NOTES TO THE COMBINED FINANCIAL STATEMENTS
1. Organization and Presentation
The accompanying combined financial statements present the combined assets, liabilities, revenues and expenses related to Cerence (“we” or “Cerence”), a business of Nuance Communications, Inc. (“Nuance” or “the Parent”), a leading provider of voice recognition and natural language understanding solutions for businesses and consumers around the world. The Cerence business operates through indirect, wholly-owned subsidiaries of Nuance and not as a standalone company. Cerence operates primarily in the automotive segment.
Cerence is primarily engaged in providing automotive manufacturers and their suppliers branded and personalized virtual assistants and connected car services built on our voice recognition and natural language understanding technologies. Demand for our embedded and cloud-based automotive solutions is driven by the growth in personalized automotive virtual assistants, connected services for automobiles, and by auto manufacturers’ desire to create a branded and personalized experience, capable of integrating and intelligently managing customers’ personal smart phone and home device preferences and technologies.
2. Basis of Presentation
Standalone financial statements have not been historically prepared for the Cerence business. The accompanying combined financial statements have been prepared from the Parent’s historical accounting records and are presented on a “carve out” basis to include the historical financial position, results of operations and cash flows applicable to the Cerence business. As a direct ownership relationship did not exist among all the various business units comprising the Cerence business, Nuance’s investment in the Cerence business is shown in lieu of stockholder’s equity in the combined financial statements.
The Combined Statements of Operations include all revenues and costs directly attributable to Cerence as well as an allocation of expenses related to functions and services performed by centralized Parent organizations. These corporate expenses have been allocated to the Cerence business based on direct usage or benefit, where identifiable, with the remainder allocated on a pro rata basis of revenues, headcount, number of transactions or other measures as determined appropriate. The Combined Statements of Cash Flows present these corporate expenses that are cash in nature as cash flows from operating activities, as this is the nature of these costs at the Parent. Non-cash expenses allocated from the Parent include corporate depreciation and amortization and stock-based compensation included as add-back adjustments to reconcile net income to net cash provided by operations. As described in Note 3(j) and Note 19, current and deferred income taxes and related tax expense have been determined based on the standalone results of the Cerence business by applying Accounting Standards Codification No. 740, Income Taxes (“ASC 740”), to the Cerence business’s operations in each country as if it were a separate taxpayer (i.e. following the Separate Return Methodology).
Cerence is dependent upon technologies which are owned by various entities within the Parent structure. While these combined financial statements use various methods to allocate the cost of these technologies to the Cerence business, this does not purport to reflect the cost of an arm’s length license arrangement.
The combined financial statements include the allocation of certain assets and liabilities that have historically been held at the Nuance corporate level or by shared entities but which are specifically identifiable or allocable to the Cerence business. These shared assets and liabilities have been allocated to the Cerence business on the basis of direct usage when identifiable, or allocated on a pro rata basis of revenue, headcount or other systematic measures that reflect utilization of the services provided to or benefits received by Cerence. The Parent uses a centralized approach to cash management and financing its operations. Accordingly, none of the cash, cash equivalents, marketable securities, foreign currency hedges or debt and related interest expense has been allocated to the Cerence business in the combined financial statements. The Parent’s short and long-term debt has not been pushed down to the Cerence business’s combined financial statements because the Cerence business is not the legal obligor of the debt and the Parent’s borrowings were not directly attributable to the Cerence business.
Nuance maintains various stock-based compensation plans at a corporate level. Cerence employees participate in those programs and a portion of the cost of those plans is included in the Cerence business’s Combined Statements of Operations. However, the stock-based compensation expense has been included within the net parent investment. Refer to Note 15 for further description of the accounting for stock-based compensation.
58
Transactions between the Parent and the Cerence business are considered to be effectively settled in the combined financial statements at the time the transaction is recorded. The total net effect of the settlement of these intercompany transactions is reflected in the Combined Statements of Cash Flows as a financing activity and in the Combined Balance Sheets as net parent investment. Refer to Note 3(n) for further description.
All of the allocations and estimates in the combined financial statements are based on assumptions that management believes are reasonable. However, the combined financial statements included herein may not be indicative of the financial position, results of operations and cash flows of the Cerence business in the future or if the Cerence business had been a separate, standalone entity during the periods presented.
3. Summary of Significant Accounting Policies
These financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).
(a) Principles of Combination
These combined financial statements present the financial position, statement of operations, Parent company equity and cash flows of the Cerence business. All significant balances and transactions between entities in the Cerence business have been eliminated for these combined financial statements. All significant balances between Parent (excluding the Cerence business) and the Cerence business are included in Parent company equity in the Combined Balance Sheets.
(b) Use of Estimates
The combined financial statements are prepared in accordance with GAAP, which requires management to make estimates and assumptions. These estimates, judgments and assumptions can affect the reported amounts in the financial statements and the footnotes thereto. Actual results could differ materially from these estimates. On an ongoing basis, we evaluate our estimates, assumptions and judgments. Significant estimates inherent to the preparation of financial statements include: revenue recognition; the allowances for doubtful accounts; accounting for deferred costs; accounting for internally developed software; the valuation of goodwill and intangible assets; accounting for business combinations; accounting for stock-based compensation; accounting for income taxes, deferred tax assets, and related valuation allowances; and loss contingencies. We base our estimates on historical experience, market participant fair value considerations, projected future cash flows, and various other factors that are believed to be reasonable under the circumstances. Actual amounts could differ significantly from these estimates.
(c) Revenue Recognition under ASC 605 for fiscal years 2018 and 2017
Cerence derives revenue from the following sources: (1) software license agreements, primarily royalty arrangements, (2) connected services, and (3) professional services. Generally, we recognize revenue when (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the fee is fixed or determinable and (iv) collectability is probable. The revenue recognition policies for these revenue streams are discussed below.
The sale and/or license of software products and technology is deemed to have occurred when a customer either has taken possession of or has access to take immediate possession of the software or technology. In select situations, we sell or license non-exclusive intellectual property in conjunction with, or in place of, embedding our intellectual property in software. We also have non-software arrangements including connected services where the customer does not take possession of the software at the outset of the arrangement either because they have no contractual right to do so or because significant penalties preclude them from doing so.
Revenue from royalties on sales of our software products by original equipment manufacturers (“OEMs”), where no services are included, is recognized in the period earned so long as we have been notified by the OEM that such royalties are due, and provided that all other revenue recognition criteria are met.
For our software and technology-related multiple element arrangements, where customers purchase both software or technology related products and software or technology related services, we use vendor-specific objective evidence (“VSOE”) of fair value for software and software-related services to separate the elements and account for them separately. VSOE exists when a company can support what the fair value of its software and/or software-related services is based on evidence of the prices charged when the same elements are sold separately. VSOE of fair value is required, generally, in order to separate the accounting for various elements in a software and related services arrangement. We have established VSOE of fair value for the majority of our professional services.
59
When we provide professional services considered essential to the functionality of the software or technology, we recognize revenue from the professional services as well as any related software or technology licenses on a percentage-of-completion basis whereby the arrangement consideration is recognized as the services are performed, as measured by an observable input. In these circumstances, we separate license revenue from professional service revenue for the Combined Statement of Operations by allocating VSOE of fair value of the professional services as professional services and connected services revenue and the residual portion as license revenue. We generally determine the percentage-of-completion by comparing the labor hours incurred to-date to the estimated total labor hours required to complete the project. We generally consider labor hours to be the most reliable, available measure of progress on these projects. Adjustments to estimates to complete are made in the periods in which facts resulting in a change become known. When the estimate indicates that a loss will be incurred, such loss is recorded in the period identified. Significant judgments and estimates are involved in determining the percent complete of each contract. Different assumptions could yield materially different results.
We offer some of our products via a Software-as-a-Service (“SaaS”) model also known as a hosted model. In this type of arrangement, we are compensated in two ways: (1) fees for up-front set-up of the service environment and (2) fees charged for hosted service subscriptions. Our up-front set-up fees are nonrefundable. We recognize the up-front set-up fees ratably over the longer of the contract lives, or the expected lives of the customer relationships. The on-demand service subscription fees are recognized ratably over our estimate of useful life of devices on which the connected service is provided.
We enter into multiple-element arrangements that may include a combination of our various software or technology related and non-software related products and services offerings including software or technology licenses, professional services and our connected services. In such arrangements, we allocate total arrangement consideration to software or technology-related elements and any non-software element separately based on the selling price hierarchy group following the guidance in ASC No. 985, Software, and our policies. We determine the selling price for each deliverable using VSOE of selling price, if it exists, or Third Party Evidence (“TPE”) of selling price. Typically, we are unable to determine TPE of selling price. Therefore, when neither VSOE nor TPE of selling price exist for a deliverable, we use our Estimate of Selling Price (“ESP”) for the purposes of allocating the arrangement consideration. We determine ESP for a product or service by considering multiple factors including, but not limited to, major project groupings, market conditions, competitive landscape, price list and discounting practices. Revenue allocated to each element is then recognized when the basic revenue recognition criteria are met for each element.
We record reimbursements received for out-of-pocket expenses as revenue, with offsetting costs recorded as cost of revenue. Out-of-pocket expenses generally include, but are not limited to, expenses related to transportation, lodging and meals. We record shipping and handling costs billed to customers as revenue with offsetting costs recorded as cost of revenue.
See Note 5 for revenue recognition under ASC 606 for fiscal year 2019.
(d) Business Combinations
We determine and allocate the purchase price of an acquired company to the tangible and intangible assets acquired and liabilities assumed as of the date of acquisition. Results of operations and cash flows of acquired companies are included in our operating results from the date of acquisition. The purchase price allocation process requires us to use significant estimates and assumptions, which include:
|
•
|
estimated fair values of intangible assets;
|
|
•
|
estimated fair values of legal performance commitments to customers, assumed from the acquiree under existing contractual obligations (classified as deferred revenue);
|
|
•
|
estimated income tax assets and liabilities assumed from the acquire;
|
|
•
|
estimated fair value of pre-acquisition contingencies assumed from the acquiree; and
|
|
•
|
estimated fair value of any contingent consideration which is established at the acquisition date and included in the total purchase price. The contingent consideration is then adjusted to fair value, with any measurement-period adjustment recorded against goodwill. Adjustments identified subsequent to the measurement period are recorded within acquisition-related costs.
|
While we use our best estimates and assumptions as part of the purchase price allocation process to accurately value assets acquired and liabilities assumed at the business combination date, our estimates and assumptions are inherently uncertain and subject to refinement. As a result, during the measurement period, which is generally one year from the acquisition date, any adjustment to the assets acquired and liabilities assumed is recorded against goodwill in the period in which the amount is determined. Any adjustment identified subsequent to the measurement period is included in operating results in the period in which the amount is determined.
60
(e) Goodwill
Goodwill represents the excess of the purchase price in a business combination over the fair value of net assets acquired. Goodwill and intangible assets with indefinite lives are not amortized, but rather the carrying amounts of these assets are assessed for impairment at least annually or whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable. Goodwill is tested for impairment annually on July 1, the first day of the fourth quarter of the fiscal year. In the year ended September 30, 2017, we elected to early adopt ASU 2017-04, “Simplifying the Test for Goodwill Impairment” for its annual goodwill impairment test. ASU 2017-04 removes Step 2 of the goodwill impairment test requiring a hypothetical purchase price allocation. Goodwill impairment, if any, is determined by comparing the reporting unit’s fair value to its carrying value. An impairment loss is recognized in an amount equal to the excess of the reporting unit’s carrying value over its fair value, up to the amount of goodwill allocated to the reporting unit. There is no goodwill impairment for the years ended September 30, 2019, 2018, and 2017.
For the purpose of testing goodwill for impairment, all goodwill acquired in a business combination is assigned to one or more reporting units. A reporting unit represents an operating segment or a component within an operating segment for which discrete financial information is available and is regularly reviewed by segment management for performance assessment and resource allocation. Components of similar economic characteristics are aggregated into one reporting unit for the purpose of goodwill impairment assessment. Reporting units are identified annually and re-assessed periodically for recent acquisitions or any changes in segment reporting structure. The Cerence business has a single reporting unit.
Corporate assets and liabilities are allocated to the reporting unit based on the reporting unit’s revenue, total operating expenses or operating income as a percentage of the consolidated amounts. Corporate debt and other financial liabilities that are not directly attributable to the reporting unit’s operations and would not be transferred to hypothetical purchasers of the reporting units are excluded from a reporting unit’s carrying amount.
Goodwill has been allocated to Cerence based upon its relative fair value as of March 31, 2018, when Cerence became a reporting unit of Nuance. The fair value of a reporting unit is generally determined using a combination of the income approach and the market approach. For the income approach, fair value is determined based on the present value of estimated future after-tax cash flows, discounted at an appropriate risk-adjusted rate. We use our internal forecasts to estimate future after-tax cash flows and estimate the long-term growth rates based on our most recent views of the long-term outlook for each reporting unit. Actual results may differ from those assumed in our forecasts. We derive our discount rates using a capital asset pricing model and analyzing published rates for industries relevant to our reporting units to estimate the weighted average cost of capital. We adjust the discount rates for the risks and uncertainty inherent in the respective businesses and in our internally developed forecasts. For the market approach, we use a valuation technique in which values are derived based on valuation multiples of comparable publicly traded companies. We assess each valuation methodology based upon the relevance and availability of the data at the time we perform the valuation and weight the methodologies appropriately.
(f) Long-Lived Assets with Definite Lives
Our long-lived assets consist principally of technology and patents, customer relationships, internally developed software, property and equipment. Customer relationships are amortized over their estimated economic lives based on the pattern of economic benefits expected to be generated from the use of the asset. Other definite-lived assets are amortized over their estimated economic lives using the straight-line method. The remaining useful lives of long-lived assets are re-assessed periodically for any events and circumstances that may change the future cash flows expected to be generated from the long-lived asset or asset group.
Internally developed software consists of capitalized costs incurred during the application development stage, which include costs to design the software configuration and interfaces, coding, installation and testing. Costs incurred during the preliminary project stage, along with post-implementation stages of internally developed software, are expensed as incurred. Internally developed software costs that have been capitalized are typically amortized over the estimated useful life, commencing with the date when an asset is ready for its intended use. Equipment is stated at cost and depreciated over the estimated useful life. Leasehold improvements are depreciated over the shorter of the related lease term or the estimated useful life. Depreciation is computed using the straight-line method. Repair and maintenance costs are expensed as incurred. The cost and related accumulated depreciation of sold or retired assets are removed from the accounts and any gain or loss is included in the results of operations for the period.
61
Long-lived assets with definite lives are tested for impairment whenever events or changes in circumstances indicate the carrying value of a specific asset or asset group may not be recoverable. We assess the recoverability of long-lived assets with definite-lives at the asset group level. Asset groups are determined based upon the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. When the asset group is also a reporting unit, goodwill assigned to the reporting unit is also included in the carrying amount of the asset group. For the purpose of the recoverability test, we compare the total undiscounted future cash flows from the use and disposition of the assets with its net carrying amount. When the carrying value of the asset group exceeds the undiscounted future cash flows, the asset group is deemed to be impaired. The amount of the impairment loss represents the excess of the asset or asset group’s carrying value over its estimated fair value, which is generally determined based upon the present value of estimated future pre-tax cash flows that a market participant would expect from use and disposition of the long-lived asset or asset group. During the years ended September 30, 2019, 2018, and 2017, there was no indication that the carrying value of our assets or asset groups may not be recoverable.
(g) Accounts Receivable Allowances
We record allowances for doubtful accounts for the estimated probable losses on uncollected accounts receivable. The allowance is based upon the credit worthiness of our customers, our historical experience, the age of the receivable, and current market and economic conditions. Receivables are written off against these allowances in the period they are determined to be uncollectible. For the years ended September 30, 2019, 2018, and 2017, the activity related to the allowance for doubtful accounts was as follows (dollars in thousands):
|
|
Allowance for
Doubtful
Accounts
|
|
Balance at October 1, 2016
|
|
$
|
564
|
|
Bad debt provisions
|
|
|
427
|
|
Write-offs, net of recoveries
|
|
|
(159
|
)
|
Balance at September 30, 2017
|
|
|
832
|
|
Bad debt provisions
|
|
|
366
|
|
Write-offs, net of recoveries
|
|
|
(244
|
)
|
Balance at September 30, 2018
|
|
|
954
|
|
Bad debt provisions
|
|
|
401
|
|
Write-offs, net of recoveries
|
|
|
(490
|
)
|
Balance at September 30, 2019
|
|
$
|
865
|
|
(h) Research and Development
Research and development (“R&D”) costs related to software that is or will be sold or licensed externally to third-parties, or for which a substantive plan exists to sell or license such software in the future, incurred subsequent to the establishment of technological feasibility, but prior to the general release of the product, are capitalized and amortized to cost of revenue over the estimated useful life of the related products. The Cerence business has determined that technological feasibility is reached shortly before the general release of the software products. Costs incurred after technological feasibility is established have not been material. R&D costs are otherwise expensed as incurred.
(i) Acquisition-related Costs
Acquisition-related costs include those costs incurred by the Cerence business related to potential and realized acquisitions. These costs consist of (i) transition and integration costs, including retention payments, transitional employee costs and earn-out payments, and other costs related to integration activities and (ii) professional service fees, including financial advisory, legal, accounting, and other outside services incurred in connection with acquisition activities and disputes.
The components of acquisition-related costs are as follows (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Transition and integration costs
|
|
$
|
563
|
|
|
$
|
1,616
|
|
|
$
|
—
|
|
Professional service fees
|
|
|
381
|
|
|
|
2,466
|
|
|
|
733
|
|
Total
|
|
$
|
944
|
|
|
$
|
4,082
|
|
|
$
|
733
|
|
62
(j) Income Taxes
Income taxes as presented herein attribute current and deferred income taxes of the Parent to the Cerence business’s standalone financial statements in a manner that is systematic, rational, and consistent with the asset and liability method prescribed by ASC 740, Income Taxes. Accordingly, the Cerence business’s income tax provision was prepared following the “Separate Return Method.” The Separate Return Method applies ASC 740 to the standalone financial statements of each member of the consolidated group as if the group member were a separate taxpayer and a standalone enterprise. As a result, actual tax transactions included in the consolidated financial statements of the Parent may not be included in the combined financial statements of the Cerence business. Similarly, the tax treatment of certain items reflected in the combined financial statements of the Cerence business may not be reflected in the consolidated financial statements and tax returns of the Parent; therefore, such items as net operating losses, credit carryforwards and valuation allowances may exist in the standalone financial statements that may or may not exist in the Parent’s consolidated financial statements.
The breadth of the Cerence business’s operations and the global complexity of tax regulations require assessments of uncertainties and judgments in estimating taxes that the Cerence business would have paid if it had been a separate taxpayer. The final taxes that would have been paid are dependent upon many factors, including negotiations with taxing authorities in various jurisdictions, outcomes of tax litigation and resolution of disputes arising from federal, state and international tax audits in the normal course of business. The provision for income taxes is determined using the asset and liability approach of accounting for income taxes. Under this approach, deferred taxes represent the future tax consequences expected to occur when the reported amounts of assets and liabilities are recovered or paid. This method also requires the recognition of future tax benefits relating to net operating loss carryforwards and tax credits, to the extent that realization of such benefits is more likely than not after consideration of all available evidence. The provision for income taxes represents income taxes paid by the parent or payable for the current year plus the change in deferred taxes during the year. Deferred taxes result from differences between the financial and tax basis of the Cerence business’s assets and liabilities and are adjusted for changes in tax rates and tax laws when changes are enacted.
Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit will not be realized. In assessing the need for a valuation allowance, we consider both positive and negative evidence related to the likelihood of realization of the deferred tax assets. The weights assigned to the positive and negative evidences are commensurate with the extent to which the evidence may be objectively verified. If positive evidence regarding projected future taxable income, exclusive of reversing taxable temporary differences, existed, it would be difficult for it to outweigh objective negative evidence of recent financial reporting losses.
In general, the taxable income (loss) of the various Cerence business entities was included in the Parent’s consolidated tax returns, where applicable in jurisdictions around the world. As such, separate income tax returns were not prepared for any Cerence business entities. Consequently, income taxes currently payable are deemed to have been remitted to the Parent, in cash, in the period the liability arose and income taxes currently receivable are deemed to have been received from the Parent in the period that a refund could have been recognized by the Cerence business had the Cerence business been a separate taxpayer.
(k) Accumulated Other Comprehensive Loss
The components of accumulated other comprehensive loss, reflected in the Combined Statements of Changes in Parent Company Equity, consists of the following (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
Foreign currency translation adjustments
|
|
$
|
(26,216
|
)
|
|
$
|
(22,349
|
)
|
Net unrealized losses on post-retirement benefits
|
|
|
(2,783
|
)
|
|
|
(1,608
|
)
|
Accumulated other comprehensive loss
|
|
$
|
(28,999
|
)
|
|
$
|
(23,957
|
)
|
No income tax provisions or benefits are recorded for foreign currency translation adjustments as the undistributed earnings in our foreign subsidiaries are expected to be indefinitely reinvested.
63
(l) Concentration of Risk
Financial instruments that potentially subject us to significant concentrations of credit risk primarily consist of trade accounts receivable. We perform ongoing credit evaluations of our customers’ financial condition and limit the amount of credit extended when deemed appropriate. Two customers accounted for 12.9% and 10.0% of our accounts receivable balance, net at September 30, 2019. Two customers accounted for 15.3% and 12.4% of our accounts receivable, net balance at September 30, 2018, and for 26.3% and 19.0% of our accounts receivable, net balance at September 30, 2017. Two customers accounted for 20.7% and 12.3% of our revenues for the year ended September 30, 2019. One customer accounted for 18.4% of our revenues for the year ended September 30, 2018, and two customers accounted for 16.6% and 15.4% of our revenues for the year ended September 30, 2017.
(m) Foreign Currency Translation
The functional currency of a foreign subsidiary is generally the local currency. We translate the financial statements of foreign subsidiaries to U.S. dollars using month-end exchange rates for assets and liabilities, and average rates for the reporting period for revenues, costs, and expenses. We record translation gains and losses in accumulated other comprehensive loss as a component of parent company equity. We record net foreign exchange transaction gains and losses resulting from the conversion of the transaction currency to the functional currency within other income (expense), net. Foreign currency transaction (gains) losses for the years ended September 30, 2019, 2018 and 2017 were ($0.3) million, $0.1 million, and $0.5 million, respectively.
(n) Net Parent Investment
In the Combined Balance Sheets, net parent investment represents the Parent’s historical investment in the Cerence business, accumulated net earnings after taxes and the net effect of transactions with, and allocations from, the Parent.
(o) Stock-Based Compensation
The Parent maintains certain stock compensation plans for the benefit of certain of its officers, directors and employees, including grants of employee stock options, purchases under employee stock purchase plans and restricted awards. These combined financial statements include certain expenses of the Parent that were allocated to the Cerence business for stock-based compensation. The stock-based compensation expense is recognized over the requisite service period, based on the grant date fair value of the awards and the number of the awards expected to be vested based on service and performance conditions, net of forfeitures. The Cerence business’s Combined Balance Sheets do not include any Parent outstanding equity related to these stock-based compensation programs. Effective the fourth quarter of fiscal year 2017, as a result of the early adoption of ASU No. 2016-09, Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”), we record any tax effect related to stock-based awards through the Combined Statements of Operations. Excess tax benefits are recognized as deferred tax assets upon settlement and are subject to regular review for valuation allowance.
(p) Recently Adopted Accounting Standards
Revenue Recognition
In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers: Topic 606” (“ASC 606”), under which revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the consideration the entity expects to receive for those goods or services. ASU 2014-09 defines a five-step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than required under previous guidance ASC Topic 605, “Revenue Recognition” (“ASC 605”), including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. ASU 2014-09 permits two methods of adoption: (i) retrospective to each prior reporting period presented; or (ii) retrospective with the cumulative effect of initially applying the guidance recognized at the date of initial application. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers: Deferral of the Effective Date, which deferred the effective date of the new revenue standard for periods beginning after December 15, 2016 to December 15, 2017, with early adoption permitted but not earlier than the original effective date. ASC 606 became effective for us beginning on October 1, 2018 and we adopted ASC 606 using the cumulative catch-up transition method, with a cumulative adjustment to net parent investment as opposed to retrospectively adjusting prior periods.
64
The most significant impact of the adoption of ASC 606 relates to our accounting for arrangements that include term-based software licenses bundled with other performance obligations including (i) maintenance and support and (ii) professional services. Under ASC 605, the revenue attributable to these software licenses is recognized ratably over the term of the arrangement because VSOE does not exist for the undelivered maintenance and support element as it is not sold separately. Under ASC 606, the requirement to have VSOE for undelivered elements to enable the separation of revenue for the delivered software licenses is eliminated. Accordingly, under the new standard we are required to recognize term-based software revenue as control is transferred and based upon the amount proportionally allocated to the term-based software license from the contract transaction price.
The following tables summarize the impact of adopting ASC 606 on the Company’s Combined Statement of Operations for the fiscal year ended September 30, 2019 and the Combined Balance Sheet as of September 30, 2019 (dollars in thousands):
|
|
Fiscal Year Ended September 30, 2019
|
|
|
|
As reported,
ASC 606
|
|
|
Effect of
Implementation
|
|
|
As adjusted,
ASC 605
|
|
Revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
License
|
|
$
|
172,379
|
|
|
$
|
(446
|
)
|
|
$
|
171,933
|
|
Connected services
|
|
|
78,690
|
|
|
|
947
|
|
|
|
79,637
|
|
Professional service
|
|
|
52,246
|
|
|
|
2,682
|
|
|
|
54,928
|
|
Total Revenue
|
|
$
|
303,315
|
|
|
$
|
3,183
|
|
|
$
|
306,498
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of Revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
License
|
|
$
|
2,069
|
|
|
$
|
1
|
|
|
$
|
2,070
|
|
Connected services
|
|
|
37,562
|
|
|
|
283
|
|
|
|
37,845
|
|
Professional service
|
|
|
51,214
|
|
|
|
(702
|
)
|
|
|
50,512
|
|
Amortization of intangible assets
|
|
|
8,498
|
|
|
|
-
|
|
|
|
8,498
|
|
Total cost of revenues
|
|
$
|
99,343
|
|
|
$
|
(418
|
)
|
|
$
|
98,925
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing
|
|
$
|
36,261
|
|
|
$
|
392
|
|
|
$
|
36,653
|
|
Other income (expense), net
|
|
|
332
|
|
|
|
31
|
|
|
|
363
|
|
Provision for income taxes
|
|
$
|
(89,084
|
)
|
|
$
|
1,428
|
|
|
$
|
(87,656
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of September 30, 2019
|
|
|
|
As reported,
ASC 606
|
|
|
Effect of
Implementation
|
|
|
As adjusted,
ASC 605
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable, net
|
|
$
|
65,787
|
|
|
$
|
7,038
|
|
|
$
|
72,825
|
|
Deferred costs, current
|
|
|
9,195
|
|
|
|
4,437
|
|
|
|
13,632
|
|
Prepaid expenses and other current assets
|
|
|
17,343
|
|
|
|
(10,326
|
)
|
|
|
7,017
|
|
Deferred costs, noncurrent
|
|
|
32,428
|
|
|
|
4,293
|
|
|
|
36,721
|
|
Deferred tax asset
|
|
|
150,629
|
|
|
|
1,678
|
|
|
|
152,307
|
|
Other assets
|
|
$
|
3,444
|
|
|
$
|
(1,542
|
)
|
|
$
|
1,902
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred revenue
|
|
$
|
88,233
|
|
|
$
|
11,600
|
|
|
$
|
99,833
|
|
Deferred revenue, net of current portion
|
|
$
|
265,051
|
|
|
$
|
(2,040
|
)
|
|
$
|
263,011
|
|
Parent company equity:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net parent investment
|
|
$
|
1,097,127
|
|
|
$
|
(4,316
|
)
|
|
$
|
1,092,811
|
|
Other Accounting Pronouncements
In October 2016, the FASB issued ASU 2016-16, “Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory” (“ASU 2016-16”), which requires income tax consequences of inter-company transfers of assets other than inventory to be recognized when the transfer occurs. ASU 2016-16 is effective for fiscal years beginning after December 15, 2017, with early adoption permitted. We early adopted the guidance during the first quarter of the year ended September 30, 2018. As a result, deferred charges of $1.5 million arising from inter-company transfers in prior years were recognized and recorded against the beginning balance of net parent investment in the first quarter of the year ended September 30, 2018. The adoption of the guidance did not have a material impact on our combined financial statements for any period presented.
65
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”), which provides guidance on the classification of certain specific cash flow issues including debt prepayment or extinguishment costs, settlement of certain debt instruments, contingent consideration payments made after a business combination, proceeds from the settlement of certain insurance claims and distributions received from equity method investees. The standard requires the use of a retrospective approach for all periods presented, but may be applied prospectively if retrospective application would be impractical. ASU 2016-15 became effective for us in the first quarter of fiscal year 2019 and did not have a material impact on our condensed combined financial statements.
In January 2016, the FASB issued ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities (“ASU 2016-01”). ASU 2016-01 amends the guidance on the classification and measurement of financial instruments. Although ASU 2016-01 retains many current requirements, it significantly revises accounting related to the classification and measurement of investments in equity securities and the presentation of certain fair value changes for financial liabilities measured at fair value. ASU 2016-01 also amends certain disclosure requirements associated with the fair value of financial instruments and became effective for us in the first quarter of fiscal year 2019. Based on the composition of our investment portfolio, the adoption of ASU 2016-01 did not have a material impact on our condensed combined financial statements.
(q) Issued Accounting Standards Not Yet Adopted
From time to time, new accounting pronouncements are issued by the FASB and are adopted by us as of the specified effective dates. Unless otherwise discussed, such pronouncements did not have or will not have a significant impact on our combined financial position, results of operations or cash flows, or do not apply to our operations.
Leases
In February 2016, the FASB issued ASU No. 2016-02, “Leases” (“ASU 2016-02”), and codified as ASC 842, which became effective for fiscal years beginning after December 15, 2018 and interim periods therein, with early adoption permitted. The guidance requires lessees to recognize on the balance sheet a right-of-use, or ROU, asset, representing its right to use the underlying asset for the lease term, and a lease liability for all leases with terms greater than 12 months. The guidance also requires qualitative and quantitative disclosures designed to assess the amount, timing, and uncertainty of cash flows arising from leases. ASC 842 is effective for us in the first quarter of fiscal year 2020, and early application is permitted.
In July 2018, the FASB issued ASU 2018-10, “Codification Improvements to “Topic 842, Leases” and ASU 2018-11, “Leases Topic Targeted Improvements”, which provides an additional and optional transition method whereby the new lease standard is applied at the adoption date and recognized as an adjustment to retained earnings. Additionally, in March 2019, the FASB issued ASU 2019-01, “Codification Improvements to Topic 842”, which provides guidance in the following areas: (1) determining the fair value of the underlying asset by lessors that are not manufacturers or dealers and (2) clarification of interim disclosure requirements during transition.
We adopted the new standard effective October 1, 2019 under the modified retrospective transition approach. We elected the package of practical expedients permitted under the transition guidance. We are currently evaluating the impact of ASC 842 and expect to recognize ROU assets to be in the range of approximately $17 million to $19 million, and lease liabilities to be in the range of approximately $20 million to $22 million as of October 1, 2019. We do not expect the adoption of the new standard to have a material impact on our consolidated statement of operations and cash flows. We expect applying ASC 842 will have an immaterial cumulative-effect adjustment to retained earnings, as of October 1, 2019. We will provide additional disclosures as required by the new standard in our Form 10-Q for the quarter ended December 31, 2019.
In August 2018, the FASB issued ASU 2018-15, “Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40):Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract”, which is effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted. The guidance requires that implementation costs related to a hosting arrangement that is a service contract be capitalized and amortized over the term of the hosting arrangement, starting when the module or component of the hosting arrangement is ready for its intended use. The guidance will be applied retrospectively to each period presented. We do not expect the implementation to have a material impact on our combined financial statements.
66
Other Accounting Pronouncements
In January 2018, the FASB issued ASU 2018-02, Income Statement—Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income (“AOCI”), which is effective for fiscal years beginning after December 15, 2018 and interim periods therein, with early adoption permitted. The guidance gives entities the option to reclassify to retained earnings the tax effects resulting from the Tax Cuts and Jobs Act (“TCJA”) related to items in AOCI. The new guidance may be applied retrospectively to each period in which the effect of the Act is recognized in the period of adoption. We do not expect the implementation to have a material impact on our combined financial statements.
4. Business Acquisitions
As part of our business strategy, we have acquired, and may acquire in the future, certain businesses and technologies primarily to expand our products and service offerings.
On April 2, 2018, we completed the acquisition of Voicebox Technologies Corporation (“Voicebox”). Voicebox is a provider of conversational artificial intelligence, including voice recognition, natural language understanding, and artificial intelligence services. We expect this acquisition to expand our current automotive solutions with a range of new predictive intelligence, embedded natural language, and hybrid virtual assistant capabilities. We expect to be able to provide an end-to-end automotive intelligence platform that merges automated speech recognition, natural language understanding, and information management to increase customer satisfaction, strengthen customer loyalty and improve business results. The aggregate consideration for this transaction was $94.2 million which included $79.8 million in cash, net of $6.7 million cash acquired, a $12.8 million write-off of deferred revenues related to the Cerence business’s pre-existing relationship with Voicebox, and a $1.6 million deferred acquisition payment which would be paid in cash upon the conclusion of an indemnity period. Acquisition costs related to Voicebox were $4.1 million. For further detail, refer to Note 3(i). The results of operations of Voicebox are included within these combined financial statements beginning on the date of acquisition.
A summary of the final allocation of the purchase consideration for the acquisition of Voicebox adjusted for measurement period adjustments is as follows (dollars in thousands):
|
|
Voicebox
|
|
Purchase consideration:
|
|
|
|
|
Cash
|
|
$
|
79,802
|
|
Settlement of pre-existing relationship
|
|
|
12,751
|
|
Deferred acquisition payment
|
|
|
1,600
|
|
Total purchase consideration
|
|
$
|
94,153
|
|
Allocation of purchase consideration:
|
|
|
|
|
Accounts receivable
|
|
$
|
6,545
|
|
Prepaid expenses and other current assets
|
|
|
620
|
|
Property and equipment
|
|
|
4,008
|
|
Goodwill
|
|
|
50,508
|
|
Intangible assets
|
|
|
49,600
|
|
Deferred tax asset
|
|
|
124
|
|
Other assets
|
|
|
9
|
|
Total assets acquired
|
|
|
111,414
|
|
Current liabilities
|
|
|
(7,332
|
)
|
Deferred tax liability
|
|
|
(3,762
|
)
|
Other liabilities
|
|
|
(6,167
|
)
|
Total liabilities assumed
|
|
|
(17,261
|
)
|
Net assets acquired
|
|
$
|
94,153
|
|
The measurement period adjustments reflect new information obtained about facts and circumstances that existed at the date of the acquisition and primarily related to the recognition of a deferred tax liability.
67
Goodwill from the Voicebox acquisition is not tax deductible. The following are the identifiable intangible assets acquired and their respective weighted average useful lives, as determined based on final valuations (dollars in thousands):
|
|
Voicebox
|
|
|
|
Amount
|
|
|
Weighted Average
Life (Years)
|
|
Core and completed technology
|
|
$
|
12,700
|
|
|
|
4.0
|
|
Customer relationships
|
|
|
36,900
|
|
|
|
5.0
|
|
Total
|
|
$
|
49,600
|
|
|
|
|
|
The results of Voicebox for the post-acquisition period from April 2, 2018 to September 30, 2018 are as follows:
Total revenue
|
|
$
|
5,631
|
|
Net loss
|
|
$
|
(9,238
|
)
|
The following unaudited pro forma information has been prepared as if the acquisition of Voicebox had occurred on October 1, 2016. The acquisition was not material to Nuance, therefore information for the year ended September 30, 2016 is not available:
|
|
Year Ended September 30,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
(ASC 605)
|
|
|
(ASC 605)
|
|
Total revenue
|
|
$
|
285,119
|
|
|
$
|
258,051
|
|
Net (loss) income
|
|
$
|
(3,965
|
)
|
|
$
|
19,704
|
|
5. Revenue Recognition
We primarily derive revenue from the following sources: (1) software license arrangements, primarily royalty arrangements, (2) connected services, and (3) professional services. Revenue is reported net of applicable sales and use tax, value-added tax and other transaction taxes imposed on the related transaction including mandatory government charges that are passed through to our customers. We account for a contract when both parties have approved and committed to the contract, the rights of the parties are identified, payment terms are identified, the contract has commercial substance and collectability of consideration is probable.
Our arrangements with customers may contain multiple products and services. We account for individual products and services separately if they are distinct—that is, if a product or service is separately identifiable from other items in the contract and if a customer can benefit from it on its own or with other resources that are readily available to the customer.
We currently recognize revenue after applying the following five steps:
|
•
|
identification of the contract, or contracts, with a customer;
|
|
•
|
identification of the performance obligations in the contract, including whether they are distinct within the context of the contract;
|
|
•
|
determination of the transaction price, including the constraint on variable consideration;
|
|
•
|
allocation of the transaction price to the performance obligations in the contract;
|
|
•
|
recognition of revenue when, or as, performance obligations are satisfied.
|
We allocate the transaction price of the arrangement based on the relative estimated standalone selling price (“SSP”) of each distinct performance obligation. In determining SSP, we maximize observable inputs and consider a number of data points, including:
|
•
|
the pricing of standalone sales (in the instances where available);
|
|
•
|
the pricing established by management when setting prices for deliverables that are intended to be sold on a standalone basis;
|
|
•
|
contractually stated prices for deliverables that are intended to be sold on a standalone basis; and
|
|
•
|
other pricing factors, such as the geographical region in which the products are sold and expected discounts based on the customer size and type.
|
68
We only include estimated amounts in the transaction price to the extent it is probable that a significant reversal of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved. We reduce transaction prices for estimated returns and other allowances that represent variable consideration under ASC 606, which we estimate based on historical return experience and other relevant factors, and record a corresponding refund liability as a component of accrued expenses and other current liabilities. Other forms of contingent revenue or variable consideration are infrequent.
Revenue is recognized when control of these services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those services.
We assess the timing of the transfer of products or services to the customer as compared to the timing of payments to determine whether a significant financing component exists. In accordance with the practical expedient in ASC 606-10-32-18, we do not assess the existence of a significant financing component when the difference between payment and transfer of deliverables is a year or less. If the difference in timing arises for reasons other than the provision of finance to either the customer or us, no financing component is deemed to exist. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our services, not to receive or provide financing from or to customers. We do not consider set-up fees nor other upfront fees paid by our customers to represent a financing component.
Reimbursements for out-of-pocket costs generally include, but are not limited to, costs related to transportation, lodging and meals. Revenue from reimbursed out-of-pocket costs is accounted for as variable consideration.
(a) Performance Obligations
Licenses
Software and technology licenses sold with non-distinct professional services to customize and/or integrate the underlying software and technology are accounted for as a combined performance obligation. Revenue from the combined performance obligation is recognized over time based upon the progress towards completion of the project, which is measured based on the labor hours already incurred to date as compared to the total estimated labor hours. For income statement presentation purposes, we separate license revenue from professional services revenue based on their SSPs.
Revenue from distinct software and technology licenses, which do not require professional service to customize and/or integrate the software license, is recognized at the point in time when the software and technology is made available to the customer and control is transferred.
Revenue from software and technology licenses sold on a royalty basis, where the license of non-exclusive intellectual property is the predominant item to which the royalty relates, is recognized in the period the usage occurs in accordance with the practical expedient in ASC 606-10-55-65(A).
Connected Services
Connected services, which allow our customers to use the hosted software over the contract period without taking possession of the software, are provided on a usage basis as consumed or on a fixed fee subscription basis. Subscription basis revenue represents a single promise to stand-ready to provide access to our connected services. Our connected services contract terms generally range from one to five years.
As each day of providing services is substantially the same and the customer simultaneously receives and consumes the benefits as access is provided, we have determined that our connected services arrangements are a single performance obligation comprised of a series of distinct services. These services include variable consideration, typically a function of usage. We recognize revenue as each distinct service period is performed (i.e., recognized as incurred).
Our connected service arrangements generally include services to develop, customize, and stand-up applications for each customer. In determining whether these services are distinct, we consider dependence of the Cloud service on the up-front development and stand-up, as well as availability of the services from other vendors. We have concluded that the up-front development, stand-up and customization services are not distinct performance obligations, and as such, revenue for these activities is recognized over the period during which the cloud-connected services are provided, and is included within connected services revenue.
69
Professional Services
Revenue from distinct professional services, including training, is recognized over time based upon the progress towards completion of the project, which is measured based on the labor hours already incurred to date as compared to the total estimated labor hours.
(b) Significant Judgments
Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. Our license contracts often include professional services to customize and/or integrate the licenses into the customer’s environment. Judgment is required to determine whether the license is considered distinct and accounted for separately, or not distinct and accounted for together with professional services.
Judgments are required to determine the SSP for each distinct performance obligation. When the SSP is directly observable, we estimate the SSP based upon the historical transaction prices, adjusted for geographic considerations, customer classes, and customer relationship profiles. In instances where the SSP is not directly observable, we determine the SSP using information that may include market conditions and other observable inputs. We may have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP. Determining the SSP for performance obligations which we never sell separately also requires significant judgment. In estimating the SSP, we consider the likely price that would have resulted from established pricing practices had the deliverable been offered separately and the prices a customer would likely be willing to pay.
(c) Disaggregated Revenue
Revenues, classified by the major geographic region in which our customers are located, for the years ended September 30, 2019, 2018 and 2017 (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
|
|
(ASC 606)
|
|
|
(ASC 605)
|
|
|
(ASC 605)
|
|
Revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
131,877
|
|
|
$
|
109,564
|
|
|
$
|
80,181
|
|
Other Americas
|
|
|
1,044
|
|
|
|
1,492
|
|
|
|
2,051
|
|
Germany
|
|
|
78,258
|
|
|
|
64,417
|
|
|
|
74,474
|
|
Other Europe, Middle East and Africa
|
|
|
20,478
|
|
|
|
16,755
|
|
|
|
15,192
|
|
Japan
|
|
|
44,472
|
|
|
|
57,303
|
|
|
|
43,894
|
|
Other Asia-Pacific
|
|
|
27,186
|
|
|
|
27,453
|
|
|
|
28,937
|
|
Total net revenues (1)
|
|
$
|
303,315
|
|
|
$
|
276,984
|
|
|
$
|
244,729
|
|
|
(1)
|
As a result of our adoption of ASC 606 effective October 1, 2018 using the modified retrospective method, prior period amounts have not been adjusted to conform with ASC 606 and therefore may not be comparable.
|
Revenues within the United States, Germany, and Japan accounted for more than 10% of revenue for all periods presented.
Revenues relating to two customers accounted for $62.7 million, or 20.7%, and $37.4 million, or 12.3% of revenue for the fiscal year ended September 30, 2019. One customer accounted for $51.0 million, or 18.4% of revenue for the fiscal year ended September 30, 2018, and two customers accounted for $40.6 million, or 16.6% and $37.7 million, or 15.4% of revenue for the fiscal year ended September 30, 2017.
(d) Contract Acquisition Costs
In conjunction with the adoption of ASC 606, we are required to capitalize certain contract acquisition costs. The capitalized costs primarily relate to paid commissions. In accordance with the practical expedient in ASC 606-10-10-4, we apply a portfolio approach to estimate contract acquisition costs for groups of customer contracts. We elect to apply the practical expedient in ASC 340-40-25-4 and will expense contract acquisition costs as incurred where the expected period of benefit is one year or less. Contract acquisition costs are deferred and amortized on a straight-line basis over the period of benefit, which we have estimated to be, on average, between one and five years. The period of benefit was determined based on an average customer contract term, expected contract renewals, changes in technology and our ability to retain customers, including canceled contracts. We assess the
70
amortization term for all major transactions based on specific facts and circumstances. Contract acquisition costs are classified as current or noncurrent assets based on when the expense will be recognized. The current and noncurrent portions of contract acquisition costs are included in prepaid expenses and other current assets, and in other assets, respectively. As of September 30, 2019, we had $2.7 million of contract acquisition costs. We had amortization expense of $0.7 million related to these costs during the fiscal year ended September 30, 2019. There was no impairment related to contract acquisition costs.
(e) Capitalized Contract Costs
We capitalize incremental costs incurred to fulfill our contracts that (i) relate directly to the contract, (ii) are expected to generate resources that will be used to satisfy our performance obligation under the contract, and (iii) are expected to be recovered through revenue generated under the contract. Our capitalized costs consist primarily of setup costs, such as costs to standup, customize and develop applications for each customer, which are incurred to satisfy our stand-ready obligation to provide access to our connected offerings. These contract costs are expensed to cost of revenue as we satisfy our stand-ready obligation over the contract term which we estimate to be between one and five years, on average. The contract term was determined based on an average customer contract term, expected contract renewals, changes in technology, and our ability to retain customers, including canceled contracts. We classify these costs as current or noncurrent based on the timing of when we expect to recognize the expense. The current and noncurrent portions of capitalized contract fulfillment costs are presented as deferred costs. As of September 30, 2019, we had $41.6 million of capitalized contract costs.
We had amortization expense of $10.6 million related to these costs during the fiscal year ended September 30, 2019. There was no impairment related to contract costs capitalized.
(f) Trade Accounts Receivable and Contract Balances
We classify our right to consideration in exchange for deliverables as either a receivable or a contract asset. A receivable is a right to consideration that is unconditional (i.e. only the passage of time is required before payment is due). We present such receivables in accounts receivable, net at their net estimated realizable value. We maintain an allowance for doubtful accounts to provide for the estimated amount of receivables that may not be collected. The allowance is based upon an assessment of customer creditworthiness, historical payment experience, the age of outstanding receivables and other applicable factors.
Our contract assets and liabilities are reported in a net position on a contract-by-contract basis at the end of each reporting period.
Contract assets include unbilled amounts from long-term contracts when revenue recognized exceeds the amount billed to the customer, and right to payment is not solely subject to the passage of time. Contract assets are included in prepaid expenses and other current assets. As of September 30, 2019, we had $9.2 million of current contract assets. The table below shows significant changes in contract assets (dollars in thousands):
|
|
Contract assets
|
|
Balance as of October 1, 2018
|
|
$
|
13,492
|
|
Revenues recognized but not billed
|
|
|
11,025
|
|
Amounts reclassified to accounts receivable, net
|
|
|
(15,298
|
)
|
Balance as of September 30, 2019
|
|
$
|
9,219
|
|
Our contract liabilities, which we present as deferred revenue, consist of advance payments and billings in excess of revenues recognized. We classify deferred revenue as current or noncurrent based on when we expect to recognize the revenues. As of September 30, 2019, we had $353.3 million of deferred revenue. The table below shows significant changes in deferred revenue (dollars in thousands):
|
|
Deferred revenue
|
|
Balance as of October 1, 2018
|
|
$
|
350,224
|
|
Amounts billed but not recognized
|
|
|
22,150
|
|
Revenue recognized
|
|
|
(19,090
|
)
|
Balance as of September 30, 2019
|
|
$
|
353,284
|
|
71
(g) Remaining Performance Obligations
The following table includes estimated revenue expected to be recognized in the future related to performance obligations that are unsatisfied or partially unsatisfied at September 30, 2019 (dollars in thousands):
|
|
Within One
Year
|
|
|
Two to Five
Years
|
|
|
Greater
than
Five Years
|
|
|
Total
|
|
Total revenue
|
|
$
|
120,344
|
|
|
$
|
200,444
|
|
|
$
|
88,141
|
|
|
$
|
408,929
|
|
The table above includes fixed backlogs and does not include variable backlogs derived from contingent usage-based activities, such as royalties and usage-based connected services.
6. Earnings Per Share
Basic earnings per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net income by the weighted-average number of shares of common stock outstanding during the period, increased to include the number of shares of common stock that would have been outstanding had potential dilutive shares of common stock been issued. The dilutive effect of stock options and restricted stock units are reflected in diluted net income per share by applying the treasury stock method. There were no Cerence equity awards outstanding prior to the Spin-off, thus the computation of basic and diluted earnings per common share (EPS) for all periods disclosed was calculated using the shares issued in connection with the Spin-Off totaling 36.4 million shares.
The numerator for both basic and diluted EPS is net income.
The following is a reconciliation of basic shares to diluted shares:
|
|
September 30,
|
|
in thousands
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Basic shares
|
|
|
36,391
|
|
|
|
36,391
|
|
|
|
36,391
|
|
Effect of dilutive shares
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Diluted shares
|
|
|
36,391
|
|
|
|
36,391
|
|
|
|
36,391
|
|
7. Goodwill and Intangible Assets
(a) Goodwill
The changes in the carrying amount of goodwill for the years ended September 30, 2019 and 2018 were as follows (dollars in thousands):
|
Total
|
|
Balance as of October 1, 2017
|
$
|
1,075,443
|
|
Acquisitions
|
|
46,918
|
|
Effect of foreign currency translation
|
|
(2,415
|
)
|
Balance as of September 30, 2018
|
|
1,119,946
|
|
Acquisitions
|
|
3,591
|
|
Effect of foreign currency translation
|
|
(4,208
|
)
|
Balance as of September 30, 2019
|
$
|
1,119,329
|
|
72
(b) Intangible Assets, Net
The following tables summarizes the gross carrying amounts and accumulated amortization of intangible assets by major class (dollars in thousands):
|
|
September 30, 2019
|
|
|
|
Gross
Carrying
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net
Carrying
Amount
|
|
|
Weighted Average
Remaining Life
(Years)
|
|
Customer relationships
|
|
$
|
104,783
|
|
|
$
|
(58,568
|
)
|
|
$
|
46,215
|
|
|
|
4.0
|
|
Technology and patents
|
|
|
116,757
|
|
|
|
(97,411
|
)
|
|
|
19,346
|
|
|
|
2.5
|
|
Total
|
|
$
|
221,540
|
|
|
$
|
(155,979
|
)
|
|
$
|
65,561
|
|
|
|
|
|
|
|
September 30, 2018
|
|
|
|
Gross
Carrying
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net
Carrying
Amount
|
|
|
Weighted Average
Remaining Life
(Years)
|
|
Customer relationships
|
|
$
|
99,797
|
|
|
$
|
(40,699
|
)
|
|
$
|
59,098
|
|
|
|
4.9
|
|
Technology and patents
|
|
|
47,900
|
|
|
|
(22,186
|
)
|
|
|
25,714
|
|
|
|
3.3
|
|
Total
|
|
$
|
147,697
|
|
|
$
|
(62,885
|
)
|
|
$
|
84,812
|
|
|
|
|
|
Amortization expense for acquired technology and patents is included in the cost of revenue in the accompanying statements of operations and amounted to $8.5 million, $6.6 million, and $5.0 million for the years ended September 30, 2019, 2018, and 2017, respectively. Additionally, amortization expense for intangible assets of the Parent utilized by the Cerence business amounted to $22 thousand, $1.2 million, and $1.9 million in the years ended September 30, 2019, 2018, and 2017, respectively, and is included in the cost of revenue as shown in Note 18. Amortization expense for customer relationships is included in operating expenses and amounted to $12.5 million, $8.8 million, and $5.8 million in the years ended September 30, 2019, 2018, and 2017, respectively. Estimated amortization for each of the five succeeding years and thereafter as of September 30, 2019, is as follows (dollars in thousands):
Year Ending September 30,
|
|
Cost of
Revenues
|
|
|
Operating
Expenses
|
|
|
Total
|
|
2020
|
|
$
|
8,318
|
|
|
$
|
12,468
|
|
|
$
|
20,786
|
|
2021
|
|
|
7,528
|
|
|
|
12,468
|
|
|
|
19,996
|
|
2022
|
|
|
2,984
|
|
|
|
11,509
|
|
|
|
14,493
|
|
2023
|
|
|
414
|
|
|
|
5,901
|
|
|
|
6,315
|
|
2024
|
|
|
102
|
|
|
|
2,211
|
|
|
|
2,313
|
|
Thereafter
|
|
|
—
|
|
|
|
1,658
|
|
|
|
1,658
|
|
Total
|
|
$
|
19,346
|
|
|
$
|
46,215
|
|
|
$
|
65,561
|
|
8. Accounts Receivable, Net
Accounts receivable, net consisted of the following (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
|
(ASC 606)
|
|
|
(ASC 605)
|
|
Trade accounts receivable
|
|
$
|
65,532
|
|
|
$
|
72,913
|
|
Unbilled accounts receivable under long-term contracts
|
|
|
1,120
|
|
|
|
125
|
|
Gross accounts receivable
|
|
|
66,652
|
|
|
|
73,038
|
|
Less: allowance for doubtful accounts
|
|
|
(865
|
)
|
|
|
(954
|
)
|
Total
|
|
$
|
65,787
|
|
|
$
|
72,084
|
|
73
9. Property and Equipment, Net
Property and equipment, net consisted of the following (dollars in thousands):
|
|
Useful Life
|
|
September 30,
|
|
|
|
(In years)
|
|
2019
|
|
|
2018
|
|
Machinery and equipment
|
|
3-5
|
|
$
|
8,424
|
|
|
$
|
7,519
|
|
Computers, software and equipment
|
|
3-5
|
|
|
32,894
|
|
|
|
21,620
|
|
Leasehold improvements
|
|
2-15
|
|
|
9,147
|
|
|
|
5,226
|
|
Furniture and fixtures
|
|
5-7
|
|
|
3,819
|
|
|
|
1,167
|
|
Construction in progress
|
|
|
|
|
1,043
|
|
|
|
—
|
|
Subtotal
|
|
|
|
|
55,327
|
|
|
|
35,532
|
|
Less: accumulated depreciation
|
|
|
|
|
(35,214
|
)
|
|
|
(22,126
|
)
|
Total
|
|
|
|
$
|
20,113
|
|
|
$
|
13,406
|
|
As of September 30, 2019 and 2018, the net book value of capitalized internal-use software costs was $2.2 million and $5.0 million, respectively, which are included within computers, software, and equipment. Depreciation expense for the years ended September 30, 2019, 2018, and 2017 was $6.2 million, $7.7 million, and $5.0 million, respectively, which included amortization expense of $2.7 million, $4.2 million, and $3.0 million, respectively, for internally developed software costs.
The following table presents our property, equipment and other long-term assets, excluding intangible assets, by geography at September 30, 2019 and 2018 (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
Long-lived assets:
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
10,333
|
|
|
$
|
8,902
|
|
Canada
|
|
|
3,889
|
|
|
|
1,286
|
|
Germany
|
|
|
2,390
|
|
|
|
1,038
|
|
Other countries
|
|
|
3,501
|
|
|
|
2,180
|
|
Total long-lived assets
|
|
$
|
20,113
|
|
|
$
|
13,406
|
|
10. Deferred Revenue
Deferred maintenance revenue consists of prepaid fees received for post-contract customer support for our products, including telephone support and the right to receive unspecified upgrades/enhancements on a when-and-if-available basis.
Unearned revenue includes fees for upfront setup of the service environment, fees charged for on-demand service and certain software arrangements for which we do not have fair value of post-contract customer support, resulting in ratable revenue recognition for the entire arrangement on a straight-line basis and fees in excess of estimated earnings on percentage of completion service contracts.
Deferred revenue consisted of the following (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
Current Liabilities:
|
|
|
|
|
|
|
|
|
Deferred maintenance revenue
|
|
$
|
—
|
|
|
$
|
61
|
|
Unearned revenue
|
|
|
88,233
|
|
|
|
84,801
|
|
Total
|
|
$
|
88,233
|
|
|
$
|
84,862
|
|
Non-current Liabilities:
|
|
|
|
|
|
|
|
|
Unearned revenue
|
|
|
265,051
|
|
|
|
263,787
|
|
Total
|
|
$
|
265,051
|
|
|
$
|
263,787
|
|
74
11. Accrued Expenses and Other Current Liabilities
Accrued expenses and other current liabilities consisted of the following (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
Compensation
|
|
$
|
13,031
|
|
|
$
|
25,262
|
|
Cost of revenue related liabilities
|
|
|
1,668
|
|
|
|
1,427
|
|
Sales and other taxes payable
|
|
|
219
|
|
|
|
1,472
|
|
Professional fees
|
|
|
3,863
|
|
|
|
768
|
|
Facilities related liabilities
|
|
|
273
|
|
|
|
486
|
|
Other
|
|
|
5,140
|
|
|
|
1,019
|
|
Total
|
|
$
|
24,194
|
|
|
$
|
30,434
|
|
12. Asset Retirement Obligations
Asset retirement obligations consist primarily of costs related to restoring long-lived assets to their original condition. Asset retirement obligations may include disposal costs, maintenance of buildings, and costs to remove leasehold improvements. The balance of the asset retirement obligations for the periods presented are classified as noncurrent liabilities and included in other liabilities in the Combined Balance Sheets. The balance of asset retirement obligations at September 30, 2019, 2018, and 2017 was $1.1 million, $1.2 million, and $0.8 million, respectively. Activity related to asset retirement obligations was as follows (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Balance at the beginning of period
|
|
$
|
1,155
|
|
|
$
|
784
|
|
|
$
|
414
|
|
Additions
|
|
|
5
|
|
|
|
398
|
|
|
|
401
|
|
Remeasurement/translation
|
|
|
(51
|
)
|
|
|
(8
|
)
|
|
|
17
|
|
Settlements/payments
|
|
|
(58
|
)
|
|
|
(19
|
)
|
|
|
(48
|
)
|
Balance at the end of the period
|
|
$
|
1,051
|
|
|
$
|
1,155
|
|
|
$
|
784
|
|
13. Restructuring and Other Costs, Net
Restructuring and other costs, net include restructuring expenses as well as other charges that are unusual in nature, are the result of unplanned events, and arise outside of the ordinary course of our business such as employee severance costs, costs for consolidating duplicate facilities, and separation costs directly attributable to the Cerence business becoming a standalone public company.
Restructuring and other costs related to personnel and facilities are included in accrued expenses and other current liabilities in the Combined Balance Sheets. Separation costs are included in accounts payable. The following table sets forth the year ended September 30, activity relating to restructuring charges (dollars in thousands):
|
|
Personnel
|
|
|
Facilities
|
|
|
Separation
|
|
|
Total
|
|
Balance at October 1, 2016
|
|
$
|
145
|
|
|
$
|
302
|
|
|
$
|
—
|
|
|
$
|
447
|
|
Restructuring and other costs, net
|
|
|
1,842
|
|
|
|
23
|
|
|
|
—
|
|
|
|
1,865
|
|
Cash payments
|
|
|
(1,879
|
)
|
|
|
(211
|
)
|
|
|
—
|
|
|
|
(2,090
|
)
|
Balance at September 30, 2017
|
|
|
108
|
|
|
|
114
|
|
|
|
—
|
|
|
|
222
|
|
Restructuring and other costs, net
|
|
|
4,130
|
|
|
|
20
|
|
|
|
8,713
|
|
|
|
12,863
|
|
Cash payments
|
|
|
(1,969
|
)
|
|
|
(128
|
)
|
|
|
(7,936
|
)
|
|
|
(10,033
|
)
|
Balance at September 30, 2018
|
|
|
2,269
|
|
|
|
6
|
|
|
|
777
|
|
|
|
3,052
|
|
Restructuring and other costs, net
|
|
|
130
|
|
|
|
1,704
|
|
|
|
22,570
|
|
|
|
24,404
|
|
Cash payments
|
|
|
(1,910
|
)
|
|
|
(1,684
|
)
|
|
|
(19,471
|
)
|
|
|
(23,065
|
)
|
Balance at September 30, 2019
|
|
$
|
489
|
|
|
$
|
26
|
|
|
$
|
3,876
|
|
|
$
|
4,391
|
|
75
Fiscal Year 2019
For the year ended September 30, 2019, we recorded restructuring charges of $24.4 million, which included $0.1 million severance charge related to the elimination of personnel across multiple functions, $1.7 million primarily resulting from the restructuring of facilities that will no longer be utilized, and $22.6 million related to professional service fees incurred to establish Cerence business as a standalone public company.
Fiscal Year 2018
For the year ended September 30, 2018, we recorded restructuring charges of $12.9 million, which included a $4.1 million severance charge related to the elimination of personnel across multiple functions, $20 thousand primarily resulting from the restructuring of facilities that will no longer be utilized, and $8.7 million related to professional services fees incurred to establish the Cerence business as a standalone public company.
Fiscal Year 2017
For the year ended September 30, 2017, we recorded restructuring charges of $1.9 million, which included a $1.8 million severance charge related to the elimination of personnel across multiple functions and $23 thousand primarily resulting from the restructuring of facilities that will no longer be utilized. These actions were part of our initiatives to reduce costs and optimize processes.
14. Supplemental Cash Flow Information
Income taxes settled through Parent company net investment were as follows (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Income taxes settled through net parent investment
|
|
$
|
12,139
|
|
|
$
|
18,444
|
|
|
$
|
33,644
|
|
15. Stock-Based Compensation
The Parent maintains a number of stock-based compensation programs at the corporate level in which the Cerence business’s employees participate. All awards granted under the programs relate to the Parent’s common stock. Accordingly, the amounts presented are not necessarily indicative of future performance and do not necessarily reflect the results that the Cerence business would have experienced as an independent, publicly-traded company for the periods presented. The stock-based compensation expense recorded by the Cerence business, in the years presented, includes the expense associated with the employees historically attributable to the Cerence business’s operations and the expense associated with the allocation of stock compensation expense for corporate employees.
The following table presents stock-based compensation expense included in the Cerence business’s Combined Statements of Operations related to the Parent’s stock-based compensation programs which are described in more detail further below (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Cost of licensing
|
|
$
|
21
|
|
|
$
|
12
|
|
|
$
|
1
|
|
Cost of connected services
|
|
|
827
|
|
|
|
495
|
|
|
|
1,740
|
|
Cost of professional services
|
|
|
1,048
|
|
|
|
1,569
|
|
|
|
447
|
|
Research and development
|
|
|
15,946
|
|
|
|
11,112
|
|
|
|
7,762
|
|
Sales and marketing
|
|
|
6,137
|
|
|
|
3,985
|
|
|
|
5,001
|
|
General and administrative
|
|
|
5,703
|
|
|
|
4,870
|
|
|
|
4,843
|
|
Total
|
|
$
|
29,682
|
|
|
$
|
22,043
|
|
|
$
|
19,794
|
|
76
Restricted Awards
The Parent is authorized to issue equity incentive awards in the form of Restricted Awards, including Restricted Units and Restricted Stock. Unvested Restricted Awards may not be sold, transferred or assigned. The fair value of the Restricted Awards is measured based upon the market price of the underlying common stock as of the date of grant, reduced by the purchase price of $0.001 per share of the awards. The Restricted Awards generally are subject to vesting over a period of two to four years, and may have opportunities for acceleration for achievement of defined goals. Nuance also issued certain Restricted Awards with vesting solely dependent on the achievement of specified performance targets. The fair value of the Restricted Awards is amortized to expense over the awards’ applicable requisite service periods using the straight-line method. In the event that the employee’s employment terminates, or in the case of awards with only performance goals, if those goals are not met, any unvested shares are forfeited and revert to the Parent.
As discussed within Note 18, Cerence entered into an Employee Matters Agreement with Nuance, which provides for the treatment of Nuance long-term incentive compensation awards, including stock options and restricted stock units, held by Cerence employees.
16. Commitments and Contingencies
Operating Leases
The Parent has various operating leases for office space around the world and has assumed facility lease obligations in connection with past acquisitions identified to the Cerence business. Among these assumed obligations are lease payments related to office locations that were vacated by certain of the acquired companies prior to the acquisition date. Additionally, certain of our lease obligations have been included in various restructuring charges. Refer to Note 13 for more detail.
The Parent’s operating lease and other contractual obligations range from $2.9 million to $6.3 million annually over the next 5 years. The following table outlines gross future minimum payments under all non-cancelable operating leases that are specific to the Cerence business as of September 30, 2019 (dollars in thousands):
Year Ending September 30,
|
|
Operating
Leases
|
|
2020
|
|
$
|
6,323
|
|
2021
|
|
|
5,421
|
|
2022
|
|
|
4,493
|
|
2023
|
|
|
3,237
|
|
2024
|
|
|
2,922
|
|
Thereafter
|
|
|
4,039
|
|
Total
|
|
$
|
26,435
|
|
Total rent expense was approximately $3.1 million, $3.0 million, and $2.9 million for the years ended September 30, 2019, 2018, and 2017, respectively.
Capital Leases
As part of our acquisition of Voicebox, we assumed certain leases for various equipment accounted for as capital leases. As of September 30, 2019, future minimum lease payments under the capital leases are immaterial.
Litigation and Other Claims
Like many companies in the software industry, Cerence has been notified of claims that it may be infringing on, or contributing to the infringement of, the intellectual property rights of others. These claims have been referred to counsel, and they are in various stages of evaluation and negotiation. If it appears necessary or desirable, we may seek licenses for these intellectual property rights. There is no assurance that licenses will be offered by all claimants, that the terms of any offered licenses will be acceptable to us or that in all cases the dispute will be resolved without litigation, which may be time consuming and expensive, and may result in injunctive relief or the payment of damages by us. We do not believe that the resolution of any such claim or litigation will have a material adverse effect on the Cerence business’s financial position and results of operations. However, resolution of any such claim or litigation could require significant management time and adversely impact our operating results, financial position and cash flows.
77
We include indemnification provisions in the contracts we enter into with customers and business partners. Generally, these provisions require us to defend claims arising out of our products’ infringement of third-party intellectual property rights, breach of contractual obligations and/or unlawful or otherwise culpable conduct. The indemnity obligations generally cover damages, costs and attorneys’ fees arising out of such claims. In most, but not all cases, our total liability under such provisions is limited to either the value of the contract or a specified, agreed upon amount. In some cases our total liability under such provisions is unlimited. In many, but not all cases, the term of the indemnity provision is perpetual. While the maximum potential amount of future payments we could be required to make under all the indemnification provisions is unlimited, we believe the estimated fair value of these provisions is minimal due to the low frequency with which these provisions have been triggered.
17. Pension and Other Post-Retirement Benefits
Nuance offers various long-term benefits to its eligible employees, including employees of the Cerence business. As Nuance provides these benefits to eligible employees and retirees of the Cerence business, the costs, assets and liabilities of participating employees of the Cerence business in these plans are reflected in these combined financial statements.
Defined Contribution Plans
Nuance has established a retirement savings plan under Section 401(k) of the Internal Revenue Code (the “401(k) Plan”). The 401(k) Plan covers substantially all of Nuance’s U.S. employees who meet minimum age and service requirements, and allows participants to defer a portion of their annual compensation on a pre-tax basis. Effective July 1, 2003, Nuance’s match of employees’ contributions was established. Nuance matches 50% of employee contributions up to 4% of eligible salary. Employer’s contributions vest one-third annually over a three-year period. Cerence was allocated charges for contributions to these 401(k) defined contribution plans of $1.0 million, $0.7 million, and $0.7 million for the years ended September 30, 2019, 2018, and 2017, respectively.
Defined Benefit Pension Plans
Nuance sponsors certain defined benefit pension plans that are offered primarily by their foreign subsidiaries. Many of these plans were assumed through acquisitions or are required by local regulatory requirements. Nuance may deposit funds for these plans with insurance companies, third party trustees or into government-managed accounts consistent with local regulatory requirements, as applicable.
Cerence sponsors certain aforementioned defined benefit plans. The total defined benefit plan pension expenses incurred by Cerence for these plans were $0.4 million, $0.4 million, and $0.4 million for the years ended September 30, 2019, 2018, and 2017, respectively. Cerence’s aggregate projected benefit obligation and aggregate net liability for Cerence’s defined benefit plans as of September 30, 2018 was $7.3 million and $6.8 million, as of September 30, 2018 was $5.0 million and $4.2 million, and as of September 30, 2017 was $5.1 million and $4.2 million, respectively.
Total expense related to the participation in defined benefit pension plans sponsored by Nuance was not material to the Cerence business’s Combined Statements of Operations in 2019, 2018, and 2017.
As discussed within Note 18, Cerence entered into an Employee Matters Agreement with Nuance, which provides that Cerence establish certain compensation and benefit plans for the benefit of our employees following the Spin-Off, including a 401(k) savings plan, which accepts direct rollovers of account balances from the Nuance 401(k) savings plan for any of our employees who elect to do so. In addition, Cerence assumed certain assets and liabilities with respect to our current and former employees under certain of Nuance’s U.S. and non-U.S. defined benefit pension plans (with assets and liabilities allocated based on formulas specified in the Employee Matters Agreement for each pension plan).
78
18. Relationship with Parent and Related Entities
Historically, the Cerence business has been managed and operated in the normal course of business consistent with other affiliates of the Parent. Accordingly, certain shared costs have been allocated to the Cerence business and reflected as expenses in the standalone combined financial statements. Management considers the allocation methodologies used to be reasonable and appropriate reflections of the historical Parent expenses attributable to the Cerence business for purposes of the standalone financial statements. However, the expenses reflected in the combined financial statements may not be indicative of the actual expenses that would have been incurred during the periods presented if the Cerence business historically operated as a separate, standalone entity. In addition, the expenses reflected in the combined financial statements may not be indicative of related expenses that will be incurred in the future by the Cerence business.
(a) General Corporate Overhead Allocation
The Parent provides facilities, information services and certain corporate and administrative services to the Cerence business. Expenses relating to these services have been allocated to the Cerence business and are reflected in the combined financial statements. Where direct assignment is not possible or practical, these costs were allocated on a pro rata basis of revenues, headcount or other measures. The following table summarizes the components of general allocated corporate expenses for the years ended September 30, 2019, 2018, and 2017 (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Facility
|
|
$
|
6,299
|
|
|
$
|
6,125
|
|
|
$
|
5,789
|
|
Depreciation
|
|
|
1,637
|
|
|
|
1,467
|
|
|
|
2,057
|
|
Amortization
|
|
|
22
|
|
|
|
1,150
|
|
|
|
1,869
|
|
Facility and other usage charges
|
|
|
7,958
|
|
|
|
8,742
|
|
|
|
9,715
|
|
Information services
|
|
|
8,633
|
|
|
|
7,947
|
|
|
|
6,609
|
|
Corporate and administrative services
|
|
|
22,166
|
|
|
|
18,414
|
|
|
|
16,326
|
|
Total
|
|
$
|
38,757
|
|
|
$
|
35,103
|
|
|
$
|
32,650
|
|
(b) Cash Management and Financing
The Cerence business participates in the Parent’s centralized cash management and financing programs. Disbursements are made through centralized accounts payable systems, which are operated by the Parent.
Cash receipts are transferred to centralized accounts which are also maintained by the Parent. As cash is disbursed and received by the Parent, it is accounted for by the Cerence business through the net parent investment.
Historically, the Cerence business has received funding from the Parent for the Cerence business’s operating and investing cash needs. Parent’s third-party debt and the related interest expense have not been allocated to the Cerence business for any of the years presented as the Cerence business is not the legal obligor of the debt and the Parent’s borrowings were not directly attributable to the Cerence business.
(c) Intercompany Receivables/Payables
All significant intercompany transactions between the Cerence business and the Parent and its non-Cerence businesses have been included in these combined financial statements and are considered to be effectively settled for cash at the time the transaction is recorded. The total net effect of the settlement of these intercompany transactions have been accounted for through parent company net investment in the Combined Balance Sheets and is reflected in the Combined Statements of Cash Flows as a financing activity.
79
The following table summarizes the components of the net transfers to Parent for the years ended September 30, 2019, 2018, and 2017 (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Net advancement from Parent
|
|
$
|
(83,554
|
)
|
|
$
|
(28,947
|
)
|
|
$
|
(92,070
|
)
|
Stock-based compensation
|
|
|
29,682
|
|
|
|
22,043
|
|
|
|
19,794
|
|
Accrued bonus
|
|
|
9,478
|
|
|
|
(2,859
|
)
|
|
|
283
|
|
Corporate depreciation and amortization
|
|
|
1,659
|
|
|
|
2,617
|
|
|
|
3,926
|
|
Fixed asset reclasses from the Parent
|
|
|
10,088
|
|
|
|
259
|
|
|
|
(1,900
|
)
|
Voicebox Purchase Accounting Adjustment
|
|
|
3,591
|
|
|
|
—
|
|
|
|
—
|
|
Intangible asset reclasses from the Parent
|
|
|
1,665
|
|
|
|
—
|
|
|
|
—
|
|
Net transfer to Parent
|
|
$
|
(27,391
|
)
|
|
$
|
(6,887
|
)
|
|
$
|
(69,967
|
)
|
Agreements with Nuance
On September 30, 2019, in connection with the Spin-Off, Cerence entered into several agreements with Nuance that set forth the principal actions taken or to be taken in connection with the Spin-Off and that govern the relationship of the parties following the Spin-Off, including the following:
|
•
|
Separation and Distribution Agreement: We entered into a Separation and Distribution Agreement with Nuance in advance of the Distribution. The Separation and Distribution Agreement sets forth our agreements with Nuance regarding the principal actions to be taken in connection with the Spin-Off. It also sets forth other agreements that govern aspects of our relationship with Nuance following the Spin-Off.
|
|
•
|
Tax Matters Agreement: We entered into a Tax Matters Agreement with Nuance that governs the respective rights, responsibilities and obligations of Nuance and us after the Distribution with respect to all tax matters (including tax liabilities, tax attributes, tax returns and tax contests).
|
|
•
|
Transition Services Agreement: We entered into a Transition Services Agreement pursuant to which Nuance will provide us, and we will provide Nuance, with certain specified services for a limited time to help ensure an orderly transition following the Distribution.
|
|
•
|
Employee Matters Agreement: We entered into an Employee Matters Agreement with Nuance that addresses employment and employee compensation and benefits matters. The Employee Matters Agreement addresses the allocation and treatment of assets and liabilities relating to employees and compensation and benefit plans and programs in which our employees participated prior to the Spin-Off.
|
|
•
|
Intellectual Property Agreement: We entered into an Intellectual Property Agreement with Nuance, pursuant to which we granted to Nuance, and Nuance granted to us, perpetual, non-exclusive, royalty-free licenses to certain patents and technology, as well as certain other intellectual property that have historically been shared between us and Nuance.
|
|
•
|
Transitional Trademark License Agreement: We entered into a Transitional Trademark License Agreement with Nuance, pursuant to which Nuance granted us a non-exclusive, royalty free license to continue using certain of Nuance’s trademarks, trade names and service marks with respect to the “Nuance” and “Dragon” brands in connection with the sale, marketing and other commercialization of our products and services.
|
|
•
|
OEM and Distribution License Agreements: We entered into four OEM and Distribution License Agreements with Nuance. Under three of the four agreements, Cerence licenses to Nuance designated Cerence technologies for Nuance’s internal use and for distribution to Nuance end-users and resellers. Under the final agreement, Nuance licenses to Cerence designated Nuance technologies for Cerence’s internal use and for distribution to Cerence end-users and resellers. All agreements contain customary commercial terms for arrangements of this nature.
|
80
19. Income Taxes
Although Cerence was historically included in consolidated income tax returns of the Parent, Cerence’s income taxes are computed and reported herein under the “separate return method.” The use of the separate return method may result in differences when the sum of the amounts allocated to standalone tax provisions are compared with amounts presented in the combined financial statements. In that event, the related deferred tax assets and liabilities could be significantly different from those presented herein. Certain tax attributes, e.g., net operating loss carryforwards, which were reflected in the Parent’s consolidated financial statements may or may not exist at the standalone Cerence level.
Furthermore, the combined financial statements do not reflect any amounts due to the Parent for income tax related matters as it is assumed that all such amounts due to the Parent were settled on September 30 of each year.
Recent Tax Legislation
On December 22, 2017, the Tax Cuts and Jobs Act ("TCJA") was signed into law. The TCJA significantly revises the U.S. corporate income tax by, among other things, lowering corporate income tax rates, implementing a hybrid territorial tax system and imposing a one-time repatriation tax on foreign cash and earnings.
We are subject to additional requirements of the TCJA during the year ended September 30, 2019. Those provisions include a tax on global intangible low-taxed income (“GILTI”) and foreign-derived intangible income (“FDII”). We have elected to account for GILTI as a period cost and therefore included GILTI expense in the effective tax rate calculation. Our estimates may be revised in future period as we obtain additional data and as the IRS issues new guidance implementing the law changes.
As a result of the TCJA, in fiscal year 2018 we re-measured certain deferred tax assets and liabilities at the lower rates and recorded approximately $23.1 million of tax expense.
Provision for Income Taxes
The components of (loss) income before income taxes are as follows (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Domestic
|
|
$
|
(22,904
|
)
|
|
$
|
16,371
|
|
|
$
|
38,095
|
|
Foreign
|
|
|
34,088
|
|
|
|
20,427
|
|
|
|
25,107
|
|
(Loss) income before income taxes
|
|
$
|
11,184
|
|
|
$
|
36,798
|
|
|
$
|
63,202
|
|
The components of (benefit) provision for income taxes are as follows (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Current:
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
5,352
|
|
|
$
|
11,413
|
|
|
$
|
26,191
|
|
State
|
|
|
1,059
|
|
|
|
2,500
|
|
|
|
3,695
|
|
Foreign
|
|
|
5,728
|
|
|
|
4,531
|
|
|
|
3,758
|
|
Total current
|
|
$
|
12,139
|
|
|
$
|
18,444
|
|
|
$
|
33,644
|
|
Deferred:
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(6,210
|
)
|
|
|
14,393
|
|
|
|
(14,846
|
)
|
State
|
|
|
(1,593
|
)
|
|
|
(1,284
|
)
|
|
|
(1,884
|
)
|
Foreign
|
|
|
(93,420
|
)
|
|
|
(636
|
)
|
|
|
(988
|
)
|
Total deferred
|
|
|
(101,223
|
)
|
|
|
12,473
|
|
|
|
(17,718
|
)
|
(Benefit from) provision for income taxes
|
|
$
|
(89,084
|
)
|
|
$
|
30,917
|
|
|
$
|
15,926
|
|
Effective income tax rate
|
|
|
(796.5
|
)%
|
|
|
84.0
|
%
|
|
|
25.2
|
%
|
81
The (benefit) provision for income taxes differed from the amount computed by applying the federal statutory rate to our (loss) income before income taxes as follows (dollars in thousands):
|
|
Year Ended September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Federal tax provision at statutory rate
|
|
$
|
2,270
|
|
|
$
|
9,026
|
|
|
$
|
22,121
|
|
State tax, net of federal benefit
|
|
|
(490
|
)
|
|
|
917
|
|
|
|
1,177
|
|
Foreign tax rate and other foreign related tax items
|
|
|
(4,764
|
)
|
|
|
(104
|
)
|
|
|
(5,312
|
)
|
Uncertain tax positions
|
|
|
57,631
|
|
|
|
(95
|
)
|
|
|
840
|
|
Stock-based compensation
|
|
|
—
|
|
|
|
—
|
|
|
|
1,288
|
|
Global intangible low-taxed income
|
|
|
3,923
|
|
|
|
—
|
|
|
|
—
|
|
Foreign-derived intangible income
|
|
|
(547
|
)
|
|
|
—
|
|
|
|
—
|
|
Capital losses
|
|
|
8,187
|
|
|
|
—
|
|
|
|
—
|
|
Change in U.S. valuation allowance
|
|
|
(8,187
|
)
|
|
|
—
|
|
|
|
—
|
|
Non-deductible expenditures
|
|
|
2,707
|
|
|
|
514
|
|
|
|
56
|
|
U.S. and Canadian R&D credits
|
|
|
(1,675
|
)
|
|
|
(1,313
|
)
|
|
|
(1,974
|
)
|
Domestic Production Activities Deduction
|
|
|
—
|
|
|
|
(1,143
|
)
|
|
|
(2,270
|
)
|
TCJA impact
|
|
|
—
|
|
|
|
23,115
|
|
|
|
—
|
|
Intangible property transfers
|
|
|
(148,139
|
)
|
|
|
—
|
|
|
|
—
|
|
(Benefit from) provision for income taxes
|
|
$
|
(89,084
|
)
|
|
$
|
30,917
|
|
|
$
|
15,926
|
|
The effective income tax rate is based upon the income for the year, the composition of the income in different countries, and adjustments, if any, for the potential tax consequences, benefits or resolutions of audits or other tax contingencies. Our aggregate income tax rate in foreign jurisdictions is lower than our income tax rate in the United States. Our effective tax rate may be adversely affected by earnings being lower than anticipated in countries where we have lower statutory tax rates and higher than anticipated in countries where we have higher statutory tax rates. We believe that it is not more likely than not that the tax benefit from the U.S. capital loss will be realized. As a result, we recorded a full valuation allowance against the capital loss.
The effective income tax rate in fiscal year 2019 differs from the U.S. federal statutory rate of 21.0% primarily due to a net tax benefit of $91.7 million related to intangible property transfers, partially offset by an uncertain tax position. The net tax benefit is also partially offset by GILTI tax expense of $3.9 million.
The effective income tax rate in fiscal year 2018 differs from the U.S. federal statutory rate of 24.5% primarily due to the net tax expense resulting from the TCJA re-measurement of deferred tax assets and liabilities at the lower enacted rate, our research and development credits and the domestic production activities deduction.
The effective income tax rate in fiscal year 2017 differs from the U.S. federal statutory rate of 35% primarily due to our earnings in foreign jurisdictions that are subject to significantly lower tax rates, our research and development credits and the domestic production activities deduction.
As of September 30, 2019, we have not provided taxes on undistributed earnings of our foreign subsidiaries, which may be subject to foreign withholding taxes upon repatriation, as we consider these earnings indefinitely reinvested. Our indefinite reinvestment determination is based on the future operational and capital requirements of our domestic and foreign operations. We expect our international cash and cash equivalents and marketable securities will continue to be used for our foreign operations and therefore do not anticipate repatriating these funds. As of September 30, 2019, it is not practical to calculate the unrecognized deferred tax liability on these earnings due to the complexities of the utilization of foreign tax credits and other tax assets.
82
Deferred tax assets (liabilities) consist of the following as of September 30, 2019 and 2018 (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Net operating loss carryforwards
|
|
$
|
6,567
|
|
|
$
|
4,969
|
|
Capital loss carryforwards
|
|
|
8,187
|
|
|
|
—
|
|
Federal credit carryforwards
|
|
|
9,367
|
|
|
|
8,791
|
|
Accrued expenses and other reserves
|
|
|
2,830
|
|
|
|
2,422
|
|
Difference in timing of revenue related items
|
|
|
50,677
|
|
|
|
47,662
|
|
Acquired intangibles
|
|
|
83,456
|
|
|
|
—
|
|
Pension obligation
|
|
|
1,969
|
|
|
|
1,267
|
|
Total deferred tax assets
|
|
$
|
163,053
|
|
|
$
|
65,111
|
|
Valuation allowance for deferred tax assets
|
|
|
(11,064
|
)
|
|
|
(2,420
|
)
|
Deferred tax assets
|
|
$
|
151,989
|
|
|
$
|
62,691
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Depreciation
|
|
$
|
(1,360
|
)
|
|
$
|
(1,539
|
)
|
Acquired intangibles
|
|
|
—
|
|
|
|
(10,099
|
)
|
Total deferred tax liabilities
|
|
|
(1,360
|
)
|
|
|
(11,638
|
)
|
Net deferred tax assets
|
|
$
|
150,629
|
|
|
$
|
51,053
|
|
Deferred tax assets are reduced by a valuation allowance if, based on the weight of available positive and negative evidence, it is more likely than not that some portion or all the deferred tax assets will not be realized. During fiscal year 2019, the valuation allowance for deferred tax assets increased by $8.6 million. This increase primarily relates to the valuation allowance for the U.S. capital loss of $8.2 million. We believe that it is not more likely than not that the tax benefit from the U.S. capital loss will be realized. As a result, we recorded a full valuation allowance against the capital loss. The remaining increase in valuation allowance was driven by return to provision adjustments to acquired VoiceBox net operating loss carryforwards and tax credits with a corresponding valuation allowance. This was recorded as part of purchase accounting for VoiceBox within the measurement period. As of September 30, 2019, we have $11.03 million and $0.03 million in valuation allowance against our net domestic and foreign deferred tax assets, respectively. As of September 30, 2018, we had $2.4 million and $0 in valuation allowance against our net domestic and foreign deferred tax assets, respectively.
At September 30, 2019, and 2018, we had U.S. federal net operating loss carryforwards of $14.2 million and $21.5 million, respectively. The net operating loss and credit carryforwards are subject to an annual limitation due to the ownership change limitations provided by the Internal Revenue Code of 1986 and similar state provisions. At September 30, 2019, and 2018, we had foreign net operating loss carryforwards of $16.6 million and $0.9 million, respectively. These carryforwards will expire at various dates beginning in 2026 and extending up to an unlimited period.
At September 30, 2019 and 2018, we have federal research and development carryforwards and foreign tax credit carryforwards of $9.4 million and $8.8 million, respectively.
Uncertain Tax Positions
Upon audit, taxing authorities may challenge all or part of an uncertain income tax position. While Cerence has no history of tax audits on a standalone basis, the Parent is routinely audited by state and foreign taxing authorities. Accordingly, the Parent (and Cerence) regularly assesses the outcome of potential examinations in each of the taxing jurisdictions when determining the adequacy of the amount of unrecognized tax benefit recorded. We recognize tax benefits from uncertain tax positions only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such positions are then measured based on the largest benefit which is more likely than not to be realized upon ultimate settlement. We recognize interest and penalties related to unrecognized tax positions in our provision for income taxes line of our Combined Statements of Operations.
83
The aggregate changes in the balance of our gross unrecognized tax benefits were as follows (dollars in thousands):
|
|
September 30,
|
|
|
|
2019
|
|
|
2018
|
|
|
2017
|
|
Balance at the beginning of the year
|
|
$
|
5,738
|
|
|
$
|
5,833
|
|
|
$
|
4,993
|
|
Increases related to tax positions taken from prior
periods
|
|
|
1,312
|
|
|
|
103
|
|
|
|
1,132
|
|
Decreases related to tax positions taken from prior
periods
|
|
|
(120
|
)
|
|
|
(198
|
)
|
|
|
(77
|
)
|
Increases related to tax positions taken during current
period
|
|
|
56,439
|
|
|
|
—
|
|
|
|
—
|
|
Decreases for tax settlements and lapse in statutes
|
|
|
—
|
|
|
|
—
|
|
|
|
(215
|
)
|
Balance at the end of the year
|
|
$
|
63,369
|
|
|
$
|
5,738
|
|
|
$
|
5,833
|
|
As of September 30, 2019, $63.4 million of the unrecognized tax benefits, if recognized, would impact our effective tax rate. In fiscal year 2019, there was an increase in unrecognized tax benefits of $56.4 million related to intercompany intangible property transfers. We do not expect a significant change in the amount of unrecognized tax benefits within the next 12 months. We recorded $1.2 million and $0.8 million of interest and penalties related to uncertain tax positions as of September 30, 2019 and September 30, 2018, respectively.
We are subject to U.S. federal income tax, various state and local taxes and international income taxes in numerous jurisdictions. The 2017 through 2019 years remain open for all purposes of examination by the IRS and other taxing authorities in material jurisdictions.
20. Subsequent Events
Consummation of the spin-off and distribution of stock of Cerence Inc.
On October 1, 2019, Nuance completed the previously announced complete legal and structural separation and distribution to its stockholders of all of the outstanding shares of Cerence in a tax free spin-off. The distribution was made in the amount of one share of Cerence common stock for every eight shares of Nuance common stock owned by Nuance’s stockholders as of 5:00 p.m. Eastern Time on September 17, 2019, the record date of such distribution.
Senior Facilities
On October 1, 2019, in connection with the previously announced Spin-Off, Cerence entered into a Credit Agreement, by and among Cerence, the lenders and issuing banks party thereto and Barclays Bank PLC, as administrative agent (the “Credit Agreement”) consisting of a five-year senior secured term loan facility in the aggregate principal amount of $270.0 million, which is primarily intended to finance a cash distribution of approximately $153.0 million to Nuance and provide approximately $110.0 million initial support for the cash flow needs of the Cerence business. We also entered into a 54-month senior secured first-lien revolving credit facility in an aggregate principal amount of $75.0 million, which shall be drawn on in the event that our working capital and other cash needs are not supported by our operating cash flow. As of December 19, 2019, there were no amounts outstanding under the revolving credit facility.
Cerence’s obligations under the Credit Agreement are jointly and severally guaranteed by certain of its existing and future direct and indirect wholly owned domestic subsidiaries, subject to certain exceptions customary for financings of this type. All obligations are secured by substantially all of its tangible and intangible personal property and material real property, including a perfected first-priority pledge of all (or, in the case of foreign subsidiaries or subsidiaries (“FSHCO”) that own no material assets other than equity interests in foreign subsidiaries that are “controlled foreign corporations” or other FSHCOs, 65%) of the equity securities of our subsidiaries held by any loan party, subject to certain customary exceptions and limitations.
Cerence is obligated to make quarterly principal payments on the last business day of each quarter in an aggregate annual amount equal to 3.5% of the original principal amount of the Term Loan Facility during the first two years of the Term Loan Facility, and 10% of the original principal amount of the Term Loan Facility thereafter, with the balance payable at the maturity date. Quarterly principal payments will commence on March 31, 2020. Interest accrues on outstanding borrowings under the Senior Facilities at a rate of either a base rate (as defined in the Credit Agreement) plus 5.00% or a LIBOR rate (as defined in the Credit Agreement) plus 6.00%. Interest payments with respect to the Senior Facilities are required either on a quarterly basis (for ABR loans) or at the end of each interest period (for LIBOR loans) or, if the duration of the applicable interest period exceeds three months, then every three months.
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Borrowings under the Credit Agreement are prepayable at Cerence’s option without premium or penalty, subject to a 1.00% prepayment premium in connection with any repricing transaction for the term loan facility in the first six months after the closing date. Cerence may request to extend the maturity date of all or a portion of the Senior Facilities subject to certain conditions customary for financings of this type. The Credit Agreement also contains certain mandatory prepayment provisions in the event that Cerence incurs certain types of indebtedness or receive net cash proceeds from certain non-ordinary course asset sales or other dispositions of property or generate positive excess cash flow, in each case subject to terms and conditions customary for financings of this type.
The Credit Agreement contains certain affirmative and negative covenants customary for financings of this type that, among other things, limit our and our subsidiaries’ ability to incur additional indebtedness or liens, to dispose of assets, to make certain fundamental changes, to designate subsidiaries as unrestricted, to make certain investments, to prepay certain indebtedness and to pay dividends, or to make other distributions or redemptions/repurchases, in respect of the our and our subsidiaries’ equity interests. In addition, the Credit Agreement contains a financial covenant requiring the maintenance of a net first lien leverage ratio of not greater than 6.00 to 1.00. The Credit Agreement also contains events of default customary for financings of this type, including certain customary change of control events.
21. Quarterly Data (Unaudited)
The following information has been derived from unaudited condensed combined financial statements that, in the opinion of management, include all recurring adjustments necessary for a fair statement of such information (dollars in thousands).
|
|
First
Quarter
|
|
|
Second
Quarter
|
|
|
Third
Quarter
|
|
|
Fourth
Quarter
|
|
|
Fiscal
Year
|
|
2019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues
|
|
$
|
72,484
|
|
|
$
|
70,304
|
|
|
$
|
77,569
|
|
|
$
|
82,958
|
|
|
$
|
303,315
|
|
Gross profit
|
|
$
|
48,277
|
|
|
$
|
45,860
|
|
|
$
|
53,894
|
|
|
$
|
55,941
|
|
|
$
|
203,972
|
|
Net (loss) income
|
|
$
|
2,255
|
|
|
$
|
454
|
|
|
$
|
1,770
|
|
|
$
|
95,789
|
|
|
$
|
100,268
|
|
|
|
First
Quarter
|
|
|
Second
Quarter
|
|
|
Third
Quarter
|
|
|
Fourth
Quarter
|
|
|
Fiscal
Year
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenues
|
|
$
|
61,955
|
|
|
$
|
67,496
|
|
|
$
|
72,177
|
|
|
$
|
75,356
|
|
|
$
|
276,984
|
|
Gross profit
|
|
$
|
42,455
|
|
|
$
|
48,022
|
|
|
$
|
50,430
|
|
|
$
|
53,113
|
|
|
$
|
194,020
|
|
Net (loss) income
|
|
$
|
(18,740
|
)
|
|
$
|
9,463
|
|
|
$
|
6,534
|
|
|
$
|
8,624
|
|
|
$
|
5,881
|
|