Digimarc Corporation (NASDAQ:DMRC) Q4 2020 Earnings Conference Call February 24, 2021 5:00 PM ET Company Participants Bruce Davis - Chairman & Chief Executive Officer Charles Beck - Chief Financial Officer Bob Chamness - Executive Vice President, Sustainability Conference Call Participants Jim Ricchiuti - Needham & Company Rudy Kessinger - Craig-Hallum Capital Robin Knipp - Janney Montgomery Operator Good afternoon and thank you for participating in today’s conference call. Now I will turn the call over to ...

UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) ☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2020 OR ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to | --- | --- | --- | |---------------------------------------------------|------------------------------------------------------------------------------ ...

Digimarc Corporation (NASDAQ:DMRC) Q3 2020 Earnings Conference Call October 28, 2020 5:00 PM ET Company Participants Bruce Davis - Chairman and Chief Executive Officer Charles Beck - Chief Financial Officer Bob Chamness - Executive Vice President, Sustainability Conference Call Participants Jeff Van Rhee - Craig-Hallum Capital Jeff Bernstein - Cowen Steve Tomkins - Oppenheimer & Company Operator Good afternoon and thank you for participating in today’s conference call. Now I will turn the call over to Chair ...

PART I. FINANCIAL INFORMATION [Item 1. Financial Statements (Unaudited)](index=3&type=section&id=Item%201.%20Financial%20Statements) This section presents unaudited consolidated financial statements, including balance sheets, statements of operations, cash flows, and detailed accounting notes [Consolidated Balance Sheets](index=3&type=section&id=Consolidated%20Balance%20Sheets) This section provides a snapshot of the company's assets, liabilities, and shareholders' equity at specific points in time - Total assets **decreased** by **$7,798 thousand** (**13.6%**) from December 31, 2019, to June 30, 2020, primarily driven by a reduction in current assets, especially marketable securities[11](index=11&type=chunk) - Total liabilities **increased** by **$4,375 thousand** (**55.1%**) due to the introduction of a note payable (current and long-term) in 2020[11](index=11&type=chunk) - Total shareholders' equity **decreased** by **$12,173 thousand** (**24.6%**) mainly due to an increase in accumulated deficit[11](index=11&type=chunk) | ASSETS (In thousands) | June 30, 2020 | December 31, 2019 | | :-------------------- | :------------ | :---------------- | | Total current assets | $36,164 | $43,294 | | Total assets | $49,590 | $57,388 | | Total current liabilities | $7,006 | $5,444 | | Total liabilities | $12,313 | $7,938 | | Total shareholders' equity | $37,277 | $49,450 | [Consolidated Statements of Operations](index=4&type=section&id=Consolidated%20Statements%20of%20Operations) This section details the company's revenues, expenses, and net loss over specific reporting periods - Total revenue **increased** by **5%** for the three months ended June 30, 2020, and **7%** for the six months ended June 30, 2020, compared to the prior year periods[15](index=15&type=chunk) - Operating loss **decreased** for both the three-month and six-month periods, indicating **improved** operational efficiency or reduced expenses[15](index=15&type=chunk) - Net loss per common share **improved** from **$(0.68)** to **$(0.62)** for the three-month period and from **$(1.42)** to **$(1.36)** for the six-month period[15](index=15&type=chunk) | (In thousands, except per share data) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------------------------------ | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Total revenue | $6,497 | $6,180 | $12,686 | $11,840 | | Gross profit | $4,384 | $3,995 | $8,375 | $7,521 | | Operating loss | $(7,538) | $(8,152) | $(16,593) | $(16,824) | | Net loss | $(7,461) | $(7,933) | $(16,369) | $(16,396) | | Loss per common share — basic | $(0.62) | $(0.68) | $(1.36) | $(1.42) | [Consolidated Statements of Shareholders' Equity](index=5&type=section&id=Consolidated%20Statements%20of%20Shareholders'%20Equity) This section outlines changes in the company's equity accounts, including preferred stock, common stock, additional paid-in capital, and accumulated deficit - Total shareholders' equity **decreased** from **$49,450 thousand** at December 31, 2019, to **$37,277 thousand** at June 30, 2020, primarily due to the net loss of **$16,369 thousand**[19](index=19&type=chunk) - Additional paid-in capital **increased** by **$4,195 thousand**, driven by stock-based compensation of **$4,607 thousand** and issuance of common stock[19](index=19&type=chunk) | (In thousands) | Balance at Dec 31, 2019 | Issuance of common stock, net | Stock-based compensation | Net loss | Balance at June 30, 2020 | | :------------- | :---------------------- | :---------------------------- | :----------------------- | :------- | :----------------------- | | Preferred Stock | $50 | — | — | — | $50 | | Common Stock | $12 | $1 | — | — | $13 | | Additional Paid-in Capital | $188,103 | $573 | $4,607 | — | $192,298 | | Accumulated Deficit | $(138,715) | — | — | $(16,369) | $(155,084) | | Total Shareholders' Equity | $49,450 | $574 | $4,607 | $(16,369) | $37,277 | [Consolidated Statements of Cash Flows](index=6&type=section&id=Consolidated%20Statements%20of%20Cash%20Flows) This section reports on the cash generated and used by the company across operating, investing, and financing activities - Net cash used in operating activities **decreased** by **$797 thousand**, from **$(10,975) thousand** in 2019 to **$(10,178) thousand** in 2020[22](index=22&type=chunk) - Investing activities shifted from using **$1,177 thousand** cash in 2019 to providing **$6,278 thousand** in 2020, primarily due to higher net maturities of marketable securities[22](index=22&type=chunk) - Financing activities provided significantly **less cash** in 2020 (**$4,621 thousand**) compared to 2019 (**$18,040 thousand**), mainly due to reduced common stock issuance, partially offset by the PPP loan[22](index=22&type=chunk) | (In thousands) | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------- | :----------------------------- | :----------------------------- | | Net cash used in operating activities | $(10,178) | $(10,975) | | Net cash provided by (used in) investing activities | $6,278 | $(1,177) | | Net cash provided by financing activities | $4,621 | $18,040 | | Net increase in cash and cash equivalents | $721 | $5,888 | | Cash and cash equivalents at end of period | $11,934 | $33,166 | [Notes to Consolidated Financial Statements](index=7&type=section&id=Notes%20to%20Consolidated%20Financial%20Statements) This section provides detailed explanations and disclosures for the financial statements, covering accounting policies and specific financial items [Note 1. Description of Business and Significant Accounting Policies](index=7&type=section&id=Note%201.%20Description%20of%20Business%20and%20Significant%20Accounting%20Policies) This note describes Digimarc's business, platform capabilities, and significant accounting policies for financial statements - Digimarc Corporation invents and provides a platform for automatic identification, applying unique identifiers to various media (packaging, print, audio, video) detectable by industrial scanners and smartphones[25](index=25&type=chunk) - The Digimarc Platform features three core capabilities: Digimarc Barcode (identification), Digimarc Discover (discovery software), and Digimarc Verify (quality management tools)[25](index=25&type=chunk) - The Company concluded no goodwill impairment as of June 30, 2020, and 2019, as the estimated fair value of its reporting unit substantially exceeded the carrying value[28](index=28&type=chunk) - The Company is evaluating ASU No. 2016-13 (CECL model) effective after December 15, 2022, and does not expect ASU No. 2019-12 (Income Taxes) to have a material impact[30](index=30&type=chunk)[31](index=31&type=chunk) [Note 2. Fair Value of Financial Instruments](index=8&type=section&id=Note%202.%20Fair%20Value%20of%20Financial%20Instruments) This note details the fair value measurements for various financial instruments, including cash equivalents and marketable securities - The estimated fair values of cash equivalents, accounts receivable, accounts payable, and other accrued liabilities approximate their carrying values due to their short-term nature[32](index=32&type=chunk) - All cash equivalents and marketable securities as of June 30, 2020, have maturities of less than one year[32](index=32&type=chunk) | Financial Instrument (In thousands) | June 30, 2020 (Total) | December 31, 2019 (Total) | | :---------------------------------- | :-------------------- | :------------------------ | | Money market securities | $3,114 | $746 | | Commercial paper | $13,690 | $25,481 | | Pre-refunded municipals | $6,456 | — | | Federal agency notes | $3,299 | — | | Corporate notes | $3,012 | $5,773 | | U.S. treasuries | — | $4,040 | | Total | $29,571 | $36,040 | [Note 3. Revenue Recognition](index=9&type=section&id=Note%203.%20Revenue%20Recognition) This note explains the company's policies for recognizing revenue from software development services and subscriptions, and provides a breakdown by customer type - Revenue is primarily derived from software development services (recognized as performed) and software subscriptions (recognized over typically one to three-year terms)[34](index=34&type=chunk) - The Company recognized **$2,028 thousand** of revenue during the six months ended June 30, 2020, that was included in the December 31, 2019, contract liability balance[38](index=38&type=chunk) | Revenue by Customer (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :--------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Government Service | $3,713 | $3,530 | $7,365 | $7,164 | | Government Subscription | $361 | $343 | $752 | $771 | | Retail Service | $179 | $45 | $265 | $225 | | Retail Subscription | $1,394 | $1,380 | $2,569 | $1,944 | | Media Subscription | $850 | $882 | $1,735 | $1,736 | | Total Revenue | $6,497 | $6,180 | $12,686 | $11,840 | | Deferred Revenue (In thousands) | June 30, 2020 | December 31, 2019 | | :------------------------------ | :------------ | :---------------- | | Deferred revenue, current | $2,678 | $3,172 | | Deferred revenue, long-term | $53 | $59 | | Total | $2,731 | $3,231 | [Note 4. Segment Information](index=10&type=section&id=Note%204.%20Segment%20Information) This note clarifies that the company operates as a single reporting segment and provides revenue breakdowns by geography and major customers - The Company operates as a single reporting segment focused on automatic identification solutions, generating revenue primarily from software development services and subscriptions[40](index=40&type=chunk) - All of the Company's long-lived assets are domiciled in the U.S[42](index=42&type=chunk) | Revenue by Geography (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :---------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Domestic | $1,856 | $1,772 | $3,615 | $3,089 | | International | $4,641 | $4,408 | $9,071 | $8,751 | | Total | $6,497 | $6,180 | $12,686 | $11,840 | | Major Customers (% of Revenue) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :----------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Central Banks | 62% | 62% | 63% | 65% | | Walmart | 12% | <10% | 12% | <10% | [Note 5. Stock-Based Compensation](index=10&type=section&id=Note%205.%20Stock-Based%20Compensation) This note details the accounting for stock option grants and restricted stock awards, including expense recognition and unrecognized compensation costs - Stock-based compensation includes expense charges for stock option grants and restricted stock awards to employees and directors[43](index=43&type=chunk) - Total unrecognized compensation costs related to non-vested stock-based awards were **$15,836 thousand** as of June 30, 2020, expected to be recognized through June 30, 2024[49](index=49&type=chunk)[51](index=51&type=chunk) | Stock-based Compensation (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :-------------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Cost of revenue | $196 | $179 | $386 | $361 | | Sales and marketing | $604 | $489 | $1,083 | $1,008 | | Research, development and engineering | $402 | $357 | $801 | $711 | | General and administrative | $1,125 | $991 | $2,252 | $1,973 | | Total stock-based compensation expense | $2,327 | $2,016 | $4,522 | $4,053 | | Capitalized to software and patent costs | $50 | $49 | $85 | $90 | | Total stock-based compensation | $2,377 | $2,065 | $4,607 | $4,143 | | Restricted Stock Activity (Shares) | Unvested balance, Dec 31, 2019 | Granted | Vested | Forfeited | Unvested balance, June 30, 2020 | | :--------------------------------- | :----------------------------- | :------ | :----- | :-------- | :------------------------------ | | Number of Shares | 435 | 229 | (134) | (4) | 526 | | Weighted Average Grant Date Fair Value | $27.05 | $30.74 | $28.23 | $29.05 | $28.34 | [Note 6. Shareholders' Equity](index=13&type=section&id=Note%206.%20Shareholders'%20Equity) This note provides information on changes in shareholders' equity, including common stock issuances under the Equity Distribution Agreement - Under an Equity Distribution Agreement, the Company sold **28 thousand shares** for net cash proceeds of **$574 thousand** during the six months ended June 30, 2020[57](index=57&type=chunk) [Note 7. Earnings Per Common Share](index=13&type=section&id=Note%207.%20Earnings%20Per%20Common%20Share) This note explains the calculation of basic and diluted earnings per common share, considering participating securities - Basic and diluted earnings per common share are calculated using the two-class method due to unvested restricted stock being a participating security[58](index=58&type=chunk) - Anti-dilutive shares due to exercise prices higher than market price were **550 thousand** for both three and six months ended June 30, 2020[60](index=60&type=chunk) | Earnings (Loss) per Common Share | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Loss to common shares — basic | $(7,461) | $(7,933) | $(16,369) | $(16,396) | | Weighted average common shares outstanding — basic | 12,108 | 11,665 | 12,073 | 11,576 | | Basic earnings (loss) per common share | $(0.62) | $(0.68) | $(1.36) | $(1.42) | | Diluted earnings (loss) per common share | $(0.62) | $(0.68) | $(1.36) | $(1.42) | [Note 8. Trade Accounts Receivable](index=14&type=section&id=Note%208.%20Trade%20Accounts%20Receivable) This note details the composition of trade accounts receivable, including the allowance for doubtful accounts and major customer concentrations - The allowance for doubtful accounts is the Company's best estimate of probable credit losses, determined by historical write-off experience and current information[63](index=63&type=chunk) - Central Banks accounted for **64%** of net trade accounts receivable at June 30, 2020, and **69%** at December 31, 2019[64](index=64&type=chunk) | Trade Accounts Receivable (In thousands) | June 30, 2020 | December 31, 2019 | | :--------------------------------------- | :------------ | :---------------- | | Trade accounts receivable | $3,601 | $4,036 | | Allowance for doubtful accounts | $(25) | $(15) | | Trade accounts receivable, net | $3,576 | $4,021 | | Unpaid deferred revenue included | $856 | $2,015 | [Note 9. Property and Equipment](index=14&type=section&id=Note%209.%20Property%20and%20Equipment) This note outlines the company's property and equipment, including depreciation policies and net carrying values - Property and equipment are stated at cost, with depreciation calculated using the straight-line method over estimated useful lives of two to ten years[65](index=65&type=chunk)[67](index=67&type=chunk) | Property and Equipment (In thousands) | June 30, 2020 | December 31, 2019 | | :------------------------------------ | :------------ | :---------------- | | Gross property and equipment | $13,161 | $12,791 | | Less accumulated depreciation and amortization | $(9,802) | $(9,141) | | Property and equipment, net | $3,359 | $3,650 | [Note 10. Intangibles](index=15&type=section&id=Note%2010.%20Intangibles) This note describes the company's intangible assets, amortization policies, and impairment review procedures - Intangible assets are reviewed for impairment whenever circumstances indicate carrying amount may not be recoverable; no impairment charges were recorded for the six months ended June 30, 2020 and 2019[69](index=69&type=chunk) - Capitalized patent costs are amortized on a straight-line basis over 17-20 years, and acquired intangible assets are amortized over their estimated useful lives[70](index=70&type=chunk) | Intangibles (In thousands) | June 30, 2020 | December 31, 2019 | | :------------------------- | :------------ | :---------------- | | Gross intangible assets | $12,731 | $12,515 | | Accumulated amortization | $(6,120) | $(5,845) | | Intangibles, net | $6,611 | $6,670 | [Note 11. Leases](index=15&type=section&id=Note%2011.%20Leases) This note details the company's lease accounting under ASC 842, including right-of-use assets, lease liabilities, and operating lease expenses - The Company adopted ASC 842, 'Leases,' as of January 1, 2019, using the retrospective approach and elected practical expedients for short-term leases and combining lease/non-lease components[72](index=72&type=chunk) - The Company leases its corporate office in Beaverton, Oregon, with the lease term extended through March 2024[73](index=73&type=chunk) | Lease Information (In thousands) | June 30, 2020 | December 31, 2019 | | :------------------------------- | :------------ | :---------------- | | Right of use assets | $2,030 | $2,263 | | Lease liabilities, current | $636 | $663 | | Lease liabilities, long-term | $2,114 | $2,435 | | Weighted-average remaining life | 3.7 years | 4.1 years | | Weighted-average discount rate | 8.20% | 8.20% | | Operating Lease Expense (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Operating lease expense | $253 | $260 | $516 | $521 | | Cash paid for operating leases | $296 | $320 | $623 | $692 | [Note 12. Note Payable](index=16&type=section&id=Note%2012.%20Note%20Payable) This note provides information on the Paycheck Protection Program (PPP) loan, its terms, and its classification on the balance sheet - On April 16, 2020, the Company entered into a Promissory Note for **$5,032 thousand** under the Paycheck Protection Program (PPP) of the CARES Act[77](index=77&type=chunk) - The Note matures in two years, bears **1.000%** interest (deferred for six months), and may be forgiven if proceeds are used for Qualifying Expenses (payroll, rent, utilities, mortgage interest)[78](index=78&type=chunk)[79](index=79&type=chunk) | Note Payable (In thousands) | June 30, 2020 | | :-------------------------- | :------------ | | Note payable | $5,032 | | Accrued interest | $8 | | Total | $5,040 | | Note payable, current | $2,245 | | Note payable, long-term | $2,795 | [Note 13. Income Taxes](index=17&type=section&id=Note%2013.%20Income%20Taxes) This note explains the company's income tax position, including the effective tax rate and the valuation allowance against deferred tax assets - The effective tax rate for the six months ended June 30, 2020 and 2019, was **0%** due to a full valuation allowance against deferred tax assets[83](index=83&type=chunk)[144](index=144&type=chunk) - The valuation allowance against net deferred tax assets **increased** by **$4,033 thousand** to **$51,842 thousand** as of June 30, 2020[83](index=83&type=chunk)[144](index=144&type=chunk) [Note 14. Commitments and Contingencies](index=17&type=section&id=Note%2014.%20Commitments%20and%20Contingencies) This note discloses the company's commitments and contingencies, including indemnification provisions and legal proceedings - The Company's contracts include indemnification provisions for intellectual property claims, but no claims have been made to date[85](index=85&type=chunk) - The Company does not believe that the resolution of any current legal proceedings or claims will have a material adverse effect on its financial position, results of operations, or cash flows[86](index=86&type=chunk) [Note 15. Subsequent Event](index=17&type=section&id=Note%2015.%20Subsequent%20Event) This note describes a significant event occurring after the reporting period, specifically a restructuring plan and its expected financial impact - In July 2020, the Company announced a restructuring plan to reduce employees by approximately **7%**, expecting **$0.9 million** in severance costs (cash and stock-based) in Q3 2020[87](index=87&type=chunk) - The restructuring is expected to **decrease** annual operating costs by **$2.3 million**, comprising **$2.1 million** cash-based and **$0.2 million** stock-based compensation[87](index=87&type=chunk) [Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations](index=18&type=section&id=Item%202.%20Management's%20Discussion%20and%20Analysis%20of%20Financial%20Condition%20and%20Results%20of%20Operations) This section analyzes Digimarc's business, operational results, liquidity, capital resources, and the impact of COVID-19 [Overview](index=18&type=section&id=Overview) This section introduces Digimarc's automatic identification platform, its core capabilities, key benefits, intellectual property, and the impact of the COVID-19 pandemic - Digimarc's platform enables automatic identification for various media, offering solutions for retail, supply chain, consumer engagement, media management, and security[92](index=92&type=chunk) - The platform's core capabilities include Digimarc Barcode (imperceptible data carrier), Digimarc Discover (recognition software), and Digimarc Verify (quality management tools)[92](index=92&type=chunk) - Key benefits of the Digimarc Platform include enhanced security, brand protection, traceability, sustainability, consumer engagement, and supply chain efficiency[92](index=92&type=chunk)[94](index=94&type=chunk) - The Company holds over **1,000** U.S. and foreign patents in digital watermarking and related fields, shifting its focus from direct patent monetization to large-scale technology adoption and product/service growth[102](index=102&type=chunk)[105](index=105&type=chunk) - The COVID-19 pandemic has caused delays in retail customer projects and prompted the Company to secure a **$5.0 million** loan under the Paycheck Protection Program to ensure liquidity[106](index=106&type=chunk) [Results of Operations](index=21&type=section&id=Results%20of%20Operations) This section analyzes the company's financial performance, including revenue, cost of revenue, gross profit, and operating expenses over the reporting periods [Summary](index=21&type=section&id=Summary) This section provides a high-level summary of the company's total revenue and operating expenses for the reporting periods - Total revenue **increased** by **5%** to **$6.5 million** for the three months ended June 30, 2020, and by **7%** to **$12.7 million** for the six months ended June 30, 2020[110](index=110&type=chunk) - Total operating expenses **decreased** by **2%** to **$11.9 million** for the three months ended June 30, 2020, but **increased** by **3%** to **$25.0 million** for the six months ended June 30, 2020[110](index=110&type=chunk) [Revenue](index=22&type=section&id=Revenue) This section details the company's revenue streams, breaking down performance by service and subscription types, and by geographic region - Service revenue **increased** by **9%** for the three-month period and **3%** for the six-month period, driven by growth from Government and Retail customers[112](index=112&type=chunk)[113](index=113&type=chunk) - Subscription revenue showed **no change** for the three-month period but **increased** by **14%** for the six-month period, primarily due to growth in software subscriptions to Retail customers[112](index=112&type=chunk)[114](index=114&type=chunk)[115](index=115&type=chunk) - Domestic revenue **increased** by **5%** (three months) and **17%** (six months) due to growth in service and subscription revenue from domestic Retail customers[118](index=118&type=chunk)[120](index=120&type=chunk) - International revenue **increased** by **5%** (three months) and **4%** (six months) due to growth in service revenue from international Government customers[120](index=120&type=chunk) | Revenue (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :--------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Service | $3,892 (60%) | $3,575 (58%) | $7,630 (60%) | $7,389 (62%) | | Subscription | $2,605 (40%) | $2,605 (42%) | $5,056 (40%) | $4,451 (38%) | | Total | $6,497 (100%) | $6,180 (100%) | $12,686 (100%) | $11,840 (100%) | | Revenue by Geography (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :---------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Domestic | $1,856 (29%) | $1,772 (29%) | $3,615 (28%) | $3,089 (26%) | | International | $4,641 (71%) | $4,408 (71%) | $9,071 (72%) | $8,751 (74%) | | Total | $6,497 (100%) | $6,180 (100%) | $12,686 (100%) | $11,840 (100%) | [Cost of Revenue](index=23&type=section&id=Cost%20of%20Revenue) This section outlines the primary components contributing to the cost of service and subscription revenues - Cost of service revenue primarily includes compensation, benefits, stock-based compensation, outside contractors, equipment charges, depreciation, and travel costs related to software development services[121](index=121&type=chunk) - Cost of subscription revenue primarily includes outside contractors for operational support, Internet service provider charges, image search data fees, and amortization of capitalized patent costs[122](index=122&type=chunk) [Gross Profit](index=23&type=section&id=Gross%20Profit) This section analyzes the company's gross profit and gross margin percentages for both service and subscription revenues - Total gross profit **increased** by **10%** for the three-month period and **11%** for the six-month period, driven by higher service and subscription revenue[123](index=123&type=chunk)[124](index=124&type=chunk) - Service gross profit as a percentage of service revenue **increased** due to a favorable mix of billable expenses (higher labor, lower non-labor)[125](index=125&type=chunk) - Subscription gross profit as a percentage of subscription revenue **remained stable** for the three-month period but **increased** for the six-month period due to higher subscription revenue[126](index=126&type=chunk)[128](index=128&type=chunk) | Gross Profit (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :-------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Service | $2,291 (59%) | $1,899 (53%) | $4,345 (57%) | $4,068 (55%) | | Subscription | $2,093 (80%) | $2,096 (80%) | $4,030 (80%) | $3,453 (78%) | | Total | $4,384 (67%) | $3,995 (65%) | $8,375 (66%) | $7,521 (64%) | [Operating Expenses](index=24&type=section&id=Operating%20Expenses) This section provides a detailed breakdown and analysis of the company's various operating expenses [Sales and marketing](index=24&type=section&id=Sales%20and%20marketing) This section analyzes changes in sales and marketing expenses, highlighting key drivers such as travel, consulting, and headcount - Sales and marketing expenses **decreased** by **9%** for the three-month period and **2%** for the six-month period, primarily due to reduced travel, consulting, and marketing costs, partially offset by increased headcount and compensation[130](index=130&type=chunk)[131](index=131&type=chunk) | Sales and marketing (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :--------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Sales and marketing expenses | $4,633 (71%) | $5,087 (82%) | $9,879 (78%) | $10,037 (85%) | [Research, development and engineering](index=24&type=section&id=Research,%20development%20and%20engineering) This section details changes in research, development, and engineering expenses, primarily driven by headcount and compensation adjustments - Research, development and engineering expenses **increased** by **6%** for the three-month period and **8%** for the six-month period, primarily due to increased headcount and routine annual compensation adjustments[132](index=132&type=chunk)[135](index=135&type=chunk) | Research, development and engineering (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :--------------------------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | R&D expenses | $4,208 (65%) | $3,981 (64%) | $8,641 (68%) | $8,019 (68%) | [General and administrative](index=25&type=section&id=General%20and%20administrative) This section examines general and administrative expenses, noting impacts from compensation, travel, consulting, and infrastructure costs - General and administrative expenses **remained flat** for the three-month period and **increased** by **3%** for the six-month period, driven by compensation adjustments, partially offset by **decreased** travel, consulting, employee training, and infrastructure costs[136](index=136&type=chunk)[138](index=138&type=chunk)[139](index=139&type=chunk) | General and administrative (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :---------------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | G&A expenses | $3,081 | $3,079 | $6,448 | $6,289 | [Stock-based compensation](index=26&type=section&id=Stock-based%20compensation) This section analyzes the trends in stock-based compensation expense and outlines future unrecognized compensation costs - Stock-based compensation expense **increased** by **15%** for the three-month period and **12%** for the six-month period, primarily due to more stock awards granted[141](index=141&type=chunk) - The Company anticipates incurring an additional **$15,836 thousand** in stock-based compensation expense through June 30, 2024[142](index=142&type=chunk) | Stock-based Compensation Expense (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :---------------------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Total | $2,327 | $2,016 | $4,522 | $4,053 | [Other income, net](index=26&type=section&id=Other%20income,%20net) This section discusses changes in other income, net, primarily influenced by interest income and interest expense from the PPP note - Other income, net **decreased** by **66%** for the three-month period and **53%** for the six-month period, primarily due to lower interest income from reduced interest rates and investment balances, as well as interest expense from the PPP note[143](index=143&type=chunk) | Other income, net (In thousands) | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------------------------- | :------------------------------- | :------------------------------- | :----------------------------- | :----------------------------- | | Other income, net | $79 (1%) | $231 (4%) | $221 (2%) | $468 (4%) | [Income Taxes](index=26&type=section&id=Income%20Taxes) This section explains the company's income tax position, including the effective tax rate and the valuation allowance against deferred tax assets - The effective tax rate for both six-month periods ended June 30, 2020 and 2019, was **0%** due to a full valuation allowance against deferred tax assets[144](index=144&type=chunk) - The valuation allowance **increased** by **$4,033 thousand** to **$51,842 thousand** as of June 30, 2020, reflecting the cumulative loss incurred by the Company[144](index=144&type=chunk) [Liquidity and Capital Resources](index=27&type=section&id=Liquidity%20and%20Capital%20Resources) This section assesses the company's ability to meet its short-term and long-term financial obligations, including working capital, cash position, and financing activities [Working Capital and Cash Position](index=27&type=section&id=Working%20Capital%20and%20Cash%20Position) This section provides an overview of the company's working capital, current ratio, and total cash, cash equivalents, and marketable securities - Cash, cash equivalents, and marketable securities **decreased** by **$6,324 thousand** from December 31, 2019, to June 30, 2020, primarily due to cash used in operations, common stock purchases for tax withholding, and capital expenditures, partially offset by PPP loan proceeds and common stock issuance[147](index=147&type=chunk) - The Company's investment policy limits credit exposure by diversifying investments across major banks and financial institutions, with specific limits on single issuers and industry categories[148](index=148&type=chunk)[149](index=149&type=chunk) | Liquidity Metrics (In thousands) | June 30, 2020 | December 31, 2019 | | :------------------------------- | :------------ | :---------------- | | Working capital | $29,158 | $37,850 | | Current ratio | 5.2:1 | 8.0:1 | | Total cash, cash equivalents and marketable securities | $30,493 | $36,817 | [Operating Cash Flow](index=27&type=section&id=Operating%20Cash%20Flow) This section analyzes the company's cash flows from operating, investing, and financing activities, highlighting key changes and drivers - Cash flows used in operating activities **decreased** by **$797 thousand**, primarily due to higher non-cash items (stock-based compensation) and favorable changes in operating assets and liabilities[152](index=152&type=chunk) - Investing activities provided **$6,278 thousand** in 2020, a significant **increase** from **$1,177 thousand** used in 2019, mainly due to higher net maturities of marketable securities[153](index=153&type=chunk) - Financing activities provided **$4,621 thousand** in 2020, a **decrease** of **$13,419 thousand** from 2019, primarily due to reduced common stock issuance, partially offset by the PPP loan proceeds[154](index=154&type=chunk) | Cash Flows (In thousands) | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 | | :------------------------ | :----------------------------- | :----------------------------- | | Net loss | $(16,369) | $(16,396) | | Non-cash items | $5,698 | $5,172 | | Changes in operating assets and liabilities | $493 | $249 | | Net cash used in operating activities | $(10,178) | $(10,975) | [Future Cash Expectations](index=28&type=section&id=Future%20Cash%20Expectations) This section outlines the company's projections for future cash needs, available financing, and the impact of recent events like the COVID-19 pandemic and restructuring - The Company believes current cash, cash equivalents, and short-term marketable securities will satisfy projected working capital and capital expenditure requirements for at least the next 12 months[155](index=155&type=chunk) - As of June 30, 2020, the Company had sold **364 thousand shares** for net cash proceeds of **$20.2 million** under its Equity Distribution Agreement, with **$8.2 million** remaining available[155](index=155&type=chunk) - A new shelf registration statement on Form S-3 was filed in June 2020, allowing the Company to sell up to **$100 million** in securities, including **$49.2 million** from a prior expired statement[155](index=155&type=chunk) - The COVID-19 pandemic has created stock market volatility, potentially inhibiting near-term financing through the Equity Distribution Agreement[155](index=155&type=chunk) - A July 2020 restructuring plan will reduce employees by approximately **7%**, incurring **$0.9 million** in severance costs and **decreasing** annual operating costs by **$2.3 million**[155](index=155&type=chunk) [Off-Balance Sheet Arrangements](index=29&type=section&id=Off-Balance%20Sheet%20Arrangements) This section discloses any material off-balance sheet arrangements, including operating lease commitments - The Company does not have any material off-balance sheet arrangements[158](index=158&type=chunk) - The Company is party to an operating lease for its corporate office in Beaverton, Oregon, with remaining rent payments totaling **$3.1 million** through March 2024[158](index=158&type=chunk) [Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995](index=29&type=section&id=Safe%20Harbor%20Statement%20under%20the%20Private%20Securities%20Litigation%20Reform%20Act%20of%201995) This section provides a cautionary statement regarding forward-looking statements, outlining risks and uncertainties that could affect actual results - This section contains forward-looking statements subject to risks and uncertainties, which could cause actual results to differ materially from expectations[159](index=159&type=chunk) - Key forward-looking statements relate to the effects of COVID-19, financing ability, PPP Note forgiveness, revenue trends, technology adoption, investment levels, expenses, stock awards, intellectual property, and market growth[159](index=159&type=chunk)[160](index=160&type=chunk) - The Company does not undertake to publicly update or revise any forward-looking statements after the filing date of this report[161](index=161&type=chunk) [Item 4. Controls and Procedures](index=30&type=section&id=Item%204.%20Controls%20and%20Procedures) This section details the evaluation of the Company's disclosure controls and procedures and reports on any changes in internal control over financial reporting [Evaluation of Disclosure Controls and Procedures](index=30&type=section&id=Evaluation%20of%20Disclosure%20Controls%20and%20Procedures) This section confirms management's conclusion on the effectiveness of the company's disclosure controls and procedures - Management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures were effective as of June 30, 2020[162](index=162&type=chunk)[163](index=163&type=chunk) [Changes in Controls](index=30&type=section&id=Changes%20in%20Controls) This section reports on any material changes in internal control over financial reporting during the reporting period - There were no changes in internal control over financial reporting during the three months ended June 30, 2020, that materially affected, or are reasonably likely to materially affect, internal control over financial reporting[164](index=164&type=chunk) PART II. OTHER INFORMATION [Item 1. Legal Proceedings](index=31&type=section&id=Item%201.%20Legal%20Proceedings) This section addresses the Company's involvement in legal proceedings and claims - The Company is subject to legal proceedings and claims in the ordinary course of business, but does not believe their resolution will have a material adverse effect on its financial position, results of operations, or cash flows[167](index=167&type=chunk) [Item 1A. Risk Factors](index=31&type=section&id=Item%201A.%20Risk%20Factors) This section updates the risk factors, specifically highlighting new risks related to the Paycheck Protection Program loan and the ongoing COVID-19 pandemic - The Company faces risks related to potential audits or reviews of its **$5.0 million** PPP loan, which could lead to repayment, fines, penalties, and diversion of management's attention[169](index=169&type=chunk) - The COVID-19 pandemic presents significant, evolving risks including impacts on employee health, administrative/R&D operations, supplier/customer relationships, demand for services/subscriptions, collectability of receivables, and delays in retail customer projects[170](index=170&type=chunk) [Item 2. Unregistered Sales of Equity Securities and Use of Proceeds](index=32&type=section&id=Item%202.%20Unregistered%20Sales%20of%20Equity%20Securities%20and%20Use%20of%20Proceeds) This section reports on the Company's repurchases of equity securities, specifically common stock withheld for tax liabilities - The Company repurchases shares of common stock to satisfy required withholding tax liability upon the vesting of restricted shares[172](index=172&type=chunk) | Period | (a) Total number of shares purchased | (b) Average price paid per share | | :----- | :----------------------------------- | :------------------------------- | | April 2020 | 391 | $15.76 | | May 2020 | 21,397 | $15.61 | | June 2020 | 2,373 | $17.95 | | Total | 24,161 | $15.84 | [Item 5. Other Information](index=33&type=section&id=Item%205.%20Other%20Information) This section discloses a subsequent event regarding a restructuring plan adopted in July 2020 - On July 27, 2020, the Company adopted a restructuring plan to reduce employees by approximately **7%**, expecting **$0.9 million** in severance costs (cash and stock-based) in Q3 2020[174](index=174&type=chunk) - Annual operating costs are expected to **decrease** by **$2.3 million** as a result of these reductions, consisting of **$2.1 million** cash-based and **$0.2 million** stock-based compensation[174](index=174&type=chunk) [Item 6. Exhibits](index=34&type=section&id=Item%206.%20Exhibits) This section lists all exhibits filed as part of the Form 10-Q - Key exhibits include the Promissory Note with Stearns Bank, N.A., CEO and CFO certifications (Rule 13a-14(a)/15d-14(a) and Section 1350), and Inline XBRL Taxonomy Extension Documents[177](index=177&type=chunk) [SIGNATURES](index=35&type=section&id=SIGNATURES) This section contains the official signatures for the quarterly report - The report was signed on July 30, 2020, by Charles Beck, Chief Financial Officer, as the duly authorized officer and principal financial and accounting officer[180](index=180&type=chunk)

Digimarc Corporation (NASDAQ:DMRC) Q2 2020 Earnings Conference Call July 29, 2020 5:00 PM ET Company Representatives Bruce Davis - Chairman, Chief Executive Officer Charles Beck - Chief Financial Officer Conference Call Participants Jeff Bernstein - Cowen Rudy Kessinger - Craig-Hallum Stephen Tomkins - Oppenheimer Operator Good afternoon and thank you for participating in today’s conference call. Now I will turn the call over to Chairman and CEO of Digimarc, Mr. Bruce Davis. Please proceed sir. Bruce Davis ...

PART I. FINANCIAL INFORMATION [Item 1. Financial Statements (Unaudited)](index=3&type=section&id=Item%201.%20Financial%20Statements%20(Unaudited)) Digimarc Corporation's unaudited consolidated financial statements for Q1 2020, detailing balance sheets, operations, equity, cash flows, and notes [Consolidated Balance Sheets](index=3&type=section&id=Consolidated%20Balance%20Sheets) Consolidated Balance Sheet Highlights (March 31, 2020 vs. December 31, 2019) | Metric | March 31, 2020 (in thousands) | December 31, 2019 (in thousands) | | :-------------------------- | :---------------------------- | :------------------------------- | | Total assets | $50,453 | $57,388 | | Total current assets | $36,647 | $43,294 | | Cash and cash equivalents | $10,250 | $11,213 | | Marketable securities | $20,320 | $25,604 | | Total liabilities | $7,710 | $7,938 | | Total shareholders' equity | $42,743 | $49,450 | - Total assets decreased by **$6,935 thousand** from December 31, 2019, to March 31, 2020, primarily driven by reductions in marketable securities and cash and cash equivalents[12](index=12&type=chunk) [Consolidated Statements of Operations](index=4&type=section&id=Consolidated%20Statements%20of%20Operations) Consolidated Statements of Operations Highlights (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | | :-------------------------- | :------------- | :------------- | | Total revenue | $6,189 | $5,660 | | Service revenue | $3,738 | $3,814 | | Subscription revenue | $2,451 | $1,846 | | Gross profit | $3,991 | $3,526 | | Operating loss | $(9,055) | $(8,672) | | Net loss | $(8,908) | $(8,463) | | Loss per common share – basic | $(0.74) | $(0.74) | - Total revenue increased by **9% year-over-year**, primarily driven by a **33% increase in subscription revenue**, while service revenue saw a slight decrease[15](index=15&type=chunk) - Net loss increased to **$(8,908) thousand** in Q1 2020 from **$(8,463) thousand** in Q1 2019, with basic loss per common share remaining flat at **$(0.74)**[15](index=15&type=chunk) [Consolidated Statements of Shareholders' Equity](index=5&type=section&id=Consolidated%20Statements%20of%20Shareholders'%20Equity) Shareholders' Equity Changes (Three Months Ended March 31, 2020) | Item | Amount (in thousands) | | :--------------------------------- | :-------------------- | | Balance at December 31, 2019 | $49,450 | | Issuance of common stock, net | $574 | | Exercise of stock options | $135 | | Stock-based compensation | $2,230 | | Net loss | $(8,908) | | Balance at March 31, 2020 | $42,743 | - Total shareholders' equity decreased from **$49,450 thousand** at December 31, 2019, to **$42,743 thousand** at March 31, 2020, primarily due to the net loss incurred during the period[18](index=18&type=chunk) [Consolidated Statements of Cash Flows](index=6&type=section&id=Consolidated%20Statements%20of%20Cash%20Flows) Consolidated Statements of Cash Flows Highlights (Three Months Ended March 31, 2020 vs. 2019) | Cash Flow Activity (in thousands) | March 31, 2020 | March 31, 2019 | | :-------------------------------- | :------------- | :------------- | | Net cash used in operating activities | $(5,846) | $(5,454) | | Net cash provided by investing activities | $4,912 | $2,838 | | Net cash used in financing activities | $(29) | $(387) | | Net decrease in cash and cash equivalents | $(963) | $(3,003) | | Cash and cash equivalents at end of period | $10,250 | $24,275 | - Net cash used in operating activities increased to **$(5,846) thousand** in Q1 2020, while net cash provided by investing activities significantly increased to **$4,912 thousand**, mainly due to higher net maturities of marketable securities[21](index=21&type=chunk) [Notes to Consolidated Financial Statements](index=7&type=section&id=Notes%20to%20Consolidated%20Financial%20Statements) [1. Description of Business and Significant Accounting Policies](index=7&type=section&id=1.%20Description%20of%20Business%20and%20Significant%20Accounting%20Policies) Describes Digimarc's business, platform, and significant accounting policies, including lease accounting and new pronouncements - Digimarc Corporation enables automatic and reliable identification and interaction with various media through its Digimarc Platform, which includes Digimarc Barcode for imperceptible data carriers, Digimarc Discover for decoding, and Digimarc Verify for quality control[24](index=24&type=chunk) - The company adopted ASC 842, 'Leases,' on January 1, 2019, electing not to restate comparative periods and recording right-of-use assets of **$2,709 thousand** and lease liabilities of **$3,792 thousand** upon adoption[27](index=27&type=chunk)[29](index=29&type=chunk) - New accounting pronouncements issued but not yet adopted include ASU No. 2016-13 (CECL model) effective after December 15, 2022, and ASU No. 2019-12 (Income Taxes) effective after December 15, 2020, with the latter not expected to have a material impact[30](index=30&type=chunk)[31](index=31&type=chunk) [2. Fair Value of Financial Instruments](index=8&type=section&id=2.%20Fair%20Value%20of%20Financial%20Instruments) Presents the fair value hierarchy for financial instruments, including money market securities, commercial paper, and corporate notes Fair Value of Financial Instruments (March 31, 2020) | Instrument | Level 1 (in thousands) | Level 2 (in thousands) | Total (in thousands) | | :------------------ | :--------------------- | :--------------------- | :------------------- | | Money market securities | $5,016 | — | $5,016 | | Commercial paper | — | $20,066 | $20,066 | | Corporate notes | — | $5,043 | $5,043 | | Total | $5,016 | $25,109 | $30,125 | - The fair values of cash equivalents, accounts receivable, accounts payable, and other accrued liabilities approximate their carrying values due to their short-term nature[32](index=32&type=chunk) [3. Revenue Recognition](index=9&type=section&id=3.%20Revenue%20Recognition) Details revenue recognition policies for software development services and subscriptions, including deferred revenue balances and customer type breakdown - Revenue is primarily derived from software development services (recognized as performed) and software subscriptions (recognized over the typical one-to-three-year term)[34](index=34&type=chunk) Revenue by Customer Type (Three Months Ended March 31, 2020 vs. 2019) | Customer Type | March 31, 2020 (in thousands) | March 31, 2019 (in thousands) | | :------------ | :---------------------------- | :---------------------------- | | Government | $4,043 | $4,062 | | Retail | $1,261 | $744 | | Media | $885 | $854 | | Total | $6,189 | $5,660 | - Deferred revenue, representing billings in advance for services and subscriptions, totaled **$3,085 thousand** as of March 31, 2020, with **$1,374 thousand** recognized during the quarter from the prior period's contract liability balance[38](index=38&type=chunk) [4. Segment Information](index=10&type=section&id=4.%20Segment%20Information) Reports on the Company's single operating segment, automatic identification solutions, with revenue breakdown by geography and major customers - The Company operates in a single reporting segment: automatic identification solutions, generating revenue through software development services and subscriptions[40](index=40&type=chunk) Revenue by Geographic Area (Three Months Ended March 31, 2020 vs. 2019) | Geographic Area | March 31, 2020 (in thousands) | March 31, 2019 (in thousands) | | :---------------- | :---------------------------- | :---------------------------- | | Domestic | $1,759 | $1,317 | | International | $4,430 | $4,343 | | Total | $6,189 | $5,660 | Major Customers (Percentage of Revenue) | Customer | March 31, 2020 | March 31, 2019 | | :-------------- | :------------- | :------------- | | Central Banks | 64% | 68% | | Walmart | 12% | <10% | [5. Stock-Based Compensation](index=10&type=section&id=5.%20Stock-Based%20Compensation) Details stock-based compensation expense by functional area and reports on unrecognized compensation costs for non-vested awards - Stock-based compensation expense for the three months ended March 31, 2020, was **$2,195 thousand**, an **8% increase** from $2,037 thousand in the prior year, primarily due to more stock awards granted[48](index=48&type=chunk)[119](index=119&type=chunk) Stock-Based Compensation Expense by Function (Three Months Ended March 31, 2020 vs. 2019) | Functional Area | March 31, 2020 (in thousands) | March 31, 2019 (in thousands) | | :------------------------------ | :---------------------------- | :---------------------------- | | Cost of revenue | $190 | $182 | | Sales and marketing | $479 | $519 | | Research, development and engineering | $399 | $354 | | General and administrative | $1,127 | $982 | | Total stock-based compensation expense | $2,195 | $2,037 | - Total unrecognized compensation costs related to non-vested stock-based awards were **$17,641 thousand** as of March 31, 2020, expected to be recognized through March 31, 2024[48](index=48&type=chunk)[50](index=50&type=chunk) [6. Shareholders' Equity](index=13&type=section&id=6.%20Shareholders'%20Equity) Reports on the issuance of common stock under an Equity Distribution Agreement, detailing shares sold and net cash proceeds - Under an Equity Distribution Agreement, the Company sold **28 thousand shares** at an average price of **$21.92** for net cash proceeds of **$574 thousand** during the three months ended March 31, 2020[54](index=54&type=chunk) [7. Earnings Per Common Share](index=13&type=section&id=7.%20Earnings%20Per%20Common%20Share) Presents basic and diluted earnings per common share, including the impact of anti-dilutive shares, for the reporting periods Earnings (Loss) Per Common Share (Three Months Ended March 31, 2020 vs. 2019) | Metric | March 31, 2020 | March 31, 2019 | | :-------------------------------------- | :------------- | :------------- | | Loss to common shares — basic (in thousands) | $(8,908) | $(8,463) | | Weighted average common shares outstanding — basic (in thousands) | 12,037 | 11,487 | | Basic earnings (loss) per common share | $(0.74) | $(0.74) | | Diluted earnings (loss) per common share | $(0.74) | $(0.74) | - Basic and diluted loss per common share remained at **$(0.74)** for both periods, with **550 thousand anti-dilutive shares** excluded from diluted EPS calculations in Q1 2020[55](index=55&type=chunk)[56](index=56&type=chunk) [8. Trade Accounts Receivable](index=14&type=section&id=8.%20Trade%20Accounts%20Receivable) Details trade accounts receivable, net, including the allowance for doubtful accounts and concentration with major customers Trade Accounts Receivable, Net (March 31, 2020 vs. December 31, 2019) | Metric (in thousands) | March 31, 2020 | December 31, 2019 | | :------------------------------ | :------------- | :---------------- | | Trade accounts receivable | $3,984 | $4,036 | | Allowance for doubtful accounts | $(25) | $(15) | | Trade accounts receivable, net | $3,959 | $4,021 | - The allowance for doubtful accounts increased to **$25 thousand** as of March 31, 2020, from **$15 thousand** at December 31, 2019[58](index=58&type=chunk) - Central Banks accounted for **66%** of trade accounts receivable, net, as of March 31, 2020[61](index=61&type=chunk) [9. Property and Equipment](index=14&type=section&id=9.%20Property%20and%20Equipment) Presents property and equipment, net, including gross amounts and accumulated depreciation and amortization Property and Equipment, Net (March 31, 2020 vs. December 31, 2019) | Metric (in thousands) | March 31, 2020 | December 31, 2019 | | :------------------------------------ | :------------- | :---------------- | | Gross property and equipment | $13,034 | $12,791 | | Less accumulated depreciation and amortization | $(9,495) | $(9,141) | | Property and equipment, net | $3,539 | $3,650 | - Property and equipment, net, decreased slightly to **$3,539 thousand** as of March 31, 2020, from **$3,650 thousand** at December 31, 2019[63](index=63&type=chunk) [10. Intangibles](index=14&type=section&id=10.%20Intangibles) Details intangible assets, net, including gross intangible assets, accumulated amortization, and capitalized patent costs Intangibles, Net (March 31, 2020 vs. December 31, 2019) | Metric (in thousands) | March 31, 2020 | December 31, 2019 | | :------------------------------ | :------------- | :---------------- | | Gross intangible assets | $12,611 | $12,515 | | Accumulated amortization | $(5,982) | $(5,845) | | Intangibles, net | $6,629 | $6,670 | - Capitalized patent costs, amortized over **17-20 years**, increased to **$9,341 thousand** as of March 31, 2020, from **$9,245 thousand** at December 31, 2019[65](index=65&type=chunk)[68](index=68&type=chunk) [11. Leases](index=15&type=section&id=11.%20Leases) Outlines the Company's adoption of ASC 842 for operating leases, detailing right-of-use assets, liabilities, and future payment obligations - The Company adopted ASC 842 for leases on January 1, 2019, and all leases are classified as operating leases[69](index=69&type=chunk)[71](index=71&type=chunk) Lease Details (March 31, 2020 vs. December 31, 2019) | Metric (in thousands) | March 31, 2020 | December 31, 2019 | | :------------------------------ | :------------- | :---------------- | | Right of use assets | $2,146 | $2,263 | | Lease liabilities, current | $624 | $663 | | Lease liabilities, long-term | $2,276 | $2,435 | | Weighted-average remaining life | 4.0 years | 4.1 years | | Weighted-average discount rate | 8.20% | 8.20% | Operating Lease Cash Payment Obligations (as of March 31, 2020) | Year ending December 31 | Cash Payment Obligations (in thousands) | | :---------------------- | :-------------------------------------- | | Remaining in 2020 | $631 | | 2021 | $838 | | 2022 | $862 | | 2023 | $867 | | 2024 | $218 | | Total lease payments | $3,416 | [12. Income Taxes](index=16&type=section&id=12.%20Income%20Taxes) Explains the 0% effective tax rate due to a full valuation allowance against deferred tax assets, which increased significantly - The effective tax rate for the three months ended March 31, 2020 and 2019, was **0%** due to a full valuation allowance against deferred tax assets[74](index=74&type=chunk) - The valuation allowance against net deferred tax assets increased by **$2,336 thousand** to **$50,145 thousand** as of March 31, 2020, from $47,809 thousand at December 31, 2019[74](index=74&type=chunk) [13. Commitments and Contingencies](index=16&type=section&id=13.%20Commitments%20and%20Contingencies) Addresses indemnification provisions and legal proceedings, with management not expecting a material adverse effect on financial position - The Company includes indemnification provisions for third-party claims related to intellectual property in certain contracts, but no claims have been made to date[76](index=76&type=chunk) - Management does not believe that the resolution of current legal proceedings and claims will have a material adverse effect on its financial position, results of operations, or cash flows[76](index=76&type=chunk) [14. Subsequent Events](index=16&type=section&id=14.%20Subsequent%20Events) Reports on the Company securing a $5,032 thousand Paycheck Protection Program loan in April 2020, intended for qualifying expenses - On April 16, 2020, the Company secured a **$5,032 thousand** loan under the Paycheck Protection Program (PPP) of the CARES Act, with a **1.000% interest rate** and deferred interest for six months[77](index=77&type=chunk) - The PPP loan is subject to forgiveness if proceeds are used for qualifying expenses like payroll, rent, utilities, and mortgage interest, which the Company intends to do[77](index=77&type=chunk) [Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations](index=17&type=section&id=Item%202.%20Management's%20Discussion%20and%20Analysis%20of%20Financial%20Condition%20and%20Results%20of%20Operations) Management's discussion of Digimarc's Q1 2020 financial condition and results, including revenue, expenses, liquidity, and COVID-19 impacts [Overview](index=17&type=section&id=Overview) Introduces Digimarc Corporation's platform for automatic identification, its benefits, and the Company's patent portfolio and strategic shift - Digimarc Corporation provides the Digimarc Platform, which offers identification, discovery, and verification of digitally enhanced media through Digimarc Barcode, Digimarc Discover software, and Digimarc Verify tools[82](index=82&type=chunk) - The Digimarc Platform offers benefits such as security, fraud protection, traceability, sustainability (e.g., plastic waste sorting), consumer engagement, and supply chain efficiency[82](index=82&type=chunk)[88](index=88&type=chunk)[89](index=89&type=chunk) - The Company holds over **1,100 U.S. and foreign patents** in digital watermarking and related fields, with a strategic shift from direct patent monetization to encouraging large-scale adoption of its technologies[91](index=91&type=chunk)[93](index=93&type=chunk) [COVID-19 Pandemic](index=19&type=section&id=COVID-19%20Pandemic%20(MD%26A)) Discusses significant risks from the COVID-19 pandemic, including potential disruptions to demand, customer relationships, and project delays - The COVID-19 pandemic poses significant risks, potentially disrupting consumer demand, customer/supplier relationships, sales processes, and general economic conditions[94](index=94&type=chunk) - Some projects with retail customers and partners may be delayed, impacting near-term revenue growth and the ability to fund the business[94](index=94&type=chunk) - To ensure liquidity during the pandemic, the Company applied for and received a loan under the U.S. government Paycheck Protection Program[94](index=94&type=chunk) [Critical Accounting Policies and Estimates](index=19&type=section&id=Critical%20Accounting%20Policies%20and%20Estimates) Refers to the Company's 2019 Annual Report on Form 10-K for detailed information on critical accounting policies and estimates - Detailed information on critical accounting policies and estimates is incorporated by reference from the Company's 2019 Annual Report on Form 10-K[95](index=95&type=chunk) [Results of Operations](index=20&type=section&id=Results%20of%20Operations) [Summary](index=20&type=section&id=Summary%20(Results%20of%20Operations)) Provides a high-level overview of Q1 2020 financial performance, noting increases in total revenue and operating expenses - Total revenue for Q1 2020 increased by **9%** to **$6.2 million** compared to Q1 2019, primarily driven by higher subscription revenue from Retail customers[98](index=98&type=chunk) - Total operating expenses for Q1 2020 increased by **7%** to **$13.0 million**, mainly due to higher headcount and routine annual compensation adjustments[99](index=99&type=chunk) [Revenue](index=21&type=section&id=Revenue%20(Results%20of%20Operations)) Analyzes revenue breakdown by type and geographic area, highlighting subscription revenue growth from Retail customers Revenue Breakdown (Three Months Ended March 31, 2020 vs. 2019) | Revenue Type (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :-------------------------- | :------------- | :------------- | :------------ | :------------- | | Service | $3,738 | $3,814 | $(76) | (2)% | | Subscription | $2,451 | $1,846 | $605 | 33% | | Total | $6,189 | $5,660 | $529 | 9% | - Subscription revenue growth was primarily attributed to increased software subscriptions to Retail customers[103](index=103&type=chunk) Revenue by Geography (Three Months Ended March 31, 2020 vs. 2019) | Geographic Area (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :----------------------------- | :------------- | :------------- | :------------ | :------------- | | Domestic | $1,759 | $1,317 | $442 | 34% | | International | $4,430 | $4,343 | $87 | 2% | | Total | $6,189 | $5,660 | $529 | 9% | [Cost of Revenue](index=22&type=section&id=Cost%20of%20Revenue%20(Results%20of%20Operations)) Describes the components of cost of service revenue and cost of subscription revenue, including compensation, contractors, and amortization - Cost of service revenue includes compensation, benefits, stock-based compensation, outside contractors, equipment charges, depreciation, and travel costs related to software development services[106](index=106&type=chunk) - Cost of subscription revenue primarily consists of outside contractors for operational support, internet service provider charges, image search data fees, and amortization of capitalized patent costs[107](index=107&type=chunk) [Gross Profit](index=22&type=section&id=Gross%20Profit%20(Results%20of%20Operations)) Examines gross profit trends, noting a 13% increase in total gross profit driven by subscription revenue growth Gross Profit Breakdown (Three Months Ended March 31, 2020 vs. 2019) | Gross Profit (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :-------------------------- | :------------- | :------------- | :------------ | :------------- | | Service | $2,054 | $2,169 | $(115) | (5)% | | Subscription | $1,937 | $1,357 | $580 | 43% | | Total | $3,991 | $3,526 | $465 | 13% | - Total gross profit increased by **13%** to **$3,991 thousand**, driven by a **43% increase** in subscription gross profit, while service gross profit decreased by **5%**[108](index=108&type=chunk) - Subscription gross profit as a percentage of revenue increased from **74% to 79%**, primarily due to higher subscription revenue[109](index=109&type=chunk) [Operating Expenses](index=23&type=section&id=Operating%20Expenses%20(Results%20of%20Operations)) [Sales and marketing](index=23&type=section&id=Sales%20and%20marketing) Reports on a 6% increase in sales and marketing expenses, primarily due to increased headcount and compensation adjustments Sales and Marketing Expenses (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :------------------------------ | :------------- | :------------- | :------------ | :------------- | | Sales and marketing expenses | $5,246 | $4,950 | $296 | 6% | - Sales and marketing expenses increased by **6%** due to increased headcount and routine annual compensation adjustments[112](index=112&type=chunk) [Research, development and engineering](index=23&type=section&id=Research,%20development%20and%20engineering) Reports on a 10% increase in research, development and engineering expenses, driven by higher headcount and compensation Research, Development and Engineering Expenses (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :------------------------------ | :------------- | :------------- | :------------ | :------------- | | R&D and engineering expenses | $4,433 | $4,038 | $395 | 10% | - Research, development and engineering expenses increased by **10%** due to increased headcount and routine annual compensation adjustments[114](index=114&type=chunk) [General and administrative](index=24&type=section&id=General%20and%20administrative) Reports on a 5% increase in general and administrative expenses, primarily due to increased headcount and compensation adjustments General and Administrative Expenses (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :------------------------------ | :------------- | :------------- | :------------ | :------------- | | General and administrative expenses | $3,367 | $3,210 | $157 | 5% | - General and administrative expenses increased by **5%** due to increased headcount and routine annual compensation adjustments[118](index=118&type=chunk) [Stock-based compensation](index=24&type=section&id=Stock-based%20compensation) Details an 8% increase in total stock-based compensation expense and the remaining unrecognized compensation costs Stock-Based Compensation Expense by Function (Three Months Ended March 31, 2020 vs. 2019) | Functional Area | March 31, 2020 (in thousands) | March 31, 2019 (in thousands) | | :------------------------------ | :---------------------------- | :---------------------------- | | Cost of revenue | $190 | $182 | | Sales and marketing | $479 | $519 | | Research, development and engineering | $399 | $354 | | General and administrative | $1,127 | $982 | | Total | $2,195 | $2,037 | - Total stock-based compensation expense increased by **8%** to **$2,195 thousand**, primarily due to more stock awards granted in the current year[119](index=119&type=chunk) - The Company anticipates incurring an additional **$17,641 thousand** in stock-based compensation expense through March 31, 2024[120](index=120&type=chunk) [Other income, net](index=25&type=section&id=Other%20income,%20net) Reports a 40% decrease in other income, net, primarily due to lower interest income from reduced rates and investment balances Other Income, Net (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :-------------------- | :------------- | :------------- | :------------ | :------------- | | Other income, net | $142 | $237 | $(95) | (40)% | - Other income, net, decreased by **40%** due to lower interest income resulting from reduced interest rates and investment balances[122](index=122&type=chunk) [Income Taxes](index=25&type=section&id=Income%20Taxes%20(Results%20of%20Operations)) Explains the 0% effective tax rate due to a full valuation allowance against deferred tax assets, which increased significantly - The effective tax rate remained **0%** for both periods due to a full valuation allowance against deferred tax assets[123](index=123&type=chunk) - The valuation allowance increased by **$2,336 thousand** to **$50,145 thousand** as of March 31, 2020, primarily due to cumulative losses[123](index=123&type=chunk) [Liquidity and Capital Resources](index=25&type=section&id=Liquidity%20and%20Capital%20Resources) [Working Capital and Cash Position](index=25&type=section&id=Working%20Capital%20and%20Cash%20Position) Analyzes working capital, current ratio, and total cash, cash equivalents, and marketable securities, noting a decrease in liquidity Liquidity Metrics (March 31, 2020 vs. December 31, 2019) | Metric (in thousands) | March 31, 2020 | December 31, 2019 | | :---------------------------------------- | :------------- | :---------------- | | Working capital | $31,283 | $37,850 | | Current ratio | 6.8:1 | 8.0:1 | | Total cash, cash equivalents and marketable securities | $30,570 | $36,817 | - Cash, cash equivalents, and marketable securities decreased by **$6,247 thousand**, primarily due to cash used in operations, common stock purchases for tax withholding, and capital expenditures, partially offset by common stock issuance proceeds and stock option exercises[125](index=125&type=chunk) - The Company's investment policy limits credit exposure by diversifying investments across financial institutions and industry categories, with minimal credit risk[126](index=126&type=chunk)[128](index=128&type=chunk) [Operating Cash Flow](index=26&type=section&id=Operating%20Cash%20Flow%20(Liquidity%20and%20Capital%20Resources)) Details changes in operating cash flow, noting an increase in cash used in operations and a significant increase in investing activities Operating Cash Flow Components (Three Months Ended March 31, 2020 vs. 2019) | Metric (in thousands) | March 31, 2020 | March 31, 2019 | Dollar Change | Percent Change | | :------------------------------------ | :------------- | :------------- | :------------ | :------------- | | Net loss | $(8,908) | $(8,463) | $(445) | (5)% | | Non-cash items | $2,770 | $2,574 | $196 | 8% | | Changes in operating assets and liabilities | $292 | $435 | $(143) | (33)% | | Net cash used in operating activities | $(5,846) | $(5,454) | $(392) | (7)% | - Net cash used in operating activities increased by **$392 thousand**, primarily due to a higher net loss, partially offset by higher non-cash items like stock-based compensation[129](index=129&type=chunk) - Net cash provided by investing activities increased by **$2,074 thousand** to **$4,912 thousand**, mainly due to higher net maturities of marketable securities[130](index=130&type=chunk) [Future Cash Expectations](index=26&type=section&id=Future%20Cash%20Expectations) Assesses the Company's ability to meet future cash requirements, considering current liquidity, available equity, and the impact of the COVID-19 pandemic - Current cash, cash equivalents, and short-term marketable securities are expected to cover working capital and capital expenditure requirements for at least the next **12 months**[132](index=132&type=chunk) - As of March 31, 2020, **$21.0 million** of common stock had been sold under an Equity Distribution Agreement, with **$49.2 million** remaining available under a **$100 million** shelf registration statement[132](index=132&type=chunk) - The COVID-19 pandemic's impact on the stock market may hinder near-term financing through equity sales, but a recent PPP loan provides additional liquidity[134](index=134&type=chunk) [COVID-19 Pandemic](index=27&type=section&id=COVID-19%20Pandemic%20(Liquidity%20Impact)) Addresses the Company's continuous review of liquidity due to COVID-19 uncertainty and the securing of a PPP loan for adequate liquidity - The Company is continuously reviewing its liquidity and capital requirements due to COVID-19 uncertainty[135](index=135&type=chunk) - A **$5,032 thousand** PPP loan was obtained to ensure adequate liquidity, with the intent to use the entire amount for payroll, rent, and utilities, potentially qualifying for forgiveness[135](index=135&type=chunk) [Off-Balance Sheet Arrangements](index=27&type=section&id=Off-Balance%20Sheet%20Arrangements) States the absence of material off-balance sheet arrangements and details the operating lease for the corporate office - The Company has no material off-balance sheet arrangements that would significantly affect its financial condition or results of operations[136](index=136&type=chunk) - An operating lease for the corporate office extends through March 2024, with remaining rent payments totaling **$3.3 million**[136](index=136&type=chunk) [Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995](index=27&type=section&id=Safe%20Harbor%20Statement%20under%20the%20Private%20Securities%20Litigation%20Reform%20Act%20of%201995) Contains forward-looking statements subject to risks and uncertainties, including COVID-19 impacts, revenue concentration, and intellectual property protection - This section contains forward-looking statements subject to risks and uncertainties, which could cause actual results to differ materially from expectations[137](index=137&type=chunk) - Key factors that could affect future performance include the impact of the COVID-19 pandemic, revenue concentration, investment levels, market conditions, and intellectual property protection[137](index=137&type=chunk)[139](index=139&type=chunk) - The Company does not undertake to publicly update or revise any forward-looking statements after the filing date of this report[140](index=140&type=chunk) [Item 4. Controls and Procedures](index=29&type=section&id=Item%204.%20Controls%20and%20Procedures) Details the evaluation of Digimarc's disclosure controls and procedures and reports on changes in internal control over financial reporting [Evaluation of Disclosure Controls and Procedures](index=29&type=section&id=Evaluation%20of%20Disclosure%20Controls%20and%20Procedures) Reports on management's evaluation of disclosure controls and procedures, concluding their effectiveness as of March 31, 2020 - Management, including the CEO and CFO, evaluated the effectiveness of disclosure controls and procedures as of March 31, 2020[142](index=142&type=chunk) - Based on the evaluation, the CEO and CFO concluded that the disclosure controls and procedures were effective[143](index=143&type=chunk) [Changes in Controls](index=29&type=section&id=Changes%20in%20Controls) States that there were no material changes in internal control over financial reporting during Q1 2020 - There were no material changes in internal control over financial reporting during the three months ended March 31, 2020[144](index=144&type=chunk) PART II. OTHER INFORMATION [Item 1. Legal Proceedings](index=30&type=section&id=Item%201.%20Legal%20Proceedings) Addresses legal proceedings and claims, stating current matters are not expected to materially affect the Company's financial position - The Company is subject to ordinary course legal proceedings and claims, but does not believe their resolution will materially adversely affect its financial position, results of operations, or cash flows[147](index=147&type=chunk) [Item 1A. Risk Factors](index=30&type=section&id=Item%201A.%20Risk%20Factors) Updates risk factors from the 2019 Annual Report, highlighting new risks related to the PPP loan and COVID-19 pandemic impacts [Paycheck Protection Program Loan](index=30&type=section&id=Paycheck%20Protection%20Program%20Loan) Discusses risks associated with the $5 million PPP loan, including potential government review, repayment requirements, and associated costs - The Company's **$5 million** PPP loan may be subject to government review, potentially diverting management's time and attention and incurring legal/reputational costs[149](index=149&type=chunk) - An adverse audit finding could require repayment of the loan, reducing liquidity, and potentially leading to fines and penalties[149](index=149&type=chunk) [COVID-19 Pandemic](index=30&type=section&id=COVID-19%20Pandemic%20(Risk%20Factors)) Highlights significant, evolving risks from the COVID-19 pandemic, including impacts on operations, customer demand, and project delays - The COVID-19 pandemic presents significant, evolving risks, including impacts on employee health, operations, supplier/customer relationships, demand for services, and collectability of receivables[150](index=150&type=chunk) - Project delays with retail customers and partners due to the pandemic could affect near-term revenue growth and business funding[150](index=150&type=chunk) - The scope and duration of these impacts are uncertain, making Q1 2020 results not necessarily indicative of the full fiscal year[150](index=150&type=chunk) [Item 2. Unregistered Sales of Equity Securities and Use of Proceeds](index=31&type=section&id=Item%202.%20Unregistered%20Sales%20of%20Equity%20Securities%20and%20Use%20of%20Proceeds) Details the Company's repurchases of common stock to satisfy tax withholding liabilities related to restricted stock vesting - The Company repurchases common stock to cover required withholding tax liability upon the vesting of restricted shares[152](index=152&type=chunk) Purchases of Equity Securities (Three Months Ended March 31, 2020) | Period | Total Shares Purchased | Average Price Paid Per Share | | :-------------------------- | :--------------------- | :--------------------------- | | January 1, 2020 - January 31, 2020 | 216 | $34.97 | | February 1, 2020 - February 29, 2020 | 20,072 | $34.05 | | March 1, 2020 - March 31, 2020 | 2,365 | $20.00 | | Total | 22,653 | $32.59 | [Item 6. Exhibits](index=32&type=section&id=Item%206.%20Exhibits) Lists all exhibits filed with the Form 10-Q, including the PPP Promissory Note, CEO/CFO certifications, and XBRL-related documents - Exhibits include the Promissory Note for the PPP loan, CEO and CFO certifications (Rule 13a-14(a)/15d-14(a) and Section 1350), and various XBRL taxonomy documents[154](index=154&type=chunk) SIGNATURES This section contains the official signatures, certifying the filing of the Quarterly Report on Form 10-Q - The report was duly signed on April 30, 2020, by Charles Beck, Chief Financial Officer, as the duly authorized officer and Principal Financial and Accounting Officer[157](index=157&type=chunk)

Digimarc Corporation (NASDAQ:DMRC) Q1 2020 Earnings Conference Call April 29, 2020 5:00 PM ET Company Representatives Bruce Davis - Chairman, Chief Executive Officer Charles Beck - Chief Financial Officer Conference Call Participants Jeff Van Rhee - Craig-Hallum Operator Good afternoon and thank you for participating in today’s conference call. Now I will turn the call over to Bruce Davis, Chairman and CEO of Digimarc. Mr. Davis, please proceed. Bruce Davis Thank you. Good afternoon! Welcome to our conferen ...

UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) ☒ Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 2019 OR ☐ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from to | --- | --- | |------------------------------------------------------------------------------------------------------------------------------------------------- ...

Digimarc Corporation (NASDAQ:DMRC) Q4 2019 Earnings Conference Call February 26, 2020 5:00 PM ET Company Participants Bruce Davis - Chairman and Chief Executive Officer Charles Beck - Chief Financial Officer and Treasurer Conference Call Participants Michael Cikos - Needham & Company Rudy Kessinger - Craig-Hallum Capital Group LLC Operator Good afternoon, and thank you for participating in today’s conference call. I’d now like to turn the call over to Chairman and CEO of Digimarc, Mr. Bruce Davis. Sir, plea ...

PART I FINANCIAL INFORMATION [Item 1. Financial Statements (Unaudited)](index=3&type=section&id=Item%201.%20Financial%20Statements%20(Unaudited)) This section presents the company's unaudited consolidated financial statements and accompanying notes [Consolidated Balance Sheets](index=3&type=section&id=Consolidated%20Balance%20Sheets%20as%20of%20September%2030%2C%202019%20and%20December%2031%2C%202018) **Consolidated Balance Sheet Highlights (in thousands):** | Item | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | | **ASSETS** | | | | Cash and cash equivalents | $16,414 | $27,278 | | Marketable securities (current) | $24,921 | $16,378 | | Total current assets | $47,787 | $49,644 | | Total assets | $63,586 | $61,787 | | **LIABILITIES AND SHAREHOLDERS' EQUITY** | | | | Accounts payable and other accrued liabilities | $2,615 | $1,092 | | Deferred revenue (current) | $2,391 | $3,226 | | Total current liabilities | $5,006 | $4,318 | | Total liabilities | $7,745 | $5,172 | | Total Shareholders' equity | $55,841 | $56,615 | [Consolidated Statements of Operations](index=4&type=section&id=Consolidated%20Statements%20of%20Operations%20for%20the%20three%20and%20nine%20months%20ended%20September%2030%2C%202019%20and%202018) **Consolidated Statements of Operations Highlights (in thousands):** | Item | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | | :--- | :--- | :--- | :--- | :--- | | Total revenue | $5,828 | $4,914 | $17,668 | $15,965 | | Gross profit | $3,910 | $2,979 | $11,431 | $9,640 | | Operating loss | $(8,032) | $(8,606) | $(24,856) | $(25,262) | | Net loss | $(7,761) | $(8,342) | $(24,157) | $(24,492) | | Loss per common share — basic | $(0.65) | $(0.73) | $(2.07) | $(2.16) | | Loss per common share — diluted | $(0.65) | $(0.73) | $(2.07) | $(2.16) | [Consolidated Statements of Shareholders' Equity](index=5&type=section&id=Consolidated%20Statements%20of%20Shareholders'%20Equity%20for%20the%20three%20and%20nine%20months%20ended%20September%2030%2C%202019%20and%202018) **Shareholders' Equity Changes (in thousands):** | Item | Balance at Dec 31, 2018 | Issuance of common stock, net of costs (9M 2019) | Net loss (9M 2019) | Balance at Sep 30, 2019 | | :--- | :--- | :--- | :--- | :--- | | Total Shareholders' Equity | $56,615 | $19,615 | $(24,157) | $55,841 | - Stock-based compensation for the nine months ended September 30, 2019, was **$6,228k**[18](index=18&type=chunk) [Consolidated Statements of Cash Flows](index=6&type=section&id=Consolidated%20Statements%20of%20Cash%20Flows%20for%20the%20nine%20months%20ended%20September%2030%2C%202019%20and%202018) **Consolidated Statements of Cash Flows Highlights (in thousands):** | Cash Flow Activity | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Net cash used in operating activities | $(16,763) | $(16,104) | | Net cash provided by (used in) investing activities | $(11,256) | $9,681 | | Net cash provided by (used in) financing activities | $17,155 | $(625) | | Net decrease in cash and cash equivalents | $(10,864) | $(7,048) | | Cash and cash equivalents at end of period | $16,414 | $33,775 | [Notes to Consolidated Financial Statements](index=7&type=section&id=Notes%20to%20Consolidated%20Financial%20Statements) [1. Description of Business and Significant Accounting Policies](index=7&type=section&id=1.%20Description%20of%20Business%20and%20Significant%20Accounting%20Policies) This note describes the company's core business and the adoption of the new lease accounting standard ASC 842 - Digimarc Corporation enables automatic and reliable identification and interaction with various media forms through its Digimarc Platform, which includes Digimarc Barcode and Digimarc Discover software[24](index=24&type=chunk) - The Company adopted ASC 842, 'Leases,' on January 1, 2019, electing not to restate comparative periods and recording right-of-use assets of **$2,709k** and lease liabilities of **$3,792k**[27](index=27&type=chunk) [2. Fair Value of Financial Instruments](index=8&type=section&id=2.%20Fair%20Value%20of%20Financial%20Instruments) This note details the fair value hierarchy and maturity profile of the company's financial instruments **Fair Value Hierarchy of Financial Instruments (September 30, 2019, in thousands):** | Category | Level 1 | Level 2 | Level 3 | Total | | :--- | :--- | :--- | :--- | :--- | | Money market securities | $1,001 | $— | $— | $1,001 | | Commercial paper | $— | $29,776 | $— | $29,776 | | Corporate notes | $— | $7,318 | $— | $7,318 | | U.S. treasuries | $— | $4,020 | $— | $4,020 | | **Total** | **$1,001** | **$41,114** | **$—** | **$42,115** | **Fair Value Maturities (September 30, 2019, in thousands):** | Category | Total | Less than 1 year | 1-5 years | 5-10 years | More than 10 years | | :--- | :--- | :--- | :--- | :--- | :--- | | Cash equivalents and marketable securities | $42,115 | $40,618 | $1,497 | $— | $— | [3. Revenue Recognition](index=8&type=section&id=3.%20Revenue%20Recognition) This note outlines revenue recognition policies for key streams and provides a breakdown of deferred revenue - Service revenue is recognized as services are performed, primarily from software development and consulting agreements[30](index=30&type=chunk) - Subscription revenue, derived from Digimarc Discover, Barcode, and Guardian products, is generally recurring, paid in advance, and recognized over the typical one-to-three-year subscription term[30](index=30&type=chunk) **Deferred Revenue (in thousands):** | Category | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | | Deferred revenue, current | $2,391 | $3,226 | | Deferred revenue, long term | $146 | $46 | | **Total** | **$2,537** | **$3,272** | [4. Segment Information](index=9&type=section&id=4.%20Segment%20Information) This note confirms the company's single operating segment and breaks down revenue by geography and customer - Digimarc operates in a single reporting segment: media management solutions, generating revenue through development services, subscriptions, and intellectual property licensing[34](index=34&type=chunk) **Revenue by Geographic Area (in thousands):** | Geographic Area | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Domestic | $2,136 | $1,387 | | International | $3,692 | $3,527 | | **Total** | **$5,828** | **$4,914** | | Geographic Area | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Domestic | $5,225 | $4,127 | | International | $12,443 | $11,838 | | **Total** | **$17,668** | **$15,965** | **Major Customers (Percentage of Revenue):** | Customer | Three Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2019 | | :--- | :--- | :--- | | Central Banks | 57% | 62% | | Walmart Inc. | 14% | * (Less than 10%) | [5. Stock-Based Compensation](index=10&type=section&id=5.%20Stock-Based%20Compensation) This note details stock-based compensation expenses, valuation methods, and remaining unrecognized costs **Stock-Based Compensation Expense (in thousands):** | Category | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Cost of revenue | $163 | $134 | | Sales and marketing | $459 | $442 | | Research, development and engineering | $366 | $367 | | General and administrative | $984 | $846 | | Intellectual property | $69 | $76 | | **Total stock-based compensation expense** | **$2,041** | **$1,865** | | Category | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Cost of revenue | $524 | $456 | | Sales and marketing | $1,467 | $1,198 | | Research, development and engineering | $1,077 | $1,015 | | General and administrative | $2,823 | $2,461 | | Intellectual property | $203 | $215 | | **Total stock-based compensation expense** | **$6,094** | **$5,345** | - Total unrecognized compensation costs related to non-vested stock-based awards were **$15,473k** as of September 30, 2019, expected to be recognized over weighted average periods through September 30, 2023[44](index=44&type=chunk)[45](index=45&type=chunk) **Stock Option Activity (Nine Months Ended September 30, 2019, in thousands, except per share data):** | Activity | Options | Weighted Average Exercise Price ($) | | :--- | :--- | :--- | | Outstanding at December 31, 2018 | 513 | $28.52 | | Granted | 100 | $39.54 | | Exercised | (23) | $12.77 | | Outstanding at September 30, 2019 | 590 | $31.00 | | Exercisable at September 30, 2019 | 357 | $28.97 | [6. Shareholders' Equity](index=13&type=section&id=6.%20Shareholders'%20Equity) This note discusses the Equity Distribution Agreement used to raise capital through common stock sales - In May 2019, the Company entered into an Equity Distribution Agreement to sell up to **$30,000k** of common stock. For the nine months ended September 30, 2019, **336k shares** were sold for net cash proceeds of **$19,615k**[51](index=51&type=chunk) [7. Earnings Per Common Share](index=13&type=section&id=7.%20Earnings%20Per%20Common%20Share) This note explains the calculation of basic and diluted earnings per share using the two-class method **Earnings (Loss) Per Common Share (Basic & Diluted):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | | :--- | :--- | :--- | :--- | :--- | | Loss per common share — basic | $(0.65) | $(0.73) | $(2.07) | $(2.16) | | Loss per common share — diluted | $(0.65) | $(0.73) | $(2.07) | $(2.16) | | Weighted average common shares outstanding — basic | 11,924 | 11,394 | 11,693 | 11,333 | | Weighted average common shares outstanding — diluted | 11,924 | 11,394 | 11,693 | 11,333 | [8. Trade Accounts Receivable](index=14&type=section&id=8.%20Trade%20Accounts%20Receivable) This note breaks down trade accounts receivable and identifies major customer balances **Trade Accounts Receivable (in thousands):** | Category | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | | Trade accounts receivable | $3,585 | $3,903 | | Allowance for doubtful accounts | $(15) | $(15) | | **Trade accounts receivable, net** | **$3,570** | **$3,888** | | Unpaid deferred revenue included in trade accounts receivable | $857 | $2,030 | **Major Customers in Trade Accounts Receivable (September 30, 2019):** | Customer | Percentage of Trade Accounts Receivable, Net | | :--- | :--- | | Central Banks | 52% | | Customer B | 11% | [9. Property and Equipment](index=15&type=section&id=9.%20Property%20and%20Equipment) This note details the company's property and equipment, including costs, depreciation, and net value **Property and Equipment, Net (in thousands):** | Category | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | | Gross property and equipment | $12,394 | $11,847 | | Less accumulated depreciation and amortization | $(8,800) | $(7,892) | | **Property and equipment, net** | **$3,594** | **$3,955** | [10. Intangibles](index=15&type=section&id=10.%20Intangibles) This note breaks down intangible assets, including patent costs, useful lives, and net carrying value **Intangibles, Net (in thousands):** | Category | Estimated Life (years) | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | :--- | | Capitalized patent costs | 17-20 | $9,254 | $8,757 | | Intangible assets acquired (total gross) | | $3,270 | $3,270 | | Gross intangible assets | | $12,524 | $12,027 | | Accumulated amortization | | $(5,801) | $(5,378) | | **Intangibles, net** | | **$6,723** | **$6,649** | [11. Leases](index=15&type=section&id=11.%20Leases) This note details the adoption of ASC 842 and key information on operating lease assets and liabilities - The Company adopted ASC 842, 'Leases,' as of January 1, 2019, using the retrospective approach and electing the package of practical expedients[67](index=67&type=chunk) **Lease Details (September 30, 2019, in thousands):** | Item | Amount | | :--- | :--- | | Right of use assets | $2,376 | | Lease liabilities, current | $678 | | Lease liabilities, long-term | $2,593 | | Weighted-average remaining life | 4.5 years | | Weighted-average discount rate | 8.20% | - Operating lease expense for the nine months ended September 30, 2019, was **$772k**, with cash paid for operating leases totaling **$1,014k**[71](index=71&type=chunk) [12. Income Taxes](index=17&type=section&id=12.%20Income%20Taxes) This note explains the 0% effective tax rate resulting from a full valuation allowance against deferred tax assets - The effective tax rate for the nine months ended September 30, 2019 and 2018, was **0%** due to a full valuation allowance recorded against deferred tax assets[73](index=73&type=chunk) - The valuation allowance against net deferred tax assets increased by **$7,723k** to **$50,072k** as of September 30, 2019, from **$42,349k** as of December 31, 2018[73](index=73&type=chunk) [13. Commitments and Contingencies](index=17&type=section&id=13.%20Commitments%20and%20Contingencies) This note addresses intellectual property indemnification provisions and ongoing legal proceedings - The Company's product license and services agreements include indemnification provisions for third-party claims related to its intellectual property, with no claims made to date[75](index=75&type=chunk) - The Company is subject to legal proceedings in the ordinary course of business but does not believe their resolution will have a material adverse effect on its financial position, results of operations, or cash flows[76](index=76&type=chunk) [Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations](index=18&type=section&id=Item%202.%20Management's%20Discussion%20and%20Analysis%20of%20Financial%20Condition%20and%20Results%20of%20Operations) This section provides management's perspective on financial condition, results of operations, and liquidity [Overview](index=18&type=section&id=Overview) This section overviews the company's media identification technologies, strategic shift, and recent partnerships - Digimarc's core business involves enabling automatic and reliable identification and interaction with various media forms using its proprietary Digimarc Platform, which includes Digimarc Barcode and Digimarc Discover software[81](index=81&type=chunk) - The company has shifted its focus from direct patent monetization to encouraging large-scale adoption of its technologies, increasing the scale and rate of growth of its products and services business, and laying a foundation for continuing innovation[96](index=96&type=chunk) - Recent developments include partnerships with Datalogic and Microsoft, collaborations with GS1 US and GS1 Germany, adoption by the U.S. Department of Agriculture for bioengineered food disclosure, and expanded capabilities for high-speed inspection systems[87](index=87&type=chunk)[90](index=90&type=chunk)[92](index=92&type=chunk)[94](index=94&type=chunk) [Results of Operations](index=21&type=section&id=Results%20of%20Operations) This section analyzes revenue growth, modest operating expense increases, and the year-over-year net loss [Summary](index=21&type=section&id=Summary) This section summarizes revenue growth of 19% and 11% and a modest increase in operating expenses - Total revenue for the three months ended September 30, 2019, increased **19%** to **$5.8 million**, and for the nine months, it increased **11%** to **$17.7 million**, driven by higher subscription and service revenue[101](index=101&type=chunk) - Total operating expenses for the three and nine months ended September 30, 2019, increased **3%** to **$11.9 million** and **4%** to **$36.3 million**, respectively, primarily due to routine annual compensation adjustments[102](index=102&type=chunk) [Revenue](index=22&type=section&id=Revenue) This section details revenue changes, with growth in service and subscription and a decline in license revenue **Revenue Breakdown (in thousands):** | Revenue Type | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Service | $3,003 | $2,787 | $216 | 8% | | Subscription | $2,273 | $1,532 | $741 | 48% | | License | $552 | $595 | $(43) | (7)% | | **Total** | **$5,828** | **$4,914** | **$914** | **19%** | | Revenue Type | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Service | $10,167 | $9,630 | $537 | 6% | | Subscription | $5,924 | $4,554 | $1,370 | 30% | | License | $1,577 | $1,781 | $(204) | (11)% | | **Total** | **$17,668** | **$15,965** | **$1,703** | **11%** | - Increases in service revenue were primarily due to the timing of program work with the Central Banks[105](index=105&type=chunk) - Subscription revenue increases were driven by higher Digimarc Discover and Digimarc Barcode revenue, partially offset by lower Digimarc Guardian revenue[107](index=107&type=chunk) [Revenue by Geography](index=23&type=section&id=Revenue%20by%20Geography) This section details revenue growth in both domestic and international markets, driven by different products **Revenue by Geography (in thousands):** | Geographic Area | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Domestic | $2,136 | $1,387 | $749 | 54% | | International | $3,692 | $3,527 | $165 | 5% | | **Total** | **$5,828** | **$4,914** | **$914** | **19%** | | Geographic Area | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Domestic | $5,225 | $4,127 | $1,098 | 27% | | International | $12,443 | $11,838 | $605 | 5% | | **Total** | **$17,668** | **$15,965** | **$1,703** | **11%** | - Domestic revenue increases were primarily due to higher Digimarc Discover and Digimarc Barcode revenue from domestic customers[110](index=110&type=chunk) - International revenue increases were primarily due to the timing of program work with the Central Banks[110](index=110&type=chunk) [Cost of Revenue](index=23&type=section&id=Cost%20of%20Revenue) This section details the primary components of cost of revenue for service, subscription, and license offerings - Cost of service revenue includes allocated costs from sales and marketing, R&D, and intellectual property, direct program delivery costs, compensation, contractor payments, equipment charges, depreciation, travel, and infrastructure[111](index=111&type=chunk) - Cost of subscription revenue primarily includes compensation for operations personnel, outside contractors for operational support, and internet service provider connectivity charges and image search data fees[112](index=112&type=chunk) - Cost of license revenue primarily includes amortization of capitalized patent costs and patent maintenance fees[113](index=113&type=chunk) [Gross Profit](index=24&type=section&id=Gross%20Profit) This section analyzes the gross profit increase, driven by higher subscription and service revenue **Gross Profit Breakdown (in thousands):** | Gross Profit Type | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Service | $1,716 | $1,486 | $230 | 15% | | Subscription | $1,814 | $1,052 | $762 | 72% | | License | $380 | $441 | $(61) | (14)% | | **Total** | **$3,910** | **$2,979** | **$931** | **31%** | **Gross Profit Percentage (as % of related revenue components):** | Gross Profit % | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | | :--- | :--- | :--- | | Service | 57% | 53% | | Subscription | 80% | 69% | | License | 69% | 74% | | **Total** | **67%** | **61%** | - Increases in total gross profit were primarily due to higher subscription and service revenue[115](index=115&type=chunk) - Service and subscription gross profit percentages increased due to higher respective revenues, while license gross profit percentage decreased due to lower license revenue[116](index=116&type=chunk)[117](index=117&type=chunk)[118](index=118&type=chunk) [Operating Expenses](index=24&type=section&id=Operating%20Expenses) This section details the increase in operating expenses, driven by higher headcount and compensation costs [Sales and marketing](index=24&type=section&id=Sales%20and%20marketing) **Sales and Marketing Expenses (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Sales and marketing | $4,839 | $4,741 | $98 | 2% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Sales and marketing | $14,876 | $14,385 | $491 | 3% | - The increase in sales and marketing expenses for the three months was primarily due to increased headcount and compensation-related expenses of **$0.2 million**, partially offset by decreased marketing costs and professional fees of **$0.1 million**[123](index=123&type=chunk) [Research, development and engineering](index=25&type=section&id=Research%2C%20development%20and%20engineering) **Research, Development and Engineering Expenses (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | R&D and engineering | $4,105 | $4,069 | $36 | 1% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | R&D and engineering | $12,124 | $12,074 | $50 | 0% | - Increases in research, development and engineering expenses for both the three and nine month periods were insignificant[126](index=126&type=chunk) [General and administrative](index=25&type=section&id=General%20and%20administrative) **General and Administrative Expenses (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | G&A | $2,656 | $2,447 | $209 | 9% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | G&A | $8,194 | $7,495 | $699 | 9% | - The increase in general and administrative expenses for the nine months was primarily due to increased headcount and compensation-related expenses (**$0.4 million**), increased infrastructure and centralized costs (**$0.2 million**), and increased professional and consulting fees (**$0.1 million**)[131](index=131&type=chunk) [Intellectual property](index=26&type=section&id=Intellectual%20property) **Intellectual Property Expenses (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | IP | $342 | $328 | $14 | 4% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | IP | $1,093 | $948 | $145 | 15% | - The increase in intellectual property expenses for the nine months ended September 30, 2019, was primarily due to increased legal costs[135](index=135&type=chunk) [Stock-based compensation](index=27&type=section&id=Stock-based%20compensation) **Total Stock-Based Compensation Expense (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Total | $2,041 | $1,865 | $176 | 9% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Total | $6,094 | $5,345 | $749 | 14% | - Changes in stock-based compensation expense were primarily due to the timing and amount of stock awards[137](index=137&type=chunk) [Other income, net](index=27&type=section&id=Other%20income%2C%20net) This section details the decrease in other income, driven by lower interest income on cash balances **Other Income, Net (in thousands):** | Period | Three Months Ended Sep 30, 2019 | Three Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Other income, net | $259 | $273 | $(14) | (5)% | | Period | Nine Months Ended Sep 30, 2019 | Nine Months Ended Sep 30, 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Other income, net | $727 | $799 | $(72) | (9)% | - The decreases in other income, net, were primarily due to lower interest income as a result of lower cash and investment balances[139](index=139&type=chunk) [Income Taxes](index=27&type=section&id=Income%20Taxes) This section explains the 0% effective tax rate due to a full valuation allowance on deferred tax assets - The effective tax rate for the nine months ended September 30, 2019 and 2018, was **0%** due to a full valuation allowance recorded against deferred tax assets[140](index=140&type=chunk) - The valuation allowance against deferred tax assets increased by **$7,723k** to **$50,072k** as of September 30, 2019, from **$42,349k** as of December 31, 2018[140](index=140&type=chunk) [Liquidity and Capital Resources](index=28&type=section&id=Liquidity%20and%20Capital%20Resources) This section analyzes the company's liquidity, capital resources, cash flows, and future capital needs **Liquidity Metrics (in thousands):** | Item | September 30, 2019 | December 31, 2018 | | :--- | :--- | :--- | | Working capital | $42,781 | $45,326 | | Current ratio | 9.5:1 | 11.5:1 | | Total cash, cash equivalents and marketable securities | $42,832 | $43,656 | - The **$0.8 million decrease** in total cash, cash equivalents, and marketable securities was primarily due to cash used in operations, common stock purchases for tax withholding, and capital expenditures, partially offset by net proceeds from common stock issuance and stock option exercises[143](index=143&type=chunk) [Operating Cash Flow](index=28&type=section&id=Operating%20Cash%20Flow) This section analyzes changes in operating, investing, and financing cash flows for the nine-month period **Operating Cash Flow Components (Nine Months Ended Sep 30, in thousands):** | Item | 2019 | 2018 | Dollar Change | Percent Change | | :--- | :--- | :--- | :--- | :--- | | Net loss | $(24,157) | $(24,492) | $335 | 1% | | Non-cash items | $7,725 | $6,949 | $776 | 11% | | Changes in operating assets and liabilities | $(331) | $1,439 | $(1,770) | (123)% | | **Net cash used in operating activities** | **$(16,763)** | **$(16,104)** | **$(659)** | **(4)%** | - Cash flows used in operating activities increased by **$0.7 million**, primarily due to changes in operating assets and liabilities (e.g., collection of a **$1.75 million** upfront license fee in January 2018), partially offset by higher non-cash items like stock-based compensation[148](index=148&type=chunk) - Cash flows from investing activities decreased by **$20.9 million**, shifting from **$9.7 million provided** in 2018 to **$11.3 million used** in 2019, mainly due to higher net purchases of marketable securities[149](index=149&type=chunk) - Cash flows from financing activities increased by **$17.8 million**, from **$0.6 million used** in 2018 to **$17.2 million provided** in 2019, primarily due to the sale of common stock[150](index=150&type=chunk) [Future Cash Expectations](index=29&type=section&id=Future%20Cash%20Expectations) This section outlines expectations for future cash needs and available capital resources from equity agreements - Current cash, cash equivalents, and short-term marketable securities are expected to satisfy projected working capital and capital expenditure requirements for at least the next 12 months[151](index=151&type=chunk) - Under an Equity Distribution Agreement, the company sold **335,748 shares** for **$20.3 million** in gross proceeds (**$19.6 million net cash**) as of September 30, 2019, with up to **$30 million** authorized[151](index=151&type=chunk) - **$49.9 million** remains available for future issuances under a **$100 million** shelf registration statement, which expires in June 2020[151](index=151&type=chunk) [Off-Balance Sheet Arrangements](index=29&type=section&id=Off-Balance%20Sheet%20Arrangements) This section confirms the company has no material off-balance sheet arrangements, aside from operating leases - The company has no material off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on its financial condition, results of operations, liquidity, capital expenditures, or capital resources, other than operating leases recorded upon adoption of ASC 842[152](index=152&type=chunk) [Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995](index=29&type=section&id=Safe%20Harbor%20Statement%20under%20the%20Private%20Securities%20Litigation%20Reform%20Act%20of%201995) This section provides a cautionary statement regarding forward-looking statements and associated risks - The report includes forward-looking statements subject to uncertainties and factors that are difficult to predict and beyond the company's control, which could cause actual results to differ materially[153](index=153&type=chunk) - Key risk factors include revenue concentration with few customers, revenue trends, global deployment of products, investment levels, anticipated expenses, stock awards, intellectual property, accounting pronouncements, market size, international growth, liquidity, stock price volatility, capital market conditions, credit risk, adoption of technology, competitive differentiation, facilities, employee relations, cybersecurity, bylaws, and legal proceedings[155](index=155&type=chunk) [Item 4. Controls and Procedures](index=31&type=section&id=Item%204.%20Controls%20and%20Procedures) This section confirms the effectiveness of disclosure controls and procedures with no material changes reported [Evaluation of Disclosure Controls and Procedures](index=31&type=section&id=Evaluation%20of%20Disclosure%20Controls%20and%20Procedures) - Management, including the Chief Executive Officer and Chief Financial Officer, concluded that the company's disclosure controls and procedures were effective as of September 30, 2019[159](index=159&type=chunk) [Changes in Controls](index=31&type=section&id=Changes%20in%20Controls) - There were no changes in internal control over financial reporting that materially affected, or are reasonably likely to materially affect, the company's internal control over financial reporting during the three months ended September 30, 2019[160](index=160&type=chunk) PART II OTHER INFORMATION [Item 1. Legal Proceedings](index=32&type=section&id=Item%201.%20Legal%20Proceedings) This section notes that ongoing legal proceedings are not expected to have a material adverse effect - The company is subject to legal proceedings and claims arising in the ordinary course of business, but does not believe their resolution will have a material adverse effect on its financial position, results of operations, or cash flows[163](index=163&type=chunk) [Item 1A. Risk Factors](index=32&type=section&id=Item%201A.%20Risk%20Factors) This section confirms no material changes to the risk factors disclosed in the 2018 Annual Report on Form 10-K - Detailed information about risk factors affecting Digimarc's actual results is set forth in Part I, Item 1A of the 2018 Annual Report[164](index=164&type=chunk) - As of September 30, 2019, there have been no material changes to the risk factors set forth in the 2018 Annual Report[164](index=164&type=chunk) [Item 2. Unregistered Sales of Equity Securities and Use of Proceeds](index=32&type=section&id=Item%202.%20Unregistered%20Sales%20of%20Equity%20Securities%20and%20Use%20of%20Proceeds) This section details common stock repurchases made to satisfy tax liabilities on vested restricted shares - The company repurchases shares of common stock to satisfy required withholding tax liability in connection with the vesting of restricted shares[165](index=165&type=chunk) **Purchases of Equity Securities (Three Months Ended September 30, 2019):** | Period | Total Number of Shares Purchased | Average Price Paid Per Share ($) | | :--- | :--- | :--- | | August 1, 2019 to August 31, 2019 | 19,596 | $40.29 | | September 1, 2019 to September 30, 2019 | 2,423 | $39.54 | | **Total** | **22,019** | **$40.21** | [Item 6. Exhibits](index=33&type=section&id=Item%206.%20Exhibits) This section lists all exhibits filed with the Form 10-Q, including CEO/CFO certifications and XBRL data - Exhibits include Rule 13a-14(a)/15d-14(a) Certifications of the Chief Executive Officer and Chief Financial Officer, Section 1350 Certifications, and various XBRL taxonomy documents (Instance, Schema, Calculation, Definition, Label, Presentation Linkbase Documents)[167](index=167&type=chunk) [SIGNATURES](index=34&type=section&id=SIGNATURES) This section contains the official signatures confirming the due authorization and filing of the report - The report was duly caused to be signed on behalf of Digimarc Corporation by Charles Beck, Chief Financial Officer, on October 31, 2019[170](index=170&type=chunk)