Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o
Accelerated filer x
Non-accelerated filer o
Smaller reporting company o
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
The number of shares outstanding of the registrant's common stock as of October 29, 2010 was approximately 67,947,685.
Preferred stock, par value $0.01, 1,000,000 shares authorized
—
—
Common stock, par value $0.01, 225,000,000 shares authorized as of September 30, 2010; 67,923,406 and 67,729,952 shares issued and outstanding as of September 30, 2010 and March 31, 2010, respectively
679
677
Additional paid-in capital
517,312
511,922
Accumulated other comprehensive income
14,875
7,867
Accumulated deficit
(273,206
)
(196,111
)
Total THQ Inc. stockholders' equity
259,660
324,355
Noncontrolling interest
—
263
Total equity
259,660
324,618
TOTAL LIABILITIES AND EQUITY
$
643,360
$
714,329
See notes to condensed consolidated financial statements.
Net income (loss) prior to allocation of noncontrolling interest
$
(77,095
)
$
277
Adjustments to reconcile net income (loss) prior to allocation of noncontrolling interest to net cash used in operating activities:
Depreciation and amortization
5,616
7,099
Amortization of licenses and software development(1)
66,648
93,421
Loss on disposal of property and equipment
10
489
Restructuring charges
7
2,522
Change in deferred revenue and related expenses(3)
4,053
(5,230
)
Amortization of debt issuance costs
393
136
Amortization of interest
763
105
Gain on investments
(332
)
(734
)
Stock-based compensation(2)
4,357
5,388
Changes in operating assets and liabilities:
Accounts receivable, net of allowances
30,204
56,931
Inventory
(6,992
)
(14,056
)
Licenses
(23,940
)
(3,270
)
Software development(3)
(116,763
)
(91,527
)
Prepaid expenses and other current assets(3)
(24,129
)
(19,652
)
Accounts payable
18,202
2,336
Accrued and other liabilities(3)
(39,446
)
(63,712
)
Income taxes
2,193
(6,122
)
Net cash used in operating activities
(156,251
)
(35,599
)
INVESTING ACTIVITIES:
Proceeds from sales and maturities of available-for-sale investments
93,248
8,776
Proceeds from sales and maturities of trading investments
22,775
2,925
Purchases of available-for-sale investments
(64,781
)
(39,989
)
Other long-term assets
(474
)
(124
)
Acquisitions, net of cash acquired
—
(840
)
Purchases of property and equipment
(8,265
)
(3,268
)
Net cash provided by (used in) investing activities
42,503
(32,520
)
FINANCING ACTIVITIES:
Proceeds from issuance of common stock to employees
520
215
Payment of debt issuance costs
—
(3,646
)
Proceeds from issuance of convertible senior notes
—
100,000
Borrowings on secured credit line
—
2,500
Payment of secured credit line
(13,249
)
(8,441
)
Net cash provided by (used in) financing activities
(12,729
)
90,628
Effect of exchange rate changes on cash
4,490
10,633
Net increase (decrease) in cash and cash equivalents
(121,987
)
33,142
Cash and cash equivalents - beginning of period
188,378
131,858
Cash and cash equivalents - end of period
$
66,391
$
165,000
________________________________
(1)
Excludes amortization of capitalized stock-based compensation expense
(2)
Includes the net effects of capitalization and amortization of stock-based compensation expense.
(3)
Six months ended September 30, 2009 has been reclassified to conform to current period presentation with respect to change in deferred revenue and related expenses.
See notes to condensed consolidated financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The condensed consolidated financial statements included in this Quarterly Report on Form 10-Q present the results of operations, financial position and cash flows of THQ Inc. and its subsidiaries (collectively "THQ", we, us, our or the "Company"). In the opinion of management, the accompanying condensed consolidated balance sheets and related interim condensed consolidated statements of operations, condensed consolidated statements of total equity, and condensed consolidated statements of cash flows include all adjustments, consisting only of normal recurring items, necessary for their fair presentation in conformity with accounting principles generally accepted in the United States of America. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period. Actual results could differ from those estimates. The most significant estimates relate to accounts receivable allowances, licenses, software development, revenue recognition, stock-based compensation expense and income taxes. Interim results are not necessarily indicative of results for a full year. The balance sheet at March 31, 2010 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete financial statements. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2010.
Cost of Sales — License Amortization and Royalties. Prior to April 1, 2010, we presented "Venture partner expense" related to the license agreement that the THQ / JAKKS Pacific LLC ("LLC") joint venture, comprised of THQ and JAKKS Pacific, Inc. ("Jakks"), had with WWE as a separate line item in the "Cost of sales" section of our statements of operations. On December 31, 2009, the LLC was dissolved, the WWE license held by the LLC was terminated, and a new eight-year license was entered into directly between THQ and WWE. The final expenses related to the joint venture were recorded as of December 31, 2009. In this Quarterly Report on Form 10-Q, we include the historical venture partner expense for the three and six months ended September 30, 2009, within "Cost of sales — License amortization and royalties" in our statements of operations for comparability.
“Venture partner expense” in the three and six months ended September 30, 2009 was a benefit of $23.7 million and $22.4 million, respectively. The benefit reflects the settlement agreement we entered into with Jakks on August 17, 2009 that established the preferred payment rate owed to Jakks at a rate that was 40% lower than the previous contract rate. We had been accruing this expense at the contract payment rate that expired June 30, 2006, which, prior to the settlement, was the best basis available upon which to estimate this expense. As a result of establishing the preferred payment rate for the period that had been under dispute, we revised our previous estimate, which resulted in a one-time benefit in “Venture partner expense” of $24.2 million during the three months ended September 30, 2009. Excluding this one-time benefit, “Venture partner expense” in the three and six months ended September 30, 2009 would have been $0.5 million and $1.8 million, respectively, which reflected the 40% lower payment rate. Further, excluding this one-time benefit from this Quarterly Report on Form 10-Q, “Cost of sales - License amortization and royalties” in the three and six months ended September 30, 2009 would have been $15.2 million and $47.7 million, respectively.
Noncontrolling Interest. Prior to April 30, 2010, we consolidated the results of THQ*ICE LLC (a joint venture with ICE Entertainment, Inc.) in the consolidated financial statements as we believed we were the primary beneficiary and would have received the majority of expected returns or absorbed the majority of expected losses of THQ*ICE LLC. We sold our interest in THQ*ICE LLC on April 30, 2010 and recognized an insignificant gain.
Revenue Recognition. In instances where we have both vendor specific objective evidence ("VSOE") for the fair value of an undelivered online service component of our games and a continuing involvement in providing the online service, we bifurcate the fair value of the online service component from the revenue recognized on the sale of the boxed product. The fair value of the online service component, and the related specifically identifiable costs of providing the online service, such as server hosting and license royalties, if any, are deferred and recognized ratably over the estimated online service period of six months, beginning the month after shipment of the software product. This timeframe is consistent with our revenue recognition for sales of boxed product where the online service is considered a deliverable, we have a significant continuing involvement in providing the online service, and we do not have VSOE for the fair value of the online service component.
Fiscal Quarter. We report our fiscal year on a 52/53-week period with our fiscal year ending on the Saturday nearest March 31. For simplicity, all fiscal periods in our condensed consolidated financial statements and accompanying notes are presented as ending on a calendar month end. The results of operations for the three and six months ended September 30, 2010 and 2009
The following table summarizes the components of our cash and cash equivalents (in thousands):
September 30, 2010
March 31, 2010
Cash and time deposits
$
38,447
$
116,170
Money market funds
21,917
21,049
Negotiable certificates of deposit(1)
5,338
28,545
Corporate securities
689
8,439
Municipal securities(2)
—
14,175
Cash and cash equivalents
$
66,391
$
188,378
________________________________________________
(1)
Negotiable certificates of deposit consist of certificates issued by institutions outside the U.S.
(2)
Municipal securities consist of bonds issued or deemed to be guaranteed by non-U.S. governments.
At September 30, 2010 and March 31, 2010, we had $6.0 million and $51.2 million, respectively, of trading securities classified as cash equivalents. These investments are made up of negotiable certificates of deposit, corporate securities, and municipal securities, which, when purchased by us, had remaining maturities of three months or less. Gains and losses recognized on these investments in the three and six months ended September 30, 2010, were immaterial. During the six months ended September 30, 2009 we did not hold any trading securities classified as cash equivalents.
3. Investment Securities
The following table summarizes our investment securities and their related inception-to-date gross unrealized gains and (losses), as of September 30, 2010 (in thousands):
Amortized Cost
Gross Unrealized Gains
Gross Unrealized Losses
Fair Value
Short-term investments:
Municipal securities(1)
$
3,412
$
248
$
(1
)
$
3,659
Corporate securities
47,254
2,087
(75
)
49,266
Negotiable certificates of deposit(2)
3,221
226
—
3,447
Total short-term investments
53,887
2,561
(76
)
56,372
Long-term investments:
Municipal securities(3)
2,000
—
(108
)
1,892
Total long-term investments
2,000
—
(108
)
1,892
Total available-for-sale investment securities
$
55,887
$
2,561
$
(184
)
$
58,264
________________________________________________
(1)
Municipal securities classified as short-term includes bonds issued or deemed to be guaranteed by non-U.S. governments.
(2)
Negotiable certificates of deposit consist of certificates issued by institutions outside the U.S.
(3)
Municipal securities classified as long-term, consist of municipal Auction Rate Securities ("ARS") substantially all of which are backed by monoline bond insurance companies.
The following table summarizes our investment securities and their related inception-to-date gross unrealized gains and (losses), as of March 31, 2010 (in thousands):
Municipal securities classified as short-term includes bonds issued or deemed to be guaranteed by non-U.S. governments, U.S. agency securities, U.S. Treasury securities, and local governments.
(2)
Negotiable certificates of deposit consist of certificates issued by institutions outside the U.S.
(3)
Municipal securities classified as long-term, consist of municipal ARS substantially all of which are backed by monoline bond insurance companies.
(4)
Trading securities classified as short-term, pledged, consist of student loan ARS substantially all of which are guaranteed by the U.S. government under the Federal Family Educational Loan Program and backed by monoline bond insurance companies.
Available-for-sale investments
Our entire portfolio of available-for-sale investments had a fair value of $58.3 million at September 30, 2010, and inception-to-date net unrealized gains of $2.4 million (inclusive of gains and losses resulting from changes in foreign currency rates) that are recorded in accumulated other comprehensive income. Included in our portfolio of available-for-sale investments at September 30, 2010, are securities with inception-to-date gross unrealized losses of $0.2 million; these losses are temporary, as we believe the decline in fair value is primarily attributable to the limited liquidity of these investments. During the six months ended September 30, 2010 and September 30, 2009, no securities had an other-than-temporary impairment.
At September 30, 2010 and March 31, 2010 our portfolio of available-for-sale investments included two investments that have been in a continuous unrealized loss position for more than 12 months; both investments are long-term municipal ARS. The inception-to-date unrealized losses and fair value of these investments at both September 30, 2010 and March 31, 2010 was $0.1 million and $1.9 million, respectively. These losses are temporary as we believe the decline in fair value is primarily attributable to the limited liquidity of these investments.
In the six months ended September 30, 2010 and 2009 we had pre-tax net unrealized gains of $2.7 million and $0.8 million on available-for-sale securities that is included in accumulated other comprehensive income. In addition, in the six months ended September 30, 2010 and 2009, we had pre-tax unrealized holding gains of $0.4 million and $1.8 million, respectively, on our investment in Yuke's Co., Ltd. ("Yuke's") that is classified as available-for-sale and is included in other long-term assets, net (see "Note 6 — Other Long-Term Assets").
Realized gains and losses on sales of available-for-sale securities are recognized in net income (loss) on the specific identification basis and are included in interest and other income (expense), net in the condensed consolidated statements of operations. Pre-tax realized gains and losses in the three and six months ended September 30, 2010 are shown in the table below (in thousands):
The following table summarizes the amortized cost and fair value of our available-for-sale investment securities, classified by stated maturity, at September 30, 2010 (in thousands):
Amortized
Cost
Fair
Value
Short-term investments:
Due in one year or less
$
38,420
$
39,982
Due after one year through five years
15,467
16,390
Total short-term investments
53,887
56,372
Long-term investments:
Due in one year or less
500
490
Due after ten years
1,500
1,402
Total long-term investments
2,000
1,892
Total available-for-sale investment securities
$
55,887
$
58,264
Auction Rate Securities
At September 30, 2010, we had $1.9 million of ARS classified as long-term available-for-sale investments. These ARS are variable rate bonds tied to short-term interest rates with long-term maturities. ARS have interest rate resets through a modified Dutch auction at predetermined short-term intervals, typically every 7, 28, or 35 days. Interest on ARS is generally paid at the end of each auction process or semi-annually and is based upon the interest rate determined during the prior auction.
At March 31, 2010, we had $1.9 million of ARS classified as long-term available-for-sale investments, and $21.0 million of ARS classified as short-term trading investments, pledged. In addition, as further discussed below, we held a $1.7 million put option related to the short-term trading ARS that was also classified as short-term investments, pledged.
In October 2008, we entered into a settlement agreement with UBS Financial Services Inc. ("UBS"), the broker of certain of our ARS (the "UBS Agreement"). The UBS Agreement provided us with Auction Rate Securities Rights ("Rights") to sell such ARS to UBS at the par value of the underlying securities at any time during the period from June 30, 2010 through July 2, 2012 and in return, we agreed to release UBS from certain potential claims related to the ARS in certain specified circumstances. These Rights were a freestanding instrument accounted for separately from the ARS, and were registered, nontransferable securities accounted for as a put option. At March 31, 2010, the put option had a fair value of $1.7 million and was recorded in short-term investments, pledged in our consolidated balance sheet along with the underlying ARS which had a fair value of $21.0 million.
On June 30, 2010, we exercised our Rights and sold all of the remaining ARS underlying the UBS Agreement to UBS at par value in accordance with the terms of the UBS Agreement. Accordingly, in the three months ended June 30, 2010, we recognized a loss of $1.7 million due to the exercise of the put option, which is recorded in interest and other income (expense), net in the condensed consolidated statement of operations. This loss was offset by a gain of $1.7 million on the settlement of the underlying ARS.
Additionally, pursuant to the UBS Agreement, we entered into a Credit Agreement with UBS Bank USA, which allowed us to borrow up to 75% of the market value of the ARS (as determined by UBS) at any time, on a no net interest basis, to the extent that such ARS continued to be illiquid or until June 30, 2010 (see "Note 8 — Secured Credit Line"). In the three months ended June 30, 2010, we repaid the entire amount outstanding under the credit line, which was $13.2 million. The credit line established pursuant to the Credit Agreement was secured by certain of our ARS held with UBS. At June 30, 2010 we had no borrowings outstanding under the Credit Agreement and thus the credit line was terminated, pursuant to its terms, on July 2, 2010.
4. Fair Value
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. There is a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value. We used the following methods and assumptions to estimate the fair value of our investment securities:
• Level 1 — Quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to
access at the measurement date. We do not adjust the quoted prices for these investments.
• Level 2 — Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
• Level 3 — Discounted cash flow analysis using unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities, as discussed further below.
Our policy is to recognize transfers between these levels of the fair value hierarchy as of the beginning of the reporting period.
The following table summarizes our financial assets measured at fair value on a recurring basis as of September 30, 2010 (in thousands):
Level 1
Level 2
Level 3
Total
Cash equivalents:
Money market funds
$
21,917
$
—
$
—
$
21,917
Negotiable certificates of deposit
—
5,338
—
5,338
Corporate Securities
—
689
—
689
Short-term investments:
Municipal securities
—
3,659
—
3,659
Corporate securities
—
49,266
—
49,266
Negotiable certificates of deposit
—
3,447
—
3,447
Long-term investments:
Municipal securities
—
—
1,892
1,892
Other long-term assets, net:
Investment in Yuke's
5,955
—
—
5,955
Total
$
27,872
$
62,399
$
1,892
$
92,163
Level 3 assets at September 30, 2010 consist of AAA/Aaa rated ARS, which are backed by monoline bond insurance companies. We historically invested in these securities as part of our cash management program. However, the lack of liquidity in these credit markets has prevented us and other investors from selling these securities. As such, these investments which were not subject to the UBS Agreement, are classified as long-term at September 30, 2010 to reflect the lack of liquidity. We believe we have the ability to, and intend to, hold these ARS classified as available-for-sale until the auction process recovers or the securities mature. These securities are investment grade, and we have no reason to believe that any of the underlying issuers of these ARS are presently at risk or that the underlying credit quality of the assets backing these ARS has been impacted by the reduced liquidity of these investments. We have continued to receive interest payments on these ARS according to their terms.
We have estimated the fair value of these ARS using a discounted cash flow analysis that considered the following key inputs: i) credit quality, ii) estimates on the probability of the issue being called or sold prior to final maturity, iii) current market rates, and iv) estimates of the next time the security is expected to have a successful auction. The contractual terms of these securities do not permit the issuer to call, prepay or otherwise settle the securities at prices less than the stated par value of the security.
The following table summarizes our financial assets measured at fair value on a recurring basis as of March 31, 2010 (in thousands):
Level 3 assets at March 31, 2010 primarily consist of ARS, the majority of which are AAA/Aaa rated and collateralized by student loans guaranteed by the U.S. government under the Federal Family Education Loan Program and backed by monoline bond insurance companies. Substantially all of the remaining ARS are also backed by monoline bond insurance companies.
In connection with the UBS Agreement, as discussed in "Note 3 — Investment Securities," at March 31, 2010, we had a put option with a fair value of $1.7 million recorded in short-term investments, pledged in our condensed consolidated balance sheet. We elected fair value accounting for the put option in order to mitigate volatility in earnings caused by accounting for the put option and underlying ARS under different methods. We estimated the value of the put option as the difference between the par value of the underlying ARS and the fair value of the ARS, after applying an estimated risk discount, as the put option gave us the right to sell the underlying ARS to the broker during the period June 30, 2010 to July 2, 2012 for a price equal to the par value. On June 30, 2010, we exercised the put option and sold all of the remaining ARS underlying the UBS Agreement to UBS at par value in accordance with the terms of the UBS Agreement.
The following tables provide a summary of changes in fair value of our Level 3 financial assets in the three and six months ended September 30, 2010 and 2009 (in thousands):
Three Months Ended September 30,
2010
2009
Beginning balance
$
1,840
$
35,399
Total gains or (losses) (realized/unrealized):
Included in earnings
—
76
Included in accumulated other comprehensive income
Included in accumulated other comprehensive income
41
213
Purchases, sales, issuances and settlements, net
(22,775
)
(3,900
)
Transfers in/out of Level 3
—
(2,411
)
Ending balance
$
1,892
$
29,638
In the three and six months ended September 30, 2009, transfers out of Level 3 represent ARS for which we received a call notice prior to September 30, 2009. Accordingly, these ARS were valued using Level 1 inputs and were classified as short-term investments in the condensed consolidated financial statements at September 30, 2009.
Financial Instruments
The carrying value of certain financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued expenses, accrued royalties, and secured credit line approximate fair value based on their short-term nature. Investments classified as available for sale and trading are stated at fair value.
The book value and fair value of our convertible senior notes at September 30, 2010 was $100.0 million and $87.1 million, respectively; the fair value was determined using quoted market prices in active markets.
We transact business in many different foreign currencies and are exposed to financial market risk resulting from fluctuations in foreign currency exchange rates, particularly the GBP and the Euro, which may result in a gain or loss of earnings to us. We utilize foreign exchange forward contracts to mitigate foreign currency risk associated with foreign currency-denominated assets and liabilities, primarily certain inter-company receivables and payables. Our foreign exchange forward contracts are not designated as hedging instruments and are accounted for as derivatives whereby the fair value of the contracts are reported as other current assets or other current liabilities in our condensed consolidated balance sheets, and the associated gains and losses from changes in fair value are reported in interest and other income (expense), net in the condensed consolidated statements of operations.
Cash Flow Hedging Activities. From time to time, we hedge a portion of our foreign currency risk related to forecasted foreign currency denominated sales and expense transactions by entering into foreign exchange forward contracts that generally have maturities of less than 90 days. Our hedging programs reduce, but do not entirely eliminate, the impact of currency exchange rate movements in net sales and operating expenses. During the six months ended September 30, 2010 and 2009, we did not enter into any foreign exchange forward contracts related to cash flow hedging activities.
Balance Sheet Hedging Activities. We utilize foreign exchange forward contracts to mitigate foreign currency risk associated with foreign currency-denominated assets and liabilities, primarily certain inter-company receivables and payables. Our foreign exchange forward contracts are not designated as hedging instruments and are accounted for as derivatives whereby the fair value of the contracts are reported as other current assets or other current liabilities in our consolidated balance sheets, and the associated gains and losses from changes in fair value are reported in interest and other income (expense), net in the consolidated statements of operations. The forward contracts generally have a contractual term of one month or less and are transacted near month-end. Therefore, the fair value of the forward contracts generally is not significant at each month-end.
At September 30, 2010 and March 31, 2010, we had foreign exchange forward contracts related to balance sheet hedging activities in the notional amount of $85.4 million and $90.1 million, respectively, with a fair value that approximates zero at both September 30, 2010 and March 31, 2010. We estimated the fair value of these contracts using Level 1 inputs, specifically, inputs obtained in quoted public markets. The net loss recognized from these contracts during the three months ended September 30, 2010 was $0.4 million and the net gain recognized from these contracts during the six months ended September 30, 2010 was $2.3 million and was included in interest and other income (expense), net in our condensed consolidated statements of operations.
5. Balance Sheet Details
Inventory. Inventory at September 30, 2010 and March 31, 2010 consisted of the following (in thousands):
Prepaid expenses and other current assets. Included in prepaid expenses and other current assets at September 30, 2010 were product prepayments of $25.3 million related to the upcoming holiday season; product prepayments at March 31, 2010 were $1.2 million.
Licenses and Software development. At September 30, 2010 we had total capitalized licenses and software development assets of $170.4 million and $224.1 million, respectively. We evaluate the future recoverability of our capitalized licenses and software development on a quarterly basis. As a result of those evaluations, we recorded a license impairment charge in the three months ended September 30, 2010 of $5.9 million on an unannounced title and we had software development impairment charges in the three and six months ended September 30, 2010 of $4.5 million and $7.0 million, respectively, on one of our titles. In the six months ended September 30, 2009, we had a license impairment charge of $5.4 million related to one of our licenses.
Property and equipment, net. Property and equipment, net at September 30, 2010 and March 31, 2010 consisted of the following (in thousands):
Useful lives
September 30, 2010
March 31, 2010
Building
30 yrs
$
730
$
730
Land
-
401
401
Computer equipment and software
3-10 yrs
58,044
53,454
Furniture, fixtures and equipment
5 yrs
8,448
7,444
Leasehold improvements
3-6 yrs
15,021
12,978
Automobiles
2-5 yrs
82
78
82,726
75,085
Less: accumulated depreciation
(51,688
)
(46,711
)
Property and equipment, net
$
31,038
$
28,374
Depreciation expense associated with property and equipment amounted to $2.9 million and $5.6 million for the three and six months ended September 30, 2010, respectively, and $3.4 million and $6.7 million for the three and six months ended September 30, 2009, respectively.
Accrued and other current liabilities. Accrued and other current liabilities at September 30, 2010 and March 31, 2010 consisted of the following (in thousands):
September 30, 2010
March 31, 2010
Accrued liabilities
$
17,246
$
16,613
Settlement payment due to Jakks
6,000
6,000
Accrued compensation
17,400
34,696
Deferred revenue, net
10,443
6,403
Accrued third-party software developer milestones
18,791
23,676
Accrued royalties
71,797
49,944
Accrued and other current liabilities
$
141,677
$
137,332
Other long-term liabilities. Other long-term liabilities at September 30, 2010 and March 31, 2010 consisted of the following (in thousands):
A portion of the settlement payment due to Jakks is reflected in current liabilities and a portion is reflected in long-term liabilities at the present value of the consideration payable under the agreement between THQ and Jakks. See "Note 17 — Settlement Agreements" in the notes to the condensed consolidated financial statements in our Annual Report on Form 10-K for the fiscal year ended March 31, 2010 for a discussion of the Jakks settlement payments.
6. Other Long-Term Assets
Other long-term assets include our investment in Yuke's, a Japanese video game developer. We own approximately 15% of Yuke's, which is publicly traded on the Nippon New Market in Japan. This investment is classified as available-for-sale and reported at fair value with unrealized holding gains and losses excluded from earnings and reported as a component of accumulated other comprehensive income until realized. The pre-tax unrealized holding gain related to our investment in Yuke's for the six months ended September 30, 2010 and 2009 was $0.4 million and $1.8 million, respectively. As of September 30, 2010, the inception-to-date unrealized holding gain on our investment in Yuke's was $2.8 million. Due to the long-term nature of this relationship, this investment is included in other long-term assets in the condensed consolidated balance sheets.
Other long-term assets as of September 30, 2010 and March 31, 2010 consisted of the following (in thousands):
September 30, 2010
March 31, 2010
Investment in Yuke's
$
5,955
$
5,564
Deferred financing costs
2,464
2,781
Other
3,852
2,255
Total other long-term assets
$
12,271
$
10,600
7. Restructuring
During the twelve months ended March 31, 2009 ("fiscal 2009"), we updated our strategic plan in an effort to increase our profitability and cash flow generation. We significantly realigned our business to focus on fewer, higher quality games, and established an operating structure that supports our more focused product strategy. The realignment included the cancellation of several titles in development, the closure or spin-off of several of our development studios, and the streamlining of our corporate organization in order to support the new product strategy, including reductions in worldwide personnel. Restructuring charges and adjustments are recorded as restructuring expenses in our consolidated statement of operations and have included the costs associated with lease abandonments less estimates of sublease income, write-off of related long-lived assets due to the studio closures, as well as costs of other non-cancellable contracts. As of September 30, 2010, restructuring charges under the fiscal 2009 realignment amounted to $18.0 million. In the three and six months ended September 30, 2010, restructuring charges and adjustments were minimal. We do not expect any future charges under the fiscal 2009 realignment, other than additional facility related charges and adjustments in the event actual and estimated sublease income changes.
The following tables summarize the significant components and activity under the restructuring plan for the three and six months ended September 30, 2010 and 2009, and the related restructuring reserve balances (in thousands).
As of September 30, 2010, $1.1 million of the restructuring accrual is included in accrued short-term liabilities and $0.4 million is included in other long-term liabilities. As of March 31, 2010, $1.6 million of the restructuring accrual was included in accrued short-term liabilities and $0.8 million was included in other long-term liabilities. The accrual balances at September 30, 2010 and March 31, 2010 related to future lease payments for facilities vacated under our 2009 restructuring plan, offset by estimates of future sublease income. We expect the final settlement of this accrual to occur by August 1, 2015, which is the last payment date under our lease agreements that were abandoned.
8. Secured Credit Line
In October 2008, in conjunction with the UBS Agreement (see "Note 3 — Investment Securities"), we entered into a Credit Agreement with UBS Bank USA, which allowed us to borrow up to 75% of the market value of the ARS (as determined by UBS) at any time, on a no net interest basis, to the extent that such ARS continued to be illiquid or until June 30, 2010. Borrowings under the credit line were due on demand and were secured by certain of our ARS held with UBS. In the three months ended June 30, 2010, we repaid the entire amount outstanding under the credit line, which was $13.2 million. At June 30, 2010 we had no borrowings outstanding under the Credit Agreement and the credit line was terminated, pursuant to its terms, on July 2, 2010.
9. Convertible Senior Notes
On August 4, 2009, we issued $100.0 million 5% convertible senior notes ("Notes"). After offering costs, the net proceeds to THQ were $96.8 million. The Notes are due August 15, 2014, unless earlier converted, redeemed or repurchased. The Notes pay interest semiannually, in arrears on February 15 and August 15 of each year, beginning February 15, 2010, through maturity and are convertible at each holder's option at any time prior to the close of business on the trading day immediately preceding the maturity date. The Notes are our unsecured and unsubordinated obligations.
The Notes are initially convertible into shares of our common stock at a conversion rate of 117.4743 shares of common stock per $1,000 principal amount of Notes, equivalent to an initial conversion price of approximately $8.51 per share. At this conversion rate and upon conversion of 100% of our Notes outstanding at September 30, 2010, our Notes would convert into 11.7 million shares of common stock. The conversion rate is subject to adjustment in certain events such as a stock split, the declaration of a dividend or the issuance of additional shares. Also, the conversion rate will be subject to an increase in certain events constituting a make-whole fundamental change; provided, however, that the maximum number of shares to be issued thereunder cannot exceed 14.7 million, subject to adjustment. The Notes will be redeemable, in whole or in part, at our option, at any time after August 20, 2012 for cash, at a redemption price of 100% of the principal amount of the Notes, plus accrued but unpaid interest, if the price of a share of our common stock has been at least 150% of the conversion price then in effect for specified periods. In the case of
certain events such as the acquisition or liquidation of THQ, or delisting of our common stock from a U.S. national securities exchange, holders may require us to repurchase all or a portion of the Notes for cash at a purchase price of 100% of the principal amount of the Notes, plus accrued and unpaid interest.
Costs incurred related to the Notes offering amounted to $3.2 million and are classified as other long-term assets, net in the condensed consolidated balance sheet at September 30, 2010; these costs are being amortized over the term of the Notes. Amortization expense associated with these costs was $0.1 million and $0.3 million in the three and six months ended September 30, 2010, respectively, and is classified as interest and other income (expense), net in the condensed consolidated statements of operations. Additionally, interest expense related to the Notes was $1.2 million and $2.5 million in the three and six months ended September 30, 2010, respectively, and is classified as interest and other income (expense), net in the condensed consolidated statement of operations. The effective interest rate, including amortization of debt issuance costs, for the three and six months ended September 30, 2010 was 5.6%.
10. Credit Facility
On June 30, 2009, we entered into a Loan and Security Agreement (the "Credit Facility") with Bank of America, N.A. ("B of A"), as agent, and the lenders party thereto from time to time. The Credit Facility provides for a $35.0 million revolving credit facility, which can be increased to $50.0 million, subject to lender consent, pursuant to a $15.0 million accordion feature, and includes a $15.0 million letter of credit subfacility.
The Credit Facility has a three-year term and bears interest at a floating rate equivalent to, at our option, either the base rate plus a spread of 1.0% to 2.5% or LIBOR plus 2.5% to 4.0%, depending on the fixed charge coverage ratio. Borrowings under the Credit Facility are conditioned on our maintaining a certain fixed charge coverage ratio and a certain liquidity level, as set forth in the Credit Facility. The amount we can borrow under the Credit Facility fluctuates based upon our levels of eligible North American accounts receivable. At September 30, 2010, we had no borrowings under the Credit Facility.
The Credit Facility is guaranteed by most of our domestic subsidiaries (each, an "Obligor") and secured by substantially all of our assets.
The Credit Facility contains customary affirmative and negative covenants, including, among other terms and conditions, limitations on our and each Obligor's ability to: create, incur, guarantee or be liable for indebtedness (other than certain types of permitted indebtedness); dispose of assets outside the ordinary course (subject to certain exceptions); acquire, merge or consolidate with or into another person or entity (other than certain types of permitted acquisitions); create, incur or allow any lien on any of their respective properties (except for certain permitted liens); make investments or capital expenditures (other than certain types of investments or capital expenditures); or pay dividends or make distributions (each subject to certain limitations). In addition, the Credit Agreement provides for certain events of default such as nonpayment of principal and interest when due thereunder, breaches of representations and warranties, noncompliance with covenants, acts of insolvency and default on certain material contracts (subject to certain limitations and cure periods). At September 30, 2010 we were in compliance with all covenants related to the Credit Facility.
11. Commitments and Contingencies
A summary of annual minimum contractual obligations and commercial commitments as of September 30, 2010 is as follows (in thousands):
Contractual Obligations and Commercial Commitments (6)
Licenses and Software Development. We enter into contractual arrangements with third parties for the rights to exploit intellectual property and for the development of products. Under these agreements, we commit to provide specified payments to an intellectual property holder or developer. Assuming all contractual provisions are met, the total future minimum contract commitments for such agreements in place as of September 30, 2010 are $223.4 million. License/software development commitments in the table above include $131.1 million of commitments to licensors/developers that are included in our condensed consolidated balance sheet as of September 30, 2010 because the licensors/developers do not have any significant performance obligations to us. These commitments may be included in both current and long-term licenses and accrued royalties/current and long-term software development and accrued liabilities.
(2)
Advertising. We have certain minimum advertising commitments under many of our major license agreements. These minimum commitments generally range from 3% to 12% of net sales related to the respective license.
(3)
Leases. We are committed under operating leases with lease termination dates through 2020. Most of our leases contain rent escalations. Of these obligations, $1.1 million and $0.4 million are accrued and classified as accrued and other current liabilities and other long-term liabilities, respectively, in the September 30, 2010 condensed consolidated balance sheet due to abandonment of certain lease obligations in connection with our fiscal 2009 realignment. We expect future sublease rental income under non-cancelable agreements of approximately $1.4 million; this income is not contemplated in the lease commitments shown in the table above.
(4)
Convertible Senior Notes. On August 4, 2009 we issued the Notes. The Notes pay interest semiannually, in arrears on February 15 and August 15 of each year, beginning February 15, 2010, through maturity and are convertible at ea
