<PAGE>
Filed pursuant to Rule 424(b)4
Registration No. 333-19373
2,350,000 SHARES
[LOGO]
COMMON STOCK
OF THE 2,350,000 SHARES OF COMMON STOCK OFFERED HEREBY, 1,434,016 SHARES ARE
BEING SOLD BY MACROVISION CORPORATION ("MACROVISION" OR THE "COMPANY") AND
915,984 SHARES ARE BEING SOLD BY THE SELLING STOCKHOLDERS. THE COMPANY WILL NOT
RECEIVE ANY OF THE PROCEEDS FROM THE SALE OF SHARES BY THE SELLING STOCKHOLDERS.
SEE "PRINCIPAL AND SELLING STOCKHOLDERS."
PRIOR TO THIS OFFERING, THERE HAS BEEN NO PUBLIC MARKET FOR THE COMMON STOCK
OF THE COMPANY. SEE "UNDERWRITING" FOR A DISCUSSION OF THE FACTORS CONSIDERED IN
DETERMINING THE INITIAL PUBLIC OFFERING PRICE. THE COMMON STOCK HAS BEEN
APPROVED FOR QUOTATION ON THE NASDAQ NATIONAL MARKET UNDER THE SYMBOL "MVSN."
SEE "RISK FACTORS" COMMENCING ON PAGE 5 OF THIS PROSPECTUS FOR A DISCUSSION
OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE
COMMON STOCK OFFERED HEREBY.
-----------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
PROCEEDS TO
PRICE TO UNDERWRITING PROCEEDS TO SELLING
PUBLIC DISCOUNT (1) COMPANY (2) STOCKHOLDERS
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
PER SHARE....................... $9.00 $0.63 $8.37 $8.37
TOTAL (3)....................... $21,150,000 $1,480,500 $12,002,714 $7,666,786
- ------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------
</TABLE>
(1) SEE "UNDERWRITING" FOR INFORMATION CONCERNING INDEMNIFICATION OF THE
UNDERWRITERS AND OTHER MATTERS.
(2) BEFORE DEDUCTING OFFERING EXPENSES PAYABLE BY THE COMPANY, ESTIMATED AT
$1,200,000.
(3) THE COMPANY HAS GRANTED TO THE UNDERWRITERS A 30-DAY OPTION TO PURCHASE UP
TO 352,500 ADDITIONAL SHARES OF COMMON STOCK SOLELY TO COVER
OVER-ALLOTMENTS, IF ANY. IF THE UNDERWRITERS EXERCISE THIS OPTION IN FULL,
THE PRICE TO PUBLIC WILL TOTAL $24,322,500, THE UNDERWRITING DISCOUNT WILL
TOTAL $1,702,575 AND THE PROCEEDS TO COMPANY WILL TOTAL $14,953,139. SEE
"UNDERWRITING."
THE SHARES OF COMMON STOCK ARE OFFERED BY THE SEVERAL UNDERWRITERS NAMED
HEREIN, SUBJECT TO RECEIPT AND ACCEPTANCE BY THEM AND SUBJECT TO THEIR RIGHT TO
REJECT ANY ORDERS IN WHOLE OR IN PART. IT IS EXPECTED THAT DELIVERY OF THE
CERTIFICATES REPRESENTING SUCH SHARES WILL BE MADE AGAINST PAYMENT THEREFOR AT
THE OFFICE OF MONTGOMERY SECURITIES ON OR ABOUT MARCH 18, 1997.
-------------------
MONTGOMERY SECURITIES
HAMBRECHT & QUIST
COWEN & COMPANY
MARCH 12, 1997
<PAGE>
HOLLYWOOD KNOWS A GREAT PICTURE WHEN THEY SEE ONE.
[PICTURE OF TELEVISION SCREEN WITH A VERY POOR QUALITY PICTURE]
[MACROVISION LOGO]
IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT
TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK OF
THE COMPANY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN
MARKET. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME.
The Company intends to distribute to its stockholders annual reports
containing consolidated financial statements audited by its independent auditors
and will make available copies of quarterly reports for the first three quarters
of each fiscal year containing unaudited consolidated financial information.
2
<PAGE>
AND MACROVISION, EXPERTS IN VIDEO SECURITY,
KNOWS HOW TO PROVIDE IT.
[SAME PICTURE AS PREVIOUS PAGE, OF A TELEVISION SCREEN
WITH A VERY POOR QUALITY PICTURE]
The above graphic represents the picture quality of an unauthorized recording of
a copy protected digital PPV program or Digital Versatile Disc
Macrovision Corporation develops and markets a range of technologies and
products, many of which are proprietary, that address the video security needs
of Hollywood studios and other video rights owners.
TYPES OF MACROVISION LICENSEES
<TABLE>
<S> <C>
- -Hollywood Studios -Direct Broadcast Satellite Operators
- -Independent Video Producers -Cable TV Multiple System Operators
- -Commercial Video Duplicators -Digital Set-Top Decoder Manufacturers
- -Telephone Companies
</TABLE>
The Company's two primary technologies are "Copy Protection" and "Video
Scrambling." In most applications, Macrovision licenses its technologies and
receives unit- or transaction-based royalties.
COPY PROTECTION
Designed to deter VCR owners from unauthorized COPYING of prerecorded or
electronically transmitted programming, Macrovision's copy protection
technologies provide security for a variety of media.
<TABLE>
<S> <C> <C> <C>
VIDEOCASSETTES DIGITALLY DELIVERED PAY-PER- DIGITAL VERSATILE DISC (DVD) [Bar graph showing
Over 1.5 billion cassettes VIEW (PPV) With the imminent number of copy protected
worldwide have been copy Because PPV programs can be introduction of movies on video cassettes]
protected by Macrovision, easily copied, Macrovision's DVDs, Macrovision's 1992 189 million
the majority of which are copy protection technology technology will deter 1993 234 million
Hollywood releases. will be essential to protect consumers from making high 1994 344 million
studios' home video, repeat quality videocassette 1995 367 million
PPV and pay TV revenues by copies. 1996 451 million
deterring VCR owners from EVERY YEAR MORE AND MORE
making copies. VIDEOCASSETTES ARE PROTECTED
BY MACROVISION'S COPY
PROTECTION TECHNOLOGY,
SIGNIFICANTLY REDUCING
UNAUTHORIZED CONSUMER
COPYING.
</TABLE>
VIDEO SCRAMBLING
Designed to prevent unauthorized VIEWING of an electronically transmitted movie
or program,
Macrovision's video scrambling technologies offer a variety of solutions in
different markets.
<TABLE>
<S> <C> <C> <C>
CABLE TV VIDEOCINEMAS SATELLITE TV NETWORKS LAW ENFORCEMENT/ GOVERNMENT
High security, low cost CineGuard-TM- scrambled StarShaker-TM- and VES-TM- VES-TM-TM- is a portable,
PhaseKrypt-Registered videocassettes can be played products help secure video hand- held, point-to-point
Trademark- scrambling only in CineGuard-licensed programs transmitted via scrambling system for law
technology is licensed to theaters, thereby adding a satellite or land-based enforcement and broadcast
emerging international pay secure distribution channel networks for corporate, applications.
TV set-top decoder as a complement to 35 mm educational or broadcast
manufacturers. film in international television applications.
markets.
</TABLE>
<PAGE>
PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO APPEARING
ELSEWHERE IN THIS PROSPECTUS. THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH
DEGREE OF RISK. SEE "RISK FACTORS."
THE COMPANY
Macrovision designs, develops and markets video security technologies and
products that provide copy protection and video scrambling for motion pictures
and other proprietary video materials. The Company derives a substantial
majority of its net revenues from fees for the application of its copy
protection technology to deter unauthorized consumer copying of prerecorded
videocassettes of motion pictures and other copyrighted materials that are sold
or rented to consumers. The Company's technology has been used to copy protect
more than 1.5 billion videocassettes worldwide since 1985. The Company believes
that its video copy protection technologies are accepted as the DE FACTO
standard for consumer copy protection.
The Company has developed an enhanced version of its videocassette copy
protection technology for the digital Pay-Per-View ("PPV") networks that are
being developed and deployed by direct broadcast satellite and cable television
operators and the digital versatile disc ("DVD") format. The expected future
growth of digital PPV and DVD, coupled with the high picture quality of a copy
made from such formats and the relative ease of copying digital PPV and DVD
content, may increase the need for effective consumer copy protection in these
applications.
The Company has licensed its copy protection technology for digital PPV to
33 set-top decoder manufacturers and four digital PPV system operators (DIRECTV,
Galaxy Latin America, the Kirsch Group and Sky Latin America). The Company's
copy protection technology is embedded in substantially all of the approximately
four million digital set-top decoders currently in use in the United States,
Japan and a number of countries in Latin America. Currently two digital PPV
program providers in Japan have activated copy protection for digital PPV
programming.
In October 1996, a multi-industry technical working group comprised of major
motion picture studios, consumer electronics manufacturers and personal computer
hardware and software companies adopted a set of copy protection principles that
established prerequisites for commercial availability of DVD hardware and media.
The Company believes that its copy protection technology is currently the only
digital-to-analog copy protection solution that satisfies these principles. To
date, Hitachi, Ltd., Matsushita Electric Industrial Co., Ltd., Pioneer
Electronic Corporation, THOMSON Multimedia, S.A., Toshiba Corporation, Victor
Company of Japan, Limited and nine other consumer electronics companies have
signed agreements with the Company to incorporate the Company's DVD copy
protection technology in their DVD players or DVD ROM hardware.
The Company's video scrambling technologies prevent unauthorized viewing of
video programming. These technologies are licensed to manufacturers of analog
set-top decoders for sale to cable television system operators in developing
markets to enable cost-effective and secure transmission of video signals. The
Company has also developed products implementing video scrambling technologies
that serve growing niche markets, such as law enforcement and private networks.
Another application of the Company's video scrambling technology is the
Company's CineGuard program, a new theatrical exhibition alternative in which
motion pictures are recorded in a scrambled state on Super VHS videocassettes
and distributed primarily to small theaters in rural towns in international
markets.
The Company licenses its technologies primarily by means of a royalty-based
model. Copyright holders and videocassette duplicators typically license the
Company's videocassette copy protection technology for a per unit fee. Set-top
decoder manufacturers license the Company's copy protection technologies for an
up-front fee and a per unit hardware royalty. The Company's agreements with
digital PPV system operators entitle the Company to transaction-based royalty
payments at such time as copy protection for digital PPV programming is
activated. For the DVD market, the Company intends to implement a business model
using media-based royalties similar to that for its videocassette copy
protection business. Video scrambling technologies either are licensed or are
sold in hardware products and components.
The Company's objective is to maintain and enhance its position as a leading
provider of video security technologies and products by implementing a strategy
that includes the following key elements: (i) pursue a royalty-based licensing
model that results in a high margin, transaction-oriented business with
recurring revenues; (ii) leverage key customer relationships to broaden the use
of existing applications for the Company's technologies; (iii) increase market
penetration of the Company's copy protection business; (iv) develop new product
applications and technologies; and (v) aggressively pursue protection of the
Company's patents.
3
<PAGE>
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered by the Company......................... 1,434,016 shares
Common Stock offered by the Selling Stockholders............ 915,984 shares
Common Stock to be outstanding after this offering.......... 6,762,207 shares (1)
Use of proceeds............................................. For general corporate purposes,
including working capital. See "Use of
Proceeds."
Nasdaq National Market symbol............................... MVSN
</TABLE>
SUMMARY CONSOLIDATED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------
1993 1994 1995 1996
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Net revenues......................................................... $ 9,549 $ 13,330 $ 14,189 $ 17,080
Operating income from continuing operations.......................... 1,571 2,804 2,183 3,318
Net income from continuing operations................................ $ 665 $ 1,501 $ 1,056 $ 1,835
Net income from continuing operations applicable to common stock
(2)................................................................ $ 606 $ 1,248
Earnings per share from continuing operations (2).................... $ 0.15 $ 0.29
Shares used in computing earnings per share (2)...................... 4,162 4,353
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1996
-------------------------
AS ADJUSTED
ACTUAL (3)
--------- --------------
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents............................................................ $ 2,409 $ 13,212
Working capital...................................................................... 2,225 13,028
Total assets......................................................................... 11,953 22,756
Long-term obligations, net of current portion........................................ 296 296
Total stockholders' equity........................................................... 6,072 16,875
</TABLE>
- --------------------------
(1) Based on shares outstanding as of December 31, 1996. Does not include
700,565 shares of Common Stock issuable upon the exercise of options
outstanding as of such date at a weighted average exercise price of $2.99
per share. Also does not include 590,216 additional shares reserved for
future grants or issuances under the Company's stock option and stock
purchase plans. See "Capitalization," "Management--Employee Benefit Plans,"
"Management--Director Compensation" and Note 5 of Notes to Consolidated
Financial Statements.
(2) Net income from continuing operations applicable to common stock is
calculated by deducting preferred stock dividends from net income from
continuing operations. Shares used in computing earnings per share do not
include convertible preferred stock. For an explanation of the determination
of the number of shares used in computing earnings per share, see Note 1 of
Notes to Consolidated Financial Statements.
(3) Adjusted to reflect the sale of the 1,434,016 shares of Common Stock offered
by the Company hereby at the initial public offering price per share of
$9.00, after deducting the underwriting discount and estimated offering
expenses. See "Capitalization" and "Use of Proceeds."
--------------------------
EXCEPT AS SET FORTH IN THE CONSOLIDATED FINANCIAL STATEMENTS OR AS OTHERWISE
NOTED HEREIN, INFORMATION IN THIS PROSPECTUS: (I) ASSUMES NO EXERCISE OF THE
UNDERWRITERS' OVER-ALLOTMENT OPTION; (II) REFLECTS THE REINCORPORATION OF THE
COMPANY AS A DELAWARE CORPORATION AND A 1-FOR-1.8 REVERSE SPLIT OF THE COMPANY'S
COMMON STOCK, BOTH OF WHICH OCCURRED IN FEBRUARY 1997; AND (III) REFLECTS THE
CONVERSION OF ALL OUTSTANDING SHARES OF PREFERRED STOCK INTO AN AGGREGATE OF
1,376,432 SHARES OF COMMON STOCK, WHICH WILL OCCUR UPON THE CLOSING OF THIS
OFFERING.
4
<PAGE>
RISK FACTORS
IN ADDITION TO THE OTHER INFORMATION IN THIS PROSPECTUS, THE FOLLOWING RISK
FACTORS SHOULD BE CONSIDERED CAREFULLY IN EVALUATING THE COMPANY AND ITS
BUSINESS BEFORE PURCHASING THE SHARES OF COMMON STOCK OFFERED HEREBY. THIS
PROSPECTUS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THE
RESULTS CONTEMPLATED IN THE FORWARD-LOOKING STATEMENTS AS A RESULT OF A NUMBER
OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THOSE DISCUSSED IN "RISK FACTORS,"
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS" AND "BUSINESS," AS WELL AS THOSE DISCUSSED ELSEWHERE IN THIS
PROSPECTUS.
FLUCTUATIONS IN FUTURE OPERATING RESULTS; SEASONALITY
The Company's operating results have fluctuated in the past, and are
expected to continue to fluctuate in the future, on an annual and quarterly
basis as a result of a number of factors. Such factors include, but are not
limited to, the timing of release of popular motion pictures on videocassettes
or digital versatile discs ("DVDs") or by digital pay-per-view ("PPV")
transmission, the degree of acceptance of the Company's copy protection
technologies by major motion picture studios, the mix of products sold and
technologies licensed, any change in product or license pricing, the seasonality
of revenues, changes in the Company's operating expenses, personnel changes, the
development of the Company's direct and indirect distribution channels, foreign
currency exchange rates and general economic conditions. The Company may choose
to reduce prices or increase spending in response to competition or new
technologies or elect to pursue new market opportunities. If new competitors,
technological advances in the industry or by existing or new competitors or
other competitive factors require the Company to invest significantly greater
resources in research and development or marketing efforts, the Company's future
operating results may be adversely affected. Because a high percentage of the
Company's operating expenses is fixed, a small variation in the timing of
recognition of revenues can cause significant variations in operating results
from period to period.
The Company has experienced significant seasonality in its business, and the
Company's financial condition and results of operations are likely to be
affected by seasonality in the future. The Company has typically experienced its
highest revenues in the fourth quarter of each calendar year followed by lower
revenues and operating income in the first quarter, and at times in subsequent
quarters, of the next year. The Company believes that this trend has been
principally due to the tendency of certain of the Company's customers to release
their more popular motion pictures on videocassettes during the Christmas
shopping season. In addition, revenues have tended to be lower in the summer
months, particularly in Europe.
Based upon the factors enumerated above, the Company believes that its
quarterly and annual revenues, expenses and operating results could vary
significantly in the future and that period-to-period comparisons should not be
relied upon as indications of future performance. There can be no assurance that
the Company will be able to grow in future periods or that it will be able to
sustain its level of net revenues or its rate of revenue growth on a quarterly
or annual basis. It is likely that, in some future quarter, the Company's
operating results will be below the expectations of stock market analysts and
investors. In such event, the price of the Company's Common Stock could be
materially adversely affected. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Quarterly Results of Operations."
DEPENDENCE ON VIDEOCASSETTE COPY PROTECTION TECHNOLOGY AND ADVOCACY BY MAJOR
MOTION PICTURE STUDIOS
The Company currently derives a substantial majority of its net revenues and
operating income from fees for the application of its patented video copy
protection technology to prerecorded videocassettes of motion pictures and other
copyrighted materials that are sold or rented to consumers. Such fees
represented 86.9%, 85.8% and 75.4% of the Company's net revenues during 1994,
1995 and 1996, respectively. The Company expects these fees to account for a
majority of the Company's net revenues and operating income at least through
1997. This portion of the Company's business has not grown significantly in
recent years, and there can be no assurance that revenues from such fees will
grow significantly or at all. Any future growth in revenues from such fees will
depend on the use of the Company's copy protection
5
<PAGE>
technology on a larger number of videocassettes. In order to increase or
maintain its market penetration, the Company must continue to persuade rights
owners that the cost of licensing the technology is outweighed by the increase
in revenues that the rights owners and retailers would achieve as a result of
using copy protection, such as revenues from additional sales of the copy
protected material and/or subsequent revenues from other venues. In this regard,
the Company's copy protection technologies are intended to deter consumer
copying and are not effective against professional duplication and video
processing equipment.
In the event that the major motion picture studios or other customers of the
Company's copy protection technology were to determine that the benefits of
using the Company's technology did not justify the cost of licensing the
technology, demand for the Company's technology would decline. Any factor that
results in a decline in demand for the Company's copy protection technology,
including a change of copy protection policy by the major motion picture studios
or a decline in sales of prerecorded videocassettes that are encoded with the
Company's copy protection technology, would have a material adverse effect on
the Company's business, financial condition and results of operations. Moreover,
the ability of the Company to expand its markets to include additional home
entertainment venues such as digital PPV and DVDs will depend in large part on
the support of the major motion picture studios in advocating the incorporation
of copy protection into the hardware and network infrastructure required to
distribute such video programming. In the event that the motion picture industry
withdraws its support for the Company's copy protection technologies or
otherwise determines not to copy protect a significant portion of prerecorded
video on videocassettes or DVD or digital PPV programs, the Company's business,
financial condition and results of operations would be materially adversely
affected. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations," "Business--Industry Background" and
"Business--Macrovision's Business, Licensed Technologies and Products."
DEPENDENCE ON KEY CUSTOMERS
The Company's customer base is highly concentrated among a limited number of
customers, primarily due to the fact that the Motion Picture Association of
America ("MPAA") studios dominate the motion picture industry. Historically, the
Company has derived a substantial majority of its net revenues from relatively
few customers. Revenues from the Company's three largest customers, Buena Vista
Home Video, Inc. ("Disney"), Twentieth Century Fox Home Entertainment, Inc.
("Fox") and Universal Studios Home Video ("Universal"), represented 45%, 44% and
37% of the Company's net revenues during 1994, 1995 and 1996, respectively. Each
of these customers is a home video supplier that uses the Company's copy
protection technology and accounted for more than 10% of the Company's net
revenues in 1994, 1995 and 1996. The Company expects that revenues from a
limited number of customers will continue to account for a substantial portion
of the Company's net revenues for the foreseeable future. In January 1997, the
Company signed a binding letter of intent with Disney, extending its prior
agreement for a three-year term and granting the right to apply the Company's
video copy protection technology to its videocassettes. In February 1997 the
Company signed binding letters of intent with Fox, extending its prior
agreement, and Universal, each for a term of one year, granting the right to
apply the Company's video copy protection technology to their videocassettes. In
addition, the letters of intent allow each of these studios to use the Company's
DVD copy protection technology should any such studio decide to release
copy-protected motion pictures in the DVD format. The Company expects to enter
into definitive agreements with these three customers in the next several
months. However, there can be no assurance that the Company will enter into
these definitive agreements. Further, there can be no assurance that, when these
agreements expire, they will be renewed, or new contracts will be entered into,
on terms favorable to the Company, or at all. The failure of any of these
customers to renew their contracts or enter into new contracts with the Company
on terms that are favorable to the Company would likely result in a substantial
decline in the Company's net revenues and operating income, and would have a
material adverse effect on the Company's business, financial condition and
results of operations. Most of the Company's other videocassette copy protection
customers license the Company's technology on a title-by-title basis. There can
be no assurance that the Company's current customers will continue to use the
Company's technology at current or increased levels, if at all, or that the
Company will be able to obtain
6
<PAGE>
new customers. The loss of, or any significant reduction in revenues from, a key
customer would have a material adverse effect on the Company's business,
financial condition and results of operations. See "Business--Macrovision's
Business, Licensed Technologies and Products," "Business--Customers" and Note 1
of Notes to Consolidated Financial Statements.
EVOLVING MARKET FOR DVD AND DIGITAL PPV COPY PROTECTION
The Company's future growth and operating results will depend to a large
extent on the successful introduction, marketing and commercial viability of
DVDs and digital PPV programming that utilize the Company's copy protection
technologies. A number of factors will affect the Company's ability to derive
revenues from DVD and digital PPV copy protection. These factors include the
cost and effectiveness of the Company's copy protection technology in its
various applications, the development of alternative technologies or standards
for DVD copy protection, the ability of the Company to obtain commitments from
the motion picture studios to require copy protection on DVD media and digital
PPV transmissions and the relative ease of copying, as well as the quality of
the copies of, unprotected video materials distributed in new digital formats.
Because of their early stages of development, demand for and market acceptance
of DVD and digital PPV, as well as demand for associated copy protection, are
subject to a high level of uncertainty. Much of the DVD and digital PPV
technology and infrastructure is unproven, and it is difficult to predict with
any assurance whether, or to what extent, these evolving markets will grow. In
this regard, the Company's future growth would be adversely affected if DVD
players and digital PPV set-top decoders that do not include the Company's copy
protection components achieve market acceptance.
While the Company's copy protection capability is embedded in approximately
four million digital set-top decoders manufactured by certain of the leading
set-top decoder manufacturers, only two programmers on one direct broadcast
satellite network in Japan have activated copy protection for digital PPV
programming. There can be no assurance that any of the MPAA studios will require
copy protection for any of their PPV motion pictures or that PPV system
operators will activate such copy protection. Moreover, consumers may react
negatively to copy protected PPV programming because, to date, they have
routinely copied for later viewing analog cable and satellite-delivered
subscription television ("Pay TV") and PPV programs, as well as free broadcast
programming. In addition, there can be no assurance that certain television sets
or combinations of VCRs and television sets will not exhibit impaired pictures
while displaying a copy protected DVD or digital PPV program. If there is
consumer dissatisfaction that cannot be managed, or if there are technical
compatibility problems, the Company's business, financial condition and results
of operations would be materially adversely affected. If the market for DVD or
digital PPV copy protection fails to develop or develops more slowly than
expected, or if the Company's solution does not achieve or sustain market
acceptance, the Company's business, financial condition and results of
operations would be materially adversely affected. See "Business--Macrovision's
Business, Licensed Technologies and Products."
DEPENDENCE ON PROPRIETARY TECHNOLOGY
The Company's success is heavily dependent upon its proprietary
technologies. The Company relies primarily on a combination of patent,
trademark, copyright and trade secret laws, nondisclosure and other contractual
provisions, and technical measures to protect its intellectual property rights.
The Company holds 29 United States patents and has 37 United States patent
applications pending, of which seven are allowed. In addition, the Company has
103 foreign patents and 127 foreign patent applications pending. There can be no
assurance that any patent, trademark or copyright owned by the Company will not
be challenged and invalidated or circumvented, that patents will issue from any
of the Company's pending or future patent applications or that any claims in
issued patents or pending patent applications will be of sufficient scope or
strength or be issued in all countries where the Company's products can be sold
or its technologies can be licensed to provide meaningful protection or any
commercial advantage to the Company. There can be no assurance that the
expiration of any of the Company's patents will not have a material adverse
effect on the Company's business, financial condition and results of operations.
Further, there can be no assurance that others will not develop technologies
that are similar or superior to the Company's technologies, duplicate the
Company's technologies or design around the patents owned by the
7
<PAGE>
Company. Effective intellectual property protection may be unavailable or
limited in certain foreign countries. Despite the Company's efforts to protect
its proprietary rights, unauthorized parties may attempt to copy or otherwise
use aspects of the Company's processes and devices that the Company regards as
proprietary. Policing unauthorized use of the Company's proprietary information
is difficult, and there can be no assurance that the steps taken by the Company
will prevent misappropriation of its technologies. In the event that the
Company's intellectual property protection is insufficient to protect the
Company's intellectual property rights, the Company could face increased
competition in the market for its products and technologies, which could have a
material adverse effect on the Company's business, financial condition and
results of operations.
From time to time, the Company has received claims from third parties that
the Company's technologies and products infringe the intellectual property
rights of such third parties, and the Company may receive similar claims in the
future. Any such claims, with or without merit, could be time consuming to
defend, result in costly litigation, cause product shipment delays or require
the Company to cease utilizing the infringing technology unless it can enter
into royalty or licensing agreements. Such royalty or licensing agreements might
not be available on terms acceptable to the Company, or at all, which could have
a material adverse effect on the Company's business, financial condition and
results of operations. The Company has six United States and 17 foreign patents
covering a number of processes and devices that unauthorized parties could use
to circumvent the Company's copy protection technologies. The Company uses these
patents to limit the proliferation of devices intended to circumvent the
Company's copy protection technologies. The Company has initiated a number of
patent infringement disputes against manufacturers and distributors of such
devices. No lawsuits of this type are pending currently, but litigation may be
necessary in the future to limit the sale of defeat technologies, to enforce the
Company's patents and other intellectual property rights, to protect the
Company's trade secrets, to determine the validity and scope of the proprietary
rights of others or to defend against claims of infringement or invalidity.
There can be no assurance that any such litigation will be successful. Such
litigation could result in substantial costs and diversion of resources and
could have a material adverse effect on the Company's business, financial
condition and results of operations, whether or not such litigation is
determined adversely to the Company. In the event of an adverse ruling in any
such litigation, the Company may be required to pay substantial damages,
discontinue the use and sale of infringing products, expend significant
resources to develop non-infringing technology or obtain licenses to infringed
technology. The failure of the Company to develop or license a substitute
technology could have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, such an adverse
ruling could result in the increased proliferation of devices that defeat the
Company's copy protection technology, which could result in a decline in demand
for the Company's technologies. See "--Risks of Defeat Technologies,"
"Business--Research and Development" and "Business--Intellectual Property
Rights."
RAPID TECHNOLOGICAL CHANGE
The video security industry in which the Company competes, and in which its
technologies and products are utilized, is characterized by rapid technological
change, frequent product introductions and enhancements, changes in customer
demands and evolving industry standards. The emergence of new industry standards
and the introduction of new technologies or products embodying new technologies
can render existing technologies or products obsolete and unmarketable. For
example, new industry standards for VCRs or television sets could adversely
affect the effectiveness or transparency of the Company's copy protection
technology. The Company's videocassette copy protection technology exploits the
automatic gain control ("AGC") circuit in VHS VCRs. While most VCR manufacturers
use a standard AGC circuit that responds to the Company's copy protection
process, there can be no assurance that VCR manufacturers will not use
alternative AGC circuits that do not respond to the Company's copy protection
technology, thereby lessening the effectiveness of the Company's consumer copy
protection solution over time as new VCRs are sold into the market. Moreover,
there can be no assurance that television manufacturers will continue to design
television sets that are transparent to the Company's copy protection
technologies when they display original, copy protected videocassettes, DVDs and
digital PPV programming. The success of the Company's PhaseKrypt video
scrambling technology will depend upon the growth of analog cable Pay
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TV networks in the Pacific Rim and other developing countries and the ability of
the Company's licensees to sell into those markets. The development of lower
cost digital video scrambling systems could result in a transition from analog
to digital scrambling systems in the developing cable Pay TV markets and a
reduction in demand for the Company's PhaseKrypt video scrambling technology.
The Company's future success will depend in large part on its ability to
enhance its current technologies and products in a timely, cost-effective manner
and to develop new technologies and products that meet changing market
conditions, which include emerging industry standards, changing customer
demands, new competitive product offerings and changing technology. There can be
no assurance that the Company will be successful in developing and marketing, on
a timely and cost-effective basis or at all, fully functional and integrated
product enhancements or new technologies or products that respond to
technological change, updates or enhancements to other consumer electronics
products, changes in customer requirements or evolving industry standards; that
the Company will not experience difficulties that delay or prevent the
successful development, introduction and license or sale of such enhancements,
technologies or products; or that any such enhancements, technologies or
products will adequately meet the requirements of the marketplace and achieve
market acceptance. Any failure by the Company to anticipate or to respond
adequately to changing market conditions, or any significant delays in
technology or product development or introduction, could cause customers to
delay or decide against licensing or purchasing the Company's technologies or
products and would have a material adverse effect on the Company's business,
financial condition and results of operations. See "Business--Research and
Development" and "Business--Legislative and Technology Initiatives."
RISKS OF DEFEAT TECHNOLOGIES
Attempts by third parties to defeat the Company's copy protection
technologies have been and are expected to be a persistent problem. To
anticipate such attempts, the Company has developed and patented a number of
processes and devices that could be used by unauthorized parties to circumvent
its copy protection technologies. The Company has then attempted to use these
patents as barriers to the manufacture and sale of such devices by others.
Notwithstanding the Company's patent position, a number of devices have been
available, and currently are available, that defeat copy protection. Moreover,
the Company's copy protection technologies are not effective against
professional duplication and video processing equipment. There can be no
assurance that third parties will not be able to develop defeat technologies
that do not infringe the Company's patents or that the Company will be able to
obtain patents on defeat technologies developed in the future. A number of
factors could cause copyright holders to choose not to use the Company's copy
protection technology, including a perception that the inability of the
Company's technology to deter professional pirates renders the Company's
technology less useful, the commercial availability of products that defeat the
Company's copy protection technology, or any significant reduction in the
effectiveness of the Company's copy protection technology in deterring consumer
copying. Any reduction in demand for the Company's products could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "--Dependence on Proprietary Technology,"
"Business--Technology," "Business--Research and Development" and
"Business--Intellectual Property Rights."
DEPENDENCE ON SUPPLIERS AND THIRD-PARTY MANUFACTURERS
The Company depends upon third-party manufacturers and suppliers for
components, subassemblies and printed circuit boards used in its VES products,
StarShaker products, PhaseKrypt encoders, PhaseKrypt decoder components and
videocassette copy protection processors. The Company's product designs are
proprietary but generally incorporate industry-standard hardware components that
are obtainable from multiple sources. The Company's ability to deliver its
products in a timely manner depends upon the availability of quality components
and subassemblies used in these products and, in part, on the ability of
subcontractors to manufacture, assemble and deliver certain items in a timely
and satisfactory manner. The Company obtains certain electronic components and
subassemblies from a single source or a limited number of sources. For example,
Atmel Corporation is currently the Company's sole source of integrated circuits
for the Company's PhaseKrypt decoders and BARCO N.V. is currently the sole
source of
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integrated decoders for CineGuard video projectors. The reliance on third-party
manufacturers and sole or limited suppliers involves a number of risks,
including a potential inability to obtain an adequate supply of required
components, subassemblies and printed circuit boards and reduced control over
pricing, quality and timely delivery of components, subassemblies and printed
circuit boards. A significant interruption in the delivery of any such items or
any other circumstance that would require the Company to seek alternative
sources of supply could result in the inability of the Company to deliver
certain of its products on a timely basis, which in turn could result in a
deterioration of the Company's customer relationships and have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Business--Manufacturing."
NEED TO ESTABLISH AND MAINTAIN LICENSING RELATIONSHIPS
The Company's future success will depend in part upon its ability to
establish and maintain licensing relationships with companies in related
business fields, including videocassette duplicators, international distributors
of videocassettes, DVD authoring houses and replicators, semiconductor and
equipment manufacturers, operators of digital PPV systems, consumer electronics
hardware manufacturers and video cinema exhibitors. The Company believes that
these current and future relationships can allow the Company greater access to
manufacturing, sales and distribution resources. However, the amount and timing
of resources to be devoted to these activities by such other companies are not
within the Company's control. There can be no assurance that the Company will be
able to maintain its existing relationships or enter into beneficial
relationships in the future, that other parties will perform their obligations
as expected or that the Company's reliance on others for the development,
manufacturing and distribution of its technologies and products will not result
in unforeseen problems. Substantially all of the Company's license agreements
are non-exclusive, and therefore such licensees are free to enter into similar
agreements with third parties, including the Company's current or potential
competitors. There can be no assurance that the Company's licensees will not
develop or pursue alternative technologies either on their own or in
collaboration with others, including the Company's competitors, as a means of
developing or marketing products targeted by the collaborative programs and by
the Company's products. The failure of any of the Company's current or future
collaboration efforts could have a material adverse effect on the Company's
ability to introduce new products or applications and therefore could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Business--Macrovision's Business, Licensed
Technologies and Products" and "Business--Customers."
RISKS ASSOCIATED WITH CINEGUARD
The Company's CineGuard program has only recently been launched and is
subject to a high degree of risk and uncertainty. The success of CineGuard will
depend in part on the ability of the Company's licensees to launch and operate
video cinemas to supplement film theaters. The exhibition infrastructure
supporting CineGuard must be built and developed. The Company does not have
written contractual commitments from the motion picture studios to provide films
for exhibition in CineGuard theaters. There can be no assurance that the studios
will make major motion pictures available on scrambled videocassettes for
exhibition in CineGuard theaters at the same time that film prints are available
in other theaters, or at all. It is difficult to predict with any assurance
whether CineGuard will prove to be a viable business, or whether demand for
CineGuard licenses will increase in the future. In addition, the market is new
and evolving and it is difficult to predict the future growth of this market.
There can be no assurance that video cinema markets will be sustainable or
develop as the Company hopes. If markets fail to develop or develop more slowly
than expected, or if CineGuard does not achieve or sustain market acceptance,
the Company's business, financial condition and results of operations would be
materially adversely affected. See "Business--Macrovision's Business, Licensed
Technologies and Products."
COMPETITION
The Company believes that it has had no significant videocassette copy
protection competitor for the last five years other than companies that have
occasionally developed hardware based on the Company's technology in foreign
countries where the Company does not have patents issued. It is possible,
however,
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that a competitive copy protection technology could be developed in the future.
For example, the Company's customers could attempt to promote competition by
supporting the development of alternative copy protection technologies or
solutions, including solutions that deter professional duplication. Increased
competition would be likely to result in price reductions and loss of market
share, either of which could materially adversely affect the Company's business,
financial condition and results of operations.
The market for video scrambling products is highly competitive. The Company,
as a recent entrant into these markets, competes directly or through licensed
manufacturers with many companies, including Scientific-Atlanta, Inc., General
Instrument Corporation, Leitch Technology International, Inc., Zenith
Electronics Corporation and Toshiba Corporation. These companies have
substantially greater name recognition, larger installed customer bases and
market share and significantly greater financial, technical, marketing and other
resources than the Company and its licensees, many of which are manufacturing
and selling addressable set-top decoders for the first time. There can be no
assurance that the Company and its licensees will be able to compete
successfully in the video scrambling systems markets, that the Company will be
able to make technological advances necessary to improve or even maintain its
competitive position or that the Company's products will achieve market
acceptance. In addition, there can be no assurance that technological changes or
development efforts by the Company's competitors will not render the Company's
video scrambling products obsolete or uncompetitive.
The Company is not aware of any technology that competes directly with
CineGuard. Competition for CineGuard may come from film cinemas located near
CineGuard theaters. CineGuard theaters could be at a competitive disadvantage
compared to film, because film typically has better picture quality and a larger
projected image than video. Motion picture distributors might also give
programming priority to competing film cinemas or withdraw programming entirely
from CineGuard theaters in competition with film cinemas. Additionally,
competitors might attempt to develop or acquire competing technologies that
could provide the necessary security for video cinema applications. Potential
competitors include large multinational video projector manufacturers or other
consumer electronic products companies. In particular, several large
corporations have announced digital video projectors that could replace film in
cinemas. This development or any other development that presents a
cost-effective, secure and high quality alternative to film for cinema
projection would compete against CineGuard. There can be no assurance that the
Company will be able to compete successfully against current and future
competitors or that competitive pressures faced by the Company will not
materially adversely affect the Company's business, financial condition and
results of operations. See "Business--Competition."
RISKS ASSOCIATED WITH INTERNATIONAL AND EXPORT SALES
In 1994, 1995 and 1996, international and export sales together represented
38.9%, 33.2% and 37.9%, respectively, of the Company's net revenues. The Company
expects that such sales will continue to represent a substantial portion of its
net revenues for the foreseeable future. The Company's future growth will depend
to a large extent on worldwide deployment of addressable analog cable television
systems, as well as digital PPV programming, DVDs and CineGuard. To the extent
that foreign governments impose restrictions on importation of programming,
technology or components from the United States, the requirement for copy
protection and video scrambling in these markets would diminish. Any limitation
on the growth of these markets or the Company's ability to sell its products or
license its technologies into these markets would have a material adverse effect
on the Company's business, financial condition and results of operations. In
addition, the laws of certain foreign countries may not protect the Company's
intellectual property rights to the same extent as do the laws of the United
States, which increases the risk of unauthorized use of the Company's
technologies and the ready availability or use of defeat technologies. Such laws
also may not be conducive to copyright protection of video materials and digital
media, which reduces the need for the Company's copy protection and video
scrambling technologies.
Due to its reliance on international and export sales, the Company is
subject to the risks of conducting business internationally, including foreign
government regulation and general geopolitical risks such as political and
economic instability, potential hostilities and changes in diplomatic and trade
relationships.
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International and export sales are subject to other risks, such as changes in,
or imposition of, regulatory requirements, tariffs or taxes and other trade
barriers and restrictions, foreign government regulations, fluctuations in
currency exchange rates, interpretations or enforceability of local patent or
other intellectual property laws, longer payment cycles, difficulty in
collecting accounts receivable, potentially adverse tax consequences, the
burdens of complying with a variety of foreign laws, difficulty in staffing and
managing foreign operations and political and economic instability. For example,
under the United States Export Administration Act of 1979, as amended, and
regulations promulgated thereunder, encryption algorithms such as those used in
the Company's video scrambling technologies are classified as munitions and
subject to stringent export controls. Any changes to the statute or the
regulations with respect to export of encryption technologies could require the
Company to redesign its products or technologies or prevent the Company from
selling its products and licensing its technologies internationally. While
international and export sales are typically denominated in United States
dollars, fluctuations in currency exchange rates could cause the Company's
products to become relatively more expensive to customers in a particular
country, leading to a reduction in sales or profitability in that country. There
can be no assurance that the Company's future results of operations will not be
materially adversely affected by currency fluctuations. There can be no
assurance that foreign markets will continue to develop or that the Company will
receive additional orders to supply its products for use in foreign transmission
systems. The Company's business and operating results could be materially
adversely affected if foreign markets do not continue to develop, or if the
Company does not receive additional orders to supply its technologies or
products for use in foreign prerecorded video, PPV and Pay TV networks and other
applications requiring the Company's video security solutions. See
"Business--Sales, Marketing and Customer Support" and Note 9 of Notes to
Consolidated Financial Statements.
MANAGEMENT OF GROWTH
The growth of the Company's business has placed, and is expected to continue
to place, significant demands on the Company's personnel, management and other
resources. The Company's future results of operations will depend in part on the
ability of its officers and other key employees to continue to implement and
expand its operational, customer support and financial control systems and to
expand, train and manage its employee base. In order to manage its future
growth, if any, successfully, the Company will be required to hire additional
personnel and to augment its existing financial and management systems or to
implement new such systems. There can be no assurance that management will be
able to augment or to implement such systems efficiently or on a timely basis,
and the failure to do so could have a material adverse effect on the Company's
business, financial condition or results of operations. There can be no
assurance that the Company will be able to manage any future expansion
successfully, and any inability to do so would have a material adverse effect on
the Company's business, financial condition or results of operations.
DEPENDENCE ON KEY PERSONNEL
Because of the specialized nature of the Company's business, the Company's
future performance is highly dependent upon the continued service of members of
the Company's senior management and other key research and development and sales
and marketing personnel. The loss of any of such persons could have a material
adverse effect on the Company's business, financial condition and results of
operations. The Company does not have employment contracts for a fixed term with
any of its employees in the United States. The Company believes that its future
success will depend upon its continuing ability to identify, attract, train and
retain other highly skilled managerial, technical, sales and marketing
personnel. Hiring for such personnel is competitive. There can be no assurance
that the Company will be able to continue to attract, assimilate and retain the
qualified personnel necessary for the development of its business. The failure
to recruit additional key personnel in a timely manner, or the failure to retain
new or current personnel, would have a material adverse effect on the Company's
business, financial condition and results of operations. See
"Business--Employees" and "Management."
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TRANSACTIONS WITH COMPANY AFFILIATES
The Company is a party to a number of transactions with affiliated entities.
Victor Company of Japan, Limited ("JVC"), the parent of a principal stockholder
of the Company, licenses and utilizes various technologies of the Company
pursuant to several agreements. Matsushita Electric Industrial Co., Ltd., which
owns approximately 52% of JVC, also is a party to three agreements with the
Company. In addition, the Company has certain agreements with a former
subsidiary in which it currently has a 19.8% interest. See "Certain
Transactions" and Note 4 of Notes to Consolidated Financial Statements.
CONTROL BY PRINCIPAL STOCKHOLDERS, OFFICERS AND DIRECTORS
Immediately following this offering, the Company's principal stockholders,
officers, directors and their affiliates will, in the aggregate, beneficially
own approximately 49.9% of the Company's outstanding Common Stock (47.5% if the
Underwriters' over-allotment option is exercised in full). As a result, such
persons, acting together, will have the ability to control the vote on all
matters submitted to the stockholders of the Company for approval (including
election of directors and any merger, consolidation or sale of all or
substantially all of the Company's assets) and to control the management and
affairs of the Company. Accordingly, such concentration of ownership may have
the effect of delaying, deferring or preventing a change in control of the
Company, impede a merger, consolidation, takeover or other business combination
involving the Company or discourage a potential acquirer from making a tender
offer or otherwise attempting to obtain control of the Company. In addition, a
principal stockholder of the Company has the right to purchase a pro rata
portion (proportionate to its ownership interest in the Company) of any equity
securities offered by the Company, subject to certain exceptions. Such right
could have the effect of making it more difficult for the Company to effect
financing transactions in the future. See "Management," "Certain Transactions"
and "Principal and Selling Stockholders."
MANAGEMENT'S DISCRETION OVER PROCEEDS OF THE OFFERING
The Company expects to use the net proceeds of this offering, over time, for
general corporate purposes, including working capital. However, the Company has
no current specific plans for the net proceeds of this offering. As a result,
the Company's management will have the discretion to allocate the net proceeds
to uses that stockholders may not deem desirable. There can be no assurance that
the net proceeds can or will be invested to yield a significant return. See "Use
of Proceeds."
LITIGATION RISK
In October 1995, Joseph Swyt, a former officer and director of the Company,
filed suit against the Company in the Superior Court of the State of California
alleging monetary damages suffered as a result of alleged fraud,
misrepresentation and other malfeasance in connection with the Company's grant
of stock options to him. Mr. Swyt maintains that the Company induced him to
accept employment by falsely representing to him that the options granted to him
eventually would have substantial value. Between August 1990 and December 1993,
the Company granted to him options to purchase approximately 200,000 shares with
per-share exercise prices of $2.25 or $2.70. Substantially all of these options
expired unexercised within three months following his departure from the Company
in June 1995. In December 1996, the court ordered this matter to binding
arbitration in accordance with a written agreement between the Company and Mr.
Swyt. The arbitration agreement contains limitations on the types of damages
available to Mr. Swyt and expressly precludes punitive damages. The Company
believes that the case is without merit and intends to contest it vigorously.
However, a decision against the Company could have a material adverse effect on
the Company's business, financial condition and results of operations. See
"Business-- Legal Proceedings" and Note 8 of Notes to Consolidated Financial
Statements.
EFFECT OF ANTI-TAKEOVER PROVISIONS
Immediately after the closing of this offering, the Company's Board of
Directors will have the authority to issue up to 5,000,000 shares of Preferred
Stock and to determine the price, rights, preferences, privileges and
restrictions, including voting rights, of those shares without any further vote
or action by the
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stockholders. The rights of the holders of Common Stock will be subject to, and
may be adversely affected by, the rights of the holders of any Preferred Stock
that may be issued in the future. The issuance of Preferred Stock may delay,
defer or prevent a change in control of the Company. The Company has no present
plans to issue shares of Preferred Stock; however, in the future the Company
plans to consider the adoption of a stockholder rights plan in order to protect
the Company's stockholders from coercive or abusive takeover tactics and to
afford the Company's Board of Directors more negotiating leverage in dealing
with potential acquirors. Additionally, the Company's charter documents contain
a provision eliminating the ability of the Company's stockholders to take action
by written consent effective upon the closing of this offering. This provision
is designed to reduce the vulnerability of the Company to an unsolicited
acquisition proposal, to maintain independent ownership and control of the
Company's copy protection technologies and to render the use of stockholder
written consent unavailable as a tactic in a proxy fight. However, such
provision could have the effect of discouraging others from making tender offers
for the Company's shares, thereby inhibiting increases in the market price of
the Company's shares that could result from actual or rumored takeover attempts.
Such provision also may have the effect of preventing changes in the management
of the Company. Further, the Company's Bylaws limit the ability of stockholders
of the Company to raise matters at a meeting of stockholders without giving
advance notice thereof. In addition, Section 203 of the Delaware General
Corporation Law, to which the Company is subject, restricts certain business
combinations with any "interested stockholder" as defined by such statute. The
statute may delay, defer or prevent a change in control of the Company. See
"Description of Capital Stock--Change of Control Provisions" and "Description of
Capital Stock--Delaware Anti-Takeover Law."
Pursuant to the terms of a Copy Protection Technology Agreement (the
"Technology Agreement") between the Company and Victor Company of Japan, Limited
("JVC"), the Company has agreed to continue to license its copy protection
technologies to third parties in the event of the acquisition of the Company by
a party other than JVC. Further, the Company has granted to JVC the right to
sublicense the Company's copy protection technologies in the event that the
Company fails to make its copy protection technologies generally available for
licensing to third parties following an acquisition of the Company. The
Technology Agreement could have the effect of making the Company less attractive
to third parties as an acquisition candidate. See "Certain
Transactions--Transactions with Pacific Media Development, Inc. and Victor
Company of Japan, Limited."
SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of the Company's Common Stock (including shares
issued upon the exercise of outstanding options) in the public market or the
prospect of such sales could adversely affect the market price of the Company's
Common Stock. Such sales also might make it more difficult for the Company to
sell equity or equity-related securities in the future at a time and price that
the Company deems appropriate. In addition to the 2,350,000 shares of Common
Stock offered hereby (assuming no exercise of the Underwriters' over-allotment
option), as of the effective date of the Registration Statement for this
offering (the "Effective Date"), there will be approximately 4,412,207 shares of
Common Stock outstanding, all of which are restricted shares ("Restricted
Shares") under the Securities Act of 1933, as amended (the "Securities Act"). As
of the Effective Date, 95,495 Restricted Shares will be eligible for immediate
sale in the public market in addition to the shares offered hereby.
Approximately 204 additional Restricted Shares will be eligible for sale in the
public market pursuant to Rule 701 beginning 90 days after the Effective Date.
All of the remaining Restricted Shares will be available for sale in the public
market following the expiration of 180-day lock-up agreements with the
Representatives of the Underwriters. Montgomery Securities may, in its sole
discretion and at any time without notice, release all or any portion of the
securities subject to lock-up agreements. In addition, beginning six months
after the Effective Date, the holders of 2,081,488 Restricted Shares will be
entitled to certain rights with respect to registration of such shares for sale
in the public market.
Upon the effectiveness of this offering or shortly thereafter, the Company
intends to register approximately 1,290,781 shares of Common Stock reserved for
issuance under its Stock Option Plan, its 1996 Equity Incentive Plan, its 1996
Directors Stock Option Plan and its 1996 Employee Stock Purchase
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Plan. As of December 31, 1996, options to purchase a total of 700,565 shares of
the Company's Common Stock were outstanding (although 694,112 of the shares
issuable upon exercise of such options will be subject to lock-up restrictions
on sale for 180 days after the Effective Date) and 590,216 shares of Common
Stock were reserved for future issuance under the Company's 1996 Equity
Incentive Plan, 1996 Directors Stock Option Plan and 1996 Employee Stock
Purchase Plan. See "Management--Employee Benefit Plans," "Description of Capital
Stock--Registration Rights," "Shares Eligible for Future Sale" and
"Underwriting."
NO PRIOR MARKET FOR COMMON STOCK
Prior to this offering, there has been no public market for the Company's
Common Stock. The initial public offering price was determined through
negotiations among the Company, the Selling Stockholders and the Representatives
of the Underwriters. See "Underwriting" for a discussion of the factors to be
considered in determining the initial public offering price. There can be no
assurance that an active public market will develop or be sustained after this
offering or that the market price of the Common Stock will not decline below the
public offering price. The Company intends to add two independent directors to
the Board of Directors within 60 days after this offering. In the event that the
Company fails to appoint such directors within 90 days after this offering, the
Nasdaq National Market could terminate the listing of the Company's Common Stock
on the Nasdaq National Market, which would have a material adverse effect on the
liquidity and trading price of the Common Stock. See "Management."
POTENTIAL VOLATILITY OF STOCK PRICE
The market price of the Company's Common Stock is likely to be highly
volatile and could be significantly affected by factors such as actual or
anticipated fluctuations in the Company's operating results, announcements of
technical innovations, new products or new contracts by the Company, its
competitors or their customers, governmental regulatory action, developments
with respect to patents or proprietary rights, changes in financial estimates by
securities analysts, general market conditions and other factors, certain of
which could be unrelated to, or outside the control of, the Company. In
addition, announcements by the MPAA or its members, satellite television
operators, cable television operators, government agencies or others regarding
motion picture distribution, business combinations or other developments could
cause the market price of the Company's Common Stock to fluctuate substantially.
The stock market has from time to time experienced significant price and volume
fluctuations that have particularly affected the market prices for the common
stocks of technology companies and that often have been unrelated or
disproportionate to the operating performance of such companies. Further, the
trading prices of many technology companies' stocks are at or near historical
highs and reflect price/earnings ratios substantially above historical levels.
There can be no assurance that these trading prices and price/earnings ratios
will be sustained. In the past, following periods of volatility in the market
price of a company's securities, securities class action litigation often has
been initiated against such company. There can be no assurance that such
litigation will not occur in the future with respect to the Company. Such
litigation, if instituted, could result in substantial costs and a diversion of
management's attention and resources, which could have a material adverse effect
on the Company's business, financial condition and results of operations. Any
settlement or adverse determination in such litigation could also subject the
Company to significant liability, which could have a material adverse effect on
the Company's business, financial condition and results of operations. These
market price fluctuations, as well as general economic, political and market
conditions such as recessions or international currency fluctuations, may
adversely affect the market price of the Common Stock.
IMMEDIATE AND SUBSTANTIAL DILUTION
Purchasers of the Common Stock in this offering will suffer immediate and
substantial dilution of $6.68 per share in the net tangible book value per share
of the Common Stock from the initial public offering price, at the initial
public offering price of $9.00 per share and after deducting the underwriting
discount and estimated offering expenses. To the extent that outstanding options
to purchase the Company's Common Stock are exercised, there will be further
dilution. See "Dilution."
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THE COMPANY
The Company was incorporated in California in January 1983. It operated as a
corporation until 1985 and as a limited partnership from 1985 until its
incorporation as Macrovision Corporation in 1987. The Company reincorporated in
Delaware in February 1997. As used in this Prospectus, references to the
"Company" and "Macrovision" refer to Macrovision Corporation, its predecessors
and its consolidated subsidiaries. The Company's principal executive offices are
located at 1341 Orleans Drive, Sunnyvale, California 94089. The Company's
telephone number is (408) 743-8600.
Macrovision-Registered Trademark-, PhaseKrypt-Registered Trademark- and
Protecting Your Image-Registered Trademark- are registered trademarks of the
Company. CineGuard-TM-, Colorstripe-TM-, StarShaker-TM-, VES-TM- and VES-TM-TM-
are trademarks of the Company. All other trademarks or trade names referred to
in this Prospectus are the property of their respective owners.
USE OF PROCEEDS
The net proceeds to the Company from the sale of the 1,434,016 shares of
Common Stock offered by the Company hereby are estimated to be approximately
$10,803,000 ($13,753,000 if the Underwriters' over-allotment option is exercised
in full), after deducting the underwriting discount and estimated offering
expenses. The Company expects to use the net proceeds for general corporate
purposes, including working capital. However, the Company has not allocated any
specific portion of the net proceeds to such purposes and management will have
the ability to allocate such proceeds at its discretion. From time to time in
the ordinary course of business, the Company evaluates the acquisition of
products, businesses and technologies that complement the Company's business,
for which a portion of the net proceeds may be used. Currently, however, the
Company does not have any understandings, commitments or agreements with respect
to any such acquisitions. Pending use of the net proceeds for the above
purposes, the Company intends to invest such funds in short-term,
interest-bearing, investment-grade securities. The Company will not receive any
proceeds from the sale of shares by the Selling Stockholders. See "Risk
Factors--Management's Discretion Over Proceeds of the Offering."
DIVIDEND POLICY
The Company currently anticipates that it will retain all future earnings
for use in its business and does not anticipate that it will pay any cash
dividends in the foreseeable future. The payment of any future dividends will be
at the discretion of the Company's Board of Directors and will depend upon,
among other things, future earnings, operations, capital requirements and the
general financial condition of the Company, general business conditions and
contractual restrictions on payment of dividends, if any.
Pursuant to a contractual arrangement, the Company distributed to its common
stockholders other than Pacific Media Development, Inc. a cash dividend of
approximately $0.22 per share in each of 1992, 1993 and 1994. In addition, the
Company has paid or declared a cash dividend of $0.135 per share of Series A
Preferred Stock in every quarter since the third quarter of 1991. The accrued
Series A Preferred Stock dividend for the quarter ending March 31, 1997 will be
paid pro rata for the portion of the quarter prior to conversion of the Series A
Preferred Stock into Common Stock.
16
<PAGE>
CAPITALIZATION
The following table sets forth, as of December 31, 1996: (i) the actual
capitalization of the Company; (ii) the capitalization of the Company on a pro
forma basis to give effect to the conversion into Common Stock of all
outstanding shares of Preferred Stock upon the closing of this offering; and
(iii) the pro forma capitalization of the Company as adjusted to give effect to
the sale and issuance of the 1,434,016 shares of Common Stock offered by the
Company hereby at the initial public offering price of $9.00 per share, after
deducting the underwriting discount and estimated offering expenses.
<TABLE>
<CAPTION>
DECEMBER 31, 1996
-----------------------------------
ACTUAL PRO FORMA AS ADJUSTED
--------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Capital lease liability, net of current portion (1)........................... $ 296 $ 296 $ 296
--------- ----------- -----------
--------- ----------- -----------
Stockholders' equity (2):
Preferred stock, par value $0.001 per share:
Authorized, 5,000,000 shares (5,000,000 shares pro forma and as adjusted);
issued and outstanding, 1,376,432 shares (no shares pro forma or as
adjusted)............................................................... 1 -- --
Common stock, par value $0.001 per share:
Authorized, 100,000,000 shares (50,000,000 shares pro forma and as
adjusted), issued and outstanding, 3,951,759 shares (5,328,191 shares
pro forma and 6,762,207 shares as adjusted) (3)......................... 4 5 7
Additional paid-in capital.................................................. 9,530 9,530 20,331
Stockholder notes receivable................................................ (157) (157) (157)
Deferred stock compensation................................................. (240) (240) (240)
Accumulated deficit......................................................... (2,931) (2,931) (2,931)
Accumulated translation adjustment.......................................... (135) (135) (135)
--------- ----------- -----------
Total stockholders' equity.............................................. 6,072 6,072 16,875
--------- ----------- -----------
Total capitalization.................................................. $ 6,368 $ 6,368 $ 17,171
--------- ----------- -----------
--------- ----------- -----------
</TABLE>
- ------------------------
(1) See Note 7 of Notes to Consolidated Financial Statements.
(2) See Note 5 of Notes to Consolidated Financial Statements.
(3) The numbers of shares of Common Stock issued and outstanding do not include
700,565 shares of Common Stock issuable at a weighted average exercise price
of $2.99 per share upon exercise of stock options outstanding as of December
31, 1996 under the Company's Stock Option Plan, 90,216 additional shares
reserved for future grants under the Stock Option Plan, 300,000 shares
reserved for future grants under the 1996 Equity Incentive Plan, 60,000
shares reserved for future grants under the 1996 Directors Stock Option Plan
or 140,000 shares reserved for future issuance under the 1996 Employee Stock
Purchase Plan. See "Management--Director Compensation" and "Management--
Employee Benefit Plans" and Note 5 of Notes to Consolidated Financial
Statements.
17
<PAGE>
DILUTION
The net tangible book value of the Company as of December 31, 1996, assuming
the conversion of all outstanding shares of Preferred Stock, was $4,911,000 or
$0.92 per share of Common Stock. Net tangible book value per share represents
the amount of the Company's total tangible assets less total liabilities divided
by the number of shares of Common Stock outstanding at that date. After giving
effect to the sale of the 1,434,016 shares of Common Stock offered by the
Company hereby (at the initial public offering price of $9.00 per share and
after deducting the underwriting discount and estimated offering expenses), the
pro forma net tangible book value of the Company as of December 31, 1996 would
have been approximately $15,714,000 or $2.32 per share. This represents an
immediate increase in net tangible book value of $1.40 per share to existing
stockholders and an immediate dilution of $6.68 per share to new investors in
this offering. The following table illustrates the per share dilution.
<TABLE>
<S> <C> <C>
Initial public offering price per share.............................. $ 9.00
Pro forma net tangible book value per share as of December 31,
1996............................................................. $ 0.92
Increase in pro forma net tangible book value per share
attributable to new investors.................................... 1.40
---------
Pro forma net tangible book value per share after the offering....... 2.32
---------
Net tangible book value dilution per share to new investors.......... $ 6.68
---------
---------
</TABLE>
The following table summarizes, on a pro forma basis as of December 31,
1996, the number of shares of Common Stock purchased from the Company, the total
consideration paid to the Company and the average price per share paid by the
existing stockholders and by the new investors purchasing shares in this
offering (before deducting the underwriting discount and estimated offering
expenses), based upon the initial public offering price of $9.00 per share:
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
------------------------ -------------------------- PRICE
NUMBER (1) PERCENT AMOUNT PERCENT PER SHARE
----------- ----------- ------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Existing stockholders (1).................. 5,328,191 78.8% $ 9,025,000 41.2% $ 1.69
New investors.............................. 1,434,016 21.2 12,906,000 58.8 9.00
----------- ----- ------------- -----
Totals............................... 6,762,207 100.0% $ 21,931,000 100.0%
----------- ----- ------------- -----
----------- ----- ------------- -----
</TABLE>
- ------------------------
(1) Sales by the Selling Stockholders of 915,984 shares in this offering will
reduce the number of shares of Common Stock held by existing stockholders to
4,412,207, or 65.2% of the total number shares of Common Stock outstanding
immediately after this offering, and will increase the number of shares of
Common Stock held by new investors to 2,350,000, or 34.8% of the total
number of shares of Common Stock outstanding immediately after this
offering. See "Principal and Selling Stockholders."
The foregoing table assumes: (i) the conversion of all outstanding shares of
Preferred Stock into Common Stock; (ii) no exercise of the Underwriters'
over-allotment option; and (iii) no exercise of stock options outstanding as of
December 31, 1996. As of December 31, 1996, there were options outstanding to
purchase a total of 700,565 shares of Common Stock at a weighted average
exercise price of $2.99 per share. To the extent that any of these options are
exercised, there will be further dilution to new investors. See
"Capitalization," "Management--Employee Benefit Plans," "Description of Capital
Stock" and Note 5 of Notes to Consolidated Financial Statements.
18
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data presented below as of and for the
years ended December 31, 1995 and 1996 are derived from consolidated financial
statements of the Company that have been audited by KPMG Peat Marwick LLP,
independent auditors. The selected consolidated financial data presented below
as of and for the years ended December 31, 1992, 1993 and 1994 are derived from
consolidated financial statements of the Company that have been audited by Ernst
& Young LLP, independent auditors. The consolidated financial statements as of
December 31, 1995 and 1996 and for each of the years in the three-year period
ended December 31, 1996 and the reports thereon are included elsewhere in this
Prospectus. The data set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the consolidated financial statements and notes thereto included
elsewhere in this Prospectus.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1992 1993 1994 1995 1996
--------- --------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF INCOME DATA:
Net revenues......................................................... $ 8,807 $ 9,549 $ 13,330 $ 14,189 $ 17,080
Costs and expenses:
Cost of revenues................................................... 1,761 1,578 2,067 2,457 2,579
Research and development........................................... 1,135 1,639 2,355 2,161 2,527
Selling, general and administrative................................ 4,411 4,761 6,104 7,388 8,656
--------- --------- --------- --------- ---------
Total costs and expenses......................................... 7,307 7,978 10,526 12,006 13,762
--------- --------- --------- --------- ---------
Operating income from continuing operations.......................... 1,500 1,571 2,804 2,183 3,318
Interest and other expense, net...................................... 103 (462) (417) (433) (260)
--------- --------- --------- --------- ---------
Income from continuing operations before income taxes............ 1,603 1,109 2,387 1,750 3,058
Provision for income taxes........................................... 425 444 886 694 1,223
--------- --------- --------- --------- ---------
Net income from continuing operations............................ 1,178 665 1,501 1,056 1,835
Loss from discontinued operations, net of tax benefit (1)........... -- -- -- (125) (827)
--------- --------- --------- --------- ---------
Net income....................................................... $ 1,178 $ 665 $ 1,501 $ 931 $ 1,008
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Earnings (loss) per share:
Continuing operations.............................................. $ 0.15 $ 0.29
Discontinued operations (1)........................................ (0.03) (0.19)
--------- ---------
Net income....................................................... $ 0.12 $ 0.10
--------- ---------
--------- ---------
Shares used in computing earnings per share (2)...................... 4,162 4,353
--------- ---------
--------- ---------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------------
1992 1993 1994 1995 1996
--------- --------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and short-term investments.................... $ 3,429 $ 3,397 $ 3,851 $ 3,486 $ 2,409
Working capital...................................................... 3,783 3,599 3,860 3,848 2,225
Total assets......................................................... 6,597 7,076 9,240 10,943 11,953
Convertible note..................................................... 3,038 3,038 3,038 3,038 --
Long-term obligations, net of current portion (3).................... 4 -- -- 554 296
Total stockholders' equity........................................... 2,163 1,867 2,388 2,846 6,072
</TABLE>
- ------------------------
(1) See Note 4 of Notes to Consolidated Financial Statements.
(2) For an explanation of the determination of the number of shares used in
computing earnings (loss) per share, see Note 1 of Notes to Consolidated
Financial Statements.
(3) See Note 7 of Notes to Consolidated Financial Statements.
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THIS PROSPECTUS CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THE
RESULTS CONTEMPLATED IN THE FORWARD-LOOKING STATEMENTS AS A RESULT OF A NUMBER
OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THOSE DISCUSSED IN "RISK FACTORS,"
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS" AND "BUSINESS," AS WELL AS THOSE DISCUSSED ELSEWHERE IN THIS
PROSPECTUS.
OVERVIEW
Macrovision was founded in 1983 to develop video security solutions for
major motion picture studios and independent video producers. Since that time,
the Company has derived most of its revenues and operating income from licensing
its video copy protection technologies. The Company expects such license fees to
account for a majority of the Company's net revenues and operating income at
least through 1997. The Company's videocassette copy protection customers have
included the home video divisions of the eight members of the Motion Picture
Association of America ("MPAA") and HBO Home Video. The Company also has a
variety of special interest videocassette copy protection customers, including
more than 125 videocassette duplication companies and a number of rights
holders, such as independent producers of exercise, sports and educational
videocassettes. The Company typically receives license fees for videocassette
copy protection based upon the number of copy protected videocassettes that are
produced by MPAA studios or other rights holders. License fees from MPAA studios
represented a majority of such fees in 1994, 1995 and 1996.
In 1993, the Company began licensing its digital PPV video copy protection
technologies to satellite and cable television system operators and to the
equipment manufacturers that supply the satellite and cable television
industries. These manufacturers include in their digital set-top decoders
integrated circuits incorporating the Company's copy protection technologies
that can be activated to apply video copy protection to digital PPV
transmissions. Through December 31, 1996, all of the Company's digital PPV copy
protection revenues had been derived from up-front license fees and hardware
royalties. Digital PPV up-front license fees and hardware royalties increased to
12.2% of the Company's net revenues in 1996 from 7.1% in 1995. The Company's
agreements with digital PPV system operators entitle the Company to
transaction-based royalty payments at such time as copy protection for digital
PPV programming is activated.
In 1994, the Company began licensing and selling its PhaseKrypt video
scrambling technology to manufacturers of analog set-top decoders for sale to
cable television system operators in developing cable television markets. The
Company also sells encoder and decoder hardware that incorporates PhaseKrypt to
private analog satellite networks for business communications, education and
special interest entertainment. In addition, the Company sells other analog
scrambling systems to television broadcasters for securing incoming contribution
circuits to network control centers and outbound rebroadcast circuits to
affiliate and regional stations. Finally, the Company sells specialized analog
video scrambling systems in the government, military and law enforcement
markets, primarily for covert surveillance applications. Video scrambling
revenues increased to 12.1% of the Company's net revenues in 1996 from 7.1% in
1995. Gross margins on sales of the Company's video scrambling products have
been significantly lower than on its licenses of copy protection or video
scrambling technologies because of the hardware product costs associated with a
more traditional manufacturing environment, and the Company expects this to
continue for the foreseeable future.
In 1995, the Company introduced PhaseKrypt video scrambling technology for
use in motion picture theaters using large-screen video projectors and scrambled
Super VHS videocassettes as a complement to film projectors and 35mm film
prints. CineGuard, the Company's new theatrical exhibition alternative, is
intended for small theaters in rural towns in international markets where the
population is not large enough to support traditional film theaters or where
exhibitors must wait long periods of time to receive film prints of first-run
motion pictures. To date, the Company has licensed CineGuard theaters in Poland
20
<PAGE>
and Ireland and has master licensees in the Philippines and South Africa.
Revenues from CineGuard theaters have been insignificant to date.
In October 1995, Command Audio Corporation ("CAC") was incorporated as a
wholly-owned subsidiary of the Company to commercialize a distinct and new
audio-on-demand technology that the Company's founder developed during 1994 and
1995. This technology does not involve copy protection or video scrambling, but
rather stores digitally broadcast audio programs so that a user can listen to
these programs at his or her convenience. For example, a traveler can listen to
content that was actually broadcast earlier. During 1996, the Company recognized
that its technological, sales and marketing core competencies would not be
sufficient to develop the CAC technology fully or to exploit the market
opportunities for it. In June 1996, the Board of Directors of the Company
approved the discontinuation of the Company's involvement in CAC. The decision
to spin off CAC was primarily caused by the fact that the Company lacked the
financial resources to pursue both its core business of copy protection and
video scrambling and the CAC business. The Company felt that the CAC business
would require significant additional investment to exploit the technology
commercially, including setting up manufacturing alliances and distribution
arrangements. Although the Company decided that its resources should be focused
on its core business, it recognized the significant opportunities for the CAC
business. In August 1996, the Company divested itself of all but 19.8% of its
ownership in CAC. As a result, the financial results of CAC have been treated as
discontinued operations. See "--Results of Operations--Loss from Discontinued
Operations."
The Company's cost of revenues consists primarily of manufacturing costs
associated with the Company's video scrambling product revenues and service fees
paid to licensed duplicators that apply the Company's videocassette copy
protection whenever rights owners license the technology directly from the
Company. Also included in cost of revenues are patent amortization costs and
legal costs associated with the Company's efforts to prevent the sale of devices
that attempt to circumvent the Company's video copy protection technologies. See
"Risk Factors--Risks of Defeat Technologies." The Company's research and
development expenses are comprised primarily of employee compensation and
benefits, consulting fees, tooling and supplies and an allocation of facilities
costs. The Company's selling, general and administrative expenses are comprised
primarily of employee compensation and benefits, consulting and recruiting fees,
travel, advertising, professional fees and an allocation of facilities costs.
The Company has experienced significant seasonality in its business, and the
Company's financial condition and results of operations are likely to be
affected by seasonality in the future. The Company has typically experienced its
highest revenues in the fourth quarter of each calendar year followed by lower
revenues and operating income in the first quarter, and at times in subsequent
quarters, of the next year. The Company believes that this trend has been
principally due to the tendency of certain of the Company's customers to release
their more popular motion pictures on videocassettes during the Christmas
shopping season. In addition, revenues have tended to be lower in the summer
months, particularly in Europe. See "--Quarterly Results of Operations" and
"Risk Factors--Fluctuations in Future Operating Results; Seasonality."
21
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth selected consolidated statement of income
data expressed as a percentage of net revenues for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Net revenues...................................................................... 100.0% 100.0% 100.0%
Costs and expenses:
Cost of revenues................................................................ 15.5 17.3 15.1
Research and development........................................................ 17.7 15.2 14.8
Selling, general and administrative............................................. 45.8 52.1 50.7
--------- --------- ---------
Total costs and expenses...................................................... 79.0 84.6 80.6
--------- --------- ---------
Operating income from continuing operations................................... 21.0 15.4 19.4
Interest and other expense, net................................................... (3.1) (3.1) (1.5)
--------- --------- ---------
Income from continuing operations before income taxes......................... 17.9 12.3 17.9
Provision for income taxes........................................................ 6.6 4.9 7.2
--------- --------- ---------
Net income from continuing operations......................................... 11.3 7.4 10.7
Loss from discontinued operations................................................. -- (0.9) (4.8)
--------- --------- ---------
Net income.................................................................... 11.3% 6.5% 5.9%
--------- --------- ---------
--------- --------- ---------
</TABLE>
NET REVENUES. The Company's net revenues increased 6.4% from $13.3 million
in 1994 to $14.2 million in 1995 and an additional 20.4% to $17.1 million in
1996. The increase from 1994 to 1995 was principally the result of a $590,000
increase in videocassette copy protection revenues, primarily internationally,
and a $449,000 increase in digital PPV copy protection license fees, relating
primarily to up-front license fees from new licenses to digital PPV system
operators and up-front license fees and royalties from digital PPV set-top
decoder manufacturers. The increase from 1995 to 1996 was primarily the result
of: (i) an increase in digital PPV copy protection license fees and royalties of
$1.1 million primarily up-front license fees from new licenses to digital PPV
system operators and up-front license fees and royalties from digital PPV
set-top decoder manufacturers; (ii) an increase of $1.1 million in video
scrambling license fees and product sales; and (iii) an increase of $700,000 in
videocassette copy protection revenues. Due primarily to the growth in the
Company's digital PPV copy protection and video scrambling businesses,
videocassette copy protection revenues from the MPAA studios in the United
States declined as a percentage of net revenues, representing 42.7%, 41.3% and
33.4% of the Company's net revenues for 1994, 1995 and 1996, respectively. See
"Risk Factors--Dependence on Key Customers" and "Business-- Customers."
In 1994, 1995 and 1996, the Company's international and export revenues
totaled $5.2 million, $4.7 million and $6.5 million, respectively, representing
38.9%, 33.2% and 37.9%, respectively, of the Company's net revenues during those
periods. International and export revenues grew primarily as a result of
increased usage of videocassette copy protection technology by the MPAA studios
in international markets and increased growth in PhaseKrypt component sales and
licensing fees from new geographic areas. The Company expects that international
and export revenues will continue to represent a significant portion of its net
revenues and that its future growth will depend to a large extent on continued
increases in international and export revenues. See "Risk Factors--Risks
Associated with International and Export Sales," "Business--Sales, Marketing and
Customer Support" and Note 9 of Notes to Consolidated Financial Statements.
COST OF REVENUES. Cost of revenues as a percentage of net revenues was
15.5% in 1994, 17.3% in 1995 and 15.1% in 1996. The variations in cost of
revenues as a percentage of net revenues were primarily due to changes in
revenue mix between product sales, which have a relatively high cost of
revenues, and licensing revenues, which have a relatively low cost of revenues.
In the event that revenues from video
22
<PAGE>
scrambling products increase as a percentage of net revenues, cost of revenues
as a percentage of net revenues will continue to increase. See Note 1 of Notes
to Consolidated Financial Statements.
RESEARCH AND DEVELOPMENT. Research and development expenses were $2.4
million, $2.2 million and $2.5 million, which represented 17.7%, 15.2% and 14.8%
of net revenues, in 1994, 1995 and 1996, respectively. The decrease from 1994 to
1995 was principally due to a decrease in consulting fees not fully offset by
the Company's hiring of additional employees. The dollar increase from 1995 to
1996 was primarily due to activity in support of the introduction of the
Company's Colorstripe technology for use in DVD and digital PPV applications.
The Company believes that research and development expenses will increase in
dollar amount in the future, but may decline as a percentage of net revenues.
There can be no assurance, however, that net revenues will grow more rapidly
than research and development expenses. See "Business--Research and
Development."
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative
expenses were $6.1 million, $7.4 million and $8.7 million, which represented
45.8%, 52.1% and 50.7% of net revenues, in 1994, 1995 and 1996, respectively.
The increases from 1994 to 1995 were primarily a result of the hiring of
additional employees, increased compensation and benefits, and legal fees
associated with the Company's arbitration proceeding with a prior employee. The
dollar increase from 1995 to 1996 was primarily a result of increased
compensation and benefits, as well as facilities costs associated with the
Company's move to a larger facility. The Company believes that the dollar amount
of selling, general and administrative expenses will increase in the future as
the Company incurs the significant additional costs related to being a public
company, but may decline as a percentage of net revenues. There can be no
assurance, however, that net revenues will grow more rapidly than selling,
general and administrative expenses.
INTEREST AND OTHER EXPENSE, NET. Interest and other expense, net, consists
primarily of interest expense on a convertible note, bank debt and capitalized
equipment leases, net of interest income. Interest expense and other was
$503,000, $568,000 and $327,000 in 1994, 1995 and 1996, respectively. The
decrease in interest expense from 1995 to 1996 was principally attributable to
the conversion of a $3.0 million convertible note into Preferred Stock in July
1996. Interest income was $86,000, $135,000 and $67,000 in 1994, 1995 and 1996,
respectively, due to interest earned on cash and cash equivalents. See Notes 2
and 3 of Notes to Consolidated Financial Statements.
PROVISION FOR INCOME TAXES. The Company's effective rate of taxation was
37.1%, 39.7% and 40.0% in 1994, 1995 and 1996, respectively. The provision for
income taxes consists primarily of federal income taxes, state taxes and
international taxes withheld on foreign revenue. The increase in such rate from
1994 to 1995 was primarily due to an increase in foreign taxes, partially offset
by an increase in exempt interest. See Note 6 of Notes to Consolidated Financial
Statements.
LOSS FROM DISCONTINUED OPERATIONS. The loss from discontinued operations
was $125,000 in 1995 and $827,000 in 1996, net of income tax benefit. There was
no loss from discontinued operations in 1994. Information related to
discontinued operations for 1995 and 1996 is as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
----------------------------
1995 1996
------------- -------------
<S> <C> <C>
Costs and expenses.............................................. $ (205) $ (1,081)
----- -------------
Operating loss.............................................. (205) (1,081)
Other income, net............................................... -- 5
----- -------------
Loss before income taxes.................................... (205) (1,076)
Income tax benefit, net......................................... 80 249
----- -------------
Net loss.................................................... $ (125) $ (827)
----- -------------
----- -------------
</TABLE>
Included in income tax benefit, net for the year ended December 31, 1996, is
a write-off of the deferred tax asset attributable to CAC of $203,000.
23
<PAGE>
The costs and expenses in the above table represent the administration and
development costs of CAC, which was incorporated as a wholly-owned subsidiary of
the Company in October 1995, to commercialize a distinct and new audio-on-demand
technology. In connection with the incorporation of CAC, the Company contributed
the patents that relate to the CAC technology. The underlying technology of CAC
is distinct from the copy protection and video scrambling technologies that
underlie the Company's core business. The employees of CAC have been exclusively
involved in the CAC operation since they were hired. None of these employees was
involved in the technology development underlying the Company's core business or
any other aspect of the Company's business. From its inception until separation,
CAC generated no revenues and concentrated exclusively on research and
development activities. In the third quarter of 1996, the Company divested
itself of all but 19.8% of its ownership in CAC. See "Business--Interest in
Command Audio Corporation," "Certain Transactions" and Note 4 of Notes to
Consolidated Financial Statements.
QUARTERLY RESULTS OF OPERATIONS
The following table sets forth certain quarterly unaudited consolidated
financial data for the periods indicated, as well as the percentage of the
Company's net revenues represented by such data. These data have been derived
from the Company's unaudited consolidated financial statements that, in the
opinion of management, have been prepared on the same basis as the audited
consolidated financial statements, and include all adjustments, consisting only
of normal recurring adjustments, necessary for a fair presentation of such data.
Such data should be read in conjunction with the Company's audited consolidated
financial statements and notes thereto appearing elsewhere in this Prospectus.
The results of operations for any quarter are not necessarily indicative of the
results to be expected for any future period.
<TABLE>
<CAPTION>
QUARTER ENDED
-------------------------------------------------------------------------------------
1995 1996
----------------------------------------- -----------------------------------------
MAR. 31 JUNE 30 SEPT. 30 DEC. 31 MAR. 31 JUNE 30 SEPT. 30 DEC. 31
-------- -------- -------- -------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues............................. $ 2,984 $ 3,242 $ 3,765 $ 4,198 $ 3,583 $ 3,737 $ 4,380 $ 5,381
Costs and expenses:
Cost of revenues....................... 621 710 540 586 594 707 525 752
Research and development............... 569 516 452 624 642 679 594 612
Selling, general and administrative.... 1,667 1,946 1,731 2,044 1,842 2,171 2,296 2,348
-------- -------- -------- -------- -------- -------- -------- --------
Total costs and expenses............. 2,857 3,172 2,723 3,254 3,078 3,557 3,415 3,712
-------- -------- -------- -------- -------- -------- -------- --------
Operating income from continuing
operations......................... 127 70 1,042 944 505 180 965 1,669
Interest and other expense, net.......... (97) (80) (122) (134) (120) (109) (13) (19)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) from continuing
operations before income taxes..... 30 (10) 920 810 385 71 952 1,650
Provision (benefit) for income taxes..... 12 (4) 365 321 192 62 331 638
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) from continuing
operations......................... 18 (6) 555 489 193 9 621 1,012
Loss from discontinued operations........ -- -- -- (125) (195) (632) -- --
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss).................... $ 18 $ (6) $ 555 $ 364 $ (2) $ (623) $ 621 $ 1,012
-------- -------- -------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- -------- -------- --------
</TABLE>
24
<PAGE>
<TABLE>
<CAPTION>
QUARTER ENDED
-------------------------------------------------------------------------------------
1995 1996
----------------------------------------- -----------------------------------------
MAR. 31 JUNE 30 SEPT. 30 DEC. 31 MAR. 31 JUNE 30 SEPT. 30 DEC. 31
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues............................. 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Costs and expenses:
Cost of revenues....................... 20.8 21.9 14.3 14.0 16.6 18.9 12.0 14.0
Research and development............... 19.1 15.9 12.0 14.8 17.9 18.2 13.6 11.4
Selling, general and administrative.... 55.9 60.0 46.0 48.7 51.4 58.1 52.4 43.6
-------- -------- -------- -------- -------- -------- -------- --------
Total costs and expenses............. 95.7 97.8 72.3 77.5 85.9 95.2 78.0 69.0
-------- -------- -------- -------- -------- -------- -------- --------
Operating income from continuing
operations......................... 4.3 2.2 27.7 22.5 14.1 4.8 22.0 31.0
Interest and other expense, net.......... (3.3) (2.5) (3.3) (3.2) (3.3) (2.9) (0.3) (0.3)
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) from continuing
operations before income taxes..... 1.0 (0.3) 24.4 19.3 10.8 1.9 21.7 30.7
Provision (benefit) for income taxes..... 0.4 (0.1) 9.7 7.6 5.4 1.7 7.5 11.9
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) from continuing
operations......................... 0.6 (0.2) 14.7 11.6 5.4 0.2 14.2 18.8
Loss from discontinued operations........ -- -- -- (3.0) (5.4) (16.9) -- --
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss).................... 0.6% (0.2)% 14.7% 8.6% (0.0)% (16.7)% 14.2% 18.8%
-------- -------- -------- -------- -------- -------- -------- --------
-------- -------- -------- -------- -------- -------- -------- --------
</TABLE>
The Company has experienced significant seasonality in its business, and the
Company's financial condition and results of operations are likely to be
affected by seasonality in the future. The Company has typically experienced its
highest revenues in the fourth quarter of each calendar year followed by lower
revenues and operating income in the first quarter, and at times in subsequent
quarters, of the next year. As a result of seasonality, the Company's net
revenues increased 16.1% from the second quarter of 1995 to the third quarter of
1995 and 11.5% from the third quarter of 1995 to the fourth quarter of 1995, but
decreased 14.7% from the fourth quarter of 1995 to the first quarter of 1996.
Revenues increased 22.8% from the third quarter of 1996 to the fourth quarter of
1996 primarily as a result of a $900,000 increase in digital PPV set-top decoder
royalties.
The Company's cost of revenues is subject not only to seasonal and quarterly
fluctuations due to changes in net revenues but also to fluctuations resulting
from shifts in revenue mix between the Company's product sales and licensing
revenues. Sales of video scrambling products were significantly higher as a
percentage of net revenues in the first and second quarters of 1995 than they
were in the third and fourth quarters of 1995. As a result, the Company's total
cost of revenues in the first two quarters of 1995 was higher as a percentage of
net revenues. In the second quarter of 1996, the Company experienced a higher
cost of revenues due to a writedown of certain obsolete inventory.
The Company's research and development expenses fluctuate quarterly
depending on the stages of various projects, the use of consultants and
temporary employees, and the utilization of prototype materials. As an example,
the increase from the third quarter of 1995 to the fourth quarter of 1995 is
attributable to increased use of consultants and increased purchasing of
prototype materials for one project.
Selling, general and administrative expenses increased from the first
quarter of 1995 to the second quarter of 1995 primarily due to increased
consulting and advertising expenses. The increase from the third quarter of 1995
to the fourth quarter of 1995 was attributable primarily to consulting costs and
legal costs connected to a legal proceeding with a former employee. See
"Business--Legal Proceedings." The increase from the first quarter of 1996 to
the second quarter of 1996 was primarily due to increased compensation,
advertising and legal expenses. The increase from the second quarter of 1996 to
the third quarter of 1996 was primarily due to an increase in the allowance for
doubtful accounts.
Interest expense decreased in the third quarter of 1996 primarily due to the
conversion of a convertible note into Series A Preferred Stock in July 1996.
The Company's operating results have fluctuated in the past, and are
expected to continue to fluctuate in the future, on an annual and quarterly
basis as a result of a number of factors. Such factors include, but are not
limited to, the timing of release of popular motion pictures on videocassettes
or DVDs or by digital PPV transmission, the degree of acceptance of the
Company's copy protection technologies by major
25
<PAGE>
motion picture studios, the mix of products sold and technologies licensed, any
change in product or license pricing, the seasonality of revenues, changes in
the Company's operating expenses, personnel changes, the development of the
Company's direct and indirect distribution channels, foreign currency exchange
rates and general economic conditions. The Company may choose to reduce prices
or increase spending in response to competition or new technologies or elect to
pursue new market opportunities. If new competitors, technological advances in
the industry or by existing or new competitors or other competitive factors
require the Company to invest significantly greater resources in research and
development or marketing efforts, the Company's future operating results may be
adversely affected. Because a high percentage of the Company's operating
expenses is fixed, a small variation in the timing of recognition of revenues
can cause significant variations in operating results from period to period.
Based upon the factors enumerated above, the Company believes that its
quarterly and annual revenues, expenses and operating results could vary
significantly in the future and that period-to-period comparisons should not be
relied upon as indications of future performance. There can be no assurance that
the Company will be able to grow in future periods or that it will be able to
sustain its level of net revenues or its rate of revenue growth on a quarterly
or annual basis. It is likely that, in some future quarter, the Company's
operating results will be below the expectations of stock market analysts and
investors. In such event, the price of the Company's Common Stock could be
materially adversely affected.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily from cash generated by
operations, principally by its videocassette copy protection business, and, to a
lesser extent, from bank borrowings. The Company's operating activities provided
net cash of $2.3 million, $1.0 million and $1.7 million in 1994, 1995 and 1996,
respectively. In each of these periods, net cash was provided primarily by net
income, increases in accounts payable, accrued liabilities and deferred revenue
and depreciation and amortization, partially offset by increases in accounts
receivable and inventories. See Note 2 of Notes to Consolidated Financial
Statements.
The Company made capital expenditures of $634,000, $1.4 million and $476,000
in 1994, 1995 and 1996, respectively. The Company also paid $207,000, $185,000
and $343,000, respectively, for patents and other intangibles during those
periods. In addition, the Company paid cash dividends of $969,000, $450,000 and
$401,000 in 1994, 1995 and 1996, respectively, although in 1995 the Company had
net cash provided by financing activities as a result of borrowing $708,000
under a long-term borrowing arrangement. Upon the closing of this offering, all
shares of Series A Preferred Stock will automatically convert into Common Stock,
and the Company will no longer be required to pay cash dividends with respect to
such stock. See "Dividend Policy."
The Company believes that the net proceeds from the sale of the Common Stock
offered hereby, together with its existing cash and cash equivalents and any
cash provided by operating activities, will be sufficient to meet its working
capital and capital expenditure requirements for at least the next 12 months. At
December 31, 1996, the Company had $2.4 million in cash and cash equivalents.
The Company anticipates that capital expenditures for 1997 will aggregate
approximately $1.0 million. In the future, the Company may elect to purchase
additional stock in CAC to maintain its 19.8% equity ownership in CAC. See
"Certain Transactions--Capitalization and Spinoff of Command Audio Corporation."
To the extent that the Company experiences growth in the future, the Company
anticipates that its operating and investing activities may use cash.
Consequently, any such growth may require the Company to obtain additional
equity or debt financing. There can be no assurance that any necessary
additional financing will be available to the Company on commercially reasonable
terms, if at all. Management intends to invest the Company's excess cash in
short-term, interest bearing, investment grade securities. Although there are no
present understandings, commitments or agreements with respect to any
acquisition of other businesses, products or technologies, from time to time in
the ordinary course of business, the Company evaluates potential acquisitions of
businesses, products or technologies that are complementary to those of the
Company and may in the future use a portion of the Company's cash to acquire or
invest in complementary businesses or products or obtain the right to use
complementary technologies. See "Use of Proceeds."
26
<PAGE>
BUSINESS
The Company designs, develops and markets video security technologies and
products that provide copy protection and video scrambling for motion pictures
and other proprietary video materials that are stored on videocassettes, DVDs or
other media or are transmitted by means of cable, satellite or microwave
transmission. The Company's two primary technologies, copy protection and video
scrambling, are distinct in their application, but can be complementary in their
ability to protect copyright holders' video programming.
The Company's copy protection technologies enable consumers to view
programming stored on prerecorded videocassettes and DVDs or transmitted as
digital PPV programs via cable and satellite, but deter unauthorized consumer
copying of such programming. The Company believes that approximately one-third
of all commercial videocassettes produced worldwide during 1996 were copy
protected, and that substantially all of those copy protected videocassettes
incorporated the Company's technology. All of the MPAA studios, including
Disney, Fox and Universal, have used the Company's copy protection technology to
protect some or all of their videocassettes in one or more countries around the
world. The Company believes that its video copy protection technologies are
accepted as the DE FACTO standard for consumer copy protection. The Company has
developed an enhanced version of its videocassette copy protection technology
for the DVD format and for digital PPV networks.
The Company's video scrambling technologies are used by cable and satellite
television system operators in connection with analog PPV and Pay TV
programming, as well as by businesses, governments and other organizations to
provide for the secure transmission of video signals. Another application of the
Company's video scrambling technology is the Company's CineGuard program, a new
theatrical exhibition alternative in which motion pictures are recorded in a
scrambled state on Super VHS videocassettes and distributed primarily to small
theaters in rural towns in international markets.
INDUSTRY BACKGROUND
Motion picture studios generally release major motion pictures to various
venues (E.G., theaters, hotels/airlines or home video) in a series of "release
windows" in order to maximize revenues from each venue. The chart below shows
the typical major motion picture release windows in the United States and
indicates the studios' aggregate United States revenues from each venue in 1995,
as estimated by entertainment media analyst Paul Kagan Associates, Inc. ("Paul
Kagan").
[CHART]
In the past few years, home video has surpassed the theatrical box office as
the largest source of revenues for the motion picture industry. With production
costs continually growing, studio profitability has become increasingly
dependent on the development of new venues, such as home video and digital PPV.
Theatrical box office release in foreign countries generally follows theatrical
box office release in the United States by at least four months. There has
generally been no distinction between PPV and Pay TV
27
<PAGE>
release windows in foreign countries, where both PPV and Pay TV releases
generally follow home video release in a particular foreign country by
approximately 12 months.
COPY PROTECTION
Copyright holders wish to maximize the economic value from each feature film
or other video program over its copyright life, currently 75 years. When
consumers make copies of motion pictures, whether from hotel, airline, home
video or PPV releases, independent studies show that studios and video retailers
lose video sales and rental revenues. Paul Kagan estimates that 30.6 million
households in the United States (approximately 39% of all households with VCRs)
owned two or more VCRs in September 1996, and thus were capable of making
unauthorized copies of prerecorded videocassettes. Based on a 1996
Macrovision-sponsored national survey, the Company estimates that consumer video
piracy costs the industry approximately $370 million in annual lost revenues. To
protect their revenues in the home video and subsequent release venues, many
studios are attempting to prevent unauthorized copies of motion pictures from
entering the marketplace. Other copyright holders, such as independent video
producers, governments, businesses and institutions, also benefit from
preventing unauthorized copying of special interest, educational and other
prerecorded video programming.
Emerging trends in the PPV market are also increasing the need for effective
copy protection technologies. PPV television, which enables consumers to view
motion pictures and other programming in their homes via their existing cable or
satellite television systems for an additional fee for each viewing, has
generated to date only a small fraction of the revenues generated by home video.
However, motion picture studios typically receive revenue each time a consumer
views a motion picture on PPV, which results in higher profit margins than home
video, for example, in which the studios generate revenues only from the
one-time sale of videocassettes. Analog cable television systems provide few PPV
channels, which limits the number of available motion pictures and the frequency
of viewing times. In addition, the studios, in an effort to protect their home
video revenues, typically release a motion picture on PPV one to three months
after it is released on videocassette. Digital PPV, however, provides consumers
with the benefits of more channels, a greater variety of motion pictures and
more frequent motion picture viewing times. However, viewers can copy PPV motion
pictures in their homes with a single VCR. When the transmission is digital,
copy quality is better than that of copies made from videocassettes or analog
cable television. It is not economically feasible to retrofit the analog cable
television systems currently in place in the United States with copy protection
technology. As a result, the opportunity to introduce effective copy protection
for PPV is expected to grow only to the extent that digital PPV replaces
existing analog systems.
DVD hardware and media are expected to become commercially available in the
United States in 1997. The introduction of DVDs presents serious concerns to the
studios. Without effective copy protection, any one of the approximately 400
million VCRs in use today, when combined with a DVD player, will be able to make
unlimited videocassette copies of a non-copy protected DVD that are nearly equal
in quality to a professionally prerecorded videocassette. Because of their
superior picture quality, lower manufacturing cost, relative ease of use and
smaller size, DVDs are expected to supplant videocassettes over time as the
preferred home video distribution medium. As a result, the need for reliable
copy protection is expected to become more important as DVDs become more
available.
VIDEO SCRAMBLING
Cable and satellite television system operators require secure video
scrambling technology to prevent unauthorized viewing of PPV and Pay TV
programming. Unauthorized or "pirate" descramblers for existing analog PPV and
Pay TV scrambling systems are readily available to consumers at low cost,
allowing them to view programming without paying the system operator. Based on a
1992 survey of cable television system operators, the National Cable Television
Association's Office of Cable Signal Theft reported that unauthorized viewing of
cable television premium channels and PPV translated into an estimated $4.7
billion per year in potentially lost revenues to system operators and motion
picture studios. However, the substantial installed base of analog set-top
decoders makes the cost of providing a new, more secure analog scrambling system
in the United States prohibitive.
28
<PAGE>
Although system operators in the United States and Western Europe are
upgrading their networks with digital compression, analog cable and microwave
systems continue to be built, particularly in developing countries, because
analog systems are less expensive to build than digital systems and these
emerging markets do not require the range of programming and channel capacity
that digital compression provides. Industry publications have projected that the
market for addressable analog Pay TV decoders will be approximately $2 billion
annually by the year 2000. MPAA studios are increasingly requiring international
cable operators to install effective and secure scrambling systems as a
precondition to receiving their motion pictures. International system operators
now offer premium and PPV channels that require new addressable analog systems
that provide security against signal theft, are cost effective, can support a
variety of program tiers and can be authorized remotely by the system operator.
THE MACROVISION SOLUTION
Macrovision offers copy protection and video scrambling technologies and
products that address the video security needs of motion picture studios and
other copyright holders, program distributors, cable and satellite Pay TV and
PPV system operators, governments, businesses and equipment manufacturers.
COPY PROTECTION
The Company's copy protection technologies allow consumers to view
programming stored on prerecorded videocassettes or DVDs or transmitted as
digital PPV programs via cable or satellite, but deter unauthorized consumer
copying of such programming. Videocassettes are encoded with the Company's copy
protection process as they are manufactured. In digital PPV and DVD
applications, the Company's copy protection is implemented by a copy protection
signal generator circuit embedded within the cable or satellite digital set-top
decoder or the DVD player. The diagram below illustrates the various means of
implementing the Company's copy protection technologies.
[GRAPHIC]
29
<PAGE>
VIDEO SCRAMBLING
The Company's video scrambling technologies prevent unauthorized viewing of
video programming unless the viewer has paid for, or otherwise has received, the
right to view such programming. The video signals are scrambled using a
combination of analog video scrambling and digital encryption. This provides a
high level of security against signal theft and low decoder cost. For cable,
satellite and microwave television applications of the Company's PhaseKrypt
technology, the scrambled picture is decoded using a secure analog technology
that partially relies on the electronics of the television set to make the image
viewable. For CineGuard, PhaseKrypt-scrambled motion pictures are recorded in a
scrambled state on Super VHS videocassettes and distributed primarily to small
theaters in rural towns in international markets. The recorded copy is later
descrambled by an authorized decoder integrated into a video projector. The
Company has also developed products implementing other video scrambling
technologies that serve growing niche markets, such as law enforcement and
private networks. The diagram below illustrates implementation of the Company's
video scrambling technologies in a transmission environment.
[GRAPHIC]
THE MACROVISION STRATEGY
The Company is dedicated to providing advanced video security technologies
and products to its customers. The Company intends to maintain and enhance its
position as a leading provider of these technologies and products by focusing on
the following key strategies:
PURSUE ROYALTY-BASED LICENSING MODEL. The Company is pursuing a
royalty-based licensing model that results in a high margin,
transaction-oriented business with recurring revenues. As the sole provider of
copy protection for prerecorded videocassettes to the MPAA studios, the Company
typically licenses its technology pursuant to volume-based pricing schedules.
Royalties and other fees are currently paid by copyright holders, commercial
duplicators, hardware manufacturers and program distributors. The Company
intends whenever feasible to continue to license its technologies to third
parties for volume or transaction-based royalties and fees.
LEVERAGE KEY CUSTOMER RELATIONSHIPS. Over the past ten years, the Company
has developed strong relationships with its customers, including the major
Hollywood studios and key members of the video duplication industry, as well as
the cable and satellite television system operators and the equipment
manufacturers that serve these customers. The Company attempts to develop
strategic relationships with its customers, to broaden the use of existing
applications for its technologies and to enhance the security of its customers'
video properties.
INCREASE MARKET PENETRATION OF COPY PROTECTION BUSINESS. The Company
estimates that it has penetrated approximately one-third of the worldwide
videocassette copy protection market, which leaves a large
30
<PAGE>
potential opportunity, even as digital PPV and DVDs begin to displace analog
videocassettes. To maximize its market penetration over time, the Company
licenses its technology royalty-free to DVD hardware manufacturers that build
VCRs that respond to copy protected video signals. The Company intends to make
its copy protection technology available and affordable to all video copyright
holders in all prerecorded packaged media and digital PPV venues and seeks to
have its technology specified by all PPV system operators, digital set-top
decoder manufacturers and DVD hardware manufacturers.
DEVELOP NEW PRODUCT APPLICATIONS AND TECHNOLOGIES. The Company intends to
continue to expand the applications for its copy protection and video scrambling
technologies as they apply to current as well as new markets. For example, the
Company has used its PhaseKrypt video scrambling technology to develop
CineGuard. The Company also has developed video scrambling products to meet the
video security needs of law enforcement organizations and private networks. The
Company intends to expand its technological base, either through internal
development or potential acquisitions.
PROTECT PATENT POSITION. The Company believes that its future success will
depend, in part, on the continued protection of its proprietary technologies.
The Company has obtained patents to protect its copy protection and video
scrambling technologies and intends to continue to pursue patent protection
aggressively. The Company has invested substantial resources in developing and
obtaining patents covering a number of processes and devices that unauthorized
parties could use to circumvent the Company's consumer copy protection
technologies. The Company uses these patents to limit the proliferation of such
devices and has initiated a number of disputes relating to infringement of these
patents. The Company intends to continue to protect and defend its patented
technologies aggressively through both further technological innovation and
legal action.
MACROVISION'S BUSINESS, LICENSED TECHNOLOGIES AND PRODUCTS
The Company's technologies are either licensed or sold, depending upon the
particular application or product. For videocassette copy protection, copyright
holders and licensed duplicators typically pay the Company a per unit licensing
fee for the right to use the Company's technology. For digital PPV, cable and
satellite television system operators pay the Company a one-time license fee for
the right to incorporate the Company's copy protection technology into their
networks and have entered into agreements with the Company pursuant to which the
Company is entitled to transaction-based royalty payments at such time as copy
protection for digital PPV programming is activated. Set-top decoder
manufacturers also license the Company's copy protection and video scrambling
technologies for an up-front fee and a per unit hardware royalty. In addition,
semiconductor manufacturers pay the Company a small one-time service fee for the
right to embed the Company's copy protection technologies in integrated circuits
for set-top decoders. For the DVD market, the Company offers royalty-free
licenses to consumer electronics and personal computer manufacturers and intends
to implement a business model using media-based royalties similar to that for
its videocassette copy protection business. The Company also sells a line of
products based on its various video scrambling technologies for applications in
television broadcasting and niche markets such as law enforcement and private
networks. See "Risk Factors--Need to Establish and Maintain Licensing
Relationships."
COPY PROTECTION
The Company's copy protection technologies are designed to allow motion
picture studios and other copyright holders to protect their copyrighted and
proprietary video material from unauthorized consumer copying. The Company's
copy protection technologies for videocassettes and DVDs generally are priced as
low as a few pennies per unit, depending upon the annual volume commitment made
by the copyright holder. The Company believes that copyright holders justify the
decision to pay for the Company's technology through a combination of increased
videocassette sales, increased revenues from downstream venues, stronger
relationships with retailers and a favorable return on investment compared to
equivalent advertising expenditures.
31
<PAGE>
The Company's copy protection technology is "applied" electronically to
videocassettes at the time of duplication at over 257 commercial duplication
facilities in 32 countries. Company-owned copy protection equipment is installed
and maintained by the Company in each duplication facility. The Company licenses
commercial duplicators to act as distributors and sales agents in return for a
share of the copy protection fees duplicators receive from their customers. In
cases in which the rights owner licenses the technology directly from the
Company, the Company pays service fees to the commercial duplicators. The
Company's copy protection technology has been applied to more than 1.5 billion
videocassettes worldwide since 1985, and was applied to more than 450 million
videocassettes in 1996. All MPAA studios have used the Company's copy protection
technologies to protect some or all of their videocassettes in one or more
countries around the world. In 1996, three of these studios applied the
Company's technology to virtually every videocassette they produced. In
addition, the Company believes that more than 1,500 corporate, educational and
special interest copyright holders have contracted with the Company's licensed
duplicators to apply the Company's copy protection process to their
videocassettes. See "Risk Factors--Dependence on Key Customers."
The Company has developed an enhanced version of its videocassette copy
protection technology for the DVD format and for the digital PPV networks that
are being developed and deployed by direct broadcast satellite and cable
television operators. This enhanced copy protection technology is "applied" by
an integrated circuit that is embedded within the DVD player or digital set-top
decoder and that can later be activated by copy protection control codes in the
video program or PPV network access control system. Upon activation, the
embedded integrated circuit generates the Company's copy protection signal and
applies it to the program material at the analog output port of the DVD player
or digital set-top decoder. See "Risk Factors--Evolving Market for DVD and
Digital PPV Copy Protection."
The Company has licensed its copy protection technology for digital PPV to
33 set-top decoder manufacturers and four digital PPV system operators (DIRECTV,
Galaxy Latin America, the Kirsch Group and Sky Latin America). Currently two
digital PPV program providers in Japan have activated copy protection for
digital PPV programming. The Company's copy protection technology is embedded in
substantially all of the approximately four million digital set-top decoders
currently in use in the United States, Japan and a number of countries in Latin
America, for which the Company has received license fees and royalties from the
digital set-top decoder manufacturers.
In October 1996, a multi-industry technical working group comprised of major
motion picture studios, consumer electronics manufacturers and personal computer
hardware and software companies adopted a set of copy protection principles that
established prerequisites for commercial availability of DVD hardware and media.
The Company believes that its copy protection technology is currently the only
digital-to-analog copy protection solution that satisfies these principles. To
date, Hitachi, Ltd., Matsushita Electric Industrial Co., Ltd., Pioneer
Electronic Corporation, THOMSON Multimedia, S.A., Toshiba Corporation, JVC and
nine other consumer electronics companies have signed agreements with the
Company to incorporate the Company's DVD copy protection technology in their DVD
players or DVD ROM hardware.
Consumers routinely make videocassette copies of premium cable television
and free television broadcasts. The Company does not license its technology for
use in deterring consumer copying of such programming.
32
<PAGE>
Copy protection represented 91.0%, 92.8% and 87.5% of the Company's net
revenues in 1994, 1995 and 1996, respectively. The chart below summarizes the
types and sources of the Company's current and expected future copy protection
revenues. See "Risk Factors--Dependence on Videocassette Copy Protection
Technology and Advocacy by Major Motion Picture Studios."
<TABLE>
<CAPTION>
PROGRAMMING ROYALTIES PER UNIT/PER TRANSACTION
UP-FRONT PER UNIT -----------------------------------------------
LICENSING HARDWARE VIDEOCASSETTE DIGITAL PPV
CUSTOMER GROUP FEES ROYALTIES (1) DVD (2)(3) PROGRAMMING (3)(4)
- -------------------------------------- ----------- ----------- --------------- ---------- ------------------
<S> <C> <C> <C> <C> <C>
Major Motion Picture Studios.......... -- -- Current Future Future
Other Video Copyright Holders......... -- -- Current Future Future
Commercial Duplicators................ Current -- Current Future --
Digital Set-Top Decoder
Manufacturers....................... Current Current -- -- --
Digital PPV System Operators.......... Current -- -- -- Future
</TABLE>
- --------------------------
(1) Individual license agreements vary with regard to the term, minimum annual
revenue commitment, minimum volume guarantees, percentage of total
production that includes copy protection and other factors.
(2) The Company intends to implement a DVD business model using media-based
royalties similar to that of its videocassette business.
(3) There can be no assurance that any revenues will be realized from any
customer group.
(4) The Company's license agreements provide for payment of transaction-based
royalties by either the copyright holder or the system operator.
VIDEO SCRAMBLING
The Company's video scrambling technologies scramble a picture generated by
an original video signal to prevent unauthorized viewing of video content. These
technologies are used in PPV, Pay TV, business television and other private
networks, broadcast television and government, military and law enforcement
markets.
The Company's PhaseKrypt video scrambling technology is a relatively secure,
easy to use, low cost alternative to other widely used analog scrambling
systems. PhaseKrypt is intended for use in Pay TV and PPV applications in
developing cable television markets such as South America, South Korea, Taiwan,
the People's Republic of China and the Philippines. Analog set-top decoder
manufacturers either license PhaseKrypt for an up-front fee and a per unit
hardware royalty or purchase encoder hardware and decoder components from the
Company. Cable television operators purchase PhaseKrypt-enabled set-top decoders
and encoder hardware from Macrovision licensees for installation in their
systems.
The Company sells StarShaker, a PhaseKrypt-based, low-cost, industrial
quality analog satellite scrambling system that is available in NTSC (the
principal video display format in North America, Japan and portions of South
America) and PAL (the principal video display format in Europe, China,
Australia/ New Zealand and portions of South America) versions and that utilizes
PC-based network control for individual and group decoder addressability. The
Company sells StarShaker encoders and set-top decoders to system integrators,
primarily for private and direct-to-home or direct-to-office analog satellite
networks for business television, special interest entertainment and education
or training programs.
The Company's video encryption system ("VES") technology is incorporated
into a variety of professional and near-professional broadcast quality
scrambling products that the Company sells rather than licenses. The Company's
VES products are professional, broadcast-quality video scrambling systems that
are available in NTSC and PAL versions. Primary applications include broadcast
television distribution to network affiliate stations and retransmission
facilities, programming delivery to cable television headends, programming
contribution circuits and backhauls. One of the VES products is a miniaturized
portable scrambling system primarily for covert law enforcement, military
surveillance and broadcast television news gathering applications.
33
<PAGE>
Video scrambling represented 9.0%, 7.1% and 12.1% of the Company's net
revenues in 1994, 1995 and 1996, respectively.
CINEGUARD
CineGuard utilizes the Company's PhaseKrypt video scrambling technology to
distribute motion pictures on Super VHS videocassettes primarily to small
theaters in rural towns in international markets. Although there are
approximately 100,000 movie theaters worldwide, motion picture studios typically
make only 800 to 3,000 film prints for each major film release due, in part, to
the high cost of producing each print. As a result, theaters in developing
international markets typically do not receive a motion picture until after the
studio's marketing efforts are exhausted or at or after home video release. The
Company's PhaseKrypt technology allows motion pictures to be recorded on
videocassettes in a scrambled state and descrambled by the Company's decoder
integrated into the video projector located at the CineGuard theater. This
deters unauthorized parties from copying the motion picture from the
videocassette. As a result, studios would be able to distribute motion pictures
to small theaters concurrently with their release to major film exhibitors at a
cost of approximately $40 per videocassette compared to approximately $1,500 for
a film print.
CineGuard exhibitors currently show motion pictures on scrambled
videocassettes from Columbia TriStar Pictures, Disney, New Line Cinema,
Paramount, United International Pictures, Universal and numerous independent and
national producers. The Company licenses CineGuard decoders directly to
international exhibitors for an initial fee and a royalty based on box office
receipts or anticipated annual ticket sales. In most geographical markets, the
Company intends to license CineGuard to master licensees that, in turn, will
license the local exhibitors. Exhibitors contract directly with the local motion
picture distributor for titles. The Company has licensed cinemas in Poland and
Ireland and has master licensees in the Philippines and South Africa. The
Company intends to expand CineGuard in these markets and to enter new markets,
including Brazil and Mexico. Revenues from CineGuard have been insignificant to
date. See "Risk Factors--Risks Associated with CineGuard."
CUSTOMERS
The Company's videocassette copy protection technology is used by the
following major motion picture studios and home video suppliers and by the
following commercial videocassette duplicators, each of which accounted for at
least $75,000 of the Company's net revenues during 1996:
<TABLE>
<CAPTION>
COMMERCIAL VIDEOCASSETTE
HOME VIDEO SUPPLIERS DUPLICATORS
- -------------------------------------------------------- ----------------------------------
<S> <C>
BMG Entertainment Allied Digital Technologies
Buena Vista Home Video, Inc. (Disney) Vaughn Communications, Inc.
Columbia House
Columbia TriStar Home Video (Sony Pictures
Entertainment)
HBO Home Video
MGM/UA Home Entertainment, Inc.
New Line Home Video
Turner Home Entertainment, Inc.
Twentieth Century Fox Home Entertainment, Inc.
Universal Studios Home Video
Warner Home Video
Westcott Communications
</TABLE>
Revenues from the Company's three largest customers, Disney, Fox and
Universal, represented 45%, 44% and 37% of the Company's net revenues during
1994, 1995 and 1996, respectively. Each of these customers is a home video
supplier that uses the Company's copy protection technology and accounted for
more than 10% of the Company's net revenues in 1994, 1995 and 1996. The Company
expects that revenues from a limited number of customers will continue to
account for a substantial portion of the Company's net revenues for the
foreseeable future. In January 1997, the Company signed a binding letter of
intent with Disney, extending its prior agreement for a three-year term and
granting the right to apply
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the Company's video copy protection technology to its videocassettes. In
February 1997 the Company signed binding letters of intent with Fox, extending
its prior agreement, and Universal, each for a term of one year, granting the
right to apply the Company's video copy protection technology to their
videocassettes. In addition, the letters of intent allow each of these studios
to use the Company's DVD copy protection technology should any such studio
decide to release copy-protected motion pictures in the DVD format. The Company
expects to enter into definitive agreements with these three customers in the
next several months. However, there can be no assurance that the Company will
enter into these definitive agreements. Further, there can be no assurance that,
when these agreements expire, they will be renewed, or new contracts will be
entered into, on terms favorable to the Company, or at all. The failure of any
of these customers to renew their contracts or enter into new contracts with the
Company on terms that are favorable to the Company would likely result in a
substantial decline in the Company's net revenues and operating income, and
would have a material adverse effect on the Company's business, financial
condition and results of operations. Most of the Company's other videocassette
copy protection customers license the Company's technology on a title-by-title
basis. There can be no assurance that the Company's current customers will
continue to use the Company's technology at current or increased levels, if at
all, or that the Company will be able to obtain new customers. The loss of, or
any significant reduction in revenues from, a key customer would have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Risk Factors--Dependence on Key Customers" and Note 1 of Notes
to Consolidated Financial Statements.
The Company also licenses its videocassette copy protection technology to
special interest customers that include independent video producers and
corporations. Licensed commercial duplicators act as distributors of the
Company's videocassette copy protection technology to special interest
customers. Revenues from special interest customers accounted for approximately
15.6%, 15.6% and 17.2% of the Company's copy protection revenues in 1994, 1995
and 1996, respectively.
The Company has licensed its digital PPV copy protection technology for
incorporation into the networks of the following system operators: DIRECTV,
Galaxy Latin America, the Kirsch Group and Sky Latin America. These system
operators have paid a one-time license fee to the Company and have entered into
agreements with the Company pursuant to which the Company is entitled to
transaction-based royalty payments at such time as copy protection for digital
PPV programming is activated. Other system operators require Macrovision-capable
set-top decoders in their networks or have signed agreements with the Company to
test its digital PPV copy protection technology on a limited basis. These system
operators include Americast, Bell Atlantic Network Services, Inc., British
Telecom, Echostar Communication Corporation, Perfectv!, PRIMESTAR Partners,
L.P., Singapore Telecom, Sprint-United Management Company, Tee-Comm Electronics
Incorporated, Tele-TV and Time Warner Cable.
The Company has licensed its copy protection technology to 33 digital
set-top decoder manufacturers, including Echostar Communications Corporation,
General Instrument Corporation, Hughes Network Systems, Inc., Pace Micro
Technology, Ltd., Philips Consumer Electronics, Scientific-Atlanta, Inc., Sony
Corporation, Thomson Consumer Electronics (RCA brand) and Zenith Electronics
Corporation. The Company generally receives an up-front fee and a per unit
royalty from each digital set-top decoder manufacturer that licenses its
technology. The Company has also authorized 26 companies to incorporate the
Company's technology in their semiconductor designs. These companies include
Analog Devices Corporation, Brooktree Division of Rockwell Corporation, Crystal
Semiconductor, Inc., GEC Plessey Semiconductors, Inc., Mitsubishi Electric
Corporation, Motorola, Inc., NEC Corporation, OKI Electric Industry, Co., Ltd.,
Philips Semiconductors International, B.V., Raytheon Company, Samsung
Electronics Co., Ltd., Sony Electronics Inc., Texas Instruments and VLSI
Technology, Inc. These companies generally pay a small one-time service fee for
limited rights to include the Company's copy protection technology in
digital-to-analog application specific integrated circuits ("ASICs") that are
embedded in digital set-top decoders and DVD players. They are authorized to
sell the Macrovision-capable ASICs to Macrovision-licensed DVD hardware
manufacturers (to date, Hitachi, Ltd., Matsushita Electric Industrial Co., Ltd.,
Pioneer Electronic Corporation, THOMSON Multimedia, S.A., Toshiba Corporation,
JVC and nine other consumer electronics companies) and to Macrovision-licensed
digital set-top decoder manufacturers.
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The Company's customers for video scrambling Pay TV components and licenses
are cable television system hardware manufacturers that sell their products into
developing markets. These customers purchase encoder hardware and decoder
components from the Company or pay the Company a volume-based royalty for
encoder and decoder components when they manufacture such components under
license from the Company. The following is a representative list of the
Company's video scrambling customers, each of which accounted for at least
$25,000 of the Company's net revenues during 1996:
<TABLE>
<CAPTION>
VES CUSTOMERS PAY TV COMPONENTS AND LICENSES
- ---------------------------------------- ------------------------------------------------------------
<S> <C>
Government of Israel Eastern Electronics Co., Ltd. (Taiwan)
Integrated Telecommunications Systems Efforts Development International, Ltd. (Hong Kong)
(Canada) Microelectronics Technology, Inc. (Taiwan)
News Sports Microwave, Inc. Pacific Satellite International, Ltd. (Hong Kong)
Satellite Information Systems (United Taihan Electric Wire Co., Ltd. (South Korea)
Kingdom)
SIM Security and Electronic (Germany)
</TABLE>
SALES, MARKETING AND CUSTOMER SUPPORT
The Company markets its videocassette copy protection and digital PPV and
DVD copy protection technologies directly to the MPAA studios and certain major
independent rights owners and video producers. The Company also provides ongoing
technical support to the three major duplicators that manufacture most of the
videocassettes for the MPAA studios. The Company supplements its direct sales
efforts with a variety of marketing initiatives, including trade show
participation, trade advertisements, industry education and newsletters. The
Company provides technical support to its licensed duplicators, including
hardware installation assistance and quality control. In addition, the Company
supports licensed duplicator sales personnel by providing sales training and
sales incentive programs and literature and by participating in trade shows.
The Company markets its video scrambling technologies through a combination
of direct sales, distributors, sales representatives and licensing in the United
States and internationally. The Company has a total of 18 distributors, sales
representatives and licensees serving 30 countries that sell products based on
the Company's video scrambling technologies. The Company is working with three
systems integrators in the United States to sell and service its StarShaker
product line. The Company licenses its PhaseKrypt technology and sells encoder
hardware and decoder components directly to manufacturers of analog set-top
decoders. Technical support is provided from the Company's Sunnyvale
headquarters.
The Company markets its copy protection technologies internationally from
its Sunnyvale headquarters, through its subsidiaries in Japan and the United
Kingdom and through exclusive licensing arrangements with third parties in
Egypt, Hungary and South Korea. International and export sales together
represented 38.9%, 33.2% and 37.9% of net revenues in 1994, 1995 and 1996,
respectively. The Company expects that international and export sales will
continue to represent a substantial portion of its net revenues for the
foreseeable future. Due to its reliance on international and export sales, the
Company is subject to the risks of conducting business internationally. See
"Risk Factors--Risks Associated with International and Export Sales" and Note 9
of Notes to Consolidated Financial Statements.
As of December 31, 1996, the Company employed 23 sales and marketing
personnel and nine additional employees assisted in customer technical support.
The Company believes that its ability to attract, train and retain qualified
sales and marketing personnel is essential to the success of its business. The
market for such personnel is highly competitive, and the Company's sales and
marketing activities could be adversely affected if the Company were
unsuccessful in attracting, training and retaining skilled personnel. See "Risk
Factors--Dependence on Key Personnel."
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TECHNOLOGY
COPY PROTECTION
Effective copy protection systems are difficult to develop because of the
need to address the dual requirements of playability and effectiveness.
Consumers must be able to view the copy protected content using a consumer VCR
and a television set without the need for any intervening devices, while, at the
same time, the quality of an unauthorized copy must be reduced to such an extent
that it loses its entertainment value. The extent to which the entertainment
value is reduced varies, depending on the VCR model that made, and the VCR and
television combination that plays, the unauthorized copy. To prevent VCRs from
making good copies, the copy protected video must differ in some manner from the
standard video signal because, by design, all VCRs will make good copies from
standard video signals. Television sets are designed to play standard or
near-standard video signals. As a result, there is a risk that making a video
signal non-standard in order to prevent copying will decrease playability by
causing some television sets to generate impaired or distorted pictures. In the
tradeoff between effectiveness and playability, designers of copy protection
systems must favor playability while maintaining effectiveness.
The Company's videocassette copy protection technology involves the patented
technique of inserting a series of electronic pulses in the vertical blanking
interval ("VBI") of a standard video signal. The VBI is the blank space between
the video fields on television sets that are refreshed at a rate of 60 fields
per second. The copy protection pulses are embedded electronically in the
prerecorded content of the videocassettes in the process of videocassette
manufacturing. The electronic pulses are not visible in the television picture.
The pulses are intended to affect the automatic gain control ("AGC") circuit in
the recording system of most VHS videocassette recorders, but not to affect a
similar circuit in the television set. Therefore, when the consumer plays a copy
protected prerecorded videocassette, the picture is clean and crisp, but when
the consumer plays an unauthorized consumer-made copy of that same
videocassette, the picture typically has substantially reduced entertainment
value. The Company's copy protection technology is effective against most
consumer copying, but generally does not deter professional pirates who use
professional duplication and video processing equipment. In the event that the
major motion picture studios or other rights holders determine that the
inability of the Company's technology to deter professional piracy renders the
Company's technology less useful, demand for the Company's copy protection
products could decline, which would have a material adverse effect on the
Company's business, financial condition and results of operations. See "Risk
Factors--Risks of Defeat Technologies."
The DVD and digital PPV versions of the Company's copy protection
technologies employ both the electronic pulses used in videocassettes and a
second patented copy protection process called Colorstripe. Colorstripe affects
the color playback circuit of a VCR causing colored horizontal stripes to appear
in the picture of an unauthorized copy. The combination of the two processes
provides a higher level of effectiveness than that provided by either process
alone. In addition, Colorstripe is more effective against circumvention by
currently available professional duplication equipment. Copy protection is
implemented in DVD and digital PPV applications by embedding a copy protection
signal generator integrated circuit within the DVD player or digital set-top
decoder. The integrated circuit is activated by copy protection control codes,
which are integrated into the DVD media or the PPV transmission. Once the
integrated circuit is activated, it adds the copy protection signal to the
analog output of the DVD player or digital set-top decoder. As with
videocassette copy protection, consumers are able to see a clear picture on
their television sets, but generally cannot make a usable copy.
VIDEO SCRAMBLING
The Company's PhaseKrypt technology utilizes a combination of digital
encryption techniques and analog video scrambling to scramble video signals. The
resulting scrambled picture oscillates at random rates, which makes it almost
impossible to watch. Because the encoding or scrambling technique is digitally
controlled, the level of security against signal theft can be increased by
increasing the number of bits that are used in the encryption algorithm. The
Company's technology uses the largest number of bits currently allowable by law
for export products. The scrambled picture is decoded using the secure
PhaseKrypt
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analog technology that partially relies on the electronics of the television set
to make the image viewable. The combination of the digital encoding process,
which provides security, and the analog decoding technology, which is
inexpensive, makes PhaseKrypt a cost-effective solution for analog-based cable
and satellite television set-top decoders in developing countries. PhaseKrypt
video scrambling is often accompanied by one of Macrovision's patented audio
scrambling technologies.
CINEGUARD
CineGuard utilizes the Company's PhaseKrypt video scrambling technology. The
Company licenses duplicators to record the scrambled video picture on high
resolution Super VHS videocassettes for distribution to CineGuard-licensed
cinemas. The authorization codes for a particular video program and a specific
decoder unit are encrypted and carried in the video program. Scrambled
videocassettes are descrambled by an authorized decoder integrated into the
video projector located at the CineGuard theater. The scrambled video program
can be descrambled only during a limited playdate window that is electronically
controlled, so that the program cannot be descrambled, even by an authorized
decoder, if the current date is outside the authorized window. The decoder is
protected by an intrusion detection system and the descrambled video stream is
marked with a fingerprint unique to each decoder.
RESEARCH AND DEVELOPMENT
The Company's research and development efforts are focused on developing
enhancements to existing products, new applications for the Company's current
technologies and new patentable technologies related to the video security
market. The Company's core technological competencies are in video engineering,
which involves the generation and modification of electronic signals in both
digital and analog form and the transformation of such signals between digital
and analog forms, and in ASIC design. Such technologies are primarily hardware
based. The Company also has expertise in developing software security codes,
which are used to restrict access to encoding and decoding devices.
For its copy protection technologies, the Company supports the efforts of
television, VCR and DVD hardware manufacturers to design hardware that is
compatible with the Company's technologies. The Company also assists
semiconductor manufacturers in incorporating the Company's copy protection
technologies into digital video-based ASICs for digital to analog converters.
The Company regularly tests the effectiveness and transparency of its copy
protection technologies on representative samples of consumer televisions and
VCRs to determine whether modifications or enhancements may be necessary.
For its video scrambling technologies, the Company's primary focus is the
development of enhancements to its PhaseKrypt-based Pay TV encoder and decoder
products. For example, the Company recently reengineered its decoder chip set to
a single integrated circuit in order to comply with current United States
regulations for the export of these components to the Peoples' Republic of
China. Engineering development for CineGuard has focused on support for the
integration of the CineGuard decoder electronics into BARCO N.V. video
projectors, development of an electronic "web" to prevent unauthorized access to
the clear video signal, improved manufacturing techniques for the encoder and
investigation into future digital implementation of the CineGuard technology.
The Company works closely with its customers to identify problems in the
video security market and to develop products and technologies that address
those problems. Projects currently under development include: a video
multiplexor to complement one of the VES products to enable customers to monitor
multiple video channels simultaneously; enhancements to the PhaseKrypt Pay TV
encoder, which, for a given cable television operator, will increase the number
of addressable set-top decoders as well as the number of individually
addressable scrambled channels; and modifications to the DVD and digital PPV
copy protection specifications for the PAL video format.
As of December 31, 1996, the Company's research and development staff
consisted of 10 engineers and four technical support personnel. The Company
believes that its ability to attract, train and retain qualified development
personnel is essential to the success of its development programs. The market
for such personnel is highly competitive, and the Company's development
activities could be adversely
38
<PAGE>
affected if the Company were unsuccessful in attracting, training and retaining
skilled engineering personnel. In 1994, 1995 and 1996, the Company's expenses
for research and development were $2.4 million, $2.2 million and $2.5 million,
respectively. See "Risk Factors--Dependence on Key Personnel."
The video security industry in which the Company competes, and in which its
technologies and products are utilized, is characterized by rapid technological
change, frequent product introductions and enhancements, changes in customer
demands and evolving industry standards. The emergence of new industry standards
and the introduction of new technologies or products embodying new technologies
can render existing technologies or products obsolete and unmarketable. The
Company's future success will depend in large part on its ability to enhance its
current technologies and products in a timely, cost-effective manner and to
develop new technologies and products that meet changing market conditions,
which include emerging industry standards, changing customer demands, new
competitive product offerings and changing technology. Any failure by the
Company to anticipate or to respond adequately to changing market conditions, or
any significant delays in technology or product development or introduction,
could cause customers to delay or decide against licensing or purchasing the
Company's technologies or products and would have a material adverse effect on
the Company's business, financial condition and results of operations. See "Risk
Factors--Rapid Technological Change."
INTELLECTUAL PROPERTY RIGHTS
The Company holds 29 United States patents and has 37 United States patent
applications pending, of which seven are allowed. Of the issued United States
patents, 17 relate to the Company's copy protection technologies, eight relate
to video scrambling and four relate to audio scrambling. The Company's issued
United States patents expire between June 2000 and March 2015. The Company also
has 103 foreign patents and 127 foreign patent applications pending, covering
its copy protection technologies in 38 countries, its video scrambling
technologies in 33 countries and its audio scrambling technologies (pending
applications only) in 13 countries. In addition, the Company has six United
States and 17 foreign patents covering a number of processes and devices that
unauthorized parties could use to circumvent the Company's copy protection
technologies. The Company uses these patents to limit the proliferation of
devices intended to circumvent the Company's copy protection technologies. The
Company also has eight United States and 17 foreign patent applications pending
that include defeat technologies.
The Company's success is heavily dependent upon its proprietary
technologies. The Company relies primarily on a combination of patent,
trademark, copyright and trade secret laws, nondisclosure and other contractual
provisions, and technical measures to protect its intellectual property rights.
There can be no assurance that any patent, trademark or copyright owned by the
Company will not be challenged and invalidated or circumvented, that patents
will issue from any of the Company's pending or future patent applications or
that any claims in issued patents or pending patent applications will be of
sufficient scope or strength or be issued in all countries where the Company's
products can be sold or its technologies can be licensed to provide meaningful
protection or any commercial advantage to the Company. There can be no assurance
that the expiration of any of the Company's patents will not have a material
adverse effect on the Company's business, financial condition and results of
operations. Further, there can be no assurance that others will not develop
technologies that are similar or superior to the Company's technologies,
duplicate the Company's technologies or design around the patents owned by the
Company. Effective intellectual property protection may be unavailable or
limited in certain foreign countries. Despite the Company's efforts to protect
its proprietary rights, unauthorized parties may attempt to copy or otherwise
use aspects of the Company's processes and devices that the Company regards as
proprietary. Policing unauthorized use of the Company's proprietary information
is difficult, and there can be no assurance that the steps taken by the Company
will prevent misappropriation of its technologies. In the event that the
Company's intellectual property protection is insufficient to protect the
Company's intellectual property rights, the Company could face increased
competition in the market for its products and technologies, which could have a
material adverse effect on the Company's business, financial condition and
results of operations.
39
<PAGE>
From time to time, the Company has received claims from third parties that
the Company's technologies and products infringe the intellectual property
rights of such third parties, and the Company may receive similar claims in the
future. Any such claims, with or without merit, could be time consuming to
defend, result in costly litigation, cause product shipment delays or require
the Company to cease utilizing the infringing technology unless it can enter
into royalty or licensing agreements. Such royalty or licensing agreements might
not be available on terms acceptable to the Company, or at all, which could have
a material adverse effect on the Company's business, financial condition and
results of operations. The Company has initiated a number of patent infringement
disputes against manufacturers and distributors of devices intended to
circumvent the Company's copy protection technologies. No lawsuits of this type
are pending currently, but litigation may be necessary in the future to limit
the sale of defeat technologies, to enforce the Company's patents and other
intellectual property rights, to protect the Company's trade secrets, to
determine the validity and scope of the proprietary rights of others or to
defend against claims of infringement or invalidity. There can be no assurance
that any such litigation will be successful. Such litigation could result in
substantial costs and diversion of resources and could have a material adverse
effect on the Company's business, financial condition and results of operations,
whether or not such litigation is determined adversely to the Company. In the
event of an adverse ruling in any such litigation, the Company might be required
to pay substantial damages, discontinue the use and sale of infringing products,
expend significant resources to develop non-infringing technology or obtain
licenses to infringed technology. The failure of the Company to develop or
license a substitute technology could have a material adverse effect on the
Company's business, financial condition and results of operations. In addition,
such an adverse ruling could result in the increased proliferation of devices
that defeat the Company's copy protection technology, which could result in a
decline in demand for the Company's technologies. See "Risk Factors--Dependence
on Proprietary Technology" and "Risk Factors--Risks of Defeat Technologies."
COMPETITION
COPY PROTECTION
The Company believes that it has had no significant videocassette copy
protection competitor for the last five years other than companies that have
occasionally developed hardware based on the Company's technology in foreign
countries where the Company does not have patents issued. The Company's copy
protection technologies are proprietary and have broad international patent
coverage. As a result, none of the Company's competitors has been successful in
the past. It is possible, however, that a competitive copy protection technology
could be developed in the future. For example, the Company's customers could
attempt to promote competition by supporting the development of alternative copy
protection technologies or solutions, including solutions that deter
professional duplication. Increased competition would be likely to result in
price reductions and loss of market share, either of which could materially
adversely affect the Company's business, financial condition and results of
operations.
VIDEO SCRAMBLING
The market for video scrambling products is highly competitive. The Company,
as a recent entrant into these markets, competes directly or through licensed
manufacturers with many companies, including Scientific-Atlanta, Inc., General
Instrument Corporation, Leitch Technology International, Inc., Zenith
Electronics Corporation and Toshiba Corporation. These companies have
substantially greater name recognition, larger installed customer bases and
market share and significantly greater financial, technical, marketing and other
resources than the Company and its licensees, many of which are manufacturing
and selling addressable set-top decoders for the first time. There can be no
assurance that the Company and its licensees will be able to compete
successfully in the video scrambling systems markets, that the Company will be
able to make technological advances necessary to improve or even maintain its
competitive position or that the Company's products will achieve market
acceptance. In addition, there can be no assurance that technological changes or
development efforts by the Company's competitors will not render the Company's
video scrambling products obsolete or uncompetitive. The Company believes that
the principal
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competitive factors affecting these markets include the level of security
provided, price, quality, product reputation, customer service and support, the
effectiveness of sales and marketing efforts and company reputation. There can
be no assurance that the Company can compete successfully against current and
potential competitors, especially against those with significantly greater
financial, marketing, service, support, technical and other resources.
CINEGUARD
The Company is not aware of any technology that competes directly with
CineGuard. Competition for CineGuard may come from film cinemas located near
CineGuard theaters. CineGuard theaters could be at a competitive disadvantage
compared to film, because film typically has better picture quality and a larger
projected image than video. Motion picture distributors might also give
programming priority to competing film cinemas or withdraw programming entirely
from CineGuard theaters in competition with film cinemas. Additionally,
competitors might attempt to develop or acquire competing technologies that
could provide the necessary security for video cinema applications. Potential
competitors include large multinational video projector manufacturers or other
consumer electronic products companies. In particular, several large
corporations have announced digital video projectors that could replace film in
cinemas. This development or any other development that presents a
cost-effective, secure and high quality alternative to film for cinema
projection would compete against CineGuard. There can be no assurance that the
Company will be able to compete successfully against current and future
competitors or that competitive pressures faced by the Company will not
materially adversely affect the Company's business, financial condition and
results of operations. See "Risk Factors--Competition."
MANUFACTURING
The Company's manufacturing strategy is to license its technologies to third
parties that manufacture products incorporating those technologies. The Company
generates royalty revenues from these licenses, generally in the form of an
up-front fee and a per unit royalty. For example, licensees of the Company's
PhaseKrypt technology can either manufacture PhaseKrypt decoder components or
purchase such components from the Company. In addition, BARCO N.V., a video
projector manufacturer, incorporates the CineGuard video decoder technology into
the projectors that are sold to CineGuard licensed exhibitors. Authorized BARCO
N.V. distributors worldwide import, market, sell, install and maintain BARCO
N.V. projectors including the integrated CineGuard decoder.
The Company's manufacturing operations are limited to low volume products
that require significant quality control efforts by the Company, such as the VES
and StarShaker products, PhaseKrypt encoders and videocassette copy protection
processors used by commercial videocassette duplicators. These manufacturing
operations consist primarily of component procurement, final assembly and test,
and quality control of subassemblies and systems. The Company generally uses
domestic independent contractors to manufacture and assemble printed circuit
boards, which enables the Company to configure the hardware and software in
combinations to meet a wide variety of customer requirements. The Company has an
OEM agreement with one of its Pay TV licensees for the manufacture of StarShaker
decoders in Taiwan. The Company installs its software into electronically
programmable read-only memory to maintain quality control and security. The
Company utilizes "burn-in" procedures, functional and system integration testing
and comprehensive inspections to assure quality and reliability of its products.
The Company depends upon third-party manufacturers and suppliers for
components, subassemblies and printed circuit boards used in its VES products,
StarShaker products, PhaseKrypt encoders, PhaseKrypt decoder components and
videocassette copy protection processors. The Company's product designs are
proprietary but generally incorporate industry-standard hardware components that
are obtainable from multiple sources. The Company's ability to deliver its
products in a timely manner depends upon the availability of quality components
and subassemblies used in these products and, in part, on the ability of
subcontractors to manufacture, assemble and deliver certain items in a timely
and satisfactory manner.
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The Company obtains certain electronic components and subassemblies from a
single source or a limited number of sources. For example, Atmel Corporation is
currently the Company's sole source of integrated circuits for the Company's
PhaseKrypt decoders, and BARCO N.V. is currently the sole source of integrated
decoders for CineGuard video projectors. The reliance on third-party
manufacturers and sole or limited suppliers involves a number of risks,
including a potential inability to obtain an adequate supply of required
components, subassemblies and printed circuit boards and reduced control over
pricing, quality and timely delivery of components, subassemblies and printed
circuit boards. A significant interruption in the delivery of any such items or
any other circumstance that would require the Company to seek alternative
sources of supply could result in the inability of the Company to deliver
certain of its products on a timely basis, which in turn could result in a
deterioration of the Company's customer relationships and have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Risk Factors--Dependence on Suppliers and Third-Party
Manufacturers."
LEGISLATIVE AND TECHNOLOGY INITIATIVES
For the past two years, the Company has worked with major motion picture
studios, consumer electronics manufacturers and personal computer hardware and
software companies to develop comprehensive copy protection solutions for DVD
and other digital formats. The Company presented its proprietary
digital-to-analog copy protection solutions to the National Information
Infrastructure task force, a government-sponsored group, which recommended that
changes be made to the federal copyright laws to include new copyright
protection requirements for digital media and digital hardware and to outlaw
copy protection circumvention devices.
In a related initiative, the Company has also been an active participant in
a DVD Copy Protection Technical Working Group that recently adopted a set of
copy protection principles that established prerequisites for commercial
availability of DVD hardware and media. The Company believes that adoption of
these principles will result in worldwide copy protection standards for DVD
players and media. The Technical Working Group is comprised of representatives
from the following associations and their respective member companies: MPAA,
Consumer Electronics Manufacturers Association, Information Technology
Industries Council, Business Software Alliance, Recording Industry Association
of America, Home Recording Rights Coalition, Interactive Multimedia Association
and DVD Manufacturers Consortium. The Company believes that its copy protection
technology is currently the only digital-to-analog copy protection solution that
satisfies these principles. The Technical Working Group has recommended that
legislation be drafted and enacted in 1997 that would support the technical
design principles by outlawing copy protection circumvention devices. Such
legislation, if introduced and enacted into law, would assist the Company in
controlling proliferation of circumvention devices. However, there can be no
assurance that such legislation will be introduced in the United States Congress
or the legislature of any other country, or if it is introduced that it will
ever be enacted or that all DVD and PC manufacturers will follow industry design
principles and applicable technology-based copy protection schemes.
INTEREST IN COMMAND AUDIO CORPORATION
In October 1995, CAC was incorporated as a wholly-owned subsidiary of the
Company to commercialize a distinct and new audio-on-demand technology. In June
1996, the Board of Directors of the Company approved the discontinuation of the
Company's involvement in CAC. In August 1996, the Company divested itself of all
but 19.8% of the outstanding stock of CAC. CAC is developing an audio-on-demand
system consisting of a program center that provides continuously updated news
and information on a subscription basis and a hand-held portable receiver that
stores the information. The system allows consumers to control the timing and
content of the program playback. The Company has no plans to increase its
ownership above the 19.8% minority position, but does have a right of first
refusal to acquire additional stock to maintain its 19.8% ownership if and when
CAC offers additional stock, subject to certain exceptions. Additionally, the
Company assigned to CAC all rights in certain technology and released its
reversion rights in technology that the Company had previously assigned to CAC.
In consideration of such assignment and release, CAC agreed to pay to the
Company royalties equal to 2.0%
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of CAC's gross revenues for 12 years, beginning when CAC has operating revenues
from certain sources or, at the election of the Company, at any time prior
thereto. See "Certain Transactions" and Note 4 of Notes to Consolidated
Financial Statements.
EMPLOYEES
As of December 31, 1996, the Company had 79 employees, including 10 in
manufacturing, 14 in research, engineering and development, nine in technical
support, 23 in sales and marketing and 23 in general and administrative
capacities. Ten of these employees are based outside of the United States. None
of the Company's employees is covered by a collective bargaining agreement or is
represented by a labor union with respect to employment by the Company. The
Company has not experienced any organized work stoppages and considers its
relations with its employees to be good.
The Company's future performance is highly dependent upon the continued
service of members of the Company's senior management and other key research and
development and sales and marketing personnel. The Company believes that its
future success will also depend upon its continuing ability to identify,
attract, train and retain other highly skilled managerial, technical, sales and
marketing personnel. Hiring for such personnel is competitive, and there can be
no assurance that the Company will be able to retain its key employees or
attract, assimilate or retain the qualified personnel necessary for the
development of its business. See "Risk Factors--Dependence on Key Personnel."
FACILITIES
The Company's principal operations are located in a 43,960 square foot
building in Sunnyvale, California. The Company's lease for this building expires
on June 30, 2002. The Company also leases space for sales, marketing and
technical support operations near London, England and in Tokyo, Japan. The
Company believes that its existing facilities are adequate to meet its current
needs. See Note 7 of Notes to Consolidated Financial Statements.
LEGAL PROCEEDINGS
In October 1995, Joseph Swyt, a former officer and director of the Company,
filed suit against the Company in the Superior Court of the State of California
alleging monetary damages suffered as a result of alleged fraud,
misrepresentation and other malfeasance in connection with the Company's grant
of stock options to him. Mr. Swyt maintains that the Company induced him to
accept employment by falsely representing to him that the options granted to him
eventually would have substantial value. Between August 1990 and December 1993,
the Company granted to him options to purchase approximately 200,000 shares with
per-share exercise prices of $2.25 or $2.70. Substantially all of these options
expired unexercised within three months following his departure from the Company
in June 1995. In December 1996, the court ordered this matter to binding
arbitration in accordance with a written agreement between the Company and Mr.
Swyt. The arbitration agreement contains limitations on the types of damages
available to Mr. Swyt and expressly precludes punitive damages. The Company
believes that the case is without merit and intends to contest it vigorously.
While the outcome of this case cannot be determined with certainty, the Company
does not believe that the resolution of this case will have a material adverse
effect on the Company's financial condition or results of operations. However, a
decision against the Company could have a material adverse effect on the
Company's business, financial condition and results of operations. The Company
is not a party to any other litigation that would have a material adverse effect
on the Company or its business and results of operations. See "Risk
Factors--Litigation Risk" and Note 8 of Notes to Consolidated Financial
Statements.
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<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The directors and executive officers of the Company, and their ages and
positions, are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ----------------------------------------- --- --------------------------------------------------------
<S> <C> <C>
John O. Ryan............................. 51 Chairman of the Board of Directors, Chief Executive
Officer and Secretary
William A. Krepick....................... 51 President, Chief Operating Officer and Director
Victor A. Viegas......................... 40 Vice President, Finance and Administration and Chief
Financial Officer
Mark S. Belinsky......................... 40 Vice President, Worldwide Theatrical and Pay-Per-View
Copy Protection
Patrice J. Capitant...................... 48 Vice President, Engineering
Brian R. Dunn............................ 40 Vice President, CineGuard Business Development
Whit T. Jackson.......................... 36 Vice President, Video Encryption Technologies
Richard S. Matuszak...................... 53 Vice President, Special Interest Copy Protection and
Director
</TABLE>
MR. RYAN is a co-founder of the Company and an inventor of its core copy
protection and video scrambling technologies. He has served as Chairman of the
Board of Directors and Secretary of the Company since June 1991 and Chief
Executive Officer of the Company since June 1995. He has been a director of the
Company since June 1987 and served as Vice-Chairman of the Board of Directors
from 1987 until June 1991. He also served as General Partner of the partnership
predecessor of the Company from 1985 to 1987 and as President and Secretary of
the corporate predecessor of the Company from 1983 to 1985. Prior to founding
Macrovision, Mr. Ryan was Director of Research and Development of Ampex
Corporation's broadcast camera group. Mr. Ryan holds more than 30 patents and
has 17 patent applications pending in the fields of video copy protection, video
scrambling and television camera technology. Mr. Ryan took undergraduate courses
in Physics and Math at the University of Galway in Ireland and received a Full
Technological Certificate in Telecommunications from the City and Guilds
Institute of London.
MR. KREPICK has served as a director of the Company since November 1995 and
as President and Chief Operating Officer of the Company since July 1995. He has
been with the Company since November 1988, and served as Vice President, Sales
and Marketing of the Company until June 1992 and Senior Vice President,
Theatrical Copy Protection from July 1992 to June 1995. Prior to joining
Macrovision, Mr. Krepick held several executive marketing management positions
over a ten-year period with ROLM Corporation, a telecommunications equipment
manufacturing company. He holds a B.S. degree in Mechanical Engineering from
Rensselaer Polytechnic Institute and an M.B.A. from Stanford University.
MR. VIEGAS has served as Vice President, Finance and Administration and
Chief Financial Officer of the Company since June 1996. From October 1986 to
June 1996, he served as Vice President of Finance and Chief Financial Officer at
Balco Incorporated, a manufacturer of advanced automotive service equipment,
and, since May 1991, a subsidiary or division of Snap-On Tools. He holds a B.S.
degree in Accounting and an M.B.A. from Santa Clara University. Mr. Viegas is
also a certified public accountant.
MR. BELINSKY has served as Vice President, Worldwide Theatrical and
Pay-Per-View Copy Protection of the Company since he joined the Company in
October 1995. Between June and September 1995, he was a consultant to various
companies in the Internet services and electronic commerce fields, and, between
June 1995 and August 1995, he was Chief Operating Officer of the McKinley Group,
Inc., an Internet directory services company. From May 1993 to June 1995, Mr.
Belinsky was Vice President and General Manager of the Electronic Marketplace
Systems Division of International Data Group, a developer of online shopping
malls for personal computer and software products. He was an independent
consultant
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<PAGE>
between February and May 1993, and, from October 1988 to January 1993, he was
Vice President and General Manager of the Interop Company, a division of
Ziff-Davis Publishing Company. He holds a B.A. degree in Business Administration
from Wayne State University and an M.B.A. from Harvard Business School.
DR. CAPITANT has served as Vice President, Engineering of the Company since
October 1996. He joined the Company in October 1995 as Director of Engineering.
He served as Manager of Video Engineering at Radius, Inc., a computer equipment
manufacturer, from December 1994 to September 1995. Dr. Capitant held
engineering positions at Compression Labs, Inc., a telecommunications equipment
manufacturer, from September 1993 to December 1994 and Sony Corporation of
America, Advanced Video Technology Center, from September 1989 to September
1993. He completed his undergraduate and post graduate work in engineering and
automatic control at Institut Industrial du Nord, Lille, France and University
of Lille. He holds a Ph.D. degree in Electrical Engineering from Stanford
University.
MR. DUNN has served as Vice President, CineGuard Business Development of the
Company since January 1995. From January 1989 to December 1994, he served as
Vice President, Operations, Corporate Counsel and Chief Financial Officer of
Phase 2 Automation, a factory automation company. Mr. Dunn holds a B.A. degree
in Accounting from the University of Notre Dame and a J.D. degree from Santa
Clara University School of Law. He is a certified public accountant and a member
of the California bar.
MR. JACKSON has served as Vice President, Video Encryption Technologies of
the Company since September 1992. He joined the Company in August 1990 as Sales
Manager for the Company's line of encryption products. From January 1989 to
August 1990, Mr. Jackson managed the satellite service business for the
Galaxy/Westar satellite fleet of Hughes Communications, Inc., a satellite
communications company. He holds a B.A. degree in International Relations from
Northwestern University and an M.B.A. from the J.L. Kellogg Graduate School of
Management at Northwestern University.
MR. MATUSZAK has served as Vice President, Special Interest Copy Protection
of the Company since June 1992, and as a director of the Company since May 1992.
He joined the Company in August 1985 and held various sales and marketing
positions from August 1985 to June 1992. From June 1984 to August 1985, Mr.
Matuszak was a Sales Manager for the Broadcast Products Division of Hitachi
Corporation. He holds an Associate degree in Applied Technologies and
Electronics from DeVry Institute of Technology.
Each director holds office until the next annual meeting of stockholders of
the Company or until his successor is duly elected and qualified. Officers are
chosen by, and serve at the discretion of, the Board of Directors (the "Board").
There are no family relationships among the directors and officers of the
Company.
The Company intends to add two independent directors to the Board of
Directors within 60 days of this offering, and to name such independent
directors as members of the Compensation Committee. In addition, the Company
intends to establish an Audit Committee comprised of at least two independent
directors. In the event that the Company fails to appoint such directors within
90 days after this offering, the Nasdaq National Market could terminate the
listing of the Company's Common Stock on the Nasdaq National Market, which would
have a material adverse effect on the liquidity and trading price of the Common
Stock. See "Risk Factors--No Prior Public Market for Common Stock."
DIRECTOR COMPENSATION
Mr. Matuszak receives a fee of $1,000 for each Board meeting he attends. No
other member of the Company's Board currently receives a fee for attending Board
meetings.
The Company's 1996 Directors Stock Option Plan (the "Directors Plan") was
adopted by the Board in December 1996 and approved by the Company's stockholders
in February 1997. A total of 60,000 shares of the Company's Common Stock is
reserved for issuance under the Directors Plan. Members of the Board who are not
employees of the Company are eligible to participate in the Directors Plan. Each
eligible director who first becomes a member of the Board after the Effective
Date of the Registration Statement
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<PAGE>
for this offering will be granted a nonqualified option to purchase 5,000 shares
(the "Initial Grant") of the Company's Common Stock, effective as of the date
such director joins the Board. Also, at each anniversary of the Initial Grant,
each eligible director who has served continuously as a member of the Board
since the date of the director's Initial Grant will be granted a subsequent
nonqualified option to purchase 3,000 shares. Options granted to directors under
the Directors Plan will vest as to 2.08% of the shares on the last day of each
month following the grant date of such options, so long as the eligible director
continues to serve on the Board on such date. In the event of a merger,
consolidation or similar corporate transaction, the vesting of all outstanding
options under the Directors Plan will be accelerated so that all outstanding
options are vested and exercisable in full prior to the consummation of such
transaction. If such options are not exercised prior to the consummation of such
transaction, and are not assumed or replaced by the successor entity, such
options will terminate. The exercise price of all options granted under the
Directors Plan will be the fair market value of the Common Stock on the date of
the grant. The Directors Plan will terminate in December 2006, unless terminated
earlier in accordance with the provisions of the Directors Plan.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Company's Compensation Committee reviews and approves compensation and
benefits for the Company's key executive officers, administers the Company's
stock purchase and stock option plans and makes recommendations to the Board
regarding such matters. The Compensation Committee is currently comprised of
John O. Ryan and William A. Krepick, each of whom is an executive officer of the
Company. David W. Herbst, the Company's outside legal counsel, also served on
the Compensation Committee until February 1997. No member of the Compensation
Committee serves as a member of the board of directors or compensation committee
of any entity that has one or more executive officers serving as a member of the
Board or Compensation Committee. The Board expects to appoint independent
directors to the Compensation Committee within 60 days following the date of
this Prospectus.
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION. The following table sets forth all compensation
awarded to, earned by, or paid for services rendered to the Company in all
capacities during 1996 by the Company's chief executive officer and the
Company's four other most highly compensated executive officers who were serving
as executive officers at the end of 1996 (together, the "Named Officers").
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
-------------------
AWARDS
-------------------
ANNUAL COMPENSATION SECURITIES
----------------------- UNDERLYING OPTIONS OTHER
NAME AND PRINCIPAL POSITION SALARY (1) BONUS (2) (3) COMPENSATION (4)
- -------------------------------------------------- ---------- ----------- ------------------- -----------------
<S> <C> <C> <C> <C>
John O. Ryan...................................... $ 200,000 $ 49,449 -- 4,886
Chief Executive Officer
William A. Krepick................................ 200,000 49,268 -- 6,002
President and Chief Operating Officer
Brian R. Dunn..................................... 131,204 16,605 -- 5,321
Vice President, CineGuard Business Development
Mark S. Belinsky.................................. 127,026 31,292 8,333 2,189
Vice President, Worldwide Theatrical and
Pay-Per-View Copy Protection
Patrice J. Capitant............................... 112,337 22,113 27,776 2,558
Vice President, Engineering
</TABLE>
- ------------------------
(1) Victor A. Viegas, who joined the Company in June 1996 as Vice President,
Finance and Administration and Chief Financial Officer, is compensated at an
annual salary rate of $135,000. Mr. Viegas also
46
<PAGE>
purchased an aggregate of 58,333 shares of Common Stock at a price of $2.70
per share. See "-- Employment Agreement."
(2) Represents bonuses paid pursuant to the Executive Incentive Plan in 1997 for
services rendered in 1996. See "--Employee Benefit Plans."
(3) Options granted to the named officers were granted at fair market value as
determined by the Board of Directors based on all factors available to them
on the grant date. These factors included the history of, and prospects for,
the Company and the industry in which it competes, an assessment of the
Company's past and present operations and financial performance, the
prospects for future earnings of the Company, the present state of the
Company's development, the possibility of an initial public offering by the
Company and market prices of publicly traded common stocks of comparable
companies in recent periods.
(4) Includes Company contributions to the 401(k) Plan in the amount of $1,900
for each Named Officer. Also includes life insurance premiums in the
following amount for each Named Officer: Mr. Ryan-- $2,108; Mr.
Krepick--$2,102; Mr. Dunn--$463; Mr. Belinsky--$289; and Mr. Capitant--$658.
The remainder represents reimbursement for one-third of the difference
between business class and coach class air travel up to a maximum of $1,000
for each business trip traveled in coach class. The amount of such
reimbursement is as follows: Mr. Ryan--$878; Mr. Krepick--$2,000; and Mr.
Dunn--$2,958.
In August 1996, the Company distributed to its employees as bonuses an
aggregate of 208,782 shares of Command Audio Corporation ("CAC") common stock,
which represented approximately 10.4% of the then outstanding voting stock of
CAC. Of these shares, 50% were to vest on December 31, 1996 and the remaining
50% will vest on December 31, 1997, subject to the employee's continuing in the
Company's employment through such dates. Upon termination of employment, the
Company has the right to repurchase the former employee's unvested shares at a
price of $0.01 per share. The number of shares of CAC common stock distributed
as a bonus to each Named Officer was as follows: John O. Ryan--36,000 shares;
William A. Krepick--36,000 shares; Brian R. Dunn--7,200 shares; Mark S.
Belinsky--12,000 shares; and Patrice J. Capitant--3,600 shares. In addition,
10,102 shares were distributed to Victor A. Viegas.
OPTION GRANTS IN LAST FISCAL YEAR. The following table sets forth further
information regarding option grants pursuant to the Company's Stock Option Plan
during 1996 to each of the Named Officers. In accordance with the rules of the
Securities and Exchange Commission, the table sets forth the hypothetical gains
or "option spreads" that would exist for the options at the end of their
respective ten-year terms. These gains are based on assumed rates of annual
compound stock price appreciation of 5% and 10% from the date the option was
granted to the end of the option term.
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<PAGE>
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT
INDIVIDUAL GRANTS ASSUMED ANNUAL
------------------------------------------------------- RATES
NUMBER OF PERCENT OF OF STOCK PRICE
SHARES TOTAL OPTIONS APPRECIATION FOR
UNDERLYING GRANTED TO OPTION TERM (2)
OPTIONS EMPLOYEES IN EXERCISE PRICE EXPIRATION --------------------
NAME GRANTED (1) 1996 PER SHARE DATE 5% 10%
- ------------------------------------ ----------- ------------- --------------- ---------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
John O. Ryan........................ -- -- -- -- -- --
William A. Krepick.................. -- -- -- -- -- --
Brian R. Dunn....................... -- -- -- -- -- --
Mark S. Belinsky.................... 8,333 6.0% $ 2.70 6/7/06 $ 14,149 $ 35,857
13,888 10.1 2.70 3/12/06 23,582
Patrice J. Capitant................. 5,555 4.0 2.70 6/7/06 9,432 23,904
8,333 6.0 7.20 10/29/06 37,732 95,621
</TABLE>
- ------------------------
(1) Options granted under the Stock Option Plan in 1996 were incentive stock
options or non-qualified stock options that were granted at fair market
value and that vest over a three-year vesting period. Options expire ten
years from the date of grant.
(2) The 5% and 10% assumed annual rates of stock price appreciation are mandated
by the rules of the Securities and Exchange Commission and do not represent
the Company's estimate or projection of future Common Stock prices.
On the day following this offering, the Company will grant to Mr. Viegas an
option to purchase 22,222 shares of Common Stock at an exercise price equal to
the fair market value of such shares on the date of the grant.
AGGREGATED STOCK OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END
OPTION VALUES. The following table sets forth the number of shares acquired
upon the exercise of stock options during 1996 and the number of shares covered
by both exercisable and unexercisable stock options held by each of the Named
Officers at December 31, 1996. Also reported are values of "in-the-money"
options, which represent the positive spread between the respective exercise
prices of outstanding stock options and the fair market value of the Company's
Common Stock as of December 31, 1996 ($9.00) as determined by the Board.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION
VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS
SHARES VALUE AT FISCAL YEAR-END AT FISCAL YEAR-END
ACQUIRED ON REALIZED -------------------------- --------------------------
NAME EXERCISE (#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ------------------------------- ------------- ----------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
John O. Ryan................... -- -- -- -- -- --
William A. Krepick............. 11,111 $ 69,999 62,962 55,555 $ 396,661 $ 349,997
Brian R. Dunn.................. -- -- 5,092 25,463 32,080 160,417
Mark S. Belinsky............... -- -- 4,629 31,481 29,163 198,330
Patrice J. Capitant............ -- -- -- 27,776 -- 137,490
</TABLE>
EMPLOYMENT AGREEMENT
The Company entered into an employment agreement with Mr. Viegas in June
1996, in connection with Mr. Viegas' employment as Vice President, Finance and
Administration and Chief Financial Officer of the Company. Under the employment
agreement, Mr. Viegas receives an annual salary of $135,000 and is eligible to
participate in the Company's Executive Incentive Plan. The employment agreement
may be terminated by the Company or by Mr. Viegas at any time for any reason.
Pursuant to the employment agreement, the Company sold to Mr. Viegas 58,333
shares of the Company's Common Stock at a price of $2.70 per share. Mr. Viegas
purchased the shares with a full recourse promissory note secured by the
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<PAGE>
shares. The largest aggregate amount of indebtedness outstanding under the note
during 1996 was $157,500. Interest at the rate of 6.58% per year is paid
monthly. The loan is due in five years or earlier on termination of Mr. Viegas'
employment with the Company. The shares vest over a three-year period, with
one-sixth vesting in June 1997, an additional one-third vesting in June 1998 and
the balance vesting in June 1999. The Company has the right to repurchase
unvested shares at the original sale price in the event that Mr. Viegas ceases
to be an employee of the Company. Under the employment agreement, on the day
following this offering, the Company will grant Mr. Viegas an option to acquire
an additional 22,222 shares of the Company's Common Stock, at the fair market
value of such shares on the grant date, and such options will vest and become
exercisable over a three-year period. If the Company terminates Mr. Viegas'
employment without cause, all of his unvested shares and stock options will have
the benefit of one additional year of vesting and Mr. Viegas will be entitled to
severance benefits under the Company's severance pay plan. If the Company
terminates Mr. Viegas' employment without cause or if Mr. Viegas terminates his
employment for good reason within either three months before or twelve months
after a change in control of the Company, all of his unvested shares and stock
options will immediately vest.
EMPLOYEE BENEFIT PLANS
STOCK OPTION PLAN. The Company's Stock Option Plan (the "Option Plan"),
covering 972,222 shares of Common Stock, was adopted by the Board in September
1988 and approved by the Company's stockholders in November 1988. As of December
31, 1996, options to purchase 181,441 shares had been exercised under the Option
Plan, 700,565 shares were subject to outstanding options under the Option Plan
and 90,216 shares were available for future grants under the Option Plan.
Options granted under the Option Plan before its termination will remain
outstanding in accordance with their terms, but no further options will be
granted under the Option Plan after the Company's Delaware reincorporation. See
Note 5 of Notes to Consolidated Financial Statements.
1996 EQUITY INCENTIVE PLAN. The Company's 1996 Equity Incentive Plan (the
"Equity Incentive Plan") was adopted by the Board in December 1996 and approved
by the stockholders in February 1997. The Equity Incentive Plan will serve as
the successor incentive program to the Company's Option Plan after the effective
date of the Registration Statement. The Company has reserved 300,000 shares of
the Company's Common Stock for issuance under the Equity Incentive Plan. In
addition, any shares of Common Stock authorized for issuance under the Option
Plan that are not subject to options outstanding on the Effective Date of the
Registration Statement or are subject to options outstanding on the Effective
Date that thereafter expire or become unexercisable for any reason without
having been exercised in full will be available for grant and issuance pursuant
to the Equity Incentive Plan. The Equity Incentive Plan provides for the grant
of stock options, stock appreciation rights and restricted stock awards by the
Company to its employees, directors, consultants and other individuals providing
services to the Company. No person will be eligible to receive stock options or
stock appreciation rights with respect to more than 150,000 shares of Common
Stock under the Equity Incentive Plan in any calendar year. Shares that are
subject to an award granted under the Equity Incentive Plan, but are forfeited,
canceled, reacquired by the Company, satisfied without the issuance of shares of
Common Stock or otherwise terminated other than by exercise, will again be
available for grant or issuance under the Equity Incentive Plan. The Equity
Incentive Plan will be administered by the Board or the Compensation Committee
of the Board (the "Committee"), which within 60 days of this offering will
consist of two persons who are "non-employee directors" and "outside directors"
as defined under the Exchange Act and Section 162(m) of the Internal Revenue
Code of 1986, as amended (the "Code"), respectively. The Equity Incentive Plan
permits the Committee to grant options that are either incentive stock options
(as defined in Section 422 of the Code) or nonqualified stock options, on terms
(including vesting schedules) determined by the Committee, subject to certain
statutory and other limitations in the Equity Incentive Plan. The exercise price
of options granted under the Equity Incentive Plan will be determined by the
Committee, subject to the requirements that the exercise price of incentive
stock options must not be less than the fair market value of the Common Stock on
the date the option is granted and the exercise price of nonqualified options
granted under the Equity Incentive Plan must not be less than 85% of such fair
market value. Options granted under the Equity Incentive Plan must be exercised
within three months after termination of the optionee's status as an employee or
consultant of the Company (or such later date, not to exceed 60 months, as
specified by the Committee) or
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<PAGE>
within 12 months after the optionee's termination by death, disability or
retirement, except that options held by any optionee whose employment or other
business relationship with the Company is terminated for cause will terminate
immediately upon termination of the optionee's status (or such later date, not
to exceed 30 days, as determined by the Committee).
In addition to, or in tandem with, awards of stock options, the Committee
may grant participants stock appreciation rights with an exercise price of no
less than the fair market value of the Company's Common Stock on the date the
stock appreciation right is granted or, in the case of stock appreciation rights
granted in tandem with stock options, with an exercise price no less than the
option exercise price per share. The Committee may grant participants restricted
stock awards under the Equity Incentive Plan to purchase an aggregate of up to
125,000 shares of the Company's Common Stock at such purchase price as
determined by the Committee (but no less than 85% of the fair market value of
the Company's Common Stock on the date of the award) and upon such terms,
including vesting schedule, as the Committee may determine. Under the Equity
Incentive Plan, restricted stock awards may be awarded for the satisfaction of
performance goals established in advance.
In the event of a merger, consolidation, reverse merger or similar corporate
transaction, any or all outstanding awards under the Equity Incentive Plan may
be assumed, converted, replaced or substituted by the successor corporation (if
any), which assumption, conversion, replacement or substitution will be binding
on all participants in the Equity Incentive Plan. In the event such successor
corporation (if any) does not assume or substitute awards, such awards will
expire in connection with such transaction at such time and on such conditions
as determined by the Board. The Equity Incentive Plan has no termination date,
except that no incentive stock options will be granted under the Equity
Incentive Plan after December 2006. The Equity Incentive Plan may be terminated
at any time by the Board or otherwise in accordance with the provisions of the
Equity Incentive Plan.
1996 EMPLOYEE STOCK PURCHASE PLAN. The Company's Employee Stock Purchase
Plan (the "Purchase Plan") was adopted by the Board in December 1996 and
approved by the stockholders in February 1997. A total of 140,000 shares of the
Company's Common Stock is reserved for issuance under the Purchase Plan. The
Purchase Plan will become effective on the Effective Date. The Purchase Plan
permits eligible employees to acquire shares of the Company's Common Stock
through payroll deductions. The Purchase Plan is intended to qualify as an
"employee stock purchase plan" under Section 423 of the Code. Eligible employees
may select a rate of payroll deduction between 1% and 20% of their compensation,
up to an aggregate payroll deduction not to exceed $21,250 in any calendar year.
Each offering under the Purchase Plan will be for a period of 24 months (the
"Offering Period") commencing, except for the first Offering Period, on the
first day of February and August of each year. Each Offering Period will consist
of four six-month purchase periods (each a "Purchase Period"). The Board has the
power to change the duration of Offering Periods or Purchase Periods without
stockholder approval, provided that the change is announced at least 15 days
prior to the scheduled beginning of the first Offering Period or Purchase Period
to be affected. The first Offering Period will begin on the Effective Date and
will end on January 31, 1999, unless otherwise determined by the Board. The
purchase price for the Company's Common Stock purchased under the Purchase Plan
is 85% of the lesser of the fair market value of the Company's Common Stock on
the first day of the applicable Offering Period or the last day of the
respective Purchase Period. The Purchase Plan will terminate on the earlier of
termination by the Board, issuance of all the shares reserved under the Purchase
Plan or ten years from the date the Purchase Plan was adopted by the Board.
401(K) PLAN. The Company's 401(k) Plan (the "401(k) Plan") is a defined
contribution 401(k) profit sharing plan intended to qualify under Section 401 of
the Code. Employees of the Company are eligible to participate in the 401(k)
Plan on the first day of the month coinciding with or immediately following
completion of three months of employment. A participating employee, by electing
to defer a portion of his or her compensation, may make pre-tax contributions to
the 401(k) Plan, subject to limitations under the Code, of a percentage of his
or her total compensation. Employee contributions and the investment earnings
thereon are fully vested at all times. The Company is not required to contribute
to the 401(k) Plan and had made no voluntary contributions through 1995. In
1996, the Company made matching contributions to the 401(k) Plan equal to 20% of
each participating employee's contribution, up to a maximum
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annual matching contribution of $1,900. Matching contributions aggregated
$60,419 for 1996 and will be fully vested after three years.
EXECUTIVE INCENTIVE PLAN. The Company's Executive Incentive Plan ("EIP")
provides for payment of annual bonuses to key employees of the Company based on
the Company's overall financial performance and the participant's achievement of
individual financial, strategic and tactical goals. The fundamental philosophy
behind the EIP is to reward participants relative to their individual
performance, as well as their contribution to the achievement by the Company of
its operating income goals. For 1996, the EIP covered 12 officers and key
employees. For bonuses to be granted, the EIP required that the Company's 1996
operating income from continuing operations exceed a predetermined target
amount. Each participant's individual performance was rated between 0% and 200%
based upon the achievement of or the failure to achieve individual performance
goals established at the beginning of the year. A participant with an individual
performance rating of 100% (satisfactory completion of all individual goals) for
1996 would have received a bonus of approximately 22.6% of annual base salary.
LIMITATION OF LIABILITY AND INDEMNIFICATION OF DIRECTORS AND EXECUTIVE OFFICERS
As permitted by Section 145 of the Delaware General Corporation Law, the
Bylaws of the Company provide that: (i) the Company is required to indemnify its
directors and officers to the fullest extent permitted by the Delaware General
Corporation Law; (ii) the Company may, in its discretion, indemnify other
persons as set forth in the Delaware General Corporation Law; (iii) the Company
is required to advance expenses, as incurred, to its directors and officers in
connection with a legal proceeding (subject to certain exceptions); (iv) the
rights conferred in the Bylaws are not exclusive; and (v) the Company is
authorized to enter into indemnification agreements with its directors,
officers, employees and agents.
The Company has entered into Indemnification Agreements with each of its
current directors and executive officers to give such directors and officers
additional contractual assurances regarding the scope of the indemnification set
forth in the Company's Bylaws and to provide additional procedural protections.
As permitted by the Delaware General Corporation Law, the Company's
Certificate of Incorporation includes a provision that eliminates the personal
liability of its directors for monetary damages for breach of fiduciary duty as
a director except for liability: (i) for any breach of the director's duty of
loyalty to the corporation or its stockholders; (ii) for acts or omissions not
in good faith or that involve intentional misconduct or a knowing violation of
law; (iii) under Section 174 of the Delaware General Corporation Law; or (iv)
for any transaction from which the director derived an improper personal
benefit. The Company, with approval of the Board, has applied for, and expects
to obtain, directors and officers liability insurance.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the Company
pursuant to the foregoing provisions, or otherwise, the Company has been advised
that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Securities Act and
is, therefore, unenforceable.
There is no pending litigation or proceeding involving any director,
officer, employee or agent of the Company where indemnification will be required
or permitted. The Company is not aware of any threatened litigation or
proceeding that might result in a claim for such indemnification.
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CERTAIN TRANSACTIONS
Since January 1, 1994, there has not been, nor is there currently proposed,
any transaction or series of similar transactions to which the Company was or is
to be a party in which the amount involved exceeds $60,000 and in which any
director, executive officer or holder of more than 5% of the Common Stock of the
Company had or will have a direct or indirect material interest other than (i)
compensation agreements, which are described, where required, in "Management,"
and (ii) the transactions described below.
TRANSACTIONS WITH PACIFIC MEDIA DEVELOPMENT, INC. AND VICTOR COMPANY OF JAPAN,
LIMITED
The following transactions involve Victor Company of Japan, Limited ("JVC")
and entities that are owned by JVC. Through a wholly-owned subsidiary, JVC owns
100% of Pacific Media Development, Inc. ("Pacific Media"). JVC is a beneficial
owner of the shares of the Company's Common Stock that are held of record by
Pacific Media and represent more than 5% of the Company's Common Stock.
In May 1991, the Company and one of its stockholders entered into a Stock
and Convertible Note Purchase Agreement (the "Purchase Agreement") with a
trustee for Pacific Media pursuant to which Pacific Media acquired beneficial
ownership of shares of the Company's Common Stock and Series A Preferred Stock
and a promissory note in the principal amount of approximately $3.0 million (the
"Convertible Note"), which was convertible into Series A Preferred Stock. In
July 1996, Pacific Media, acting through the trustee, acquired 543,099 shares of
the Company's Series A Preferred Stock upon the conversion of the Convertible
Note. Pursuant to the Purchase Agreement, Pacific Media has a right to purchase
a pro rata portion (proportionate to its ownership interest in the Company) of
any equity securities offered by the Company, excluding: (i) shares issued in
this offering; (ii) shares issued pursuant to certain equity compensation
arrangements; and (iii) provided that Pacific Media's interest in the Company
would not thereby be reduced below 25%, shares issued by Macrovision in
connection with any acquisition by it of another company. In addition, pursuant
to the Purchase Agreement, Pacific Media acquired rights to purchase from
persons who were stockholders or option holders of the Company in June 1991 all
of their Common Stock at a formula-determined price upon the Company's filing of
a registration statement for an initial public offering. In January 1997, the
Company and Pacific Media entered into a Waiver Agreement, pursuant to which
Pacific Media waived its rights to purchase shares of the Company's Common Stock
from stockholders and option holders triggered by the filing of the registration
statement for this offering and any pre-effective amendments thereto filed prior
to April 1, 1997. Upon the completion of this offering, all rights of Pacific
Media to purchase Common Stock of the Company from such persons will expire.
Pursuant to the Purchase Agreement, the Company may not divide or assign any
rights to its patents that were existing or pending in June 1991, without the
prior written consent of Pacific Media, which consent may not be unreasonably
withheld.
In January 1997, the Company and JVC entered into a Copy Protection
Technology Agreement (the "Technology Agreement"), pursuant to which the Company
agreed to license its copy protection technologies to JVC for use in territories
in which the Company has issued patents, on terms and conditions comparable to
those provided under agreements between the Company and parties situated
similarly to JVC. Additionally, the Company agreed to continue to make its copy
protection technologies generally available for license to third parties on
terms commercially reasonable to the Company in the venues and for the purposes
that the Company currently licenses such technologies. The Technology Agreement
gives JVC the right to sublicense the Company's copy protection technologies to
certain third parties on terms and conditions comparable to those provided in
similar agreements previously entered into by the Company, with 95% of the
royalties from such sublicenses payable to the Company or its successor, in the
event that a party other than JVC acquires a majority interest in the Company or
acquires the Company's copy protection business or patents, and following such
acquisition the Company or its successor refuses to continue to license the
Company's copy protection technologies on a nondiscriminatory basis to its
current customers and similarly situated parties. See "Risk Factors--Effect of
Anti-Takeover Provisions."
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The Company and JVC are parties to a Technology Application Agreement dated
November 29, 1988 (the "Application Agreement"), a Duplicator Agreement dated
June 1, 1988 (the "Duplicator Agreement") and an Agreement dated July 15, 1994
(the "Video Agreement"). Pursuant to the Application Agreement, JVC has applied
the Company's copy protection process to prerecorded videocassettes manufactured
and distributed in Japan by JVC. Pursuant to the Duplicator Agreement, JVC has
applied the Company's copy protection process to prerecorded videocassettes
manufactured and distributed in Japan by certain of the Company's licensees.
Pursuant to the Video Agreement, JVC developed a prototype of equipment to apply
a copy protection process to prerecorded videocassettes, and granted the Company
exclusive rights to purchase such equipment from JVC for resale and to
sublicense the copy protection technology for use with the equipment. Between
January 1, 1994 and December 31, 1996, the Company recognized revenue from JVC
of approximately $41,694 under the Application Agreement. During the same
period, the Company recognized revenue from JVC of approximately $165,750 in
license fees and the Company incurred $45,203 in service fees payable to JVC,
both under the Duplicator Agreement, and the Company paid JVC $23,914 under the
Video Agreement.
The Company, Victor Technobrain Co., Ltd. ("Techno"), a wholly-owned
subsidiary of JVC, and Video Culture Institute, Inc. ("VCI") are parties to a
License Agreement dated September 26, 1995, as amended June 30 and September 30,
1996, pursuant to which Techno and VCI license the Company's copy protection and
PhaseKrypt technologies for development of equipment for electronic motion
picture distribution and exhibition. The license granted to Techno is
nonexclusive for the development and manufacture of the products to be sold to
VCI in Japan. The Company has paid to Techno a development fee of $50,000 under
this agreement and owes an additional $50,000 to Techno after the Company
receives certain fees from VCI.
The Company's Japanese subsidiary ("Macrovision Japan") and Techno are
parties to a Technical Consulting Agreement dated as of July 1, 1996 (the
"Consulting Agreement"), pursuant to which Techno agreed to provide technical
consulting services as assigned by certain officers of the Company or
Macrovision Japan in connection with technical support to licensed duplicators,
rights owners and system operators, set-top decoder manufacturers and
semiconductor companies that provide integrated circuits for set-top decoders in
certain Asian countries. The Consulting Agreement provides for Macrovision Japan
to pay a consulting fee of approximately $85 per hour, subject to a minimum
consulting fee of approximately $1,700 per quarter, and to reimburse Techno for
its expenses in performing services under the Consulting Agreement. During 1996,
the Company paid Techno an initial training fee of approximately $3,300 and a
total of approximately $5,800 in consulting fees. (Amounts paid and payable
under the Consulting Agreement are denominated in yen, and the dollar
equivalents stated above are based on current exchange rates).
In February 1997, the Company entered into a Digital Versatile Disc
Player/Digital Video Cassette Recorder License Agreement for Anticopy Technology
with JVC, pursuant to which JVC is authorized to include integrated circuits
incorporating the Company's copy protection technology in DVD players and
digital VCRs that it manufactures. The terms and conditions of this agreement,
pursuant to which JVC must choose between (i) a royalty-free license for which
it must make the VCRs or television sets that it manufactures compatible with
the Company's copy protection technology or (ii) payment of an up-front fee of
$100,000 and an additional $5.00 (or, if greater, 2% of the wholesale price) per
unit, are not more favorable to JVC than the terms and conditions of the
Company's license agreements with other manufacturers of DVD players and digital
VCRs.
AGREEMENTS WITH MATSUSHITA ELECTRIC INDUSTRIAL CO., LTD.
The following transactions involve Matsushita Electric Industrial Co., Ltd.
("Matsushita"), which owns approximately 52% of JVC and, in one instance, also a
subsidiary of Matsushita.
In November 1996, the Company entered into a Digital Versatile Disc
Player/Digital Video Cassette Recorder License Agreement for Anticopy Technology
with Matsushita, pursuant to which Matsushita is authorized to include
integrated circuits incorporating the Company's copy protection technology in
DVD
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players and digital VCRs that it manufactures. The terms and conditions of this
agreement, pursuant to which Matsushita must choose between (i) a royalty-free
license for which it must make the VCRs or television sets that it manufactures
compatible with the Company's copy protection technology or
(ii) payment of an up-front fee of $100,000 and an additional $5.00 (or, if
greater, 2% of the wholesale price) per unit, are not more favorable to
Matsushita than the terms and conditions of the Company's license agreements
with other manufacturers of DVD players and digital VCRs.
In July 1996, the Company entered into a Copy Protection Technology License
Agreement with Matsushita, pursuant to which Matsushita and its subsidiaries are
authorized to include integrated circuits incorporating the Company's copy
protection technology in digital set-top decoders they manufacture. The terms
and conditions of this agreement, pursuant to which Matsushita has paid the
Company an initial fee of $50,000 and is obligated to pay an additional $0.60
per unit, are not more favorable to Matsushita than the terms and conditions of
the Company's license agreements with 33 other digital set-top decoder
manufacturers.
In August 1992, the Company entered into a License, Development and
Marketing Agreement with Matsushita and its wholly-owned subsidiary, Matsushita
Avionics Development Corporation ("MADC"). Under this agreement, MADC has the
right to include the descrambling component of the Company's PhaseKrypt video
scrambling technology in MADC's commercial airline passenger entertainment and
cabin management systems. MADC is obligated to pay the Company $500 for each
videocassette player containing such descrambling component that is installed in
an airplane. To date, MADC has not installed any such equipment and the Company
has not been paid any amounts pursuant to this agreement.
CAPITALIZATION AND SPINOFF OF COMMAND AUDIO CORPORATION
CAC was incorporated in October 1995 as a wholly-owned subsidiary of the
Company. The Company initially acquired 1,000,000 shares of CAC common stock for
technology and other assets with a historical cost of $200,000 and 250,000
shares of CAC Series A preferred stock for $500,000 in cash in November 1995.
The Company acquired an additional 250,000 shares of CAC Series A preferred
stock for $500,000 in cash in April 1996.
On July 31, 1996, the Company and CAC entered into a Recapitalization and
Stock Purchase Agreement pursuant to which the Company purchased from CAC
604,000 shares of CAC common stock and 396,000 shares of CAC Series B preferred
stock for the aggregate consideration of $1.0 million paid in August 1996 in
cash and in September 1996 pursuant to a secured promissory note, 194,444 shares
of the Company's Common Stock, subject to the terms and conditions of a
Restricted Stock Acquisition Agreement and the surrender and delivery to CAC of
500,000 shares of CAC Series A preferred stock. Pursuant to the Restricted Stock
Acquisition Agreement, as amended as of November 29, 1996 and January 29, 1997,
the 194,444 shares of the Company's Common Stock owned by CAC are vested. CAC
has agreed to sell all of such shares in this offering. As a result of the
recapitalization and after the dividend described below, the Company holds 19.8%
of the voting stock of CAC. CAC also granted to the Company a right of first
refusal to purchase additional CAC stock to maintain its 19.8% ownership if and
when CAC offers additional stock, subject to certain exceptions. John O. Ryan,
Chairman of the Board and Chief Executive Officer of the Company, is a director
of CAC. See Note 4 of Notes to Consolidated Financial Statements.
The Company and CAC also entered into a Technology Transfer and Royalty
Agreement dated as of July 31, 1996 and amended as of November 29, 1996,
pursuant to which the Company assigned to CAC all rights in certain technology
and released its reversion rights in technology that the Company had previously
assigned to CAC. In consideration of such assignment and release, CAC agreed to
pay to the Company royalties equal to 2.0% of CAC's gross revenues (as defined
in the agreement) for 12 years, beginning when CAC has operating revenues from
certain sources or, at the election of the Company, at any time prior thereto.
In addition, CAC owes the Company a total of $328,948 for allocated facilities
and services costs and other expenses that the Company incurred on behalf of
CAC. Pursuant to an unsecured
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promissory note, CAC has agreed to pay this amount to the Company, plus interest
at the rate of 9% per annum, on July 1, 1998.
In August 1996, the Company distributed to its stockholders as a dividend an
aggregate of 1,395,218 shares of common stock of CAC, which represented
approximately 69.8% of the then outstanding voting stock of CAC. All
stockholders on July 12, 1996 participated in such dividend distribution in
proportion to the number of shares of the Company's Common and Series A
Preferred Stock then held. At the same time, the Company also distributed to its
employees as bonuses an aggregate of 208,782 shares of common stock of CAC,
which represented approximately 10.4% of the then outstanding voting stock of
CAC. See "Management--Executive Compensation" and Note 4 of Notes to
Consolidated Financial Statements.
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PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth certain information known to the Company
regarding beneficial ownership of the Company's Common Stock as of December 31,
1996, and as adjusted to reflect the sale of the shares of Common Stock offered
hereby, by: (i) each person known by the Company to be the beneficial owner of
more than 5% of the Company's Common Stock; (ii) each of the Company's
directors; (iii) each Named Officer (see "Management--Executive Compensation");
(iv) all executive officers and directors as a group; and (v) each Selling
Stockholder.
<TABLE>
<CAPTION>
BENEFICIAL BENEFICIAL
OWNERSHIP PRIOR TO THE OWNERSHIP AFTER THE
OFFERING(1) NUMBER OF OFFERING(1)(2)
------------------------- SHARES BEING -------------------------
NAME OF BENEFICIAL OWNER NUMBER PERCENTAGE OFFERED NUMBER PERCENTAGE
- ------------------------------------------------ ---------- ------------- ------------ ---------- -------------
<S> <C> <C> <C> <C> <C>
Victor Company of Japan, Limited (3)............ 2,637,043 49.5% 555,555 2,081,488 30.8%
John O. Ryan (4)................................ 699,672 13.1 -- 699,672 10.3
Carol Ann Farrow (5)............................ 372,722 7.0 -- 372,722 5.5
Command Audio Corporation....................... 194,444 3.6 194,444 -- --
William A. Krepick (6).......................... 119,946 2.2 -- 119,946 1.8
Brian T. and Linda J. Prinn, Trustees (7)....... 92,082 1.7 28,192 63,890 *
Richard S. Matuszak (8)......................... 74,406 1.4 74,406 1.1
Robert J. Lowe.................................. 54,166 1.0 22,222 31,944 *
Whit T. Jackson (9)............................. 49,999 * 2,499 47,500 *
Brian R. Dunn (10).............................. 10,647 * 5,000 5,647 *
Mark S. Belinsky (11)........................... 4,629 * -- 4,629 *
Patrice J. Capitant (12)........................ -- -- -- -- --
Twenty-four other selling stockholders as a
group (each individually owning less than 1%
of the Company's Common Stock) (13)........... 350,130 6.5 108,072 242,078 3.6
All executive officers and directors as a group
(8 persons) (14).............................. 1,017,632 18.5 7,499 1,010,133 14.5
</TABLE>
- ------------------------
* Less than 1%.
(1) Assumes conversion of all of the Company's outstanding shares of Preferred
Stock into Common Stock. Unless otherwise indicated below, the persons and
entities named in the table have sole voting and sole investment power with
respect to all shares beneficially owned, subject to community property laws
where applicable. Shares of Common Stock subject to options that are
currently exercisable or exercisable within 60 days of December 31, 1996 are
deemed to be outstanding and to be beneficially owned by the person holding
such options for the purpose of computing the percentage ownership of such
person but are not treated as outstanding for the purpose of computing the
percentage ownership of any other person.
(2) Assumes that the Underwriters' over-allotment option to purchase up to
352,500 shares from the Company is not exercised.
(3) These shares are held of record by Pacific Media, an indirect, wholly owned
subsidiary of JVC. From June 12, 1991 until conversion of the Convertible
Note in July 1996, Pacific Media elected two directors of the Company. The
address of JVC is 12, 3-chome, Moriya-cho, Kanagawa-ku, Yokohama 221, Japan.
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(4) Represents 555,555 shares held of record by a trust of which Mr. Ryan and
his wife are the trustees, 103,289 shares held of record by Mr. Ryan, 29,162
shares held of record by Mr. Ryan as custodian for various family members
and 11,666 shares held of record by one of his daughters. Mr. Ryan is the
Chairman of the Board of Directors, Chief Executive Officer and Secretary of
the Company. His address is 1341 Orleans Drive, Sunnyvale, California 94089.
(5) Includes 322,722 shares held of record by Ms. Farrow as Trustee of the
Farrow Trust U/T/D December 18, 1990. The address of Ms. Farrow is P.O. Box
789, Geyserville, California 95441.
(6) Includes 2,777 shares held of record by Mr. Krepick's son. Also includes
90,740 shares subject to options exercisable within 60 days of December 31,
1996. Mr. Krepick is President, Chief Operating Officer and a director of
the Company.
(7) Represents 80,972 shares held of record by Brian T. and Linda J. Prinn as
Trustees of the Prinn Family Trust, of which 25,416 shares are being
offered, and 5,555 shares held of record by each of the Erin M. Prinn Trust
and the Ian T. Prinn Trust, of which each such trust is offering 1,388
shares.
(8) Represents 28,085 shares held of record by Mr. Matuszak, 15,766 shares as
to which Mr. Matuszak shares beneficial ownership and 30,555 shares subject
to options exercisable within 60 days of December 31, 1996. Mr. Matuszak is
Vice President, Special Interest Copy Protection and a director of the
Company. His address is 1341 Orleans Drive, Sunnyvale, California 94089.
(9) Total shares beneficially owned prior to the offering includes 49,166
shares subject to options exercisable within 60 days of December 31, 1996.
Total shares beneficially owned after the offering represents shares subject
to options exercisable within 60 days of December 31, 1996. Mr. Jackson is
Vice President, Video Encryption Technologies of the Company.
(10) Represents shares subject to options exercisable within 60 days of December
31, 1996. Mr. Dunn is Vice President, CineGuard Business Development of the
Company.
(11) Represents shares subject to options exercisable within 60 days of December
31, 1996. Mr. Belinsky is Vice President, Worldwide Theatrical and
Pay-Per-View Copy Protection of the Company.
(12) Mr. Capitant is Vice President, Engineering of the Company.
(13) Includes 37,887 shares subject to options exercisable within 60 days of
December 31, 1996.
(14) Represents the shares referenced in footnotes (4), (6) and (8) through (12)
and 58,333 additional outstanding shares.
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DESCRIPTION OF CAPITAL STOCK
Upon the closing of this offering, the authorized capital stock of the
Company will consist of 50,000,000 shares of Common Stock, $0.001 par value,
6,762,207 of which will be outstanding, and 5,000,000 shares of Preferred Stock,
$0.001 par value, none of which will be outstanding. As of December 31, 1996,
and assuming the conversion of each outstanding share of Preferred Stock into
Common Stock, there were outstanding 5,328,191 shares of Common Stock held of
record by approximately 130 stockholders, and options to purchase 700,565 shares
of Common Stock. See Note 5 of Notes to Consolidated Financial Statements.
COMMON STOCK
Subject to preferences that may apply to any Preferred Stock outstanding at
the time, the holders of outstanding shares of Common Stock are entitled to
receive dividends out of assets legally available therefor at such times and in
such amounts as the Board may from time to time determine. Each stockholder is
entitled to one vote for each share of Common Stock held on all matters
submitted to a vote of stockholders. Cumulative voting for the election of
directors is not authorized by the Company's Certificate of Incorporation, which
means that the holders of a majority of the shares voted can elect all of the
directors then standing for election. The Common Stock is not entitled to
preemptive rights and is not subject to conversion or redemption. Upon
liquidation, dissolution or winding-up of the Company, the assets legally
available for distribution to stockholders are distributable ratably among the
holders of the Common Stock and any participating Preferred Stock outstanding at
that time after payment of liquidation preferences, if any, on any outstanding
Preferred Stock and payment of other claims of creditors. Each outstanding share
of Common Stock is, and all shares of Common Stock to be outstanding upon
completion of this offering will be, fully paid and nonassessable.
PREFERRED STOCK
Upon the closing of this offering, all outstanding shares of Preferred Stock
(the "Convertible Preferred") will be converted into shares of Common Stock. See
Note 5 of Notes to Consolidated Financial Statements for a description of the
Convertible Preferred. The Board is authorized, subject to any limitations
prescribed by Delaware law, to provide for the issuance of additional shares of
Preferred Stock in one or more series, to establish from time to time the number
of shares to be included in each such series, to fix the rights, preferences and
privileges of the shares of each wholly unissued series and any qualifications,
limitations or restrictions thereon, and to increase or decrease the number of
shares of any such series (but not below the number of shares of such series
then outstanding), without any further vote or action by the stockholders. The
Board may authorize the issuance of Preferred Stock with voting or conversion
rights that could adversely affect the voting power or other rights of the
holders of Common Stock. The issuance of Preferred Stock may have the effect of
delaying, deferring or preventing a change in control of the Company. The
Company has no current plan to issue any shares of Preferred Stock; however, in
the future the Company plans to consider the adoption of a stockholder rights
plan in order to protect the Company's stockholders from coercive or abusive
takeover tactics and to afford the Company's Board more negotiating leverage in
dealing with potential acquirors.
CHANGE OF CONTROL PROVISIONS
Effective upon the closing of this offering, the Company's Certificate of
Incorporation contains a provision eliminating the ability of the Company's
stockholders to take action by written consent. This provision is designed to
reduce the vulnerability of the Company to an unsolicited acquisition proposal,
to maintain independent ownership and control of the Company's copy protection
technologies and to render the use of stockholder written consent unavailable as
a tactic in a proxy fight. However, such provision could have the effect of
discouraging others from making tender offers for the Company's shares, thereby
inhibiting increases in the market price of the Company's shares that could
result from actual or rumored takeover attempts. Such provision also may have
the effect of preventing changes in the management of
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the Company. Furthermore, the Company's Bylaws limit the ability of stockholders
of the Company to raise matters at a meeting of stockholders without giving
advance notice thereof.
DELAWARE ANTI-TAKEOVER LAW
Upon the closing of this offering, the Company will be subject to the
provisions of Section 203 of the Delaware General Corporation Law (the
"Anti-Takeover Law") regulating corporate takeovers. The Anti-Takeover Law
prevents certain Delaware corporations, including those whose securities are
listed on the Nasdaq National Market, from engaging, under certain
circumstances, in a "business combination" (which includes a merger or sale of
more than 10% of the corporation's assets) with any "interested stockholder" (a
stockholder who owns 15% or more of the corporation's outstanding voting stock)
for three years following the date that such stockholder became an "interested
stockholder." A Delaware corporation may "opt out" of the Anti-Takeover Law with
an express provision in its original certificate of incorporation or an express
provision in its certificate of incorporation or bylaws resulting from a
stockholders' amendment approved by at least a majority of the outstanding
voting shares. The Company has not "opted out" of the provisions of the
Anti-Takeover Law.
REGISTRATION RIGHTS
Beginning six months after this offering, the holders of 2,081,488 shares of
Common Stock (the "Registrable Securities") will have certain rights to register
those shares under the Securities Act. If requested by the holders of more than
40% of such Registrable Securities with an aggregate proposed offering price of
at least $10,000,000, the Company must file a registration statement under the
Securities Act covering all Registrable Securities requested to be included by
all holders of such Registrable Securities. This right expires in June 2001. The
Company may not be required to effect more than one such registration pursuant
to these demand registration rights. The expenses incurred in connection with
such registrations (other than underwriters' or brokers' discounts and
commissions) will be borne by the Company and the holders of Registrable
Securities pro rata.
In addition, if the Company proposes to register any of its securities under
the Securities Act, other than in connection with a Company employee benefit
plan or a corporate reorganization, the holders of Registrable Securities may
require the Company to include all or a portion of their shares in such
registration, although the managing underwriter of any such offering has certain
rights to limit the number of shares in such registration. All expenses incurred
in connection with such registrations (other than underwriters' discounts and
commissions) will be borne by the Company. These registration rights expire five
years after the Effective Date.
Further, holders of Registrable Securities may require the Company to
register all or any portion of their Registrable Securities on Form S-3 when
such form becomes available to the Company, subject to certain conditions and
limitations. The Company may be required to effect up to one such registration
per year. All expenses incurred in connection with such registrations (other
than underwriters' or brokers' discounts and commissions) will be borne by the
Company. These registration rights expire five years after the Effective Date.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Company's Common Stock is The First
National Bank of Boston.
LISTING
The Company's Common Stock has been approved for quotation on the Nasdaq
National Market under the trading symbol "MVSN."
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<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Prior to this offering, there has been no market for the Common Stock of the
Company. No prediction can be made as to the effect, if any, that market sales
of shares or the availability of shares for sale will have on the market price
prevailing from time to time. Nevertheless, sales of substantial amounts of
Common Stock in the public market could adversely affect market prices
prevailing from time to time.
Upon completion of this offering, the Company will have outstanding
approximately 6,762,207 shares of Common Stock. Of these shares, the 2,350,000
shares sold in this offering will be freely tradable without restriction under
the Securities Act, unless purchased by "affiliates" of the Company as that term
is defined in Rule 144 under the Securities Act. The remaining 4,412,207 shares
of Common Stock held by existing stockholders were issued and sold by the
Company in reliance on exemptions from the registration requirements of the
Securities Act. These shares may be sold in the public market only if registered
or pursuant to an exemption from registration such as Rule 144, 144(k) or 701
under the Securities Act. The Company's executive officers, directors and
principal stockholders and certain other of the Company's stockholders, who
following the offering together will hold an aggregate of approximately
4,323,174 shares of the Company's Common Stock, have entered into lock-up
agreements providing that they will not, without the prior written consent of
Montgomery Securities, offer, sell, contract to sell or grant any option to
purchase or otherwise dispose of the shares of Common Stock owned by them or
that could be purchased by them through the exercise of options to purchase
Common Stock of the Company until 180 days after the date of this Prospectus, or
such earlier date as may be agreed to by Montgomery Securities in its sole
discretion.
As a result of the foregoing lock-up agreements and securities law
restrictions, 95,495 shares of the Company's Common Stock will be eligible for
resale without restriction on the Effective Date pursuant to Rule 144(k),
approximately 204 shares of the Company's Common Stock will be eligible for
resale pursuant to Rule 701 beginning 90 days after the Effective Date and the
remaining shares of the Company's Common Stock will be eligible for resale,
pursuant to either Rule 701 or Rule 144, beginning 180 days after the Effective
Date.
In general, under Rule 144 as in effect after April 29, 1997, beginning 90
days after the date of this Prospectus, a person (or persons whose shares are
aggregated) who has beneficially owned restricted shares for at least one year
(including the holding period of any prior owner except an affiliate) is
entitled to sell, within any three-month period, a number of shares that does
not exceed the greater of: (i) one percent of the number of shares of Common
Stock then outstanding (which will equal approximately 67,600 shares immediately
after this offering); or (ii) the average weekly trading volume of the Common
Stock during the four calendar weeks preceding the filing of a Form 144 with
respect to such sale. Sales under Rule 144 are also subject to certain manner of
sale provisions and notice requirements and to the availability of current
public information about the Company. Under Rule 144(k), a person who is not
deemed to have been an affiliate of the Company at any time during the 90 days
preceding a sale, and who has beneficially owned the shares to be sold for at
least two years (including the holding period of any prior owner except an
affiliate), is entitled to sell such shares without complying with the manner of
sale, public information, volume limitation or notice provisions of Rule 144.
Rule 701 permits resales of shares in reliance upon Rule 144 but without
compliance with the holding period requirements of Rule 144. Any employee,
officer or director of or consultant to the Company who purchased his or her
shares pursuant to a written compensatory plan or contract may be entitled to
rely on the resale provisions of Rule 701. Rule 701 further provides that
non-affiliates may sell such shares in reliance on Rule 144 without having to
comply with the holding period, public information, volume limitation or notice
provisions of Rule 144. Each holder of Rule 701 shares is required to wait until
90 days after the date of this Prospectus before selling such shares.
60
<PAGE>
Shortly after this offering, the Company intends to file a registration
statement under the Securities Act covering shares of Common Stock subject to
outstanding options under the Company's Option Plan or reserved for issuance
under the Equity Incentive Plan, Directors Plan or Purchase Plan. Based upon the
number of shares subject to outstanding options or reserved for issuance at
December 31, 1996 under all such plans, such registration statement would cover
approximately 1,290,781 shares. This registration statement will automatically
become effective upon filing. Accordingly, shares registered under such
registration statement will, subject to lockup agreements and Rule 144 volume
limitations applicable to affiliates of the Company, be available for sale in
the open market immediately.
61
<PAGE>
UNDERWRITING
The Underwriters named below (the "Underwriters"), represented by Montgomery
Securities, Hambrecht & Quist LLC and Cowen & Company (the "Representatives"),
have severally agreed, subject to the terms and conditions in the Underwriting
Agreement (the "Underwriting Agreement") by and among the Company, the Selling
Stockholders and the Underwriters, to purchase from the Company and the Selling
Stockholders the number of shares of Common Stock indicated below opposite their
respective names at the initial public offering price less the underwriting
discount set forth on the cover page of this Prospectus. The Underwriting
Agreement provides that the obligations of the Underwriters are subject to
certain conditions precedent, and that the Underwriters are committed to
purchase all the shares of Common Stock, if they purchase any.
<TABLE>
<CAPTION>
NUMBER OF
UNDERWRITERS SHARES
- --------------------------------------------------------------------------------- ----------
<S> <C>
Montgomery Securities............................................................ 604,000
Hambrecht & Quist LLC............................................................ 453,000
Cowen & Company.................................................................. 453,000
Alex. Brown & Sons Incorporated.................................................. 90,000
Goldman, Sachs & Co.............................................................. 90,000
Merrill Lynch, Pierce, Fenner & Smith Incorporated............................... 90,000
PaineWebber Incorporated......................................................... 90,000
Robertson, Stephens & Company LLC................................................ 90,000
Schroder Wertheim & Co. Incorporated............................................. 90,000
Cruttenden Roth Incorporated..................................................... 50,000
Furman Selz LLC.................................................................. 50,000
Piper Jaffray Inc................................................................ 50,000
Van Kasper & Company............................................................. 50,000
H.C. Wainwright & Co., Inc....................................................... 50,000
Yamaichi International (America), Inc............................................ 50,000
----------
Total.................................................................... 2,350,000
----------
----------
</TABLE>
The Representatives have advised the Company and the Selling Stockholders
that the Underwriters initially propose to offer the shares of Common Stock to
the public on the terms set forth on the cover page of this Prospectus. The
Underwriters may allow to selected dealers a concession of not more than $0.35
per share; and the Underwriters may allow, and such dealers may reallow, a
concession of not more than $0.10 per share to certain other dealers. After the
offering, the offering price and other selling terms may be changed by the
Representatives. The Common Stock is offered subject to receipt and acceptance
by the Underwriters, and to certain other conditions, including the right to
reject orders in whole or in part.
The Company has granted an option to the Underwriters, exercisable during
the 30-day period after the date of this Prospectus, to purchase up to a maximum
of 352,500 additional shares of Common Stock to cover over-allotments, if any,
at the same price per share as the initial 2,350,000 shares to be purchased by
the Underwriters. To the extent that the Underwriters exercise this option, each
of the Underwriters will be committed, subject to certain conditions, to
purchase such additional shares in approximately the same proportion as set
forth in the above table. The Underwriters may purchase such shares only to
cover over-allotments made in connection with this offering.
The Underwriting Agreement provides that the Company and the Selling
Stockholders will indemnify the Underwriters and their controlling persons
against certain liabilities, including civil liabilities under the Securities
Act, or will contribute to payments the Underwriters may be required to make in
respect thereof.
62
<PAGE>
The holders of an aggregate of 4,323,174 of the outstanding shares of Common
Stock of the Company have agreed, subject to certain limited exceptions, that
they will not, without the prior written consent of Montgomery Securities (which
consent may be withheld in its sole discretion), directly or indirectly, sell,
offer, contract or grant any option to sell, make any short sale (including
without limitation any "short vs. the box"), pledge, transfer, establish an open
"put equivalent position" within the meaning of Rule 16a-1(h) under the Exchange
Act, or otherwise dispose of any shares of Common Stock, options or warrants to
acquire shares of Common Stock, or securities exchangeable or exercisable for or
convertible into shares of Common Stock, currently owned or hereafter acquired
(excluding any shares of Common Stock purchased on the open market), either of
record or beneficially (as defined in Rule 13d-3 under the Exchange Act) by such
party, or publicly announce such party's intention to do any of the foregoing,
for a period of 180 days after the date of this Prospectus. The Company has
agreed in the Underwriting Agreement that, during the period of 180 days after
the date of this Prospectus, without the prior written consent of either
Montgomery Securities or each of the Representatives (which consent may be
withheld at the sole discretion of Montgomery Securities or the Representatives,
as the case may be), it will not issue, offer, sell, grant options to purchase
or otherwise dispose of any of the Company's equity securities or any other
securities convertible into or exchangeable with the Company's Common Stock or
other equity security, subject to certain limited exceptions. See "Shares
Eligible for Future Sale."
The Representatives have advised the Company that the Underwriters will not
confirm sales to accounts over which they exercise discretionary authority in
excess of 5% of the number of shares of Common Stock offered hereby.
Prior to the offering, there has been no public market for the Common Stock
of the Company. Consequently, the initial public offering price for the Common
Stock was determined through negotiations among the Company, the Selling
Stockholders and the Representatives. Among the factors considered in such
negotiations were the history of, and prospects for, the Company and the
industry in which it competes, an assessment of the Company's management, its
past and present operations and financial performance, the prospects for future
earnings of the Company, the present state of the Company's development, the
general condition of the securities markets at the time of the offering and the
market prices of and demand for publicly traded common stocks of comparable
companies in recent periods and other factors deemed relevant.
LEGAL MATTERS
The validity of the issuance of the shares of Common Stock offered hereby
will be passed upon for the Company and the Selling Stockholders by Fenwick &
West LLP, Palo Alto, California. Certain legal matters in connection with this
offering will be passed upon for the Underwriters by Wilson Sonsini Goodrich &
Rosati, P.C., Palo Alto, California.
EXPERTS
The consolidated financial statements of the Company as of and for the years
ended December 31, 1995 and 1996 have been included herein in reliance upon the
report of KPMG Peat Marwick LLP, independent auditors, appearing elsewhere
herein, and upon the authority of said firm as experts in accounting and
auditing.
The consolidated financial statements, excluding the consolidated balance
sheet, of the Company for the year ended December 31, 1994, have been included
herein in reliance upon the report of Ernst & Young LLP, independent auditors,
appearing elsewhere herein, given upon the authority of said firm as experts in
accounting and auditing.
ADDITIONAL INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement under the Securities Act with respect to
the shares of Common Stock offered hereby. This Prospectus, which constitutes a
part of the Registration Statement, does not contain all of the
63
<PAGE>
information set forth in the Registration Statement and the exhibits thereto.
For further information with respect to the Company and the Common Stock offered
hereby, reference is made to the Registration Statement and exhibits. Statements
contained in this Prospectus regarding the contents of any contract or any other
document to which reference is made are not necessarily complete, and in each
instance reference is made to the copy of such contract or other document filed
as an exhibit to the Registration Statement, each such statement being qualified
in all respects by such reference. A copy of the Registration Statement,
including the exhibits thereto, may be inspected without charge at the
Commission's principal office in Washington, D.C., and copies of all or any part
thereof may be obtained from the Public Reference Section of the Commission at
450 Fifth Street, N.W., Washington, D.C. 20549, upon payment of certain
prescribed rates. The Commission maintains a World Wide Web site that contains
reports, proxy and information statements and other information filed
electronically with the Commission. The address of the site is
http://www.sec.gov.
CHANGE IN INDEPENDENT AUDITORS
At a meeting on November 3, 1995, the Board approved the retention of KPMG
Peat Marwick LLP as the independent auditors for the Company after the Company's
former auditors, Ernst & Young LLP, chose not to stand for reappointment. The
former auditors' report with respect to the Company's consolidated financial
statements for the year ended December 31, 1994, which report is included in
this Prospectus, does not contain an adverse opinion or a disclaimer of an
opinion or qualification or modification as to uncertainty, audit scope or
accounting principles. During such period and extending to the date the former
auditors chose not to stand for reappointment, there were no disagreements with
the former auditors on any matters of accounting principle or practice,
financial statement disclosure, or auditing scope or procedure that, if not
resolved to the satisfaction of the former auditors, would have been referred to
in the auditors' report. Prior to retaining KPMG Peat Marwick LLP, the Company
had not consulted with KPMG Peat Marwick LLP regarding the application of
accounting principles or the form of audit opinion to be issued on the Company's
financial statements.
64
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1994, 1995, AND 1996
INDEX
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Independent Auditors' Reports............................................. F-2
Audited Consolidated Financial Statements:
Consolidated Balance Sheets............................................. F-4
Consolidated Statements of Income....................................... F-5
Consolidated Statements of Stockholders' Equity......................... F-6
Consolidated Statements of Cash Flows................................... F-7
Notes to Consolidated Financial Statements.............................. F-8
</TABLE>
F-1
<PAGE>
Report of KPMG Peat Marwick LLP, Independent Auditors
The Board of Directors and Stockholders
Macrovision Corporation and Subsidiaries:
We have audited the accompanying consolidated balance sheets of Macrovision
Corporation and subsidiaries (the Company) as of December 31, 1995 and 1996, and
the related consolidated statements of income, stockholders' equity, and cash
flows for the years then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Macrovision
Corporation and subsidiaries as of December 31, 1995 and 1996, and the results
of their operations and their cash flows for the years then ended in conformity
with generally accepted accounting principles.
KPMG Peat Marwick LLP
San Jose, California
February 7, 1997, except as to the
Reincorporation paragraph of
Note 1, which is as of February 26, 1997
F-2
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Macrovision Corporation
We have audited the consolidated balance sheet (not included herein) of
Macrovision Corporation as of December 31, 1994 and the related consolidated
statements of operations, stockholders' equity and cash flows for the period
ended December 31, 1994. These financial statements are the responsibility of
the Corporation's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Macrovision
Corporation at December 31, 1994 and the consolidated results of its operations
and its cash flows for the year ended December 31, 1994, in conformity with
generally accepted accounting principles.
Ernst & Young LLP
Palo Alto, California
March 7, 1995
F-3
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
ASSETS
<TABLE>
<CAPTION>
DECEMBER 31, 1996
------------------------------
DECEMBER 31, PRO FORMA
1995 ACTUAL STOCKHOLDERS'
------------- --------- EQUITY
-------------------
(UNAUDITED)
<S> <C> <C> <C>
Current assets:
Cash and cash equivalents.......................................... $ 2,286 $ 2,409
Short-term investments............................................. 1,200 --
Accounts receivable, net of allowance for doubtful accounts of $280
and $267 as of December 31, 1995 and 1996, respectively.......... 2,568 3,376
Inventories........................................................ 826 550
Deferred tax assets................................................ 463 929
Prepaid expenses and other current assets.......................... 141 186
Net assets of discontinued operations.............................. 524 --
------------- ---------
Total current assets........................................... 8,008 7,450
Property and equipment, net.......................................... 1,833 2,017
Patents and other intangibles, net of accumulated amortization of
$209 and $401 as of December 31, 1995 and 1996, respectively....... 1,010 1,161
Receivable from related party........................................ -- 329
Other assets......................................................... 92 996
------------- ---------
$ 10,943 $ 11,953
------------- ---------
------------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable................................................... $ 638 $ 1,073
Accrued expenses................................................... 2,346 2,713
Deferred revenue................................................... 428 749
Income taxes payable............................................... 606 585
Current portion of capital lease liability......................... -- 105
Current portion of long-term debt.................................. 142 --
------------- ---------
Total current liabilities...................................... 4,160 5,225
Capital lease liability, net of current portion...................... -- 296
Long-term debt....................................................... 554 --
Convertible note..................................................... 3,038 --
Deferred tax liabilities............................................. 345 360
------------- ---------
8,097 5,881
Commitments and contingencies
Stockholders' equity:
Preferred stock, actual--$.001 par value, 5,000,000 shares
authorized; issuable in series; 1,376,432 shares designated
Series A convertible preferred stock; 833,333 shares issued and
outstanding as of December 31, 1995; 1,376,432 shares issued and
outstanding as of December 31, 1996; pro forma--no shares issued
and outstanding.................................................. 1 1 $ --
Common stock, actual--$.001 par value; 100,000,000 shares
authorized; 3,632,719 and 3,951,759 shares issued and outstanding
as of December 31, 1995 and 1996, respectively; pro
forma--50,000,000 shares authorized; 5,328,191 shares issued and
outstanding...................................................... 4 4 5
Additional paid-in capital......................................... 5,058 9,530 9,530
Stockholder notes receivable....................................... -- (157) (157)
Deferred stock compensation........................................ (240) (240)
Accumulated deficit................................................ (2,099) (2,931) (2,931)
Accumulated translation adjustment................................. (118) (135) (135)
------------- --------- -------
Total stockholders' equity..................................... 2,846 6,072 $ 6,072
------------- ---------
-------
-------
$ 10,943 $ 11,953
------------- ---------
------------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-----------------------------------
1994 1995 1996
----------- ---------- ----------
<S> <C> <C> <C>
Net revenues............................................................... $ 13,330 $ 14,189 $ 17,080
Costs and expenses:
Cost of revenues......................................................... 2,067 2,457 2,579
Research and development................................................. 2,355 2,161 2,527
Selling, general, and administrative..................................... 6,104 7,388 8,656
----------- ---------- ----------
Total costs and expenses............................................. 10,526 12,006 13,762
----------- ---------- ----------
Operating income from continuing
operations............................................................... 2,804 2,183 3,318
Interest and other expense, net............................................ (417) (433) (260)
----------- ---------- ----------
Income from continuing operations before income taxes................ 2,387 1,750 3,058
Provision for income taxes................................................. 886 694 1,223
----------- ---------- ----------
Net income from continuing
operations......................................................... 1,501 1,056 1,835
Discontinued operations:
Loss from operations of CAC business, net of income tax benefit of $80
and $204 as of December 31, 1995 and 1996, respectively................ -- (125) (663)
Provision for operating losses during holding period, net of income tax
benefit of $45 as of December 31, 1996................................. -- -- (164)
----------- ---------- ----------
Net income........................................................... $ 1,501 $ 931 $ 1,008
----------- ---------- ----------
----------- ---------- ----------
Computation of earnings per share:
Net income from continuing operations.................................... $ 1,056 $ 1,835
Preferred stock dividends................................................ (450) (587)
---------- ----------
Adjusted net income from continuing operations........................... 606 1,248
Discontinued operations.................................................. (125) (827)
---------- ----------
Earnings applicable to common stock...................................... $ 481 $ 421
---------- ----------
---------- ----------
Earnings (loss) per share:
Continuing operations.................................................... $ .15 $ .29
Discontinued operations.................................................. (.03) (.19)
---------- ----------
Net income........................................................... $ .12 $ .10
---------- ----------
---------- ----------
Shares used in computing earnings per share................................ 4,162,000 4,353,000
---------- ----------
---------- ----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK ADDITIONAL STOCKHOLDER
---------------------- ---------------------- PAID-IN NOTES
SHARES AMOUNT SHARES AMOUNT CAPITAL RECEIVABLE
--------- ----------- --------- ----------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Balances as of December 31, 1993................... 833,333 $ 1 3,620,113 $ 4 $ 5,035 $ --
Issuance of common stock upon exercise of
options........................................ -- -- 66 -- -- --
Cash dividends of $.22 per share paid on
2,359,568 shares of common stock............... -- -- -- -- -- --
Cash dividends of $.54 per share paid on
preferred stock................................ -- -- -- -- -- --
Translation adjustment........................... -- -- -- -- -- --
Net income....................................... -- -- -- -- -- --
--------- ----- --------- ----- ----------- -----
Balances as of December 31, 1994................... 833,333 1 3,620,179 4 5,035 --
Issuance of common stock upon exercise of
options........................................ -- -- 12,540 -- 23 --
Cash dividends of $.54 per share paid on
preferred stock................................ -- -- -- -- -- --
Translation adjustment........................... -- -- -- -- -- --
Net income....................................... -- -- -- -- -- --
--------- ----- --------- ----- ----------- -----
Balances as of December 31, 1995................... 833,333 1 3,632,719 4 5,058 --
Issuance of common stock upon exercise of
options........................................ -- -- 66,263 -- 171 --
Issuance of common stock in exchange for
stockholder note receivable.................... -- -- 58,333 -- 157 (157)
Issuance of common stock in connection with
recapitalization of Command Audio
Corporation.................................... -- -- 194,444 -- 875 --
Conversion of note into 543,099 shares of Series
A preferred stock.............................. 543,099 -- -- -- 3,038 --
Cash dividends of $.405 per share paid on 833,333
shares of preferred stock, $.117 per share paid
on 543,099 shares of preferred stock, and $.135
per share declared on 1,376,432 shares of
preferred stock ............................... -- -- -- -- -- --
Deferred stock compensation related to stock
option grants.................................. -- -- -- -- 231 --
Spin-off of Command Audio Corporation, including
deferred stock compensation.................... -- -- -- -- -- --
Amortization of deferred stock compensation...... -- -- -- -- -- --
Translation adjustment........................... -- -- -- -- -- --
Net income....................................... -- -- -- -- -- --
--------- ----- --------- ----- ----------- -----
Balances as of December 31, 1996................... 1,376,432 $ 1 3,951,759 $ 4 $ 9,530 $ (157)
--------- ----- --------- ----- ----------- -----
--------- ----- --------- ----- ----------- -----
<CAPTION>
ACCUMULATED TOTAL
DEFERRED STOCK ACCUMULATED TRANSLATION STOCKHOLDERS'
COMPENSATION DEFICIT ADJUSTMENT EQUITY
--------------- ------------- --------------- -------------
<S> <C> <C> <C> <C>
Balances as of December 31, 1993................... $ -- $ (3,112) $ (62) $ 1,866
Issuance of common stock upon exercise of
options........................................ -- -- -- --
Cash dividends of $.22 per share paid on
2,359,568 shares of common stock............... -- (519) -- (519)
Cash dividends of $.54 per share paid on
preferred stock................................ -- (450) -- (450)
Translation adjustment........................... -- -- (10) (10)
Net income....................................... -- 1,501 -- 1,501
----- ------------- ----- -------------
Balances as of December 31, 1994................... -- (2,580) (72) 2,388
Issuance of common stock upon exercise of
options........................................ -- -- -- 23
Cash dividends of $.54 per share paid on
preferred stock................................ -- (450) -- (450)
Translation adjustment........................... -- -- (46) (46)
Net income....................................... -- 931 -- 931
----- ------------- ----- -------------
Balances as of December 31, 1995................... -- (2,099) (118) 2,846
Issuance of common stock upon exercise of
options........................................ -- -- -- 171
Issuance of common stock in exchange for
stockholder note receivable.................... -- -- -- --
Issuance of common stock in connection with
recapitalization of Command Audio
Corporation.................................... -- -- -- 875
Conversion of note into 543,099 shares of Series
A preferred stock.............................. -- -- -- 3,038
Cash dividends of $.405 per share paid on 833,333
shares of preferred stock, $.117 per share paid
on 543,099 shares of preferred stock, and $.135
per share declared on 1,376,432 shares of
preferred stock ............................... -- (587) -- (587)
Deferred stock compensation related to stock
option grants.................................. (231) -- -- --
Spin-off of Command Audio Corporation, including
deferred stock compensation.................... (189) (1,253) -- (1,442)
Amortization of deferred stock compensation...... 180 -- -- 180
Translation adjustment........................... -- -- (17) (17)
Net income....................................... -- 1,008 -- 1,008
----- ------------- ----- -------------
Balances as of December 31, 1996................... $ (240) $ (2,931) $ (135) $ 6,072
----- ------------- ----- -------------
----- ------------- ----- -------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income................................................................................... $ 1,501 $ 931 $ 1,008
Adjustments to reconcile net income to net cash provided by continuing operations:
Depreciation and amortization.............................................................. 549 572 1,002
Deferred income taxes...................................................................... (300) 194 (451)
Amortization of deferred stock compensation................................................ -- -- 180
Discontinued operations.................................................................... -- 125 827
Changes in operating assets and liabilities:
Accounts receivable, inventories, and other current assets............................... (1,077) (648) (577)
Accounts payable, accrued liabilities, deferred revenue, and income taxes payable........ 1,610 516 916
Other.................................................................................... 16 (46) (17)
--------- --------- ---------
Net cash provided by continuing operations............................................. 2,299 1,644 2,888
Net cash used in discontinued operations............................................... -- (649) (1,227)
--------- --------- ---------
Net cash provided by operating activities.............................................. 2,299 995 1,661
--------- --------- ---------
Cash flows from investing activities:
Purchases of short-term investments.......................................................... (1,800) -- --
Sales of short-term investments.............................................................. 300 600 1,200
Acquisition of property and equipment........................................................ (634) (1,412) (476)
Payments for patents and other intangibles................................................... (207) (185) (343)
Receivable from related party................................................................ -- -- (329)
Other, net................................................................................... (31) (32) (4)
--------- --------- ---------
Net cash (used in) provided by investing activities.................................... (2,372) (1,029) 48
--------- --------- ---------
Cash flows from financing activities:
Payments on capital lease obligations........................................................ (4) -- (117)
Proceeds from long-term debt................................................................. -- 708 --
Payments on long-term debt................................................................... -- (12) (696)
Proceeds from issuance of common stock....................................................... -- 23 171
Payments of deferred offering costs.......................................................... -- -- (543)
Cash dividends............................................................................... (969) (450) (401)
--------- --------- ---------
Net cash (used in) provided by financing activities.................................... (973) 269 (1,586)
--------- --------- ---------
Net (decrease) increase in cash and cash equivalents........................................... (1,046) 235 123
Cash and cash equivalents at beginning of year................................................. 3,097 2,051 2,286
--------- --------- ---------
Cash and cash equivalents at end of year....................................................... $ 2,051 $ 2,286 $ 2,409
--------- --------- ---------
--------- --------- ---------
Supplemental disclosures of cash flow information:
Cash paid during the year:
Interest................................................................................... $ 508 $ 536 $ 296
--------- --------- ---------
--------- --------- ---------
Income taxes............................................................................... $ 1,074 $ 155 $ 1,446
--------- --------- ---------
--------- --------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1994, 1995, AND 1996
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
THE COMPANY
Macrovision Corporation (the Company), which was formed in 1983, designs,
develops, and markets video security technologies and products that provide copy
protection and video scrambling for motion pictures and other proprietary video
materials. The Company is headquartered in Sunnyvale, California and has
subsidiaries in the United Kingdom and Japan.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries. All significant intercompany
transactions have been eliminated in consolidation.
CASH, CASH EQUIVALENTS, AND SHORT-TERM INVESTMENTS
The Company considers all highly liquid investments with a maturity from
date of purchase of three months or less to be cash equivalents. Cash and cash
equivalents consist of cash on deposit with banks, money market funds and mutual
funds. All other liquid investments are classified as short-term investments.
Short-term investments consisted of auction rate preferred stock and municipal
debt in 1995.
Management determines the appropriate classification of investment
securities at the time of purchase and reevaluates such designation as of each
balance sheet date. As of December 31, 1995 and 1996, all investment securities
were designated as "available-for-sale." Available-for-sale securities are
carried at fair value based on quoted market prices, with unrealized gains and
losses, if material, reported in stockholders' equity.
Realized gains and losses and declines in value judged to be
other-than-temporary for available-for-sale securities are included in the
consolidated statements of operations. There have been no such inclusions
through December 31, 1996. The cost of securities sold is based on the specific
identification method. Interest and dividends on securities classified as
available-for-sale are included in interest income.
The following is a summary of available-for-sale securities (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
--------- ---------
<S> <C> <C>
Cash equivalents:
Money market funds......................................................... $ 1,595 $ 803
Mutual funds............................................................... -- --
--------- ---------
1,595 803
--------- ---------
Short-term investments:
Auction rate preferred stock............................................... 900 --
Municipal debt............................................................. 300 --
--------- ---------
1,200 --
--------- ---------
$ 2,795 $ 803
--------- ---------
--------- ---------
</TABLE>
F-8
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Through December 31, 1996, the difference between the fair value and the
amortized cost of available-for-sale securities was insignificant; therefore, no
unrealized gains or losses have been recorded in stockholders' equity. As of
December 31, 1996, the average portfolio duration and contractual maturity was
less than three months.
INVENTORIES
Inventories are stated at the lower of cost (determined on a first-in,
first-out basis) or market.
PROPERTY AND EQUIPMENT
Property and equipment, including significant improvements, are carried on
the balance sheet at cost. The Company computes depreciation for all property
and equipment using the straight-line method. The estimated useful lives of
assets range from three to five years. Amortization of equipment recorded under
capital leases is computed over the shorter of the lease term or the estimated
useful life of the equipment.
PATENTS
Patent application costs of $727,000 and $604,000 as of December 31, 1995
and 1996, respectively, are included in patents and other intangibles and, upon
the granting of the related patent, are amortized using the straight-line method
over the shorter of the estimated useful life of the patent or 17 years.
IMPAIRMENT OF LONG-LIVED ASSETS
Effective January 1, 1996, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED
ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF. SFAS No. 121 requires the
Company to review the recoverability of the carrying amount of its long-lived
assets whenever events or changes in circumstances indicate that the carrying
amount of an asset might not be recoverable.
In the event that facts and circumstances indicate that the carrying amount
of patents or other assets may be impaired, an evaluation of recoverability
would be performed. If an evaluation is required, the estimated future
undiscounted cash flows associated with the asset would be compared to the
asset's carrying amount to determine if a write-down to fair value is required.
Fair value may be determined by reference to discounted future cash flows over
the remaining useful life of the related asset. Such an adoption did not have a
material effect on the Company's consolidated financial position or results of
operations.
REVENUE RECOGNITION
Advanced license fees attributable to minimum copy quantities are deferred
until earned. Revenue from the duplication of videocassettes is earned based
upon reported volume of duplication or, in the case of agreements with minimum
guaranteed payments with no specified volume, on a straight-line basis over the
life of the agreement. Retroactive rebate credits on certain duplication
agreements that contain volume pricing adjustments are accrued based upon
anticipated unit volume. Nonrefundable license fees received from licensed
duplicators are recognized upon the delivery of processors allowing duplicators
the ability to
F-9
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
apply the Company's video copy protection process. Technology licensing revenue,
which applies principally to digital pay-per-view (PPV), cable and satellite
system operators, and set-top decoder manufacturers, is recognized upon release
of the rights to the technology and performance of all significant obligations.
Royalty revenue associated with technology licenses is recognized when earned
based upon reported unit sales, transaction based fees, or box office receipts.
Revenues from the sales of encoders, decoders, and systems incorporating the
Company's video copy protection and scrambling technologies are recognized upon
shipment provided that the Company has no significant additional performance
obligations.
COST OF REVENUES
The Company has agreements with certain licensed duplicators utilized by
customers of the Company's video copy protection technology. The Company has
agreed to pay these duplicators a specified fee per unit duplicated utilizing
the Company's video copy protection technology. Such amounts are charged to cost
of revenues when incurred and were $618,000, $583,000, and $596,000 as of
December 31, 1994, 1995, and 1996, respectively.
Video copy protection technology has stimulated the development of "black
boxes" to defeat the video copy protection process. The Company owns patents
that it believes are infringed by these "black box" manufacturers. The Company
has successfully settled legal actions against a number of companies that
produced and distributed "black boxes." These companies have agreed to cease and
desist from manufacturing, distributing, and/or selling the infringing products.
The legal costs associated with protecting these patents amounted to $83,000,
$78,000, and $30,000 as of December 31, 1994, 1995, and 1996, respectively, and
are included in cost of revenues as incurred. Cost of revenues also includes
amortization of patents.
INCOME TAXES
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
FOREIGN CURRENCY TRANSLATION AND TRANSACTIONS
The functional currency for the Company's foreign subsidiaries is the
applicable local currency. The translation of foreign currencies into U.S.
dollars is performed for balance sheet accounts using current exchange rates in
effect at the balance sheet date and for revenues and expense accounts using a
weighted average exchange rate for the respective periods. The gains or losses
resulting from such translation are included in stockholders' equity.
Gains or losses resulting from foreign currency transactions included in the
consolidated statements of operations were not material in any of the periods
presented.
F-10
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
BUSINESS AND CONCENTRATION OF CREDIT RISK
The Company sells its video scrambling products and licenses its video copy
protection and video scrambling technologies to customers in the home
videocassette, pay-per-view, cable, satellite, and corporate communication
markets primarily in United States, Europe, Japan, and the Far East. Most of the
Company's business is attributed to the licensing of its video copy protection
technology through Motion Picture Association of America movie studios. The
Company also licenses its digital PPV video copy protection technologies to
satellite and cable television operators and to the equipment manufacturers that
supply the satellite and cable television industries. The Company's video
scrambling technology is licensed to manufacturers of analog cable Pay TV
set-top decoders in developing cable television markets. The Company sells
encoders and decoders that incorporate the scrambling technology to private
analog satellite networks for business communications, education, and special
interest entertainment. The Company also sells specialized video scrambling
systems in the government, military, and law enforcement markets.
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash, cash equivalents, and
trade accounts receivable. The Company places its cash and cash equivalents
primarily in money market funds.
The Company performs ongoing credit evaluations of its customers and to date
has not experienced any material losses. Revenues from three significant
customers aggregated 45%, 44%, and 37% for the years ended December 31, 1994,
1995, and 1996, respectively. At December 31, 1996, receivables from these
customers aggregated 11% of net accounts receivable.
NET INCOME PER SHARE
Net income per share is computed using net income and is based on the
weighted average number of outstanding shares of common stock and, when
dilutive, convertible preferred stock and convertible debt on an "as if
converted" basis, and common equivalent shares from stock options and warrants
outstanding using the treasury stock method. Pursuant to the rules of the
Securities and Exchange Commission (SEC), all common and common equivalent
shares issued within 12 months of the initial filing of the registration
statement have been included in the computation as if they were outstanding for
all periods presented using the treasury stock method and the anticipated
initial public offering (IPO) price of $11.
RECENT ACCOUNTING PRONOUNCEMENTS
In October 1995, the Financial Accounting Standards Board (FASB) issued SFAS
No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION. SFAS No. 123 is effective for
fiscal years beginning after December 15, 1995, and requires that the Company
either recognize in its consolidated financial statements costs related to its
employee stock-based compensation plans, such as stock option and stock purchase
plans, or make
F-11
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(1) THE COMPANY AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
pro forma disclosures of such costs in a footnote to the consolidated financial
statements. The Company has elected to continue to use the intrinsic value-based
method of Accounting Principles Board (APB) Opinion No. 25, as allowed under
SFAS No. 123, to account for all of its employee stock-based compensation plans.
The adoption of SFAS No. 123 did not have a material effect on the Company's
consolidated financial position or results of operations.
REGISTRATION STATEMENT
In December 1996, the Board of Directors authorized the filing of a
registration statement with the SEC permitting the Company and certain
stockholders of the Company to sell shares of the Company's common stock in
connection with a proposed IPO. If the offering is consummated under the terms
presently anticipated, all the currently outstanding shares of preferred stock
will automatically convert into 1,376,432 shares of common stock upon the
closing of the IPO. The conversion of the preferred stock has been reflected in
the accompanying unaudited pro forma stockholders' equity as of December 31,
1996.
REINCORPORATION
In December 1996, the Board of Directors approved the Company's
reincorporation in the state of Delaware which became effective on February 14,
1997. The Certificate of Incorporation of the Delaware successor corporation
authorizes 50,000,000 shares of common stock, $.001 par value per share and
5,000,000 shares of preferred stock, $.001 par value per share. The Board of
Directors also approved a 1 for 1.8 reverse stock split of common and preferred
stock which became effective on February 26, 1997. The accompanying consolidated
financial statements have been retroactively restated to give effect to the
reincorporation and reverse stock split.
(2) FINANCIAL STATEMENT DETAILS
INVENTORIES
Inventories consisted of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
--------- ---------
<S> <C> <C>
Raw materials................................................................. $ 238 $ 260
Work in progress.............................................................. 344 73
Finished goods................................................................ 244 217
--------- ---------
$ 826 $ 550
--------- ---------
--------- ---------
</TABLE>
F-12
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(2) FINANCIAL STATEMENT DETAILS (CONTINUED)
PROPERTY AND EQUIPMENT, NET
Property and equipment consisted of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
--------- ---------
<S> <C> <C>
Machinery and equipment.................................................... $ 2,106 $ 2,977
Leasehold improvements..................................................... 892 913
Furniture and fixtures..................................................... 327 429
--------- ---------
3,325 4,319
Less accumulated depreciation and amortization............................. 1,492 2,302
--------- ---------
$ 1,833 $ 2,017
--------- ---------
--------- ---------
</TABLE>
Equipment recorded under capital leases aggregated $518,000 with related
accumulated amortization of $130,000 as of December 31, 1996.
OTHER ASSETS
Other assets consisted of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1995 1996
----- ---------
<S> <C> <C>
Deferred offering costs........................................................ $ -- $ 543
Investment in CAC.............................................................. -- 357
Deposits and other assets...................................................... 92 96
--- ---------
$ 92 $ 996
--- ---------
--- ---------
</TABLE>
ACCRUED EXPENSES
Accrued expenses consisted of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1995 1996
--------- ---------
<S> <C> <C>
Accrued compensation....................................................... $ 590 $ 1,069
Accrued lease commitments.................................................. 74 49
Interest payable........................................................... 128 --
Accrued property and sales taxes........................................... 113 157
Accrued professional fees.................................................. 265 234
Accrued rebates............................................................ 524 595
Other accrued liabilities.................................................. 652 609
--------- ---------
$ 2,346 $ 2,713
--------- ---------
--------- ---------
</TABLE>
F-13
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(2) FINANCIAL STATEMENT DETAILS (CONTINUED)
INTEREST AND OTHER EXPENSE, NET
Interest and other expense, net, consisted of the following (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Interest income................................................... $ 86 $ 135 $ 67
Interest expense.................................................. (503) (536) (284)
Other............................................................. -- (32) (43)
--------- --------- ---------
$ (417) $ (433) $ (260)
--------- --------- ---------
--------- --------- ---------
</TABLE>
SUPPLEMENTAL CASH FLOW INFORMATION
Supplemental cash flow information related to noncash investing and
financing activities is as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Acquisition of equipment under capital lease.................... $ -- $ -- $ 518
--------- --------- ---------
--------- --------- ---------
Issuance of common stock in exchange for stockholder notes
receivable.................................................... $ -- $ -- $ 157
--------- --------- ---------
--------- --------- ---------
Conversion of convertible note into preferred stock............. $ -- $ -- $ 3,038
--------- --------- ---------
--------- --------- ---------
Deferred stock compensation related to stock option grants...... $ -- $ -- $ 231
--------- --------- ---------
--------- --------- ---------
Issuance of common stock in connection with recapitalization.... $ -- $ -- $ 875
--------- --------- ---------
--------- --------- ---------
Pro rata stock dividend distribution in connection with
spin-off...................................................... $ -- $ -- $ 1,253
--------- --------- ---------
--------- --------- ---------
Deferred stock compensation related to spin-off................. $ -- $ -- $ 189
--------- --------- ---------
--------- --------- ---------
</TABLE>
(3) DEBT
CONVERTIBLE NOTE
The Company issued to Pacific Media Development, Inc. (Pacific Media), an
indirect, wholly owned subsidiary of JVC and the holder of the Series A
convertible preferred stock (see Note 5), a convertible note with a principal
value of $3,038,000, which bore interest at a rate of 16.38% per annum payable
quarterly. The note was due in June 2001 and could have been extended for an
additional 10 years upon the mutual agreement of Pacific Media and the Company.
At the option of Pacific Media, the note was convertible into 543,099 shares of
Series A convertible preferred stock, subject to adjustment based upon certain
provisions of the note agreement. The note entitled Pacific Media to voting
rights equal to one vote for each share of common stock into which the note
could be converted, and the note entitled the holder to
F-14
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(3) DEBT (CONTINUED)
representation on the Company's Board of Directors. In July 1996, the note was
converted into 543,099 shares of Series A convertible preferred stock.
TERM LOAN AND LINE OF CREDIT
In June 1995, the Company entered into a Loan and Security Agreement that
included a $1,500,000 line of credit to support the issuance of commercial and
standby letters of credit and a $1,500,000 term facility, both bearing interest
at the prime rate (8.5% as of December 31, 1995). The Company terminated this
line of credit and term facility in June 1996.
(4) DISCONTINUED OPERATIONS AND TRANSACTIONS WITH RELATED PARTIES
DISCONTINUED OPERATIONS
In October 1995, Command Audio Corporation (CAC) was incorporated as a
wholly-owned subsidiary of the Company to commercialize a distinctly new
audio-on-demand technology. On June 28, 1996, the Board of Directors approved
the discontinuation of the Company's involvement in CAC. CAC's operations,
technology, and employee base were discrete and separate from those of the
Company. From its inception until separation, CAC generated no revenues and
concentrated exclusively on research and development activities. In conjunction
with this decision, the Company entered into a Recapitalization and Stock
Purchase Agreement whereby the Company invested an additional $1,000,000 into
CAC, provided 194,444 shares of the Company's common stock to CAC pursuant to a
Restricted Stock Acquisition Agreement, and surrendered the Company's 500,000
shares of CAC's Series A preferred stock in exchange for 604,000 shares of CAC
common stock and 396,000 shares of CAC Series B preferred stock. Additionally,
the Company assigned to CAC all rights in certain technology and released its
reversion rights in technology that the Company had previously assigned to CAC.
In consideration of such assignment and release, CAC agreed to pay to the
Company royalties equal to 2% of CAC's gross revenues for 12 years, beginning
when CAC has operating revenues from certain sources or, at the election of the
Company, at any time prior thereto. No amounts have been paid to the Company
under this arrangement.
On December 6, 1996, the Company offered to repurchase 55,555 shares of its
common stock issued to CAC pursuant to a Restricted Stock Acquisition Agreement
for $9.00 per share and CAC released their demand registration rights. The offer
was subsequently rescinded and the Company agreed to allow CAC to sell its
shares of the Company in the IPO.
In August 1996, the Company distributed a portion of the 1,604,000 shares of
CAC common stock to the Company's stockholders on a pro rata basis as a dividend
and the remainder of the CAC common stock to the Company's employees as a stock
bonus while retaining the 396,000 shares of CAC Series B preferred stock,
representing a 19.8% interest in CAC. The CAC Common Stock that was distributed
to the Company's employees resulted in the recognition of $189,000 of deferred
compensation expense. This amount is being amortized over the 17 month vesting
period. The net assets of CAC included in the
F-15
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(4) DISCONTINUED OPERATIONS AND TRANSACTIONS WITH RELATED PARTIES (CONTINUED)
accompanying consolidated balance sheet as of December 31, 1995, are summarized
as follows (in thousands):
<TABLE>
<S> <C>
Assets:
Current assets..................................................... $ 461
Long-term assets................................................... 173
---------
634
Liabilities:
Current liabilities................................................ 110
---------
Net assets....................................................... $ 524
---------
---------
</TABLE>
Information relating to discontinued operations is as follows (in
thousands):
<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
----------------------------
1995 1996
------------- -------------
<S> <C> <C>
Costs and expenses.............................................. $ (205) $ (1,081)
----- -------------
Operating loss.............................................. (205) (1,081)
Other income, net............................................... -- 5
----- -------------
Loss before income taxes.................................... (205) (1,076)
Income tax benefit, net......................................... 80 249
----- -------------
Net loss.................................................... $ (125) $ (827)
----- -------------
----- -------------
</TABLE>
Included in income tax benefit, net for the year ended December 31, 1996, is
a write-off of the deferred tax asset attributable to CAC of $203,000.
CAC maintained its own set of accounts and identified expenses directly
attributable to CAC's operations. Where the Company provided services to CAC and
the specific identification of the related expenses was not practicable, the
expenses were recorded based upon an allocation of such items. This allocation
was based upon the proportional benefit received by CAC and, in management's
opinion, represents a fair and reasonable estimate of expenses incurred by CAC.
Amounts receivable from CAC related to such services are included in the
accompanying consolidated balance sheet as of December 31, 1996, as receivable
from related party.
The Company has recorded its investment in CAC based upon its historical
cost adjusted for losses incurred by CAC. The Company intends to hold this
investment for the long-term and monitors the recoverability of this investment
based on management's estimates of the fair value of CAC based on the
achievements of milestones specified in CAC's business plan. In the future, the
Company expects to evaluate the recoverability of this investment based on
successive rounds of third-party financing obtained by CAC. The investment is
classified in other assets in the accompanying consolidated balance sheet as of
December 31, 1996. The Company is not obligated by contract to provide future
funding to CAC and does not have the ability to exert significant influence over
the financial and operating policies of CAC. The Company accounts for this
investment by the cost method.
F-16
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(4) DISCONTINUED OPERATIONS AND TRANSACTIONS WITH RELATED PARTIES (CONTINUED)
TRANSACTIONS WITH RELATED PARTIES
The Company and JVC are parties to a Technology Application Agreement dated
November 29, 1988 (the Application Agreement), a Duplicator Agreement dated June
1, 1988 (the Duplicator Agreement) and an Agreement dated July 15, 1994 (the
Video Agreement). Pursuant to the Application Agreement, JVC has applied the
Company's copy protection process to prerecorded videocassettes manufactured and
distributed in Japan by JVC. Pursuant to the Duplicator Agreement, JVC has
applied the Company's copy protection process to prerecorded videocassettes
manufactured and distributed in Japan by certain of the Company's licensees.
Pursuant to the Video Agreement, JVC developed a prototype of equipment to apply
a copy protection process to prerecorded videocassettes, and granted the Company
exclusive rights to purchase such equipment from JVC for resale and to
sublicense the copy protection technology for use with the equipment. Between
January 1, 1994 and December 31, 1996, the Company recorded revenue from JVC of
approximately $208,000 and the Company recorded expenses payable to JVC of
approximately $69,000 under these agreements.
In connection with a license agreement dated September 26, 1995 between the
Company, Victor Technobrain Co., Ltd. (Techno), a wholly owned subsidiary of
JVC, and an unrelated party, the Company has paid Techno a development fee of
$50,000 which has been recorded as an offset to the revenue recognized from the
unrelated party. An additional $50,000 is owed to Techno as of December 31, 1996
upon receipt of the final license payment from the unrelated party.
In July 1996, the Company entered into a Copy Protection Technology License
Agreement with Matsushita, which owns approximately 52% of JVC, pursuant to
which Matsushita and its subsidiaries are authorized to include integrated
circuits incorporating the Company's copy protection technology in digital
set-top decoders they manufacture. The terms and conditions of this agreement,
pursuant to which Matsushita has paid the Company an initial fee of $50,000 and
is obligated to pay an additional $0.60 per unit, are not more favorable to
Matsushita than the terms and conditions of the Company's license agreements
with 32 other digital set-top decoder manufacturers. The Company recorded
royalty revenue from Matsushita of approximately $6,000 during the year ended
December 31, 1996.
In January 1997, the Company and JVC entered into a Copy Protection
Technology Agreement (the Technology Agreement), pursuant to which the Company
agreed to license its copy protection technologies to JVC for use in territories
in which the Company has issued patents, on terms and conditions comparable to
those provided under agreements between the Company and parties situated
similarly to JVC. Additionally, the Company agreed to continue to make its copy
protection technologies generally available for license to third parties on
terms commercially reasonable to the Company in the venues and for the purposes
that the Company currently licenses such technologies. The Technology Agreement
gives JVC the right to sublicense the Company's copy protection technologies to
certain third parties on terms and conditions comparable to those provided in
similar agreements previously entered into by the Company, with 95% of the
royalties from such sublicenses payable to the Company or its successor, in the
event that a party other than JVC acquires a majority interest in the Company or
acquires the Company's copy protection business or patents, and following such
acquisition the Company or its successor refuses to continue to license the
Company's copy protection technologies on a nondiscriminatory basis to its
current customers and similarly situated parties.
F-17
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(5) STOCKHOLDERS' EQUITY
SERIES A CONVERTIBLE PREFERRED STOCK
The Company's Certificate of Incorporation provide for the issuance of up to
5,000,000 shares of preferred stock, of which 1,376,432 shares have been
designated as Series A. In June 1991, the Company issued to Pacific Media
833,333 shares of Series A convertible preferred stock for gross proceeds of
$4,500,000. The shares are convertible into the Company's common stock on a
one-for-one basis at the option of the holder or automatically upon a qualifying
IPO. Each share of Series A convertible preferred stock entitles its holder to
one vote for each share of common stock into which such shares could be
converted, not to exceed voting rights equivalent to 49% of the outstanding
voting stock. Cumulative dividends at the rate of $.54 per share per year are
payable quarterly to the holder of the Series A convertible preferred stock. The
holder of the Series A convertible preferred stock is entitled to $5.40 per
share in the event of any liquidation, dissolution, or winding up of the
Company, plus an amount equal to all declared but unpaid dividends, prior and in
preference to any distribution to the holders of common stock.
In conjunction with the issuance of the Series A convertible preferred stock
and the convertible note, the Company agreed to grant certain rights to the
purchaser of such securities, which included a first right to purchase a pro
rata share of any equity offering of the Company excluding shares issued for (a)
an IPO and (b) an acquisition of another corporation, if such exclusions will
not reduce the purchaser's pro rata ownership share of the Company below 25%,
(c) stock dividend or splits, and (d) stock compensation plans. Further, the
purchaser has entered into an agreement with the holders of common stock and
optionees of the Company as of June 12, 1991, giving the purchaser the right to
acquire all of their shares of common stock and options at a predetermined price
upon notice from the Company that it has filed a registration statement in
connection with an IPO. In January 1997, the Company and Pacific Media entered
into a Waiver Agreement, pursuant to which Pacific Media waived its right to
purchase shares of the Company's common stock from stockholders and
optionholders triggered by the filing of the registration statement in
connection with the IPO and any pre-effective amendments thereto filed prior to
April 1, 1997. Upon the completion of the Offering, all rights of Pacific Media
to purchase common stock of the Company from such persons will expire.
STOCK OPTIONS
The Company's stock option plan (the Option Plan) gives selected employees,
directors, and consultants of the Company an opportunity to acquire the
Company's common stock. Nonstatutory stock options and incentive stock options
are exercisable at prices not less than 85% and 100%, respectively, of the fair
value of the Company's common stock on the date of grant, as determined by the
Company's Board of Directors. The options are generally exercisable over a
3-year vesting period and expire 5 to 10 years from
F-18
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(5) STOCKHOLDERS' EQUITY (CONTINUED)
date of grant. The Board of Directors has reserved 972,222 shares of common
stock for issuance pursuant to the Option Plan. A summary of stock option
activity follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
SHARES --------------------------
AVAILABLE NUMBER OF PRICE
FOR GRANT SHARES PER SHARE
---------- ---------- --------------
<S> <C> <C> <C>
Balances as of December 31, 1993...................... 188,235 681,415 1.80 - 2.70
Granted............................................... (44,444) 44,444 2.70
Canceled.............................................. 50,832 (50,832) 2.70
Exercised............................................. -- (66) 2.25
---------- ---------- --------------
Balances as of December 31, 1994...................... 194,623 674,961 1.80 - 2.70
Granted............................................... (356,743) 356,743 2.70
Canceled.............................................. 311,275 (311,275) 2.70
Exercised............................................. -- (12,540) 1.80
---------- ---------- --------------
Balances as of December 31, 1995...................... 149,155 707,889 1.80 - 2.70
Granted............................................... (142,050) 142,050 2.70 - 9.00
Canceled.............................................. 83,111 (83,111) 1.80 - 2.70
Exercised............................................. -- (66,263) 2.25 - 2.70
---------- ---------- --------------
Balances as of December 31, 1996...................... 90,216 700,565 $2.25 - 9.00
---------- ----------
---------- ----------
</TABLE>
1996 EQUITY INCENTIVE PLAN
In December 1996, the Company's Board of Directors adopted the 1996 Equity
Incentive Plan (the Equity Incentive Plan) and reserved 300,000 shares of common
stock for issuance thereunder. The Equity Incentive Plan will become effective
upon the Company's proposed IPO and will serve as the successor equity incentive
program to the Company's Option Plan. The Equity Incentive Plan provides for the
grant of stock options, stock appreciation rights, and restricted stock awards
by the Company to employees, officers, directors, consultants, independent
contractors, and advisers of the Company. The Company's stockholders approved
the Equity Incentive Plan in February 1997.
1996 EMPLOYEE STOCK PURCHASE PLAN
In December 1996, the Company's Board of Directors adopted the 1996 Employee
Stock Purchase Plan (the Purchase Plan) and reserved 140,000 shares of common
stock for issuance thereunder. The Purchase Plan will become effective upon the
Company's proposed IPO. The Purchase Plan permits eligible employees to purchase
common stock, through payroll deductions of between 1% and 20% of the employee's
compensation, at a price equal to 85% of the fair market value of the common
stock at either the beginning or the end of each offering period, whichever is
lower. The Company's stockholders approved the Purchase Plan in February 1997.
1996 DIRECTORS STOCK OPTION PLAN
In December 1996, the Company's Board of Directors adopted the 1996
Directors Stock Option Plan (the Directors Plan) and reserved 60,000 shares of
common stock for issuance thereunder. The Directors Plan provides for the
initial grant of a nonqualified option to purchase 5,000 shares of common stock
on the date the eligible director first becomes a director and the additional
grant of a nonqualified option to
F-19
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(5) STOCKHOLDERS' EQUITY (CONTINUED)
purchase 3,000 shares of Common Stock annually thereafter. Each eligible
director on the effective date of the Company's proposed IPO will be granted a
nonqualified option to purchase 3,000 shares of Common Stock each year beginning
on the first anniversary of the effective date of the Company's proposed IPO,
provided that such director continues to serve on the Board. Options will vest
at the rate of 2.08% per month so long as the director continues to serve on the
Board on such dates. The Company's stockholders approved the Directors Plan in
February 1997.
RESTRICTED STOCK
On June 7, 1996, the Company issued 58,333 shares of common stock at a price
of $2.70 per share pursuant to a restricted stock purchase agreement to an
officer of the Company in exchange for a full recourse promissory note secured
by the shares in the principal amount of $157,000. Interest accrues at the rate
of 6.58% per annum. Principal and accrued interest, if any, are due and payable
on June 7, 2001. The Company has the right to repurchase the stock at the
original sales price upon the termination of the purchaser's employment with the
Company. The repurchase right lapses at a rate of 1/6 after June 7, 1997, 1/3
after June 7, 1998, and 1/2 after June 7, 1999. As of December 31, 1996, all of
the shares were subject to the repurchase right.
ACCOUNTING FOR STOCK-BASED COMPENSATION PLANS
The Company has elected to use the intrinsic value-based method of APB
Opinion No. 25 to account for all of its employee stock-based compensation
plans. Accordingly, no compensation cost has been recognized in the accompanying
consolidated financial statements for the Option Plan because the exercise price
of each option equals or exceeds the fair value of the underlying common stock
as of the grant date for each stock option, except for options and restricted
stock granted in May and June 1996. With respect to the options and restricted
stock granted in May and June 1996, the Company has recorded deferred stock
compensation of $231,000 for the difference at the grant date between the
exercise price and the fair value, as determined by an independent valuation, of
the restricted stock and the common stock underlying the options. This amount is
being amortized on a straight-line basis over the vesting period of the
individual options and restricted stock, generally three years.
The Company has adopted the pro forma disclosure provisions of SFAS No. 123.
Had compensation cost for the Company's stock-based compensation plans been
determined in a manner consistent with the fair value approach described in SFAS
No. 123, the Company's net income and net income per share as reported would
have been reduced to the pro forma amounts indicated below (in thousands, except
per share data):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------
1995 1996
--------- ---------
<S> <C> <C> <C>
Net income As reported $ 931 $ 1,008
Adjusted pro forma 874 931
Net income per share As reported .12 .10
Adjusted pro forma .10 .08
</TABLE>
F-20
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(5) STOCKHOLDERS' EQUITY (CONTINUED)
The fair value of each option is estimated on the date of grant using the
minimum value method with the following weighted average assumptions: no
dividends, an expected life of four years, and risk-free interest rates of 5.75%
for the year ended December 31, 1995, and 5.82% for the year ended December 31,
1996.
A summary of the status of the Company's options for the year ended December
31, 1996, is as follows:
<TABLE>
<CAPTION>
WEIGHTED-AVERAGE
FIXED OPTIONS NUMBER EXERCISE PRICE
- ----------------------------------------------------------------- --------- -----------------
<S> <C> <C>
Outstanding at beginning of year................................. 707,889 $ 2.66
Granted.......................................................... 142,050 4.26
Canceled......................................................... (83,111) 2.69
Exercised........................................................ (66,263) 2.57
---------
Outstanding at end of year....................................... 700,565 2.99
---------
---------
Options exercisable at period-end................................ 365,258
---------
---------
Weighted average fair value of options granted during the
period......................................................... $ .88
---------
---------
</TABLE>
The following table summarizes information about fixed stock options
outstanding as of December 31, 1996:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------------- -----------------------------
NUMBER WEIGHTED NUMBER
OUTSTANDING AVERAGE EXERCISABLE
AS OF REMAINNG WEIGHTED AS OF WEIGHTED
RANGE OF DECEMBER 31, CONTRACTUAL AVERAGE DECEMBER 31, AVERAGE
EXERCISE PRICES 1996 LIFE EXERCISE PRICE 1996 EXERCISE PRICE
- ------------------- ------------ -------------- --------------- ------------ ---------------
<S> <C> <C> <C> <C> <C>
$1.80 - 2.70 653,065 7.65 years $ 2.67 365,258 $ 2.66
$7.20 - 9.00 47,500 9.83 7.33 -- --
------------ -------------- ----- ------------ -----
700,565 7.80 2.99 365,258 2.66
------------ -------------- ----- ------------ -----
------------ -------------- ----- ------------ -----
</TABLE>
F-21
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(6) INCOME TAXES
The provision for income taxes consisted of the following (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Current:
Federal.......................................................... $ 740 $ 83 $ 1,146
Foreign.......................................................... 207 269 71
State............................................................ 239 68 208
--------- --------- ---------
Total current.................................................. 1,186 420 1,425
--------- --------- ---------
Deferred:
Federal.......................................................... (242) 168 (305)
State............................................................ (58) 26 (146)
--------- --------- ---------
Total deferred................................................. (300) 194 (451)
--------- --------- ---------
$ 886 $ 614 $ 974
--------- --------- ---------
--------- --------- ---------
</TABLE>
Total tax expense (benefit) has been allocated as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Continuing operations.............................................. $ 886 $ 694 $ 1,223
Discontinued operations............................................ -- (80) (249)
--------- --------- ---------
$ 886 $ 614 $ 974
--------- --------- ---------
--------- --------- ---------
</TABLE>
The Company's effective tax rate differs from the statutory federal tax rate
as shown in the following table (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Computed "expected" tax expense....................................... $ 812 $ 525 $ 674
State tax expenses, net of federal benefit............................ 120 93 98
Tax credits........................................................... (80) (57) (45)
Foreign taxes......................................................... 10 72 15
Exempt interest....................................................... (21) (33) (13)
Write-off of discontinued operations deferred tax asset............... -- -- 203
Other................................................................. 45 14 42
--------- --------- ---------
$ 886 $ 614 $ 974
--------- --------- ---------
--------- --------- ---------
</TABLE>
F-22
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(6) INCOME TAXES (CONTINUED)
The tax effects of the temporary differences that give rise to significant
portions of the deferred tax assets and liabilities as of 1995 and 1996, are
presented below (in thousands):
<TABLE>
<CAPTION>
1995 1996
--------- ---------
<S> <C> <C>
Deferred tax assets:
Accrued liabilities and reserves........................................... $ 131 $ 598
Allowance for doubtful accounts............................................ 94 106
Depreciation and amortization.............................................. 102 338
Deferred revenue........................................................... 129 238
Other...................................................................... 35 32
--------- ---------
Total gross deferred tax assets.......................................... 491 1,312
--------- ---------
Deferred tax liabilities:
Patents.................................................................... 366 743
Other...................................................................... 7 --
--------- ---------
Total gross deferred tax liabilities..................................... 373 743
--------- ---------
Net deferred tax assets.................................................. $ 118 $ 569
--------- ---------
--------- ---------
</TABLE>
(7) COMMITMENTS
LEASES
The Company leases its facilities and certain equipment pursuant to
noncancelable operating lease agreements. Additionally, the Company leases
certain equipment pursuant to a capital lease agreement.
Future minimum lease payments pursuant to these leases as of December 31,
1996, were as follows (in thousands):
<TABLE>
<CAPTION>
CAPITAL OPERATING
LEASE LEASES
----------- -----------
<S> <C> <C>
1997................................................................... $ 116 $ 520
1998................................................................... 116 438
1999................................................................... 116 428
2000................................................................... 78 413
2001 and thereafter.................................................... -- 681
----- -----------
Total.................................................................. 426 $ 2,480
-----------
-----------
Less amounts representing interest..................................... 25
-----
Present value of minimum capital lease payments........................ 401
Less current portion of capital lease liability........................ 105
-----
Capital lease liability, net of current portion........................ $ 296
-----
-----
</TABLE>
Rent expense was $443,000, $491,000, and $441,000 as of December 31, 1994,
1995, and 1996, respectively.
F-23
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(7) COMMITMENTS (CONTINUED)
EMPLOYEE BENEFIT PLAN
The Company has a 401(k) plan that allows eligible employees to contribute
up to 20% of their compensation, which contribution was limited to $9,500 in
1996. Employee contributions and earnings thereon vest immediately. The Company
is not required to contribute to the 401(k) plan and had made no voluntary
contributions through 1996. In 1996, the Company made matching contributions to
the 401(k) plan equal to 20% of each participating employee's contribution, up
to a maximum annual matching contribution of $1,900. Matching contributions
aggregated $60,419 for the year ended December 31, 1996, and will be fully
vested after three years.
(8) CONTINGENCIES
In October 1995, a former officer and director of the Company filed suit
against the Company in the Superior Court of the State of California alleging
monetary damages suffered as a result of alleged fraud, misrepresentation, and
other malfeasance in connection with the Company's grant of stock options to
him. Mr. Swyt maintains that the Company induced him to accept employment by
falsely representing to him that the options granted to him eventually would
have substantial value. Between August 1990 and December 1993, the Company
granted to him options to purchase approximately 200,000 shares of the Company's
common stock with per share exercise prices of $2.25 or $2.70. Substantially all
of these options expired unexercised within three months following his departure
from the Company in June 1995. In December 1996, the court ordered this matter
to binding arbitration in accordance with a written agreement between him and
the Company. The arbitration agreement contains limitations on the types of
damages available to him and expressly precludes punitive damages. The Company
believes that the case is without merit and intends to contest it vigorously. In
the opinion of counsel, it is not possible to determine with precision the
probable outcome or the amount of liability, if any, under this lawsuit;
however, in the opinion of the Company, the disposition of this lawsuit will not
have a materially adverse affect on the consolidated financial statements of the
Company.
(9) SEGMENT AND GEOGRAPHIC INFORMATION
The Company operates in one industry segment and is engaged in developing
and licensing or selling its video copy protection and video scrambling
technologies to customers in the home videocassette, pay-per-view, cable,
satellite, and corporate communications markets primarily in the United States,
Europe,
F-24
<PAGE>
MACROVISION CORPORATION
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1994, 1995, AND 1996
(9) SEGMENT AND GEOGRAPHIC INFORMATION (CONTINUED)
Japan and the Far East. The distribution of revenues, operating income, and
assets by geographic area is as follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Revenues:
United States.............................................. $ 12,172 $ 12,790 $ 15,823
Foreign operations......................................... 1,158 1,399 1,257
--------- --------- ---------
Total revenues........................................... $ 13,330 $ 14,189 $ 17,080
--------- --------- ---------
--------- --------- ---------
Operating income from
continuing operations:
United States.............................................. $ 2,727 $ 1,910 $ 3,064
Foreign operations......................................... 77 273 254
--------- --------- ---------
Total operating income................................... $ 2,804 $ 2,183 $ 3,318
--------- --------- ---------
--------- --------- ---------
Identifiable assets:
United States.............................................. $ 8,671 $ 9,782 $ 10,844
Foreign operations......................................... 675 1,267 1,215
--------- --------- ---------
Subtotal identifiable assets............................. 9,346 11,049 12,059
Eliminations............................................... (106) (106) (106)
--------- --------- ---------
Total identifiable assets................................ $ 9,240 $ 10,943 $ 11,953
--------- --------- ---------
--------- --------- ---------
</TABLE>
United States revenue includes export sales to the following geographic
areas (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------
1994 1995 1996
--------- --------- ---------
<S> <C> <C> <C>
Europe....................................................... $ 1,623 $ 1,704 $ 2,166
Japan........................................................ 562 1,010 1,099
Rest of world................................................ 1,840 591 1,947
--------- --------- ---------
$ 4,025 $ 3,305 $ 5,212
--------- --------- ---------
--------- --------- ---------
</TABLE>
F-25
<PAGE>
WE COULDN'T HAVE SAID IT
BETTER OURSELVES.
[Picture shows a copy of two New Line Home Video advertisements.
One reads as follows: "Gluttony Envy Greed Lust Wrath Sloth Pride. The 8th
Deadly Sin: Video Copying. New Line Home Video Protects Your Profits With The
Exclusive Macrovision-Registered Trademark-Copy Protection Process." The other
has a picture of a dragon and reads as follows: "New Line Home Video Declares
Mortal Kombat on Video Copying! We're Protecting Your Bottom Line with Copy-
Protection! To assure maximum profitability, every Mortal Kombat-Registered
Trademark- videocassette will be encoded with the Macrovision anticopy process.
Make sure your videos-- and your business-- carry the shield of Copy Protection.
Because your profits are something worth fighting for."]
One Macrovision customer, New Line Home Video, initiated a marketing program
promoting the use of Macrovision copy protection technology in order to protect
the profits of New Line's video retailer customers. New Line ads featured
Macrovision copy protection of the videos MORTAL KOMBAT and SEVEN. Retailer
response to this campaign was positive as retailers reported that they would
increase their purchases of videos by an average of 18% IF THE VIDEOS WERE COPY
PROTECTED.
Macrovision, PhaseKrypt and Protecting Your Image are registered trademarks, and
CineGuard, Colorstripe, StarShaker, VES and VES-TM are trademarks of Macrovision
Corporation.
------------------------------------------------
Video frame and graphics courtesy of New Line Home Video and WMS Industries,
Inc.
<PAGE>
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----------------------------------------------
NO DEALER, SALES REPRESENTATIVE OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO
GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS IN CONNECTION WITH THE
OFFERING OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR ANY OF THE UNDERWRITERS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY SECURITIES
OTHER THAN THE SHARES OF COMMON STOCK TO WHICH IT RELATES OR AN OFFER TO, OR A
SOLICITATION OF, ANY PERSON IN ANY JURISDICTION WHERE SUCH OFFER OR SOLICITATION
WOULD BE UNLAWFUL. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE
HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THERE HAS
BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY, OR THAT INFORMATION CONTAINED
HEREIN IS CORRECT AS OF ANY TIME, SUBSEQUENT TO THE DATE HEREOF.
----------------------
TABLE OF CONTENTS
----------------------
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PROSPECTUS SUMMARY........................................................ 3
RISK FACTORS.............................................................. 5
THE COMPANY............................................................... 16
USE OF PROCEEDS........................................................... 16
DIVIDEND POLICY........................................................... 16
CAPITALIZATION............................................................ 17
DILUTION.................................................................. 18
SELECTED CONSOLIDATED FINANCIAL DATA...................................... 19
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS............................................................... 20
BUSINESS.................................................................. 27
MANAGEMENT................................................................ 44
CERTAIN TRANSACTIONS...................................................... 52
PRINCIPAL AND SELLING STOCKHOLDERS........................................ 56
DESCRIPTION OF CAPITAL STOCK.............................................. 58
SHARES ELIGIBLE FOR FUTURE SALE........................................... 60
UNDERWRITING.............................................................. 62
LEGAL MATTERS............................................................. 63
EXPERTS................................................................... 63
ADDITIONAL INFORMATION.................................................... 63
CHANGE IN INDEPENDENT AUDITORS............................................ 64
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS................................ F-1
</TABLE>
----------------------
UNTIL APRIL 7, 1997 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE REGISTERED SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS DELIVERY REQUIREMENT IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER
A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD
ALLOTMENTS OR SUBSCRIPTIONS.
2,350,000 SHARES
[LOGO]
COMMON STOCK
-----------------
PROSPECTUS
-----------------
MONTGOMERY SECURITIES
HAMBRECHT & QUIST
COWEN & COMPANY
MARCH 12, 1997
- ----------------------------------------------
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- ----------------------------------------------
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