ EQUITY
Accumulated Other Comprehensive Income
The changes in accumulated other comprehensive income are included in the table below.
 
 
Nine Months Ended September 30, 2016
 
 
Unrealized Gains
and Losses on
Available-for Sale
Securities
 
Foreign
Currency
Items
 
Total
 
 
(In thousands)
Beginning balance
 
$
(15
)
 
$
101

 
$
86

Other comprehensive income before reclassifications
 
32

 

 
32

Amounts reclassified from accumulated other comprehensive income
 

 

 

Net current period other comprehensive income
 
32

 

 
32

Ending Balance
 
$
17

 
$
101

 
$
118

Stock Repurchase Program
On November 1, 2007, the Company announced its Board of Directors (the "Board")’ authorized the repurchase of up to $50.0 million of the Company’s common stock (“Stock Repurchase Program”). In addition, on October 22, 2014, the Board authorized another $30.0 million under the share repurchase program. The Company may repurchase its common stock for cash in the open market in accordance with applicable securities laws. The timing of and amount of any stock repurchase will depend on share price, corporate and regulatory requirements, economic and market conditions, and other factors. The stock repurchase authorization has no expiration date, does not require the Company to repurchase a specific number of shares, and may be modified, suspended, or discontinued at any time.

During the three months and nine months ended September 30, 2016 , the Company repurchased 105,750 shares for $729,000 at an average cost of $6.90 per share, net of transaction costs through open market repurchases. There were no stock repurchases during the three months and nine months ended September 30, 2015 . These amounts repurchased are classified as treasury stock on the Company’s condensed consolidated balance sheet. As of September 30, 2016 , the Stock Repurchase Program remains available with approximately $33.7 million that may yet be purchased under the program.

15



10.    DISCONTINUED OPERATIONS

During the year ended December 31, 2009, the Company sold its 3D product line including inventory, fixed assets, and intangibles and recorded gains on the sale of discontinued operations of $187,000 at the time of the sales. Total initially negotiated consideration for the sales was $2.7 million which comprised of $320,000 in cash paid in the year ended December 31, 2009 and notes receivable of $2.4 million which were payable through the year ended December 31, 2013. Given the inherent uncertainty relative to the credit worthiness of the buyers, the Company concluded that they would recognize income from the notes receivable as proceeds were received. The operations of the 3D product line were classified as discontinued operations in the period of the initial sales transactions. In the second fiscal quarter of 2016 , a final settlement payment of $1.0 million was received relative to these sales, resulting in income of $649,000 from discontinued operations, net of tax of $351,000 . There were no discontinued operations during the three months ended September 30, 2016 .


11.    INCOME TAXES
Income tax provisions consisted of the following:
 
 
Three Months Ended September 30, 2016
 
Nine Months Ended September 30, 2016
 
 
2016
 
2015
 
2016
 
2015
 
 
(In thousands)
Income (loss) from continuing operations before benefit (provision) for income taxes

 
$
10,778

 
$
1,199

 
$
(3,146
)
 
$
3,367

Benefit (provision) for income taxes

 
(3,760
)
 
(1,015
)
 
1,264

 
(1,647
)
Effective tax rate
 
34.9
%
 
84.7
%
 
40.2
%
 
48.9
%
The benefit (provision) for income tax for the three months ended September 30, 2016 and 2015 resulted primarily from the Company’s federal and foreign tax recognized at statutory rates, adjusted for the tax impact of nondeductible permanent items including stock-based compensation and foreign withholding taxes. It also includes non-cash tax expense on intercompany profit that resulted from the sale of certain IP rights to one of the Company's foreign subsidiaries as part of the Company's reorganization of its international operations during the second half of 2015. Discrete items recognized for the nine months ended September 30, 2016 include a tax refund related to the settlement with a taxing authority and the release of certain reserves and related accrued interest.
On July 27, 2015, a U.S. Tax Court opinion ( Altera Corporation et. al v. Commissioner ) concerning the treatment of stock-based compensation expense in an intercompany cost sharing arrangement was issued. In its opinion, the U.S. Tax Court accepted Altera's position of excluding stock-based compensation from its intercompany cost sharing arrangement. On February 19, 2016, the IRS appealed the ruling to the U.S. Court of Appeals for the Ninth Circuit. Although the IRS has appealed the decision, based on the findings of the U.S. Tax Court, the Company has concluded that it is more likely than not that the decision will be upheld and accordingly has excluded stock-based compensation from intercompany charges during the period. The Company will continue to monitor ongoing developments and potential impacts to its condensed consolidated financial statements.

As of September 30, 2016 , the Company had unrecognized tax benefits under ASC 740 “Income Taxes” of approximately $6.2 million and there was no applicable interest. The total amount of unrecognized tax benefits that would affect the Company’s effective tax rate, if recognized, was $2.3 million . The Company released reserves totaling $310,000 including interest and recorded a tax benefit due to the receipt of a tax refund related to the settlement with a taxing authority as noted above. The Company’s policy is to account for interest and penalties related to uncertain tax positions as a component of income tax provision. We do not expect to have any significant changes to unrecognized tax benefits during the next twelve months.
Net deferred income taxes were $25.5 million as of September 30, 2016 , consisting primarily of federal net operating loss carryforwards and timing differences between book and tax. Because the Company had net operating loss and credit carryforwards, there are open statutes of limitations in which federal, state, and foreign taxing authorities may examine the Company’s tax returns for all years from 1998 through the current period.

16


The Company maintains a valuation allowance of $8.2 million against certain of its deferred tax assets, including federal, state, and certain foreign deferred tax assets. The Company has determined there is not sufficient evidence to support the release of the valuation allowance against these federal, state and foreign deferred tax assets.

12.    NET INCOME (LOSS) PER SHARE
Basic and diluted net income (loss) per share is computed using the weighted average number of common shares outstanding for the period, excluding unvested restricted stock and RSUs. The following is a reconciliation of the numerators and denominators used in computing basic and diluted net loss per share for both continuing and discontinued operations:
 
 
Three months ended September 30,
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
 
 
(in thousands, except
per share amounts)
Numerator:
 
 
 
 
 
 
 
 
Income (loss) from continuing operations

 
$
7,018

 
$
184

 
$
(1,882
)
 
$
1,720

Income from discontinued operations, net of tax
 

 

 
649

 

Net income (loss) used in computing basic net income (loss) per share
 
$
7,018

 
$
184

 
$
(1,233
)
 
$
1,720

Denominator:
 
 
 
 
 
 
 
 
Shares used in computation of basic and diluted net income (loss) per share (weighted average common shares outstanding)
 
28,849

 
28,190

 
28,726

 
28,027

Dilutive potential common shares:
 
 
 
 
 
 
 
 
Stock options, ESPP, restricted Stock and RSUs
 
449

 
944

 

 
866

Shares used in computation of diluted net income (loss) per share
 
29,298

 
29,134

 
28,726

 
28,893

 
 
 
 
 
 
 
 
 
Basic net income (loss) per share:
 
 
 
 
 
 
 
 
Continuing operations
 
$
0.24

 
$
0.01

 
$
(0.07
)
 
$
0.06

Discontinued operations
 
0.00

 
0.00

 
0.02

 
0.00

Total
 
$
0.24

 
$
0.01

 
$
(0.05
)
 
$
0.06

 
 
 
 
 
 
 
 
 
Diluted net income (loss) per share:
 
 
 
 
 
 
 
 
Continuing operations
 
$
0.24

 
$
0.01

 
$
(0.07
)
 
$
0.06

Discontinued operations
 
0.00

 
0.00

 
0.02

 
0.00

Total
 
$
0.24

 
$
0.01

 
$
(0.05
)
 
$
0.06

The Company includes the underlying market condition stock options in the calculation of diluted earnings per share if the performance condition has been satisfied as of the end of the reporting period and excludes such options if the performance condition has not been met.

For the three months ended September 30, 2016 , standard stock options to purchase approximately 2.7 million shares of common stock, respectively, with exercise prices greater than the average fair market value of the Company’s stock of $7.41 per share, respectively, were not included in the calculation because the effect would have been anti-dilutive.

For the three months and nine months ended September 30, 2015 , standard stock options to purchase approximately 917,000 and 1.8 million shares of common stock, respectively, with exercise prices greater than the average fair market value of the Company’s stock of $12.13 and $10.78 per share, respectively, were not included in the calculation because the effect would have been anti-dilutive.
As of September 30, 2016 , the Company had securities outstanding that could potentially dilute basic earnings per share in the future, but these were excluded from the computation of diluted net loss per share for the nine months ended September 30, 2016 , since their effect would have been anti-dilutive. These outstanding securities consisted of the following:

17


 
September 30,
 
 
2016
 
Standard and market condition stock options outstanding
3,661,163

 
Restricted stock awards outstanding
77,540

 
RSUs outstanding
527,410

 
ESPP
11,441

 
13.    CONTINGENCIES
From time to time, the Company receives claims from third parties asserting that the Company’s technologies, or those of its licensees, infringe on the other parties’ IP rights. Management believes that these claims are without merit. Additionally, periodically, the Company is involved in routine legal matters and contractual disputes incidental to its normal operations. In management’s opinion, the resolution of such matters will not have a material adverse effect on the Company’s condensed consolidated financial condition, results of operations, or liquidity.

In the normal course of business, the Company provides indemnification of varying scope to customers against claims of IP infringement made by third parties arising from the use of the Company’s IP, technology, or products. Historically, costs related to these guarantees have not been significant, and the Company is unable to estimate the maximum potential impact of these guarantees on its future results of operations.

18


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
    
This Quarterly Report on Form 10-Q includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). The forward-looking statements involve risks and uncertainties. Forward-looking statements are identified by words such as “anticipates,” “believes,” “expects,” “intends,” “may,” “will,” "places," and other similar expressions. However, these words are not the only way we identify forward-looking statements. In addition, any statements, which refer to expectations, projections, or other characterizations of future events, or circumstances, are forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of factors, including those set forth below in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors”, those described elsewhere in this report, and those described in our other reports filed with the SEC. We caution you not to place undue reliance on these forward-looking statements, which speak only as of the date of this report, and we undertake no obligation to update these forward-looking statements after the filing of this report. You are urged to review carefully and consider our various disclosures in this report and in our other reports publicly disclosed or filed with the SEC that attempt to advise you of the risks and factors that may affect our business.

OVERVIEW
We are a premier licensing company focused on the creation, design, development, and licensing of innovative haptic technologies that allow people to use their sense of touch more fully as they engage with cutting-edge products and experience the digital world around them. Our mission is to innovate touch technology that informs, humanizes, and excites while working with customers and partners to bring these tactile experiences to consumers. Our technologies are designed to facilitate the creation of high-quality haptic experiences, enable their widespread distribution, and ensure that their playback is optimized for end users. Our primary business is currently in the mobility, gaming, automotive and medical markets, but we believe our technology is broadly applicable and see opportunities in evolving new markets, including entertainment, social and advertising content, virtual and augmented reality, and wearables.
We have adopted a “hybrid” business model, under which we provide advanced tactile software, related tools and technical assistance to certain customers; and offer licenses to our patented IP to other customers. Our licenses enable our customers to deploy haptically-enabled devices, content and other offerings, which they typically sell under their own brand names. We and our wholly-owned subsidiaries hold more than 2,300 issued or pending patents worldwide, covering a wide range of digital technologies and including many of the ways in which touch-related technology can be incorporated into and between hardware products and components, systems software, application software, and digital content.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates and assumptions, including those related to revenue recognition, stock-based compensation, income taxes, contingencies, and litigation. We base our estimates and assumptions on historical experience and on various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates and assumptions.

Our critical accounting policies and estimates are important to the portrayal of our financial condition and results of operations, and require us to make judgments and estimates about matters that are inherently uncertain. There have been no material changes during the nine months ended September 30, 2016 to the items we disclosed as our critical accounting policies and estimates in our Management Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015 .


19

Table of Contents

RESULTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

Overview
Total revenue increased by 84% and 2% , respectively, for the three and nine months ended September 30, 2016 compared to the three and nine months ended September 30, 2015 . The increase for the three months ended September 30, 2016 was driven primarily by an increase in royalty and license revenue in our mobility business, mainly related to a non-recurring license fee of $19.0 million from Samsung, partially offset by decreased royalty and license revenue from gaming and medical licensees. The increase for the nine months ended September 30, 2016 was driven primarily by an increase in royalty and license revenue in our medical business, partially offset by decreased royalty and license revenue from mobility and gaming licensees. In the first quarter of 2016, we initiated arbitration with Samsung to recover revenue from products that were licensed under our agreement with them that expired at the end of 2015 that Samsung continued to ship following the expiration of the agreement. On July 12, 2016, we entered into an amendment to the agreement to permit Samsung to exercise Product Life Cycle Wind Down Rights in exchange for a fee of $19.0 million which we recognized as license revenue during the three months ended September 30, 2016 . Pursuant to the amendment, we agreed to terminate the arbitration proceedings and release each other for a variety of matters. See Part II, Item 1. Legal Proceedings.
Our net income was $7.0 million for the three months ended September 30, 2016 as compared to a net income of $184,000 for the three months ended September 30, 2015 . The increase in net income was primarily due to the increase in royalty and license revenue, partially offset by an increase in operating expenses primarily as a result of our efforts to protect and preserve our intellectual property, including litigation against Apple and AT&T Mobility, and increased income tax expense resulting from the increased income. Our net loss was $1.2 million for the nine months ended September 30, 2016 as compared to a net income of $1.7 million for the nine months ended September 30, 2015 . This was due to an increase in operating expenses primarily as a result of our efforts to protect and preserve our intellectual property, including litigation against Apple and AT&T Mobility, partially offset by the increase in royalty and license revenue, increased income tax benefit resulting from the increased loss, a gain from discontinued operations, and other income.
 
 
September 30,
 
Change
 
% Change
REVENUES
 
2016
 
2015
 
 
 
 
 
 
(In thousands)
 
 
 
 
Three months ended:
 
 
 
 
 
 
 
 
Royalty and license
 
$
26,049

 
$
13,944

 
$
12,105

 
87
 %
Development, services, and other
 
257

 
369

 
(112
)
 
(30
)%
Total Revenues
 
$
26,306

 
$
14,313

 
$
11,993

 
84
 %
Nine months ended:
 
 
 
 
 
 
 
 
Royalty and license
 
$
47,112

 
$
45,895

 
$
1,217

 
3
 %
Development, services, and other
 
681

 
928

 
(247
)
 
(27
)%
Total Revenues
 
$
47,793

 
$
46,823

 
$
970

 
2
 %

Total Revenues - Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015
Royalty and license revenue — Royalty and license revenue is composed of royalties earned on sales by our licensees and license fees charged for our IP. The increase in royalty and license revenue for the three months ended September 30, 2016 compared to the three months ended September 30, 2015 was due to increases in royalty and license revenue from our mobility licensees, primarily Samsung, in the quarter ended September 30, 2016, partially offset by decreases in royalty and license revenue from our gaming and medical licensees.
Variable royalty revenue based on shipping volumes and per unit prices decreased to $5.2 million for the three months ended September 30, 2016 from $6.2 million for the three months ended September 30, 2015 . Fixed payment license revenue increased to $20.8 million for the three months ended September 30, 2016 from $7.7 million for the three months ended September 30, 2015 , primarily as a result a non-recurring license fee of $19.0 million from Samsung which we recognized as license revenue during the quarter ended September 30, 2016 , partially offset by a decrease of recurring license revenue from our previous license agreement with Samsung that ended in 2015.
Royalty and license revenue from mobility customers increased by 154%, primarily related to a non-recurring license fee of $19.0 million from Samsung which we recognized as license revenue during the quarter ended September 30, 2016 . On July

20

Table of Contents

12, 2016, we entered into an amendment to the prior agreement with Samsung to exercise Product Life Cycle Wind-Down Rights for $19.0 million. We received the payment of $19.0 million in July 2016 and recognized it as license revenue during the three months ended September 30, 2016. See Part II, Item 1. Legal Proceedings. We anticipate that our mobility business will continue to be of primary importance, but will fluctuate as a result of the outcomes of various litigations we have instituted and may in the future institute to enforce our IP rights, the timing of introducing new products with our technology into the market, and the recognition by mobile OEMs of the relevance of our IP.
Royalty and license revenue from gaming customers decreased by 27%, primarily due to decreased sales reported by our licensees of products containing our technology, including Sony with which we are in arbitration. See Part II, Item 1, Legal Proceedings. Revenue from gaming customers can fluctuate based upon consumer gaming preferences, the timing of introductions of new gaming console systems, the timing of new products from third party peripheral makers that are our licensees, and the recognition by gaming customers of the relevance of our IP.
Royalty and license revenue from medical customers decreased by 46%, primarily due to the reduction in recurring license fees by our medical customers.
Royalty and license revenue from automotive customers increased by 9%, primarily resulting from our technology being incorporated in an increased volume of products sold by our licensees.
We expect royalty and license revenue to be the major component of our future revenue as our technology continues to be included in products and as we continue our efforts to monetize our IP. We typically experience seasonally higher revenue from our gaming and mobility customers due to the reporting of holiday sales in the first calendar quarter compared to other calendar quarters. Our gaming royalty and license revenue could be adversely impacted in 2016 by the expiration of several gaming patents in 2015. We expect a continuous reduction in royalty and license revenue in the future from our medical customers as a percentage of our consolidated royalty and license revenue, as this line of business is a less significant portion of our overall business focus.
We categorize our geographic information into three major regions: North America, Europe and Asia. In the three months ended September 30, 2016 , revenue generated in North America, Europe and Asia represented 12%, 4% and 84% of total revenue, respectively, compared to 24%, 7% and 69% of total revenues, respectively, for the three months ended September 30, 2015 . The shift in revenues among regions was mainly driven by the increased mobility license revenue in Asia resulting from a non-recurring license fee from Samsung of $19.0 million, which was partially offset by decreases in recurring mobility license revenue and gaming royalty revenue in Asia. Total revenue generated in Europe increased slightly for the three months ended September 30, 2016 compared to the three months ended September 30, 2015 , but the increase was less significant than the overall increase in Asia which resulted in a decrease in the regional revenue as a percentage of total revenue in Europe. Revenue as a percentage of total revenue in North America decreased in the three months ended September 30, 2016 compared to prior year primarily due to the decreases in medical and gaming revenue, partially offset by an increase in royalty and license revenue from mobility business in North America.
 
Total Revenues - Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015
Royalty and license revenue — The increase in royalty and license revenue for the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015 was primarily due to increases in royalty and license revenue from our medical licensees and a non-recurring license fee of $19.0 million from Samsung all of which we recognized as license revenue during the quarter ended September 30, 2016, partially offset by a decrease in license revenue from our previous agreement with Samsung and decreases in royalty and license revenue from other mobility and gaming licensees.
Variable royalty revenue based on shipping volumes and per unit prices decreased to $19.5 million for the nine months ended September 30, 2016 from $21.1 million for the nine months ended September 30, 2015 . Fixed payment license revenue increased to $27.6 million for the nine months ended September 30, 2016 from $24.8 million for the nine months ended September 30, 2015 , primarily as a result a non-recurring license fee from Samsung of $19.0 million which we recognized as license revenue during the quarter ended September 30, 2016 and a non-recurring license fee of $3.0 million from a medical customer, partially offset by a decrease of recurring license revenue from our previous license agreement with Samsung that ended in 2015 and a non-recurring license fee of $2.0 million from a completed contract with a mobility customer in the prior year.
Royalty and license revenue from medical customers increased by 68%, primarily due to a non-recurring license fee of $3.0 million from a medical customer partially offset by reduced royalties from other customers.

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Royalty and license revenue from mobility customers decreased by 2%, primarily due to a decrease of recurring license revenue from Samsung and other customers, a non-recurring license fee of $2.0 million from a completed contract in 2015, and to a lesser extent due to a lower number of mobile device shipments by our licensees. The decreases were partially offset by a non-recurring license fee from Samsung of $19.0 million which we recognized as license revenue during the quarter ended September 30, 2016 .

Royalty and license revenue from gaming customers decreased by 3%, primarily due to decreased sales by our licensees of products containing our technology.
Royalty and license revenue from automotive customers decreased by 2%, primarily due to the timing of reporting by our customers of $506,000 in 2015, partially offset by increased royalties due to our technology being incorporated in an increased volume sold by existing licensees.
In the nine months ended September 30, 2016 , revenue generated in North America, Europe and Asia represented 30%, 6% and 64% of total revenue, respectively, compared to 27%, 5% and 68% of total revenues, respectively, for the nine months ended September 30, 2015 . The shift in revenues among regions was mainly due to the shift between North America and Asia, while Europe remained relatively flat. Revenue attributable to North America increased primarily due to increased medical license revenue, partially offset by decreases in mobility and gaming royalty and license revenue. Regional revenue as a percentage of total revenue in Asia decreased as a result of decreased royalty and license revenue from mobility, automotive, and gaming in Asia.
 
 
 
September 30,
 
Change
 
% Change
OPERATING EXPENSES
 
2016
 
2015
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
Three months ended:
 
 
 
 
 
 
 
 
Sales and marketing
 
$
3,535

 
$
3,198

 
$
337

 
11
 %
% of total revenue
 
13
%
 
22
%
 
(9
)%
 
 
Research and development
 
$
2,951

 
$
3,471

 
$
(520
)
 
(15
)%
% of total revenue
 
11
%
 
24
%
 
(13
)%
 
 
General and administrative
 
$
9,654

 
$
6,241

 
$
3,413

 
55
 %
% of total revenue
 
37
%
 
44
%
 
(7
)%
 
 
Amortization of intangibles
 
$
1

 
$
3

 
$
(2
)
 
(67
)%
% of total revenue
 
%
 
%
 
 %
 
 
 
 
 
 
 
 
 
 
 
Nine months ended:
 
 
 
 
 
 
 
 
Sales and marketing
 
$
10,735

 
$
11,078

 
$
(343
)
 
(3
)%
% of total revenue
 
22
%
 
24
%
 
(2
)%
 
 
Research and development
 
$
10,229

 
$
10,697

 
$
(468
)
 
(4
)%
% of total revenue
 
21
%
 
23
%
 
(2
)%
 
 
General and administrative
 
$
30,745

 
$
21,253

 
$
9,492

 
45
 %
% of total revenue
 
64
%
 
45
%
 
19
 %
 
 
Amortization of intangibles
 
$
6

 
$
18

 
$
(12
)
 
(67
)%
% of total revenue
 
%
 
%
 
 %
 
 
Sales and Marketing — Our sales and marketing expenses are composed primarily of employee compensation and benefits, sales commissions, advertising, trade shows, collateral marketing materials, market development funds, travel, and an allocation of facilities costs. The increase in sales and marketing expense for the three months ended September 30, 2016 as compared to the three months ended September 30, 2015 was primarily due to a $296,000 increase in compensation, benefits, and other related costs mainly due to increased headcount. The decrease in sales and marketing expense for the nine months ended September 30, 2016 as compared to the nine months ended September 30, 2015 was primarily due to a $762,000 decrease in marketing and advertising costs and a $159,000 decrease in travel costs mainly attributable to cost reductions on trade shows, partially offset by a $522,000 increase in compensation, benefits, and other related costs mainly due to increased headcount along with costs for rebalancing efforts in the first quarter of 2016. We expect that sales and marketing expenses will

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increase in 2016 as we continue to invest in sales and marketing to further market acceptance for our touch technologies and expand our focus on the content and media business.
Research and Development — Our research and development expenses are composed primarily of employee compensation and benefits, consulting fees, tooling and supplies, and an allocation of facilities costs. The decrease in research and development expenses for the three months ended September 30, 2016 as compared to the three months ended September 30, 2015 was primarily due to a $297,000 decrease in compensation, benefits, and other related costs and a $53,000 decrease in travel costs both mainly due to decreased headcount, and a $117,000 decrease in consulting services expense and a $41,000 decrease in lab and prototyping expenses as a result of redirected development efforts. The decrease in research and development expenses for the nine months ended September 30, 2016 as compared to the nine months ended September 30, 2015 was primarily due to a $169,000 decrease in consulting services expense and a $75,000 decrease in lab and prototyping expenses as a result of redirected development efforts. In addition, there was a $240,000 decrease in travel costs mainly due to decreased headcount. Compensation, benefits and other related costs that increased due to our rebalancing efforts in the first quarter of 2016 were mainly offset by reduced costs from decreased headcount resulting in relatively flat expenses. We believe that continued investment in research and development is critical to our future success, and we expect to continue making targeted investments in areas of research and technology development to support future growth including our content and media business.
General and Administrative — Our general and administrative expenses are composed primarily of employee compensation and benefits; legal and professional fees; patent related legal, filing, and maintenance costs; office supplies; travel; and an allocation of facilities costs. The increase in general and administrative expenses for the three months ended September 30, 2016 as compared to the three months ended September 30, 2015 was primarily due to a $3.4 million increase in legal and professional fees. The increased legal and professional fees were primarily due to a $3.3 million increase in litigation expense relating to ongoing litigations including the current litigation against Apple and AT&T Mobility, and a $480,000 increase in patent related legal, filing, and maintenance costs; partially offset by a $333,000 decrease in professional services and licensing-related legal expenses primarily relating to a reduction of accounting and tax services relating to the reorganization of our international operations which took place in 2015. The increase in general and administrative expenses for the nine months ended September 30, 2016 as compared to the nine months ended September 30, 2015 was primarily due to a $8.9 million increase in legal and professional fees and a $720,000 increase in compensation, benefits, and other related costs, mainly due to increased headcount and stock compensation expense. The increased legal and professional fees were primarily due to a $7.7 million increase in litigation expense relating to ongoing litigations, a $1.0 million increase in patent related legal, filing, and maintenance costs, and a $139,000 increase in professional services and licensing-related legal expenses mainly incurred in preparation for our recent litigation filings, partially offset by a decrease resulting from a reduction of accounting and tax services relating to the reorganization of our international operations which took place in 2015. Our general and administrative expenses will continue to increase significantly over last year as we continue to file, maintain, license, and enforce our IP and contractual rights, including in the current litigation against Apple and AT&T Mobility, manage our business and strategic opportunities, and defend any lawsuits brought against us or that we initiate against others to enforce our IP or contractual rights.


 
 
September 30,
 
Change
 
% Change
INTEREST AND OTHER INCOME (EXPENSE)
 
2016
 
2015
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
Three months ended:
 
 
 
 
 
 
 
 
Interest and other income (expense)

 
664

 
(84
)
 
$
748

 
(890
)%
% of total revenue
 
3
%
 
(1
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended:
 
 
 
 
 
 
 
 
Interest and other income (expense)

 
909

 
(63
)
 
$
972

 
(1,543
)%
% of total revenue
 
2
%
 
 %
 
 
 
 

Interest and Other Income (Expense) Interest and other income (expense) consists primarily of interest income or expense from cash and cash equivalents and short-term investments, interest on notes receivable, exchange rate gains and losses, and other income or expense. Interest and other income totaled $664,000 for the three months ended September 30, 2016 as compared to interest and other expense that totaled $84,000 for the three months ended September 30, 2015 , primarily

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as a result of $550,000 from a nonrecurring item in 2016. Interest and other income totaled $909,000 for the nine months ended September 30, 2016 as compared to interest and other expense that totaled $63,000 the nine months ended September 30, 2015 , primarily as a result of $550,000 from a nonrecurring item in 2016 and exchange rate gains and losses.


 
 
September 30,
 
Change
 
% Change
BENEFIT FOR TAXES
 
2016
 
2015
 
 
 
 
 
 
(Dollars in thousands)
 
 
 
 
Three months ended:
 
 
 
 
 
 
 
 
Benefit (provision) for income taxes

 
$
(3,760
)
 
$
(1,015
)
 
$
(2,745
)
 
270
 %
Income from continuing operations before benefit (provision) for income taxes

 
10,778

 
1,199

 
 
 
 
Effective tax rate
 
34.9
%
 
84.7
%
 
 
 
 
 
 
 
 
 
 
 
 
 
Nine month ended:
 
 
 
 
 
 
 
 
Benefit (provision) for income taxes

 
1,264

 
(1,647
)
 
$
2,911

 
(177
)%
Income (loss) from continuing operations before benefit (provision) for income taxes

 
(3,146
)
 
3,367

 
 
 
 
Effective tax rate
 
40.2
%
 
48.9
%
 
 
 
 
Benefit (provision) for Income Taxes — The effective tax rates used for each year were estimated based upon a forecast of our full year results and include the tax impact of nondeductible permanent items, including stock-based compensation incurred for the period. The benefit (provision) for income tax for the three months and nine months ended September 30, 2016 also include non-cash tax expense on intercompany profits resulting from the sale of certain IP rights to one of our foreign subsidiaries as part of the reorganization of our international operations that occurred in the second half of 2015. The change in benefit (provision) for income taxes results primarily from the change in loss before benefit (provision) for income taxes, the effects of the above described reorganization, and discrete items recognized for the nine months ended September 30, 2016 including a tax refund related to the settlement with a taxing authority and the release of certain reserves and related accrued interest.
We expect that the reorganization of our international operations will result in a lower percentage of pre-tax income being subject to the U.S. federal statutory tax rate. However, our ability to realize the expected tax benefits of this reorganization is contingent upon numerous factors, including our ability to achieve our projected revenue and earnings both domestically and in the various countries in which the reorganization took place and the judgments of tax authorities in several jurisdictions. A change in these factors in future periods relative to our current assumptions may result in additional income tax expense being recorded in future filings.
In 2016 , we expect to use a 35% tax rate to record the U.S. federal portion of our income tax provision expense, but expect there to be a limited cash impact as we will use our net operating losses and other deferred tax assets that have been carried forward to reduce taxes paid in cash. Although we expect to reduce taxes paid in cash, our effective tax rate could fluctuate significantly on a quarterly basis and could be adversely affected to the extent actual earnings are lower than anticipated in countries that have lower statutory rates and higher in countries that have higher statutory rates. Based upon activity during the three months ended September 30, 2016 , we continue to maintain a valuation allowance of $1.5 million against U.S. federal deferred tax assets and a valuation allowance of $6.7 million against our state and certain other foreign deferred tax assets, as there was not sufficient evidence to support the release of such valuation allowances as of September 30, 2016 .
We also maintain liabilities for uncertain tax positions. The Company released reserves totaling $310,000 including interest and recorded a tax benefit due to the receipt of a tax refund related to the settlement with a taxing authority as noted above. As of September 30, 2016 , we had unrecognized tax benefits under ASC 740 "Income Taxes" of approximately $6.2 million and there was no applicable interest. The total amount of unrecognized tax benefits that would affect our effective tax rate, if recognized, is $2.3 million .

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DISCONTINUED OPERATIONS
Discontinued Operations — Income from discontinued operations, net of taxes, of $649,000 in the nine months ended September 30, 2016 is comprised of a final payment received from the sales of the 3D product line that occurred in the year ended December 31, 2009.
LIQUIDITY AND CAPITAL RESOURCES
Our cash, cash equivalents, and short-term investments consist primarily of money market funds and treasury bills and government agency securities. All of our short-term investments are classified as available-for-sale. The securities are stated at market value, with unrealized gains and losses reported as a component of accumulated other comprehensive income within stockholders’ equity.
On September 30, 2016 , our cash, cash equivalents, and short-term investments totaled $94.9 million , an increase of $30.0 million from $64.9 million on December 31, 2015 .
Cash provided by operating activities
Net cash provided by operating activities during the nine months ended September 30, 2016 was $27.5 million , an increase of $15.2 million from the $12.3 million provided by operating activities during the nine months ended September 30, 2015 . Cash provided by operating activities during the nine months ended September 30, 2016 was primarily the result of an increase of $25.9 million due to the change in deferred revenue relating to new billings for license fees that have been deferred to be recognized over the expected term, an increase of $1.8 million due to the change in accounts payable primarily arising from the timing of payments to vendors, and $493,000 due to the change in prepaid income taxes. These increases were partially offset by our net loss of $1.2 million , a decrease of $2.0 million due to the change in accounts receivable mainly as a result of the timing of invoices and cash collections, a decrease of $1.2 million due to the change in deferred income taxes, and a decrease of $342,000 due to the change in accrued compensation and other liabilities. Cash provided by operating activities during the current period was also affected by noncash charges or credits of $4.8 million , including $4.8 million of noncash stock-based compensation, $683,000 in depreciation and amortization, and $649,000 of gain from discontinued operations.
Cash provided by investing activities
Net cash provided by investing activities during the nine months ended September 30, 2016 was $8.0 million , an increase of $3.3 million compared to the $4.6 million provided by investing activities during the nine months ended September 30, 2015 . Net cash provided by investing activities during the current period was due to the maturation of short-term investments of $32.5 million and proceeds from discontinued operations of $1.0 million , partially offset by purchases of short-term investments of $25.4 million .
Cash provided by financing activities
Net cash provided by financing activities during the nine months ended September 30, 2016 was $1.5 million , a decrease of $351,000 compared to $1.8 million provided by financing activities during the nine months ended September 30, 2015 . Net cash provided by financing activities during the current period consisted primarily of exercises of stock options of $1.9 million and the issuance of common stock under our ESPP of $307,000 , partially offset by repurchases of common stock of $729,000 .
We believe that our cash, cash equivalents, and short-term investments will be sufficient to meet our working capital needs for at least the next twelve months. Of our total cash, cash equivalents, and short-term investments of $94.9 million on September 30, 2016 , 23% was held by our foreign subsidiaries and subject to repatriation tax effects. Our intent is to permanently reinvest all of our earnings from foreign operations, and current plans do not anticipate that we will need funds generated from foreign operations to fund our domestic operations. We will continue to invest in, protect, and defend our extensive IP portfolio, which is expected to result in the continued significant use of cash. At September 30, 2016 , there was $33.7 million remaining under our previously-approved share repurchase program. We anticipate that capital expenditures for property and equipment for the year ended December 31, 2016 will be less than $1.0 million. Cash from operations could also be affected by various risks and uncertainties, including but not limited to the risks detailed in Part II, Item 1A titled “Risk Factors”. Additionally, if we acquire businesses, patents, or technology, our cash or capital requirements could increase substantially. In the event of such an acquisition, or should any unanticipated circumstances arise that significantly increase our capital requirements, we may elect to raise additional capital through debt or equity financing. Any of these events could result in substantial dilution to our stockholders. There is no assurance that such additional capital will be available on terms acceptable to us, if at all.

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SUMMARY DISCLOSURES ABOUT CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
We presented our contractual obligations in our Annual Report on Form 10-K for the year ended December 31, 2015 . Our principal commitments as of September 30, 2016 consisted of obligations under operating leases. There have been no material changes in those obligations during the nine months ended September 30, 2016 .
As of September 30, 2016 , we had a liability for unrecognized tax benefits totaling $6.2 million with no applicable interest, of which approximately $2.3 million could be payable in cash.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 1 to the Condensed Consolidated Financial Statements for information regarding the effect of new accounting pronouncements on our financial statements.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to financial market risks, including changes in interest rates and foreign currency exchange rates. Changes in these factors may cause fluctuations in our earnings and cash flows. We evaluate and manage the exposure to these market risks as follows:
Cash Equivalents and Short-term Investments — We had cash equivalents and short-term investments of $66.9 million as of September 30, 2016 , which are subject to interest rate fluctuations. An increase in interest rates could adversely affect the market value of our cash equivalents and short-term investments. A hypothetical 100 basis point increase in interest rates would result in a decrease of approximately $154,000 in the fair value of our cash equivalents and short-term investments as of September 30, 2016 .
We limit our exposure to interest rate and credit risk by establishing and monitoring clear policies and guidelines for our cash equivalents and short-term investment portfolios. The primary objective of our policies is to preserve principal while at the same time maximizing yields, without significantly increasing risk. Our policy’s guidelines also limit exposure to loss by limiting the sums we can invest in any individual security and restricting investments to securities that meet certain defined credit ratings. We do not use derivative financial instruments in our investment portfolio to manage interest rate risk.
Foreign Currency Exchange Rates — A substantial majority of our revenue, expense, and capital purchasing activities are transacted in U.S. dollars. However, we do incur certain operating costs for our foreign operations in other currencies but these operations are limited in scope and thus we are not materially exposed to foreign currency fluctuations. Additionally, we have some reliance on international revenues that are subject to the risks of fluctuations in currency exchange rates. Because a substantial majority of our international revenues, as well as expenses, are typically denominated in U.S. dollars, a strengthening of the U.S. dollar could cause our products to become relatively more expensive to customers in a particular country, leading to a reduction in sales or profitability in that country. We have no foreign exchange contracts, option contracts, or other foreign currency hedging arrangements and we do not expect to have such arrangements in the foreseeable future.

ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Based on their evaluation as of September 30, 2016 , our management with the participation of our Chief Executive Officer and Chief Financial Officer, have concluded that our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) were effective to ensure that the information required to be disclosed by us in this quarterly report on Form 10-Q was (i) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and regulations and (ii) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.
There were no changes to internal controls over financial reporting that occurred during the quarter ended September 30, 2016 that have materially affected, or are reasonably likely to materially affect our internal controls over financial reporting.
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls over financial reporting will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute assurance that the objectives of the control system are met. 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 and instances of fraud, if any within Immersion, have been detected.

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PART II

OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Immersion Corporation vs. Apple, Inc., AT&T Inc., and AT&T Mobility LLC
On February 11, 2016, we filed a complaint against Apple, Inc. ("Apple"), AT&T, Inc. ("AT&T"), and AT&T Mobility LLC ("AT&T Mobility") with the U.S. International Trade Commission (the “ITC”) and a complaint against Apple, AT&T and AT&T Mobility in the U.S. District Court for the District of Delaware alleging that the Apple iPhone 6, iPhone 6 Plus, iPhone 6s, iPhone 6s Plus, Apple Watch, Apple Watch Sport and Apple Watch Edition infringe certain of our patents that cover haptic feedback systems and methods.
In the February 2016 ITC complaint, we are seeking an exclusion order preventing the importation, sale for importation, and sale after importation of infringing Apple devices into the United States by the defendants and appropriate cease and desist orders. In the U.S. District Court suit, we are alleging infringement of the same patents.
The complaints assert infringement by the Apple iPhone 6, Apple iPhone 6 Plus, Apple iPhone 6s, Apple iPhone 6s Plus, Apple Watch, Apple Watch Sport and Apple Watch Edition of the following two Immersion patents:
U.S. Patent No. 8,619,051(the '051 patent): "Haptic Feedback System with Stored Effects"
U.S. Patent No. 8,773,356 (the ‘356 patent): "Method and Apparatus for Providing Tactile Sensations"
The complaints also assert infringement by the iPhone 6s and iPhone 6s Plus of the following Immersion patent:
U.S. Patent No. 8,659,571(the '571 patent): "Interactivity Model for Shared Feedback on Mobile Devices"
On March 14, 2016, the ITC issued a Notice of Institution of Investigation stating that the ITC instituted an investigation to investigate our allegations of infringement with respect to the '051, '356, and '571 patents and determine whether violations of section 337 of the Tariff Act of 1930 have occurred. The investigation bears the designation Inv. No. 337-TA-990 ("990 Investigation"). On April 6, 2016, the Chief Administrative Law Judge (“ALJ”) entered an order terminating Respondent AT&T from the investigation, based on the stipulation and joint motion of the parties to terminate AT&T in a manner that preserved our ability to obtain discovery and compliance with any relief the ITC may order. On April 4, 2016, Respondents Apple and AT&T Mobility served responses to the complaint denying the material allegations of the complaint and alleging affirmative defenses, including among others that the asserted patents are not infringed, invalid and unenforceable. Respondents also alleged that the ‘356 patent is unenforceable for alleged inequitable conduct before the United States Patent and Trademark Office. We will respond to the allegations of Respondents during the investigation on the procedural schedule set by the Chief ALJ. The proceedings in the ITC with respect to Apple and AT&T Mobility are ongoing, and the parties are in the process of conducting discovery.
On March 21, 2016, pursuant to 28 U.S.C. § 1659(a), the U.S. District Court entered an order staying the U.S. District Court case pending a final determination in the ITC investigation.
On May 5, 2016, we filed another complaint against Apple, AT&T and AT&T Mobility with the ITC and a complaint against Apple, AT&T and AT&T Mobility in the U.S. District Court for the District of Delaware alleging that the Apple iPhone 6s, iPhone 6s Plus, MacBook and MacBook Pro with Retina Display infringe certain of our patents, including patents covering pressure-related haptics.
In the May 2016 ITC complaint, we are seeking an exclusion order preventing the importation, sale for importation, and sale after importation of infringing Apple devices into the United States by the defendants and appropriate cease and desist orders. In the U.S. District Court suit, we are alleging infringement of the same patents.
The complaints assert against Apple, AT&T and AT&T Mobility claims of infringement by the Apple iPhone 6s and Apple iPhone 6s Plus of the following three Immersion patents:
U.S. Patent No. 8,749,507 (the '507 patent), "Systems and Methods for Adaptive Interpretation of Input from a Touch-Sensitive Input Device”
U.S. Patent No. 7,808,488 (the '488 patent), "Method and Apparatus for Providing Tactile Sensations”
U.S. Patent No. 8,581,710 (the '710 patent), "Systems and Methods for Haptic Confirmation of Commands”
The complaints also assert against Apple claims of infringement by the Apple MacBook and Apple MacBook Pro with Retina display of Immersion’s U.S. Patent No. 7,336,260 (the '260 patent), "Method and Apparatus for Providing Tactile Sensations”
On May 9, 2016, Immersion and AT&T entered into a stipulation to terminate AT&T as a Proposed Respondent, on the same terms to which the parties agreed to terminate AT&T from the 990 Investigation.

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On June 6, 2016, the ITC issued a Notice of Institution of Investigation stating that the ITC instituted an investigation to investigate our allegations of infringement with respect to the '507, '488, '710, and '260 patents and determine whether violations of section 337 of the Tariff Act of 1930 have occurred. The investigation bears the designation Inv. No. 337-TA-1004 ("1004 Investigation"). On June 9, 2016, the Chief ALJ entered an order consolidating the 990 and 1004 Investigations. On June 15, 2016, the Chief ALJ granted a joint motion by the parties to stay the 990 Investigation deadlines until a new procedural schedule is entered in the consolidated Investigation.
On June 16, 2016, pursuant to 28 U.S.C. § 1659(a), the U.S. District Court entered an order staying the U.S. District Court case pending a final determination in the ITC investigation.
On June 27, 2016, Respondents Apple and AT&T Mobility served responses to the complaint denying the material allegations of the complaint and alleging affirmative defenses, including among others that the asserted patents are not infringed, invalid and unenforceable. Respondents also alleged that the '710 patent is unenforceable for alleged inequitable conduct before the United States Patent Office. We will respond to the allegations of Respondents during the investigation on the procedural schedule set by the Chief ALJ. On June 29, 2016, the Chief ALJ entered an order setting the Markman hearing in the consolidated case for October 18, 2016, and the evidentiary hearing for April 27-May 5, 2017. On July 12, 2016, the Chief ALJ entered the procedural schedule in the consolidated Investigation.
The proceedings in the ITC with respect to Apple and AT&T Mobility are ongoing, and the parties are in the process of conducting discovery.
On July 7, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '051 patent. The petition bears Case No. IPR2016-01371. The petition challenges the patentability of certain claims of the '051 patent in light of alleged prior art references. On October 13, 2016, we filed a patent owner’s preliminary response responding to the petition's challenges to patentability of claims of the '051 patent. The Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR.
On July 7, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '571 patent. The petition bears Case No. IPR2016-01372. The petition challenges the patentability of certain claims of the '571 patent in light of alleged prior art references. On October 13, 2016, we filed a patent owner’s preliminary response responding to the petition's challenges to patentability of claims of the '571 patent. The Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR.
On July 8, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '356 patent. The petition bears Case No. IPR2016-01381. The petition challenges the patentability of certain claims of the '356 patent in light of alleged prior art references. On October 12, 2016, we filed a patent owner’s preliminary response responding to the petition's challenges to patentability of claims of the '356 patent. The Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR.
On August 12, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '710 patent. The petition bears Case No. IPR2016-01603. The petition challenges the patentability of certain claims of the '710 patent in light of alleged prior art references. We have not yet responded to the petition and the Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR. Our response to the petition is due ninety days from the petition's filing date.
On September 12, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '507 patent. The petition bears Case No. IPR2016-01777. The petition challenges the patentability of certain claims of the '507 patent in light of alleged prior art references. We have not yet responded to the petition and the Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR. Our response to the petition is due ninety days from the petition's filing date.
On September 23, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '260 patent. The petition bears Case No. IPR2016-01884. The petition challenges the patentability of certain claims of the '260 patent in light of alleged prior art references. We have not yet responded to the petition and the Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR. Our response to the petition is due ninety days from the petition's filing date.
On September 29, 2016, Apple filed in the United States Patent and Trademark Office a petition for inter partes review of the '488 patent. The petition bears Case No. IPR2016-01907. The petition challenges the patentability of certain claims of the '488 patent in light of alleged prior art references. We have not yet responded to the petition and the Patent Office's Patent Trial and Appeal Board has not yet determined whether to institute the IPR. Our response to the petition is due ninety days from the petition's filing date.

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Although we believe we have strong claims, this litigation is at its early stages and the outcome of litigation is inherently uncertain.
Furthermore, Apple and AT&T Mobility have significant resources and therefore, this litigation could be protracted.

Amit Agarwal v. Immersion Corporation
On March 29, 2016, Amit Agarwal, an individual, filed in the United States Patent and Trademark Office a petition for inter partes review of U.S. Patent No. 8,773,356 entitled: "Method and Apparatus for Providing Tactile Sensations." The petition bears Case No. IPR2016-00807. The petition challenges the patentability of certain claims of the ’356 patent in light of alleged prior art references. On July 6, 2016, we filed a patent owner's preliminary response responding to the petition's challenges to patentability of claims of the '356 patent. On September 19, 2016, the Patent Office's Patent Trial and Appeal Board denied the Petition and declined to institute further proceedings.

Samsung Electronics America, Inc.
On December 31, 2015, our amended and restated license agreement (the “Samsung License”) with Samsung expired. On January 13, 2016, we filed an Application for Emergency Measures with the International Chamber of Commerce (“ICC”), asking that the ICC order Samsung to comply with its contractual obligations and enjoin Samsung from selling devices previously licensed under the Samsung License. On January 25, 2016, we also filed an arbitration demand with the ICC. The ICC appointed an Emergency Arbitrator, who on January 30, 2016 issued an Order denying the Application for Emergency Measures. The Emergency Arbitrator ruled that under the Samsung License, we could not file an arbitration demand until a 90-day negotiating period had passed, and that the 90 days began on December 4, 2015.
Based on the Emergency Arbitrator’s Order, we withdrew our arbitration demand on February 1, 2016 and refiled it on March 4, 2016, requesting that Samsung be ordered to comply with its obligations under the Samsung License, including ceasing distributing devices previously licensed under the Samsung License and paying damages suffered by us. On April 12, 2016, Samsung filed a response to our arbitration demand.
On July 12, 2016, Immersion Corporation, together with Immersion Software Ireland Limited, an Irish company and a wholly owned subsidiary of Immersion, entered into an Amendment No. 4 (the “Amendment”) to the Samsung License with Samsung. Pursuant to the Agreement, the parties agreed to amend Section 13.4(c) relating to the Product Life Cycle Wind-Down Rights (as defined in the Agreement) to permit Samsung to exercise the Product Life Cycle Wind-Down Rights for $19.0 million. The parties also agreed to terminate the arbitration proceedings relating to the Product Life Cycle Wind-Down Rights and to release each other for a variety of matters. We also agreed not to bring any judicial, administrative or other action against Samsung relating to the Amendment or patent infringement for a period of time.

Sony Computer Entertainment America, Inc.
On October 2, 2014, we filed an arbitration demand with JAMS against Sony Computer Entertainment America, LLC and Sony Computer Entertainment, Inc. (collectively, “Sony”). The issue to be resolved was whether Sony’s DS4 Wireless Controller sold in Japan is covered by one of our Japanese patents and thus is a royalty-bearing product under a 2007 license agreement between us and Sony. On January 20, 2016, the arbitrator ruled in our favor, finding that Sony's DS4 Wireless Controllers manufactured, sold or distributed in Japan after April 8, 2014 were and are ‘royalty bearing’ products as defined by Paragraph 5.4 of the 2007 license agreement.
On February 19, 2016, we petitioned for confirmation of the award in the U.S. District Court for the Northern District of California. On March 18, 2016, Sony opposed the petition to confirm the award and moved to vacate the award. On April 26, 2016, the District Court issued an order granting our petition to confirm the arbitral award and denying Sony’s motion to vacate the award. On May 26, 2016, Sony filed a Notice of Appeal to the U.S. Court of Appeals for the Ninth Circuit.
On March 17, 2016, we filed an arbitration demand seeking a ruling that Sony game controllers sold in the United States are covered by U.S. Patent Nos. 6,686,901 (the ‘901 patent) and 7,969,288 (the ‘288 patent) and therefore are royalty-bearing products under our license agreement with Sony. Sony filed a response on April 12, 2016. The parties have agreed that the ‘288 patent will not be addressed in this arbitration proceeding, which will be limited to the ‘901 patent. The parties have agreed on a retired judge who will serve as the single arbitrator.
The arbitrator has scheduled a claim construction hearing for January 10, 2017. A date for the arbitration hearing on the merits of the claim has not yet been scheduled.

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We cannot predict the ultimate outcome of the above-mentioned federal and arbitral actions, and we are unable to estimate any potential liability we may incur.


ITEM 1A. RISK FACTORS
As previously discussed, our actual results could differ materially from our forward-looking statements. Factors that might cause or contribute to such differences include, but are not limited to those discussed below. These and many other factors described in this report could adversely affect our operations, performance and financial condition.

Company Risks
If we are unable to enter into new and renewed licensing arrangements with our existing licensees and with additional third-parties for our touch-enabling technologies, our royalty and license revenue may not grow and could decline.
Our revenue growth is largely dependent on our ability to enter into new and renewed licensing arrangements. Our failure to enter into new or renewed licensing arrangements will cause our operating results to suffer. We face numerous risks in obtaining new or renewed licenses on terms consistent with our business objectives and in maintaining, expanding, and supporting our relationships with our current licensees. These risks include:
 
the competition we may face from third parties and/or the internal design teams of existing and potential licensees;
difficulties in persuading third parties to work with us, to rely on us for critical technology, and to disclose to us proprietary product development and other strategies;
difficulties in persuading existing licensees who compensate us for including our software in certain of their touch-enabled products to also license and compensate us for our patents that cover other touch-enabled products of theirs that do not include our software;
challenges in demonstrating the compelling value of our technologies and challenges associated with customers’ ability to easily implement our technologies;
difficulties in obtaining new licensees for yet-to-be commercialized technology because their suppliers may not be ready to meet stringent price, quality and parts availability requirements;
difficulties in entering into or renewing gaming licenses if video game console makers choose not to license third parties to make peripherals for their new consoles, if video console makers no longer require peripherals to play video games, if video console makers no longer utilize technology in the peripherals that are covered by our patents or if the overall market for video consoles deteriorates substantially;
reluctance of content developers or distributors, mobile device manufacturers, and service providers to sign license agreements without a critical mass of other such inter-dependent supporters of the mobile device industry also having a license, or without enough similar devices in the market that incorporate our technologies;
inability of current or prospective licensees to ship certain devices if they are involved in IP infringement claims by third parties that ultimately prevent them from shipping products or that impose substantial royalties on their products;
difficulties in persuading device manufacturers to take a license or renew a license to our intellectual property without the expenditure of significant resources; and
reluctance of device manufacturers to take a license or renew a license to our intellectual property because other larger device manufacturers are not licensed.
A limited number of customers account for a significant portion of our revenue, and the loss of major customers could harm our operating results.
Samsung Electronics accounted for approximately 40% and two other customers accounted for 13% and 12% of our total revenues, respectively, for the nine months ended September 30, 2016 , as compared to the nine months ended September 30, 2015 where Samsung Electronics accounted for approximately 32% and two other customers accounted for 18% and 14% of our total revenues. In the quarter ended September 30, 2016, we entered into Amendment No. 4 to the Amended and Restated License Agreement with Samsung pursuant to which we agreed to permit Samsung to exercise its rights to continue to sell products that were licensed under the agreement between the parties as of December 31, 2016 for the life of such products in exchange for $19 million. We have not entered into a renewal agreement with Samsung for any products released after December 31, 2016, including the Samsung Note 7, which is currently being recalled by Samsung. Because we have not renewed our agreement with Samsung, there is no assurance that Samsung will continue to generate similar revenue in any future period; and even if we were to renew our agreement with Samsung, our revenue could be adversely impacted by recalls or poorly performing mobile devices.
In addition, we cannot be certain that other customers that have accounted for significant revenue in past periods, individually or as a group, will continue to generate similar revenue in any future period.

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If we fail to renew or lose a major customer or group of customers, or if a customer decides that our intellectual property is no longer relevant and stops paying us royalties, our revenue could decline if we are unable to replace the lost revenue with revenue from other sources. In addition, if potential customers or customers with expiring agreements view the loss of one of our major customers as an indicator of the value of our software and/or the strength of our intellectual property, they may choose not to take or renew a license which could adversely affect our operating results.
Our current or any future litigation is expensive, disruptive, and time consuming, and will continue to be, until resolved, and regardless of whether we are ultimately successful, could adversely affect our business.
We have been in the past and are currently a party to various legal proceedings, including current litigation we initiated against Apple and AT&T Mobility, with companies that have significantly greater financial resources than us. Due to the inherent uncertainties of litigation, we cannot accurately predict how these cases will ultimately be resolved. We anticipate that currently pending or any future litigation will continue to be costly, given the significant resources available to our current adverse parties, and that future litigation will result in additional legal expenses, and there can be no assurance that we will be successful or be able to recover the costs we incur in connection with litigation. We expense litigation costs as incurred, and only accrue for costs that have been incurred but not paid to the vendor as of the financial statement date. Although protecting our intellectual property is a fundamental part of our business, at times, our litigation has diverted, and could continue to divert, the efforts and attention of some of our key management and personnel away from our licensing transactions. As a result, until such time as it is resolved or concluded, litigation could cause our technology to be perceived as less valuable in the marketplace, which could reduce our sales and adversely affect our business. Further, any unfavorable outcome could adversely affect our business. For additional background on our litigation, please see Part II, Item 1, “Legal Proceedings”.
If we fail to protect and enforce our IP rights or if we fail to continuously develop or acquire successful innovations and obtain patents on these innovations, our ability to license our technologies and generate revenues would be impaired.
Our business depends on generating revenues by licensing our IP rights and by customers selling products that incorporate our technologies. We rely on our significant patent portfolio to protect our proprietary rights. If we are not able to protect and enforce those rights, our ability to obtain future licenses or maintain current licenses and royalty revenue could be impaired. In addition, if a court or patent office were to limit the scope, declare unenforceable, or invalidate any of our patents, current licensees may refuse to make royalty payments, or they may choose to challenge one or more of our patents. It is also possible that:
our pending patent applications may not result in the issuance of patents;
our patents may not be broad enough to protect our proprietary rights;
effective patent protection may not be available in every country, particularly in Asia, where we or our licensees do business; and
our pending litigation against Apple and AT&T Mobility may be unsuccessful or may result in one or more of the patents asserted becoming limited in scope, declared unenforceable or invalidated.
In addition, our patents will continue to expire ac