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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark One)
 þANNUAL 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             
Commission file number 1-37745
RealNetworks, Inc.
(Exact name of registrant as specified in its charter)
Washington  91-1628146
(State of incorporation)  (I.R.S. Employer Identification Number)
1501 First Avenue South, Suite 600, Seattle, Washington, 98134
(206) 674-2700
(Address of principal executive offices, zip code, telephone number)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each ClassTrading Symbol (s)Name of Each Exchange on Which Registered
Common Stock, Par Value $0.001 per share
Preferred Share Purchase Rights
RNWK
RNWK
The NASDAQ Stock Market
The NASDAQ Stock Market
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act    Yes  ¨    No  þ

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  þ    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer   ¨
  
Accelerated filer  ¨
Non-accelerated filer    þ
 
Smaller reporting company  þ
Emerging growth company  ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ

The aggregate market value of the common stock held by non-affiliates of the registrant was $46 million on June 30, 2019, based on the closing price of the common stock on that date, as reported on the Nasdaq Global Select Market. Shares held by each executive officer and director have been excluded in that such persons may be deemed to be affiliates. In the case of 10% or greater shareholders, we have not deemed such shareholders to be affiliates unless there are facts and circumstances which would indicate that such shareholders exercise any control over our company. This determination of affiliate status is not necessarily a conclusive determination for other purposes.

The number of shares of the registrant’s common stock outstanding as of March 9, 2020 was 38,228,328.

DOCUMENTS INCORPORATED BY REFERENCE
The registrant has incorporated by reference the information required by Part III of this Annual Report from its Proxy Statement relating to its 2020 Annual Meeting of Shareholders or an amendment to this Form 10-K, to be filed within 120 days after the end of its fiscal year ended December 31, 2019.



TABLE OF CONTENTS
 
  Page
PART I
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
PART II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
PART IV
Item 15.

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PART I.
This Annual Report on Form 10-K and the documents incorporated herein by reference contain forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on current expectations, estimates, and projections about RealNetworks’ industry, products, management’s beliefs, and certain assumptions made by management. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. All statements contained in this report that do not relate to matters of historical fact should be considered forward-looking statements. Forward-looking statements include statements with respect to:
the expected benefits and other consequences of our growth plans, strategic initiatives, and restructurings;
our expected introduction, and related monetization, of new and enhanced products, services and technologies across our businesses;
future revenues, operating expenses, income and other taxes, tax benefits, net income (loss) per diluted share available to common shareholders, acquisition costs and related amortization, and other measures of results of operations;
the effects of our past acquisitions, including our January 18, 2019 acquisition of a controlling interest in Napster, and expectations for future acquisitions and divestitures;
plans, strategies and expected opportunities for future growth, increased profitability and innovation;
our expected financial position, including liquidity, cash usage and conservation, and the availability of funding or other resources;
the effects of legislation, regulations, administrative proceedings, court rulings, settlement negotiations and other factors that may impact our businesses;
the continuation and expected nature of certain customer relationships;
impacts of competition and certain customer relationships on the future financial performance and growth of our businesses;
our involvement in potential claims, legal proceedings and government investigations, and the potential outcomes and effects of such potential claims, legal proceedings and governmental investigations on our business, prospects, financial condition or results of operations;
the effects of U.S. and foreign income and other taxes on our business, prospects, financial condition or results of operations; and
the effect of economic and market conditions, including global pandemics and financial crises, on our business, prospects, financial condition or results of operations.
These statements are not guarantees of future performance and actual actions or results may differ materially. These statements are subject to certain risks, uncertainties and assumptions that are difficult to predict, including those noted in the documents incorporated herein by reference. Particular attention should also be paid to the cautionary language in Item 1A entitled “Risk Factors.” RealNetworks undertakes no obligation to update publicly any forward-looking statements as a result of new information, future events or otherwise, unless required by law. Readers should, however, carefully review the risk factors included in other reports or documents filed by RealNetworks from time to time with the Securities and Exchange Commission, particularly the Quarterly Reports on Form 10-Q and any Current Reports on Form 8-K.




 

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Item  1.Business
Overview
RealNetworks invented the streaming media category in 1995 and continues to build on its foundation of digital media expertise and innovation, creating a new generation of products and services to enhance and secure our daily lives. We provide our software and services to consumers, mobile carriers, device manufacturers, system integrators, and other businesses.
Consumers use our digital media products and services to store, organize, play, manage and enjoy their digital media content, either directly from us or through our distribution partners. For 25 years, RealNetworks has advanced the renowned RealPlayer, which has provided millions of people worldwide a powerful way to download, store, organize, and experience the rapidly expanding universe of digital media content, regardless of format. Our computer vision SAFR (Secure Accurate Facial Recognition) platform, a key investment initiative for us, enables new applications for security, convenience, and analytics, and is optimized for live video. Our consumer products feature GameHouse Original Stories, a unique IP portfolio of free-to-play mobile casual games. Our consumer products also include ringback tones,which we license to mobile operators, and our video compression technology, which we primarily license to OEMs, including manufacturers of mobile devices, smart TVs, and set-top boxes. Our product line also includes Kontxt, our artificial intelligence platform for categorizing Application to Person (A2P) messages to help messaging aggregators and mobile carriers provide a better customer experience, strengthen customer loyalty, and drive new revenue through text message management, classification and anti-spam. We acquired an additional 42% stake in Napster music business on January 18, 2019 (the "Napster Acquisition"), which offers a comprehensive set of digital music products and services designed to provide consumers with broad access to digital music.
The monetization, distribution, and licensing of our technology products and services are heavily dependent on contracts with third parties, such as mobile carriers, system integrators, and device manufacturers.
We were incorporated in 1994 in the State of Washington. Our common stock is listed on the NASDAQ Stock Market under the symbol "RNWK."
In this Annual Report on Form 10-K ("10-K") for the year ended December 31, 2019, RealNetworks, Inc., together with its subsidiaries, is referred to as "RealNetworks," the "Company," "we," "us," or "our." "RealPlayer," "RMHD," "RealMedia," "GameHouse," "Kontxt," "SAFR" and other trademarks of ours appearing in this report are our property.
Segments
We report revenue and operating income (loss) in four segments: (1) Consumer Media, (2) Mobile Services, (3) Games, and (4) Napster. RealNetworks allocates to its Consumer Media, Mobile Services, and Games reportable segments certain corporate expenses which are directly attributable to supporting these businesses, including but not limited to a portion of finance, IT, legal, human resources and headquarters facilities. Remaining expenses, which are not directly attributable to supporting these businesses, are reported as corporate items. These corporate items also can include restructuring charges and stock compensation expense. As stated in Note 4. Acquisitions, Napster, our 84% affiliate, reports its corporate expenses, including restructuring charges, in the Napster segment results. RealNetworks does not allocate any expenses to the Napster segment as Napster is operated as an independent business with its own board of directors, strategy, and leadership team.
Consumer Media
In our Consumer Media segment, revenue is primarily derived from the licensing of our portfolio of video codecs. Codecs are an encoding and decoding technology which are designed to reduce the amount of bits required to stream or store media content, and modern codecs achieve significant savings in streaming bandwidth and storage costs. Our latest codec technology, RealMedia High Definition, which we refer to as RealMedia HD or RMHD, offers significant compression advantages over our prior-generation codec, RealMedia Variable Bitrate, or RMVB, which is still widely used. Our codec technologies business is primarily focused in the Chinese market, where although RMVB remains a popular format, we currently focus most of our efforts embedding RMHD into the digital media ecosystem.
We continue to develop and innovate our codec technology to meet or exceed user demands for increasing compression efficiency and visual quality. We license our codec technology to a variety of electronic equipment, microchip, and integrated circuit manufacturers who embed our codec in their products, including mobile devices, laptops, smart TVs and other devices. To ensure a robust ecosystem for our codec technologies, we also promote the use of our codec technology to producers of media content and users of RealPlayer, thus encouraging the widespread adoption by device manufacturers.
We also generate revenue through online sales to consumers of our PC-based RealPlayer subscription products, including our SuperPass service, which provides consumers with access to digital entertainment content for a monthly fee. The RealPlayer media player, our enduring yet continually evolving software product, includes features and services that enable consumers to discover, play, download, manage and edit digital video, stream audio and video, download and save photos and
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videos from the web, transfer and share content on social networks, and edit their own photo and video content. As part of our RealPlayer download process, we also offer distribution of third-party software products to consumers, which generates additional revenue.
Mobile Services
Mobile Services consists of the various digital media services we provide to mobile and online service providers as software as a service (SaaS) offerings. Included in our SaaS offerings are our messaging products, which include our intercarrier messaging service; Kontxt, our text message management, anti-spam, and classification product; and our ringback tone service. We provide these services to a large number of mobile carriers around the world, although a significant portion of our revenue for this segment results from contracts with a few mobile carriers and one service partner. We also offer business intelligence, subscriber management and billing for the carriers who make our offerings available to their customers. Also included in this segment is our recently introduced computer vision platform, SAFR (Secure Accurate Facial Recognition) and our RealTimes platform.
Our intercarrier messaging platform enables operators to send and receive SMS messages worldwide between networks and service providers, regardless of network technology, typically processing billions of SMS messages per day between users on hundreds of different networks. A portion of the revenue we earn from our intercarrier messaging service is based on a revenue-sharing arrangement with one service partner. Our next-generation mobile messaging platform, Kontxt, evaluates message streams sent from an application to a person (A2P) and classifies those messages into various categories allowing network operators and other service providers to create policies for prioritization and delivery of messages and blocking spam and fraudulent messages, resulting in more efficient text message delivery.
Our ringback tone services enable callers to hear subscriber-selected music or messages instead of the traditional electronic ringing sound while waiting for the person they have called to answer. We primarily offer ringback tone services via mobile carriers, where, in return for providing, operating and managing the ringback tone service for the carrier customers, we generally enter into revenue-sharing arrangements with the carriers based on monthly subscription fees, content download fees or a combination of such fees paid by subscribers.
Our photo and video sharing platform, RealTimes, is offered to wireless carriers for integration in their hosted cloud solutions. Within our Mobile Services group, we focus on leveraging current and prospective wireless carrier relationships to increase integration of the RealTimes platform.
Our computer vision platform, SAFR, detects faces by leveraging artificial intelligence-based machine learning. We continue to invest in and build industry partnerships for SAFR, typically licensing it to technology partners and system integrators through third-party resellers and directly to end customers.
Games
Our Games segment is focused on the development, publishing, and distribution of casual games, which are offered via mobile devices, digital downloads, and subscription play. Casual games typically have simple graphics, rules and controls, are quick to learn, and often include time-management, board, card, puzzle, word and hidden-object games. In the mobile market, we are focused on our GameHouse Original Stories product line, creating a large and diverse portfolio of products that combine casual game play and storytelling. Our Original Stories are based on a series of characters including Emily from our Delicious franchise, Amanda from Heart's Medicine, and Angela from Fabulous. The Original Stories portfolio continues to grow as new characters and story lines are developed, primarily by our in-house game studios or through partnerships with external game developers for both mobile and PC play. We also offer to our customers games that are licensed to us by third parties.
Our mobile games are digitally distributed through third-party application storefronts, such as the Apple App Store and Google Play, and are principally offered in North America, Europe and Latin America. We offer free-to-play games that generate revenue from player purchases of in-game virtual goods and from advertising displayed to consumers during play. Historically, we have also offered premium games that we typically introduce to consumers upon release on a free-trial basis. After reaching a certain level of game play, consumers then have the option of purchasing the full game. Although games previously offered for individual purchase will continue to be available, during 2019 we began to shift our strategy to free-to-play games and away from premium mobile games.
PC consumers can access and play both our Original Stories and hundreds of third-party games through individual purchases or a subscription service offered through our GameHouse and Zylom websites, and through websites owned or managed by third parties. Consistent with our mobile offerings, we have historically introduced new games by offering a free trial before purchase on an individual-game basis or as part of one of our subscription services.
Napster
At December 31, 2019, we owned approximately 84% of the issued and outstanding stock of Napster. As described in more detail in Note 4. Acquisitions, on January 18, 2019 RealNetworks acquired a 42% stake in Napster from its former joint
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venture partner, adding to the 42% that we had previously owned. The acquisition resulted in our recording of goodwill and definite-lived intangible assets, which we assess for impairment each quarter and would be negatively impacted if Napster's business were to continue to decline or if it were to suffer significant financial distress.
The Napster segment provides music products and services that enable consumers to have access to digital music content from a variety of devices. The Napster unlimited subscription service offers unlimited access to a catalog of tens of millions of music tracks by way of on-demand streaming and conditional downloads. Napster currently offers music services worldwide and generates revenue primarily through subscriptions sold directly to consumers, through distribution partners, or through various music platform services under co-branded arrangements. Napster generates a significant portion of revenue from sales to a few partners.
See Note 20. Segment Information, in this 10-K for additional details on our segments and geographic concentrations.
Customers
Our customers include consumers and businesses located throughout the world. Sales to customers outside the U.S., primarily in Europe and Asia, were 52% and 48% of our revenue during the years ended December 31, 2019 and 2018, respectively. See Note 20. Segment Information, for details on geographic concentrations and see Note 6. Allowance for Doubtful Accounts Receivable and Sales Returns, for details on customer revenue concentrations.
Research and Development
We devote a substantial portion of our resources to developing new products, enhancing existing products, expanding and improving our fundamental technology, and strengthening our technological expertise in all our businesses.
Sales, Marketing and Distribution
Our marketing programs are aimed at increasing brand awareness of our products and services and stimulating demand. We use a variety of methods to market our products and services, including paid search advertising, affiliate marketing programs, electronic and other online media, and email offers to qualified potential and existing customers, and providing product specific information through our websites. We also cross-market products and services offered by some of our businesses through the RealPlayer and Games marketing and distribution channels. We have subsidiaries and offices in several countries that market and sell our products outside the U.S.
Our products and services are marketed through direct and indirect channels. We use public relations, trade shows, events and speaking opportunities to market our products and services. We also use a variety of online channels, including social media, to promote and sell our products and services directly.
In our Consumer Media business, we market and sell our various RealPlayer services directly through our own websites such as Real.com, as well as indirectly through third party distribution partners. We also employ a sales team in China which works with distribution partners on marketing our codec technologies.
Our Mobile Services sales, marketing and business development team works closely with many of our enterprise, infrastructure, wireless, broadband and media customers to identify new business opportunities for our entertainment applications, services and systems. Through ongoing communications with the product and marketing divisions of our customers, we tailor our SaaS offerings to their strategic needs and the needs of their subscribers.
In our Games business, we market directly from our GameHouse and Zylom websites and through third-party distribution channels, such as application storefronts, search engines, online portals, and content publishers.
Napster's services are marketed directly from the Napster website and through third-party distribution channels. Napster also employs a sales team which works with distribution partners on marketing platform services.

Customer Support
Customer support is integral to the provision of nearly all of our consumer products and services. Consumers who purchase and use our consumer software products and services can get assistance primarily via the Internet or email, depending on the product or service. For most of our consumer products, we contract with third-party outsource support vendors to provide the primary staffing for our first-tier customer support globally. We also provide various support service options for our business customers and for software developers using our software products and associated services. Support service options include online support services and on-site support personnel covering technical and business-related support topics.
Competition
The market for software and services for digital media delivery over the Internet and wireless networks is intensely competitive. Many of our current and potential competitors have longer operating histories, greater name recognition or brand awareness, more employees or significantly greater resources than we do.
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In our Consumer Media segment, our codec technology faces competition from other next-generation video codecs, and many of our competitors have come together in patent pools to market and license a shared codec solution that competes with our own codecs. This coalition of multiple companies, which include some of the largest global technology companies, benefits from a significant inherent market penetration and, thus, a substantial competitive advantage over us. In addition, our RealPlayer media player continues to face competition from alternative streaming media playback applications that have obtained very broad market penetration.
In our Mobile Services segment, our SaaS business competes with a large and diverse number of domestic and international companies, and each of our SaaS offerings tends to face competitors specific to that product or service. Our SaaS business continues to experience significant competitive pricing pressure from carriers and the proliferation of smartphone applications and services, some of which do not depend on our carrier customers for distribution to consumers. Many of our SaaS services require a high degree of integration with carrier or service provider networks and thus require a high degree of operational expertise. Our ability to enhance services with new features as the digital entertainment market evolves is critical to our competitive position, as is our knowledge of the consumer environment to which these services are targeted. Also within our Mobile Services segment, our newly launched computer vision SAFR platform competes with a wide variety of companies, as small startups and well established, heavily resourced global companies continue to develop technologies and launch products in the facial recognition market.
Our Games business competes with a variety of distributors and publishers of casual games for PC and mobile platforms. Our in-house game development studios compete with other developers and publishers of mobile games based on our ability to create high quality games that resonate with consumers, and our ability to secure broad distribution.
Napster competes with a variety of on-demand music streaming services and many of Napster's current and potential future competitors enjoy competitive advantages, such as substantially greater name recognition, market penetration, and marketing budgets, as well as significantly greater financial, technical and other resources.
Intellectual Property
As of December 31, 2019, we had 28 U.S. patents, 12 patents in other countries and more than 74 pending patent applications worldwide relating to various aspects of our technology. We regularly analyze our patent portfolio and prepare additional patent applications on current and anticipated features of our technology in various jurisdictions across the world, or sell or abandon patents or applications that are no longer relevant or valuable to our operations.
In addition to our patent portfolio, we have assembled, over time, an international portfolio of trademarks and service marks that covers certain of our products and services. We also have applications pending for additional trademarks and service marks in jurisdictions around the world, and have several unregistered trademarks. Many of our marks begin with the word “Real” (such as RealPlayer). We are aware of other companies that use “Real” in their marks alone or in combination with other words, and we do not expect to be able to prevent all third-party uses of the word “Real” for all goods and services.
Our ability to compete across our businesses partly depends on the superiority, uniqueness and value of the technology that we both develop and license from third parties. To protect our proprietary rights, we rely on a combination of patent, trademark, copyright and trade secret laws, confidentiality agreements with our employees and third parties, and protective contractual provisions. These efforts to protect our intellectual property rights may not be effective in preventing misappropriation of our technology, or may not prevent the development and design by others of products or technologies similar to or competitive with those we develop.
Employees
At December 31, 2019, we had approximately 453 employees, of which 189 were based in the Americas, 87 were based in Asia, and 177 were based in Europe. The number of our employees represented by unions is not significant.
Position on Charitable Responsibility
The Company's intention has been in periods of sustained profitability, we will donate 5% of our net income to charitable organizations, resulting in a reduction in our net income for those periods. The non-profit RealNetworks Foundation, established in 2001, manages our charitable giving efforts primarily through direct grants to nonprofit organizations and by supporting our employees' philanthropic efforts by matching their donations of time and money to charitable organizations.
Available Information
Our corporate Internet address is www.realnetworks.com. We make available free of charge on www.investor.realnetworks.com our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and amendments to these reports, as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission (SEC). However, the information found on our corporate website is not part of this or any other report.

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Item 1A.Risk Factors
You should carefully consider the risks described below together with all of the other information included in this Form 10-K. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties not presently known to us or that we presently deem less significant may also impair our business operations. If any of the following risks actually occurs, our business, financial condition or operating results, and the trading price of our common stock, could be materially harmed.
Our growth initiatives could take longer than planned, be unsuccessful, or deplete our cash resources, any of which would have a material adverse effect on the performance of our businesses and financial results, and could cause us to pursue additional debt or other funding sources.
In recent years, we have developed new products and technologies, and funded initiatives, intended to create growth in our businesses, while simultaneously taking steps to reduce costs and increase profitability. These growth initiatives, several of which have been unsuccessful over recent years, have impacted all segments of our organization, requiring us to allocate limited resources among our diverse business units. Our financial sustainability is largely dependent on the success of our growth initiatives, and there are many risks to that success, some of which are internal to our company, including our ability to develop and monetize our products and services, and some of which are externally driven and outside of our control, such as the potential impact of macroeconomic pressures and global pandemics. In particular, we expect that progress with our growth initiatives will be negatively impacted by various reactions to the recent global outbreak of the coronavirus that causes COVID-19, such as travel restrictions, community lockdowns, tightening of corporate budgets, reduction in consumer confidence, and significant instability in financial markets. We cannot predict the duration or severity of these reactions or impacts to our business and, if prolonged, our cash reserves may prove insufficient, requiring us to pursue additional debt or other funding sources.
Given the ambitious and significant nature of our growth initiatives, there is substantial risk that we may be unsuccessful in implementing our plans in a timely manner, our cash reserves may be depleted or insufficient to fully implement our plans, our growth initiatives may not gain adequate momentum, or the combination of our growth initiatives and cost reductions may not prove to be profitable. In any such case, our business would suffer, and our operational and financial results would be negatively impacted to a significant degree.
In August 2019, RealNetworks and Napster entered into a loan agreement with a third-party financial institution. Under the terms of that agreement, the bank extended a revolving line of credit not to exceed $10.0 million in the aggregate. The loan agreement contains customary covenants, including financial covenants, minimum EBITDA levels, and maintaining an unrestricted cash balance of $3.5 million. We have not had a debt facility in place in our recent past, therefore the entry into this facility introduces new risks to the company, including the risk that constraints around covenants may lead to less flexibility in operational decision making, the risk of default and various implications thereof, and the potential increase in liabilities on our balance sheet in the event that we draw down the line of credit.
The inability to obtain additional debt, whether through draws on our current line of credit or through a new debt facility, or the raising of funds through other means, could negatively impact our going concern assessment or our governance structure in the future. The occurrence of these or any of the risks described above would impair our financial results and stock price.
Our 84% equity interest in Napster could result in material negative implications to our financial condition and stock price.
From March 31, 2010, when we completed the restructuring of our digital audio music service joint venture, Rhapsody America LLC, now doing business under the Napster brand, until January 18, 2019, we did not have a majority voting interest in Napster. During that period, we accounted for Napster using the equity method of accounting and disclosed only strategic, business and financial information regarding Napster in our financial statements and disclosures, in accordance with accounting principles generally accepted in the United States, or GAAP. Historically, Napster generated significant accounting losses and, applying the equity method of accounting, we recognized our share of such losses on our investment. As we had no implicit or explicit commitment to provide future financial support to Napster, we did not record any further share of Napster losses that would reduce our carrying value of Napster below zero.
On January 18, 2019, we acquired an additional 42% of the outstanding equity of Rhapsody International, Inc., which we refer to as Napster as noted above, from a third party in a distressed sale resulting in our ownership of an aggregate of 84% of Napster's outstanding stock. See Note 4. Acquisitions, for additional information. We also now have the right to nominate directors constituting a majority of the Napster board of directors, however, Napster will continue to operate as an independent business with its own board of directors, strategy, and leadership team. Accordingly, although we have no legal or constructive obligation to fund Napster losses and it is our intention to have Napster continue to operate as an independent company, RealNetworks has in the past extended loans to Napster and may do so in the future.
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Due to our majority voting interest and the consolidation of Napster's results and financial position with ours, Napster's current liabilities are included in RealNetworks' consolidated balance sheet, including accrued but unbilled music royalties related to past services, the ultimate payment of which is uncertain. These liabilities, although not a legal or constructive obligation of RealNetworks, result in consolidated working capital being negative, which causes management to consider whether liquidity risks exist. While we believe that these liabilities are separate obligations of Napster and RealNetworks assumes no responsibility for these liabilities, in the remote event that any such liquidity issues become significant or are deemed material to our consolidated financial statements, there could be material negative implications to our financial condition and the trading price of our stock.
As discussed in Note 4. Acquisitions, under the acquisition method of accounting, the purchase price is allocated to the assets acquired and the liabilities assumed based on their estimated fair values. The estimated fair values of the assets and liabilities, as well as the contingent consideration and noncontrolling interests, all involve the application of judgments and estimates, including but not limited to, estimation of expected future cash flows and related discount rates. In the fourth quarter of 2019, we finalized and recorded purchase price allocation adjustments that reflect new information obtained during the measurement period about facts and circumstances that existed at the date of the acquisition. These adjustments did not have a material effect on current or prior period consolidated financial statements.
Also due to the acquisition of the controlling interest in Napster, beginning with the first quarter of 2019 we consolidate Napster’s financial results into the RealNetworks financial statements. Accordingly, we must receive Napster’s quarterly financial statements and related information in a timely manner in order to prepare our quarterly and annual consolidated financial statements and disclosures in our quarterly reports on Form 10-Q and annual reports on Form 10-K. Any failure in receiving Napster's financial statements and related information in a timely and materially accurate manner could cause our reports to be filed in an untimely and/or inaccurate manner, which would preclude us from utilizing certain registration statements and could negatively impact our stock price. See Note 4. Acquisitions, for further information related to Napster.
We need to successfully monetize our new products and services in order to sustain and grow our businesses, and manage our constrained cash resources.
In order to sustain our current level of business and to implement our growth initiatives, we must successfully monetize our new products and services, including through existing and new relationships with distribution partners. Our digital media products and services must be attractive and useful to distribution partners and end users. The successful acceptance and monetization of these products and services, therefore, is subject to unpredictable and volatile factors beyond our control, including end-user preferences, competing products and services, the rapid pace of change in the market, the effectiveness of our distribution channels, and significant global crises. Any failure by us to timely and accurately anticipate consumers’ changing needs and preferences, emerging technological trends and data privacy norms, or changes in the competitive or regulatory landscape for our products and services could result in a failure to monetize our new products or the loss of market opportunities, both of which we have experienced at various times in our past.
Moreover, in order to grow our new businesses, we must make long-term investments, develop or obtain appropriate intellectual property and commit significant resources before knowing whether the products and services that we are developing or have introduced will meet the demands of the relevant market. As we have experienced, we may not realize a sufficient return, or may experience losses, on these investments, thereby further straining our limited cash resources and negatively affecting our ability to pursue other needed growth or strategic opportunities.
Sustaining and growing our businesses, and managing our constrained cash resources, are subject to these risks inherent in developing, distributing and monetizing our new products and services. Our failure to manage these risks could further impair our operations and financial results to a material degree, and could cause an unsustainable depletion of our cash resources.
Furthermore, our products and services have been in the past and may be in the future subject to legal challenge. Responding to any such claims may require us to enter into royalty and licensing agreements on unfavorable terms, require us to stop distributing or selling, or to redesign our products or services, or to pay damages, any of which could constrain our growth plans and cash resources.
Our businesses, including in connection with our growth initiatives, face substantial competitive challenges that may impair our success, thus negatively impacting our future growth.
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Our digital media products and services, including legacy and products/services central to our growth initiatives, face a wide variety of competitors, many of which have longer operating histories, greater name or brand recognition, deeper and more expansive market penetration, more employees, and significantly greater resources than we do. In addition, current and potential competitors may include relatively new businesses that develop or use innovative technologies, products or features that could disrupt the market for technologies, products or features we currently or are seeking to develop and market. In attempting to compete with any or all of these competitors, we may experience, as we have in the past, some or all of the following consequences, any of which would adversely affect our operating results and the trading price of our stock:
reduced prices or margins;
loss of current and potential customers, or partners and potential partners who distribute our products and services or who provide content that we distribute to our customers;
changes to our products, services, technologies, licenses or business practices or strategies;
lengthened sales cycles;
inability to meet demands for more rapid sales or development cycles;
industry-wide changes in content distribution to customers or in trends in consumer consumption of digital media products and services;
pressure to prematurely release products or product enhancements; or
degradation in our stature or reputation in the market.
Our Consumer Media technologies for media playback and production (RealPlayer, RealMedia VB and RealMedia HD) compete with alternative media playback technologies and audio and video content formats that have obtained broad market penetration. RealMedia VB and RealMedia HD are codecs, technology that enables compression and decompression of the media content in a (usually proprietary) format. We license our codec technology primarily to computer, smartphone and other mobile device manufacturers, and also to other partners that can support our efforts to build a strong ecosystem, like content providers and integrated circuit developers. To compete effectively, codec technologies must appeal to, and be adopted for use by, a wide range of parties: producers and providers of media content, consumers of media content, and device manufacturers who pre-load codec technologies onto their devices. Our ability to sustain or grow this business, which has recently experienced some downward pressure, is dependent on the successful promotion and adoption of our codec technologies to a wide and diverse target market, which is a complex and highly uncertain undertaking. If we are unable to compete successfully, our Consumer Media business could decline as it has in the recent past or on a more accelerated basis.
The market for our Mobile Services business is highly competitive and continues to rapidly evolve. Our SaaS services face competition from a proliferation of applications and services, many of which carriers can deploy or offer to their subscribers, or which consumers can acquire independently of their carrier. We expect pricing pressure in this business to continue to materially impact our operating results in this business. We also compete with a wide variety of companies, as small startups and well established, heavily resourced global companies continue to develop technologies and launch products in the facial recognition market. The success of this newly launched business is highly dependent on our ability to differentiate our product offering within this competitive environment.
The branded services in our Games business compete with other developers, aggregators and distributors of mobile, online, and downloadable games. Our competitors vary in size and capabilities, some of which have high volume distribution channels and greater financial resources than we do; while others may be smaller and more able to quickly or efficiently adjust to market conditions. We also face significant price competition in the casual games market, and some of our competitors may be able to offer games for free, or reduce prices more aggressively. We expect competition to continue to intensify in this market. Our games development studios compete primarily with other developers of mobile, online, and downloadable games, and must continue to develop popular and high-quality game titles. Our Games business must also continue to execute on opportunities to expand the play of our games on a variety of non-PC platforms, including mobile, in order to maintain our competitive position and to grow the business. Moreover, continued growth in our Games business is in part dependent on the availability of funds to invest in marketing, which availability cannot be assured.
The distribution and license of our technology products and services are governed by contracts with third parties, the terms of which subject us to significant risks that could negatively impact our revenue, expenses and assumption of liability related to such contracts.
In our Consumer Media and Mobile Services segments, we distribute and license most of our technology products and services pursuant to contracts with third parties, such as mobile carriers and their partners, online service providers, and OEMs and device manufacturers, many of whom may have stronger negotiating leverage due to their size and reach. These contracts govern the calculation of revenue generated and expenses incurred, how we recognize revenue and expenses in our financial statements, and the allocation of risk and liabilities arising from the product or service or distribution thereof. Terms impacting revenue, over which we may have limited if any control, may involve revenue sharing arrangements, end user pricing, usage levels, and exclusivity, all of which significantly affect the level of revenue that we may realize from the relationship.
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Moreover, contract terms around marketing and promotion of our products and other expense allocation could result in us bearing higher expenses or achieving weaker performance than we had anticipated from the relationship.
In addition, although our contracts with third parties are typically for a fixed duration, they could be terminated early; and they may be renegotiated on less favorable terms or may not be renewed at all by the other party. We must, therefore, seek additional contracts with third parties on an ongoing basis to sustain and grow our business. We expect to face continuing and increased competition for the technology products and services we provide, and there is no assurance that the parties with which we currently have contracts will continue or extend current contracts on the same or more favorable terms, or that we will obtain alternative or additional contracts for our technology products and services. As we have recently experienced in our China business, the further loss of existing contracts, the failure to enter new contracts, or the deterioration of customer creditworthiness or the terms in our contracts with third parties could materially harm our operating results, financial condition, and cash flow.
Nearly all of our contracts in which we provide to another party services or rights to use our technology include some form of obligation by us to indemnify the other party for certain liabilities and losses incurred by them, including liabilities resulting from third party claims for damages that arise out of the use of our technology. These indemnification terms provide us with certain procedural safeguards, including the right to control the defense of the indemnified party. We have in the past incurred costs to defend and settle such claims. Claims against which we may be obligated to defend others pursuant to our contracts could in the future result in payments that could materially harm our business and financial results.
Our operating results are difficult to predict and may fluctuate, which may contribute to continued weakness in our stock price, which could, in turn, jeopardize our ability to comply with Nasdaq's continued listing requirements threatening the continued listing of our common stock.
The trading price for our common stock has been steadily declining. In addition, as a result of the rapidly changing markets in which we compete, and restructuring, impairment and other one-time events specific to us, our operating results may fluctuate or continue to decline from period to period, which may contribute to continued weakness or volatility of our stock price. Moreover, the general difficulty in forecasting our operating results and identifying meaningful performance metrics, especially when factoring in our growth initiatives, could result in actual results that differ materially from expected results, again causing continued weakness and volatility in our stock price. Compounding these internal factors, external factors such as the significant recent instability in global financial markets caused in part by a global pandemic, will impact our operating results and stock price, potentially driving our stock price to record lows.
The difficulty in forecasting our operating results may also cause over or under investment in certain growth initiatives, as such investment is often planned based on expected financial results, thus causing more severe fluctuations in operating results and, likely, further volatility in our stock price.
Further, because our common stock is listed on the Nasdaq Global Market, we must meet Nasdaq's continued listing requirements, in particular, financial requirements that include maintaining a minimum bid price of at least $1.00. Although we are currently in compliance with all applicable continued listing requirements and have received no contradictory notification from Nasdaq, the trading price of our common stock has recently closed at a price below the required minimum. Further dramatic declines in the stock market have recently and may continue to cause declines in the price of our common stock. We regularly monitor our compliance with Nasdaq's continued listing requirements, and, as necessary, our Board will consider the implementation of various measures intended to support continued compliance.
Any impairment to our goodwill and definite-lived assets could result in a material charge to our earnings.
In accordance with GAAP, we test goodwill for possible impairment on an annual basis or more frequently in the event of certain indications of possible impairment. We review definite-lived assets for impairment whenever events or changes in circumstances indicate the carrying amount of such assets may not be recoverable. These events or circumstances could include a significant change in the business climate, including a significant sustained decline in a reporting unit’s fair value, changes in our operating plans and forecasts, legal factors, operating performance indicators, competition, sale or disposition of a significant portion of our business, a significant sustained decline in our market capitalization and other factors. If we were to determine that an impairment had occurred, we would be required to record an impairment charge, which could have a material negative, and unanticipated, impact on our financial results. We have recorded goodwill and definite-lived intangibles for the acquisition of Napster that totaled $69.2 million. See Note 4. Acquisitions, for further information related to Napster. The total carrying value of our goodwill and definite-lived intangible assets as of December 31, 2019 was $81.7 million. Continued significant financial distress at Napster would likely have negative implications in our assessment of goodwill and definite-lived intangible assets on RealNetworks' balance sheet.
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Continued loss of revenue from our subscription services is likely to cause further harm to our operating results.
Our operating results have been and will continue to be adversely impacted by the loss of subscription revenue related to our more traditional products and services. Subscribers cancel their subscriptions to our services for many reasons, including a perception that they do not use the services sufficiently or that the service does not provide enough value, a lack of attractive or exclusive content generally or as compared with competitive service offerings, or because customer service issues are not satisfactorily resolved. Revenue from our SuperPass subscription service, for example, has continued to decline over several periods, due to changes in consumer preferences and changes on our part to focus on other products and services we offer, and we expect this trend to continue.
Given our declining revenue and operating losses, compounded by the coronavirus pandemic and related impacts to global financial markets, management has concluded that substantial doubt exists concerning our ability to continue as a going concern.
As further discussed in Part II, Item 8, “Note 1—Description of Business and Summary of Significant Accounting Policies” to our Consolidated Financial Statements in this Annual Report on Form 10-K, due to our history of declining revenue and operating losses, as well as our near-term expectations of net negative cash flows from operating activities, compounded by the coronavirus pandemic and severe impacts to global financial markets, management has concluded that substantial doubt is deemed to exist about the company’s ability to continue as a going concern through the next 12 months. Our financial statements do not include any adjustment relating to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that might be necessary should we be unable to continue as a going concern. Our ability to continue as a going concern will require us to improve cash flow by implementing some combination of the following: reduce operating expenses; improve working capital; defer certain obligations where we believe we have the legal basis to do so; draw upon our line of credit; sell businesses, product lines or assets; effectuate strategic alliances; or obtain outside investment. Further, we must successfully complete the process currently underway with our lender of negotiating customary covenants for 2020. Our limited cash resources and our potential inability to continue as a going concern may materially adversely affect our share price, inhibit our ability to obtain outside investment or strategic alliances.
Government regulation of the Internet, facial recognition technology, and other related technologies is evolving, and unfavorable developments could have an adverse effect on our operating results.
We are subject to regulations and laws specific to the marketing, sale and delivery of goods and services. These laws and regulations, which continue to evolve, cover taxation, user privacy, data collection and protection, copyrights, electronic contracts, sales procedures, automatic subscription renewals, credit card processing procedures, consumer protections, digital games distribution, broadband Internet access and content restrictions. We cannot guarantee that we have been or will be fully compliant in every jurisdiction, as it is not entirely clear how existing laws and regulations governing issues such as privacy, taxation and consumer protection apply or will be enforced with respect to the products and services we sell. Moreover, as Internet commerce continues to evolve, increasing regulation and/or enforcement efforts by federal, state and foreign agencies and the prospects for private litigation claims related to our data collection, privacy policies or other e-commerce practices become more likely. In addition, the adoption of any laws or regulations or the imposition of other legal requirements that adversely affect our ability to market, sell, and deliver our products and services could decrease our ability to offer or customer demand for our service offerings, resulting in lower revenue. For example, the European Union's General Data Protection Regulation (GDPR), effective in May 2018, created a variety of new compliance obligations, with significant penalties for noncompliance. Moreover, in the U.S., certain states have and more states may impose stricter privacy laws that may impact accepted business practices. We cannot provide assurance that the changes that we have adopted to our business practices will be compliant or that new compliance frameworks such as this will not have a negative impact on our financial results.
In addition, through the operation of our SAFR product, we are subject to regulations and laws generally and specifically applicable to the provision of facial recognition technology. New laws and regulations are under discussion and those that exist are untested, thus we cannot guarantee that we have been or will be fully compliant in every jurisdiction. Moreover, the voluntary development of norms, standards, and best practices by companies providing facial recognition and similar technology could require modifications to our technology or practices that may be costly or incompatible with our financial model.
Future regulations, or changes in laws and regulations or their existing interpretations or applications, could require us to further change our business practices, raise compliance costs or other costs of doing business and result in additional historical or future liabilities for us, resulting in adverse impacts on our business and our operating results.
As a consumer-facing business, we receive complaints from our customers regarding our consumer marketing efforts and our customer service practices. Some of these customers may also complain to government agencies, and from time to time, those agencies have made inquiries to us about these practices. In addition, we may receive complaints or inquiries directly from governmental agencies that have not been prompted by consumers. We cannot provide assurance that governmental
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agencies will not bring future claims, as they have on occasion in the past, regarding our marketing, or consumer services or other practices.
We face financial and operational risks associated with doing business in non-U.S. jurisdictions and operating a global business, that have in the past and could in the future have a material adverse impact on our business, financial condition and results of operations.
A material portion of our revenue is derived from sales outside of the U.S. and most of our employees are located outside of the U.S. Consequently, our business and operations depend significantly on global and national economic conditions and on applicable trade regulations and tariffs. For example, our business in China could be negatively affected by an actual or perceived lack of stability or consistency in U.S.-China trade policy. The growth of our business is also dependent in part on successfully managing our international operations. Our non-U.S. sales, purchases and operations are subject to risks inherent in conducting business abroad, many of which are outside our control, including the following:
periodic local or geographic economic downturns and unstable political conditions;
price and currency exchange controls;
fluctuation in the relative values of currencies;
difficulty in repatriating money, whether as a result of tax laws or otherwise;
compliance with current and changing tax laws, and the coordination of compliance with U.S. tax laws and the laws of any of the jurisdictions in which we do business;
difficulties protecting intellectual property;
compliance with labor laws and other laws governing employees;
local labor disputes;
changes in trading policies, regulatory requirements, tariffs and other barriers, or the termination or renegotiation of existing trade agreements;
impact of changes in immigration or other policies impacting our ability to attract, hire, and retain key talent;
potential implications resulting from the outbreak of disease on a global scale or localized in countries in which we do business or have employees; and
difficulties in managing a global enterprise, including staffing, collecting accounts receivable, and managing suppliers, distributors and representatives.
Because consumers may consider the purchase of our digital entertainment products and services to be a discretionary expenditure, their decision whether to purchase our products and services may be influenced by macroeconomic factors that affect consumer spending such as unemployment, access to credit, negative financial news, and declines in income. In addition, mobile telecommunication carriers and other business partners may reduce their business or advertising spending with us or for our products and services they distribute to users in the face of adverse macroeconomic conditions, such as financial market volatility, government austerity programs, tight credit, and declines in asset values. We have in the past recorded material asset impairment charges due in part to weakness in the global economy, and we may need to record additional impairments to our assets in future periods in the event of renewed weakness and uncertainty in the global or a relevant national economy. Accordingly, any significant weakness in the national and/or global economy could materially impact our business, financial condition and results of operations in a negative manner.
Our international operations involve risks inherent in doing business globally, including difficulties in managing operations due to distance, language, cultural differences, local economic conditions, outbreak of diseases, different or conflicting laws and regulations, taxes, and exchange rate fluctuations. The functional currency of our foreign subsidiaries is typically the local currency of the country in which each subsidiary operates. We translate our subsidiaries’ revenues into U.S. dollars in our financial statements, and continued volatility in foreign exchange rates, particularly if the U.S. dollar strengthens against the euro, may result in lower reported revenue or net assets in future periods. If we do not effectively manage any of the risks inherent in running our international businesses, our operating results and financial condition could be harmed. As another example, the recent outbreak of the novel coronavirus that causes COVID-19 has resulted in travel and work restrictions within China and globally, and may significantly disrupt our ability to produce and sell products. We are monitoring the impacts of the pandemic to our business, as well as rapidly evolving expectations regarding its severity and duration. We are unable to predict the full effects of this pandemic on our operations and financial results.
Our business is conducted in accordance with existing international trade relationships, and trade laws and regulations. Changes in geopolitical relationships and laws or policies governing the terms of foreign trade, such as the recent rise in protectionist politics and economic nationalism, could create uncertainty regarding our ability to operate and conduct commercial relationships in affected jurisdictions, which could have a material adverse effect on our business and financial results. Additionally, our global operations may also be adversely affected by political events, domestic or international terrorist events and hostilities or complications due to natural or human-caused disasters. These uncertainties could have a material adverse effect on the continuity of our business and our results of operations and financial condition.
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Difficulty recruiting and retaining key personnel could significantly impair our operations or jeopardize our ability to meet our growth objectives.
Our success depends substantially on the contributions and abilities of certain key personnel, and we cannot provide assurance that we will be able to retain them in the near term or recruit them in the future. Executive-level turnover, as we have experienced in the past and could experience in the future, could impact our ability to retain key personnel. Also, qualified individuals are in high demand and competition for such qualified personnel in our industry, particularly engineering talent, is extremely intense, and we may incur significant costs to attract or retain them. Changes in immigration or other policies in the U.S. or other jurisdictions that make it more difficult to hire and retain key talent, or to assign individuals to any of our locations as needed to meet business needs, could adversely affect our ability to attract key talent or deploy individuals as needed, and thereby adversely affect our business and financial results. Further, repeated restructuring of our businesses and related cost-reduction efforts, as well as declines in our stock price, have caused instability in our workforce that makes it more difficult to retain and recruit key personnel. Given these factors, there can be no assurance that we will be able to attract and retain the key personnel necessary to sustain our business or support future growth.
These risks also apply to our material subsidiaries, most notably Napster, which has experienced a high level of turnover in recent periods.
Acquisitions and divestitures involve costs and risks that could harm our business and impair our ability to realize potential benefits from these transactions.
As part of our business strategy, we have acquired and sold technologies and businesses in the past and expect that we will continue to do so in the future.The failure to adequately manage transaction costs and address the financial, legal and operational risks raised by acquisitions and divestitures of technology and businesses could harm our business and prevent us from realizing the benefits of these transactions. In addition, we may identify and acquire target companies, but those companies may not be complementary to our current operations and may not leverage our existing infrastructure or operational experience, which may increase the risks associated with completing acquisitions.
For example, our January 18, 2019 acquisition of a controlling interest in Napster represents a significant acquisition for RealNetworks. We incurred significant transaction-related costs to effectuate the acquisition, which were recorded throughout fiscal year 2019, and we expect to record some additional costs in the first quarter of 2020. Furthermore, although Napster will continue to operate independently and its business will not be integrated into our businesses, we still face risks related to the acquisition such as the consolidation of Napster's financial results into our financial statements.
Transaction-related costs and financial risks related to completed and potential future purchase or sale transactions may harm our financial position, reported operating results, or stock price. Previous acquisitions have resulted in significant expenses, including amortization of purchased technology, amortization of acquired identifiable intangible assets and the incurrence of charges for the impairment of goodwill and other intangible assets, which are reflected in our operating expenses. New acquisitions and any potential additional future impairment of the value of purchased assets, including goodwill, could have a material negative impact on our future operating results. In compliance with GAAP, we evaluate these assets for impairment at least annually. Factors that may be considered a change in circumstances, indicating that our goodwill or definite-lived assets may not be recoverable, include reduced future revenue and cash flow estimates due to changes in our forecasts, and unfavorable changes to valuation multiples and discount rates due to changes in the market. If we were to conclude that any of these assets were impaired, we would have to recognize an impairment charge that could materially impact our financial results. With regard to Napster, the goodwill that we recorded in connection with the January 2019 acquisition could be deemed impaired in the event that Napster's cash position further deteriorates.
Purchase and sale transactions also involve operational risks that could harm our existing operations or prevent realization of anticipated benefits from a transaction. These operational risks include:
difficulties and expenses in assimilating the operations, products, technology, information systems, and/or personnel of the acquired company;
retaining key management or employees of the acquired company;
entrance into unfamiliar markets, industry segments, or types of businesses;
operating, managing and integrating acquired businesses in remote locations or in countries in which we have little or no prior experience;
diversion of management time and other resources from existing operations;
impairment of relationships with employees, affiliates, advertisers or content providers of our business or acquired business;
assumption of known and unknown liabilities of the acquired company, including intellectual property claims; and
potential impacts to our system of internal controls and disclosure controls and procedures.
We may be unable to adequately protect our proprietary rights or leverage our technology assets, and may face risks associated with third-party claims relating to intellectual property rights associated with our products and services.
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Our ability to compete across our businesses partly depends on the superiority, uniqueness and value of our technology, including both internally developed technology and technology licensed from third parties. To protect our proprietary rights, we rely on a combination of patent, trademark, copyright and trade secret laws, confidentiality agreements with our employees and third parties, and protective contractual provisions. Our efforts to protect our intellectual property rights may not assure our ownership rights in our intellectual property, protect or enhance the competitive position of our products, services and technology, or effectively prevent misappropriation of our technology.
From time to time, we receive claims and inquiries from third parties alleging that our technology used in our business may infringe the third parties’ proprietary rights. These claims, even if not meritorious, could force us to make significant investments of time, attention and money in defense, and give rise to monetary damages, penalties or injunctive relief against us. We may be forced to litigate, to enforce or defend our patents, trademarks or other intellectual property rights, or to determine the validity and scope of other parties' proprietary rights in intellectual property. To resolve or avoid such disputes, we may also be forced to enter into royalty or licensing agreements on unfavorable terms or redesign our product features, services and technology to avoid actual or claimed infringement or misappropriation of technology. Any such dispute would likely be costly and distract our management, and the outcome of any such dispute (such as additional licensing arrangements or redesign efforts) could fail to improve our business prospects or otherwise harm our business or financial results.
Nearly all of our contracts by which we provide to another party services or rights to use our technology include some form of obligation by us to indemnify the other party for certain liabilities and losses incurred by them, including liabilities resulting from third party claims for damages that arise out of the use of our technology. Also, in 2012 we sold most of our patents, including patents that covered streaming media, to Intel Corporation, in a contract by which we agreed to indemnify Intel Corporation for certain third-party infringement claims against these patents up to the purchase price we received in the sale. Claims against which we may be obligated to defend others pursuant to our contracts expose us to the same risks and adverse consequences described above regarding claims we may receive directly alleging that our trademarks or technology used in our business may infringe a third party's proprietary rights.
Disputes regarding the validity and scope of patents or the ownership of technologies and rights associated with streaming media, digital distribution, and online businesses are common and likely to arise in the future. We also routinely receive challenges to our trademarks and other proprietary intellectual property that we are using in our business activities. We are likely to continue to receive claims of third parties against us, alleging contract breaches, infringement of copyrights or patents, trademark rights, trade secret rights or other proprietary rights, or alleging unfair competition or violations of privacy rights.
Our business and operating results will suffer and we may be subject to market risk and legal liability if our systems or networks fail, become unavailable, unsecured or perform poorly so that current or potential users do not have adequate access to our products, services and websites.
Our ability to provide our products and services to our customers and operate our business depends on the continued operation and security of our information systems and networks and those of our service providers. A significant or repeated reduction in the performance, security or availability of our information systems and network infrastructure or that of our service providers could harm our ability to conduct our business, and harm our reputation and ability to attract and retain users, customers, advertisers and content providers. Many of our products are interactive Internet applications that by their very nature require communication between a client and server to operate.
We sell many of our products and services through online sales transactions directly with consumers, and their credit card information is collected and stored by our payment processors. The systems of our third party service providers may not prevent future improper access or disclosure of credit card information or personally identifiable information. We have an extensive privacy policy concerning the collection, use and disclosure of user data involved in interactions between our client, third party payment providers, and server products. A security breach that leads to disclosure of consumer account information, or any failure by us to comply with our posted privacy policy or existing or new privacy legislation, could harm our reputation, impact the market for our products and services, or subject us to litigation. We have on occasion experienced system errors and failures that caused interruption in availability of products or content or an increase in response time. Problems with our systems and networks, or the third party systems and networks that we utilize, could result from a failure to adequately maintain and enhance these systems and networks, natural disasters and similar events, power failures, intentional actions to disrupt systems and networks and many other causes. Many of our services do not currently have fully redundant systems or a formal disaster recovery plan, and we may not have adequate business interruption insurance to compensate us for losses that may occur from a system outage.
Changes in regulations applicable to the Internet and e-commerce that increase the taxes on the services we provide could materially harm our business and operating results.
As Internet commerce continues to evolve, increasing taxation by state, local or foreign tax authorities becomes more likely. For example, taxation of electronically delivered products and services or other charges imposed by government
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agencies may also be imposed. We collect transactional taxes and we believe we are compliant and current in all jurisdictions where we have a collection obligation for transaction taxes. Any regulation imposing greater taxes or other fees for products and services could result in a decline in the sale of products and services and the viability of those products and services, harming our business and operating results. A successful assertion by one or more states or foreign tax authorities that we should collect and remit sales or other taxes on the sale of our products or services could result in substantial liability for past sales.
In those countries where we have a tax obligation, we collect and remit value added tax, or VAT, on sales of “electronically supplied services” provided to European Union residents. The collection and remittance of VAT subjects us to additional currency fluctuation risks.
Changes in accounting standards and subjective assumptions, estimates, and judgments by management related to complex accounting matters could significantly affect our financial results or financial condition.
We prepare our financial statements in conformity with GAAP. These accounting principles are subject to interpretation or changes by the Financial Accounting Standards Board, or FASB, and the SEC, and new accounting pronouncements and varying interpretations of accounting standards and practices have occurred in the past and are expected to occur in the future. Moreover, our financial statements require the application of judgments and estimates regarding a wide range of matters that are relevant to our business, such as revenue recognition, asset impairment and fair value determinations, the acquisition method of accounting and its related estimated fair value amounts, stock-based compensation, music publisher and royalty accruals, and intangible asset valuations. Changes in accounting standards or practices, or in our judgments and estimates underlying accounting standards and practices, could harm our operating results and/or financial condition. An example of a new accounting pronouncement is the new lease accounting guidance. As discussed in Note 2 and Note 17 to the accompanying notes to the consolidated financial statements, this new guidance requires us to record lease assets and lease liabilities on the balance sheet, which previously were off-balance sheet obligations subject to disclosure but not recognition. Changes to existing accounting rules or to our judgments and estimates underlying those rules could materially impact our reported operating results and financial condition.
We may be subject to additional income tax assessments and changes in applicable tax regulations could adversely affect our financial results.
We are subject to income taxes in the U.S. and numerous foreign jurisdictions. Significant judgment is required in determining our worldwide provision for income taxes, income taxes payable, and net deferred tax assets. In the ordinary course of business, there are many transactions and calculations where the ultimate tax determination is uncertain. Although we believe our tax estimates are reasonable, the final determination of tax audits and any related litigation could be materially different than that which is reflected in our historical financial statements. An audit or litigation can result in significant additional income taxes payable in the U.S. or foreign jurisdictions which could have a material adverse effect on our financial condition and results of operations.
Our Chairman of the Board and Chief Executive Officer beneficially owns 38.5% of our common stock, which gives him significant control over certain major decisions on which our shareholders may vote or which may discourage an acquisition of us.
Robert Glaser, our Chairman of the Board and Chief Executive Officer, beneficially owns 38.5% of our common stock. As a result, Mr. Glaser and his affiliates will have significant influence to:
elect or defeat the election of our directors;
amend or prevent amendment of our articles of incorporation or bylaws;
effect or prevent a merger, sale of assets or other corporate transaction; and
control the outcome of any other matter submitted to the shareholders for vote.
Furthermore, on February 10, 2020, we entered into a Series B Preferred Stock Purchase Agreement with Mr. Glaser pursuant to which Mr. Glaser invested approximately $10.0 million in RealNetworks in exchange for the issuance to him of approximately 8 million shares of our Series B Preferred Stock, par value $0.001 per share. The rights, preferences, limitations, and powers of the Series B Preferred Stock are set forth in and governed by the designation of rights and preferences of Series B Preferred Stock filed with the Secretary of State of the State of Washington. Those rights, preferences, limitations, and powers include the right to proportional adjustment and the right to any dividends or distributions declared with regard to our common stock, but the Series B Preferred Stock has no voting or consent rights, has no liquidation preference, has no preferred dividend, and has limitations on transferability. Each share of Series B Preferred Stock is convertible into one share of our common stock, however no conversion is permitted in the event that it would cause Mr. Glaser’s beneficial ownership of our common stock to exceed the 38.5% threshold set forth in our shareholder rights plan dated November 30, 2018.
The stock ownership of Mr. Glaser may discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of RealNetworks, which in turn could reduce our stock price or prevent our shareholders from realizing a premium over our stock price.
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Provisions of our charter documents, shareholder rights plan, and Washington law could discourage our acquisition by a third party.
Our articles of incorporation provide for a strategic transactions committee of the board of directors. Without the prior approval of this committee, and subject to certain limited exceptions, the board of directors does not have the authority to:
adopt a plan of merger;
authorize the sale, lease, exchange or mortgage of assets representing more than 50% of the book value of our assets prior to the transaction or on which our long-term business strategy is substantially dependent;
authorize our voluntary dissolution; or
take any action that has the effect of any of the above.
Mr. Glaser has special rights under our articles of incorporation to appoint or remove members of the strategic transactions committee at his discretion that could make it more difficult for RealNetworks to be sold or to complete another change of control transaction without Mr. Glaser’s consent. RealNetworks has also entered into an agreement providing Mr. Glaser with certain contractual rights relating to the enforcement of our charter documents and Mr. Glaser’s roles and authority within RealNetworks. These rights and his role as Chairman of the Board of Directors, together with Mr. Glaser’s significant beneficial ownership, create unique potential for concentrated influence of Mr. Glaser over potentially material transactions involving RealNetworks and decisions regarding the future strategy and leadership of RealNetworks.
We have adopted a shareholder rights plan, which was amended and restated in December 2008, amended in April 2016 and February 2018, and again amended and restated in November 2018. The plan provides that shares of our common stock have associated preferred stock purchase rights, the exercise of which would make the acquisition of RealNetworks by a third party more expensive to that party, having the effect of discouraging third parties from acquiring RealNetworks without the approval of our board of directors, which has the power to redeem these rights and prevent their exercise.
Washington law imposes restrictions on some transactions between a corporation and certain significant shareholders. The foregoing provisions of our charter documents, shareholder rights plan, our agreement with Mr. Glaser, and Washington law, as well as our charter provisions that provide for a classified board of directors and the availability of “blank check” preferred stock, could have the effect of making it more difficult or more expensive for a third party to acquire, or of discouraging a third party from attempting to acquire, control of us. These provisions may therefore have the effect of limiting the price that investors might be willing to pay in the future for our common stock.
Our January 2019 acquisition of a majority stake in Napster subjects our consolidated financial condition to new risks and uncertainties, including the following:
Napster’s financial results and growth are subject to risks involving revenue concentration, strategic focus, and market competition.
In recent years, Napster’s business has shifted from a predominant reliance on a direct to consumer subscription model to delivering its music streaming content to users through business partners. With this shift in strategy, Napster’s revenue has become concentrated among fewer partners, its sales cycle has become longer and more complex, and its competitive landscape has shifted. All of these factors contribute to risks and uncertainties that could impair the implementation of Napster’s growth strategy thus causing declines in Napster’s revenue and gross margin. Any such declines would negatively impact our consolidated financial results.
As Napster’s direct to consumer subscription base declines due to intense competition in the music streaming market, its growth has become dependent on successful implementation of its platform-as-a-service strategy. Reliance on fewer key partnerships brings risk to Napster’s revenue base, and developing relationships with distribution partners requires a significant investment of time and resources, with partnerships taking longer to execute than anticipated and terms becoming increasingly complex as negotiations continue. The result is a higher degree of risk in Napster’s revenue base, compressed margins, and more uncertainty in its strategy.
Napster’s access to content and dependence on third-party licenses cause substantial risk and uncertainty to its business and could, therefore, harm our financial results.
Napster’s business relies on its ability to access content in a cost-efficient and dependable manner. To secure the rights necessary to stream music to its users, Napster must obtain licenses from record labels, aggregators, artists, publishers, performing rights organizations, collecting societies, and other copyrights owners and their agents. These rights holders, to the extent that Napster is able to identify them, possess different levels of bargaining power, require payment by Napster of varying royalty rates, and may or may not continue to make licenses available to Napster. Uncertainty with regard to, and any significant changes in, royalty rates, content availability, or Napster’s ability to identify and negotiate with these rights holders could have a material adverse effect on Napster’s revenue, profitability, and ability to provide its services. This, in turn, could harm our financial condition and stock price.
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Related to Napster’s ability to access the content necessary to provide its streaming services is its dependence on third-party licenses, including the major record labels that hold the rights to stream a significant number of sound recordings. Specifically, three major labels dominate the market, and the loss of access to content controlled by any one of these labels would materially limit Napster’s offering, which would likely result in the loss of users, through both consumer subscriptions and business partnerships. Any such loss could materially impact Napster’s revenue and cause negative implications to our consolidated financial results.
The various complexities involved in Napster’s music royalty accrual could negatively impact our financial results.
As is common in the music streaming industry, Napster’s ability to determine and appropriately accrue music royalty liabilities involves a significant degree of risk and uncertainty. This accrual requires, among other things, identification of rights holders, application of statutory and contractual royalty rates, contractual terms such as advances and minimum guarantees, estimation of market share, user information and geographies, and a significant degree of judgment. Also, in certain jurisdictions, rights holders may have several years to claim royalties for musical compositions, in respect of which ownership has not already been claimed. While Napster bases its estimates on contractual rates, historical experience and on various other assumptions that management believes to be reasonable, actual results may differ materially from these estimates under different assumptions or conditions. The complexity, subjectivity, and variability around Napster’s royalty accrual could result in actual royalty costs exceeding amounts accrued, negatively impacting Napster’s profitability and our financial results.
Also common in the industry are royalty audits, lawsuits filed by rights holders, and other third-party assertions related to use of content on our platform. Napster has been the target of these types of actions in the past and expects to continue to be in the future. These matters create uncertainty, are costly, and can require a significant amount of management’s attention. Moreover, negotiations and disclosures related to these types of matters and disputes can cause damage to key business relationships, which could materially harm Napster’s business and prospects, thus impairing our consolidated financial results.
Underlying the complexity and risk involved in Napster’s ability to determine its music royalty liabilities, is the reliability of its systems of internal control and disclosure controls and procedures. We cannot provide assurance that these systems are or will continue to be effective. Although a subsidiary of ours, Napster has not historically been subject to public reporting requirements or the level of visibility and scrutiny that accompanies public reporting. In the event that Napster’s system of internal controls, particularly relating to its music royalty accrual, is found to be ineffective, it would likely have significant implications to Napster’s financial results and, therefore, to our consolidated financial results, and could be implicated in our required testing of internal controls pursuant to the Sarbanes-Oxley Act of 2002.

Item 1B.Unresolved Staff Comments
None.
 

Item 2.Properties
Our corporate and administrative headquarters and certain research and development and sales and marketing personnel are located at our facility in Seattle, Washington.
We lease properties primarily in the following locations that are utilized by all of our business segments, unless otherwise noted below, to house our research and development, sales and marketing, and general and administrative personnel:

 
Location
Area leased
(sq. feet)
Lease expiration
Seattle, Washington (1)73,000  August 2024, with an option to
renew for two five-year periods
Seattle, Washington (2)24,000  March 2021, with an option to
renew for a five-year period
Eindhoven, Netherlands (3)23,000  June 2022
 
(1)This facility is utilized only by headquarters. As of December 31, 2019, we have reduced our use of the facility by 63%. The space which we no longer occupy is currently under sublease for all or a portion of the remaining lease term. For further information, please see Note 12. Lease Exit and Related Charges in this 10-K.
(2)This facility is utilized only by our Napster segment. As of December 31, 2019, Napster has reduced its use of the facility by 50%. The space which Napster no longer occupies is currently under sublease for all of the remaining lease term.
(3)This facility is utilized only by our Games segment.
18


In addition, we lease smaller facilities in the U.S. and foreign countries, some of which support the operations of all of our business segments while others are dedicated to a specific business segment. We believe that our properties are in good condition, adequate and suitable for the conduct of our business. For additional information regarding our obligations under leases, see Note 17. Leases, in this 10-K.
 

Item 3.Legal Proceedings
See Note 18. Commitments and Contingencies, in this 10-K.
 

Item 4.Mine Safety Disclosures
Not applicable.
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PART II.

Item 5.Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
Our common stock is traded on The NASDAQ Stock Market under the symbol RNWK.
As of January 31, 2020, there were approximately 169 holders of record of our common stock. Most shares of our common stock are held by brokers and other institutions on behalf of shareholders.
The declaration and payment of any future dividends, as well as the amount thereof, are subject to the discretion of our board of directors and will depend upon our results of operations, financial condition, capital levels, cash requirements, future prospects and other factors deemed relevant by our board of directors. Accordingly, there can be no assurance that we will declare and pay any dividends in the future. No cash dividends were paid in 2019 or 2018.

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Item 6.Selected Financial Data
The following selected consolidated financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the Consolidated Financial Statements and Notes to Consolidated Financial Statements included elsewhere in this report.
 Years Ended December 31,
 20192018201720162015
 (In thousands, except per share data)
Consolidated Statements of Operations Data:
Net revenue$172,113  $69,510  $78,718  $81,479  $92,448  
Cost of revenue103,127  17,727  23,164  27,548  39,520  
Gross profit68,986  51,783  55,554  53,931  52,928  
Operating expenses:
Research and development34,848  30,789  29,710  29,923  43,626  
Sales and marketing32,778  21,140  22,953  31,608  48,231  
General and administrative31,305  20,706  20,996  27,415  24,549  
Restructuring and other charges2,498  1,873  2,526  1,489  5,279  
Lease exit and related charges   (454) —  2,239  2,501  
Total operating expenses101,429  74,054  76,185  92,674  124,186  
Operating income (loss)(32,443) (22,271) (20,631) (38,743) (71,258) 
Other income (expense)12,253  (516) 439  1,746  (13,494) 
Income (loss) from continuing operations before income taxes(20,190) (22,787) (20,192) (36,997) (84,752) 
Income tax expense (benefit)1,068  2,202  (2,778) 776  (1,290) 
Net income (loss) from continuing operations(21,258) (24,989) (17,414) (37,773) (83,462) 
Net income (loss) from discontinued operations, net of tax—  —  1,109  1,223  1,615  
Net income (loss) including noncontrolling interests(21,258) (24,989) (16,305) (36,550) (81,847) 
Net income (loss) attributable to noncontrolling interests(1,257) —  —  —  —  
Net income (loss) attributable to RealNetworks$(20,001) $(24,989) $(16,305) $(36,550) $(81,847) 
Net income (loss) per share - diluted:
Continuing operations(0.53) (0.66) (0.47) (1.02) (2.31) 
Discontinued operations—  —  0.03  0.03  0.05  
Net income (loss) per share - diluted$(0.53) $(0.66) $(0.44) $(0.99) $(2.26) 
Shares used to compute diluted net income (loss) per share37,994  37,582  37,163  36,781  36,165  
 

 As of December 31,
 20192018201720162015
 (In thousands)
Consolidated Balance Sheets Data:
Cash, cash equivalents, and short-term investments$16,805  $35,585  $59,975  $77,052  $99,129  
Working capital(41,601) 33,481  55,157  66,304  91,373  
Total assets159,754  80,319  121,496  130,437  161,343  
Total shareholders’ equity38,775  56,840  79,173  88,581  120,683  
 

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Item 7.Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
RealNetworks invented the streaming media category in 1995 and continues to build on its foundation of digital media expertise and innovation, creating a new generation of products and services to enhance and secure our daily lives. We manage our business and report revenue and operating income (loss) in four segments: (1) Consumer Media (2) Mobile Services, (3) Games, and (4) Napster.
Within our Consumer Media segment, revenue is primarily derived from the software licensing of our video compression, or codec, technology, principally our prior-generation codec RealMedia Variable Bitrate, or RMVB, but also including some early revenue from sales of our latest technology, RealMedia High Definition, or RMHD. We also generate revenue from the sale of our PC-based RealPlayer products, including RealPlayer Plus and related products. These products and services are delivered directly to consumers and through partners, such as OEMs and mobile device manufacturers.
Our Mobile Services business generates revenue primarily from the sale of subscription services, which include our intercarrier messaging service and ringback tones, as well as through software licenses for the integration of our RealTimes platform and certain system implementations. We generate a significant portion of our revenue from sales within our Mobile Services business to a few mobile carriers. Our Mobile Services segment also includes our computer vision platform, SAFR, which includes facial recognition technology that leverages artificial intelligence-based machine learning. To date, our SAFR business has not generated a significant level of revenue.
Our Games business generates revenue primarily through the development, publishing, and distribution of casual games under the GameHouse and Zylom brands. Games are offered via mobile devices, digital downloads, and subscription play. We derive revenue from player purchases of in-game virtual goods within our free-to-play games and from advertising on games sites. In addition, we derive revenue from the sale of individual games and subscription offerings.
As described in Note 4. Acquisitions, RealNetworks acquired an additional 42% interest in Napster on January 18, 2019 (the "Napster Acquisition") resulting in our having a majority voting interest, owning 84% of Napster's outstanding equity. We consolidate Napster's financial results into our financial statements for fiscal periods following the closing of the acquisition, and Napster is reported as a separate segment in RealNetworks financial statements and related disclosures following the acquisition. The acquisition resulted in our recording of goodwill and definite-lived intangible assets, which we assess for impairment each quarter and which would be negatively impacted if Napster's business were to continue to decline or if it were to suffer significant financial distress.
The Napster segment provides music products and services that enable consumers to have access to digital music content from a variety of devices. The Napster unlimited subscription service offers unlimited access to a catalog of tens of millions of music tracks by way of on-demand streaming and conditional downloads. Napster currently offers music services worldwide and generates revenue primarily through subscriptions sold directly to consumers, through distribution partners, or through various music platform services under co-branded arrangements. Napster generates a significant portion of revenue from sales to a few partners.
RealNetworks allocates to its Consumer Media, Mobile Services, and Games reportable segments certain corporate expenses which are directly attributable to supporting these businesses, including but not limited to a portion of finance, IT, legal, human resources and headquarters facilities. Remaining expenses, which are not directly attributable to supporting these businesses, are reported as corporate items. These corporate items also can include restructuring charges and stock compensation expense. As stated in Note 4. Acquisitions, Napster is operating as an independent company and their corporate expenses, including restructuring charges, are all included in Napster's segment results, and RealNetworks does not allocate any expenses to the Napster segment.
In 2019, our consolidated revenue increased by $102.6 million compared with 2018, due mostly to the Napster Acquisition on January 18, 2019 and the resulting consolidation of their results from the acquisition date forward. Napster's 2019 revenues from the acquisition date forward were $106.3 million. In 2019, our Games segment revenue increased $3.8 million, which was offset by decreases of $5.0 million in Consumer Media revenue and $2.5 million in Mobile Services revenue. See below for further information regarding fluctuations by segment.
Operating expenses increased by $27.4 million in 2019 compared with 2018 again due primarily to the consolidation of Napster's results from the acquisition date forward. Napster's operating expenses for the fiscal year of 2019 totaled $25.8
22


million which included $0.2 million of acquisition costs. Operating expenses in 2019 also included an additional $1.3 million of professional fees associated with the acquisition of Napster.
As of December 31, 2019, we had $16.8 million in unrestricted cash and cash equivalents compared to $35.6 million as of December 31, 2018. The 2019 decrease in cash and cash equivalents from December 31, 2018 was primarily due to our ongoing cash flows used in operating activities, Napster's net repayment of debt of $4.7 million, and the $3.5 million cash required to be restricted under our Loan and Security Agreement, which we refer to as the Loan Agreement. These decreases were partially offset by the January 2019 Napster Acquisition, which added $9.9 million of cash, and the drawdown of $3.9 million from the revolving line of credit we entered into in August 2019.
See Note 22 Subsequent Event for information on the additional funding of approximately $10.0 million received by RealNetworks on February 10, 2020.
Consolidated results of operations were as follows (dollars in thousands):
201920182019-2018
Change
%
Change
Total revenue$172,113  $69,510  $102,603  148 %
Cost of revenue103,127  17,727  85,400  482 %
Gross profit68,986  51,783  17,203  33 %
Gross margin40 %74 %(34)%
Total operating expenses101,429  74,054  27,375  37 %
Operating income (loss)$(32,443) $(22,271) $(10,172) (46)%
2019 compared with 2018
In 2019, our consolidated revenue increased by $102.6 million, or 148%. The increase in revenue was predominantly due to the Napster Acquisition on January 18, 2019, and the consolidation of its results from the acquisition date forward. Napster's 2019 revenues from the acquisition date forward were $106.3 million. In 2019, our Games segment revenue increased $3.8 million, offset by decreases of $5.0 million in Consumer Media revenue and $2.5 million in Mobile Services revenue. See below for further information regarding fluctuations by segment. Gross margin decreased to 40% from 74%, driven by the lower margin of the Napster segment.
Operating expenses increased by $27.4 million in 2019 compared with 2018 primarily due to the consolidation of Napster's results from the acquisition date forward. Napster's operating expenses for the fiscal year of 2019 totaled $25.8 million, including $0.2 million of acquisition-related costs. Operating expenses within Corporate in 2019 included an additional $1.3 million of acquisition-related costs and $1.0 million of change in fair value of the Napster contingent consideration liability.

Segment Operating Results
Consumer Media
Consumer Media segment results of operations were as follows (dollars in thousands):
201920182019-2018
Change
%
Change
Total revenue$13,170  $18,168  $(4,998) (28)%
Cost of revenue3,031  3,858  (827) (21)%
Gross profit10,139  14,310  (4,171) (29)%
Gross margin77 %79 %(2)%
Total operating expenses11,186  14,419  (3,233) (22)%
Operating income (loss)$(1,047) $(109) $(938) NM  
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2019 compared with 2018
Total Consumer Media revenue decreased by $5.0 million, or 28% as compared to the prior year, due primarily to decreased software license revenues of $3.4 million, as well as decreases in our subscription service revenues of $0.8 million and lower product sales, advertising and other revenues of $0.8 million.
Software License
For our software license revenues, the $3.4 million decrease was primarily related to declining shipments by our distribution partners of products embedded with our codec technology and the timing of contract renewals with our distribution partners. The bulk of these licenses for our codec technology are with companies based in China and, in the near term, it is possible we may see continued pressure in pricing and renewals, and potential further declines in sales. In addition, it is unclear whether or how the recent outbreak of coronavirus COVID-19 and its effect on Chinese companies will impact our codec business.
Subscription Services
For our subscription services revenues, the decrease of $0.8 million was primarily due to further declines in our legacy subscription products, which we expect to continue.
Cost of revenue decreased by $0.8 million, or 21%. This was primarily due to reductions in salaries and benefits of $0.5 million, and reductions in bandwidth and license royalty costs of $0.3 million.
Operating expenses decreased by $3.2 million, or 22%, compared to the prior year, primarily due to lower salaries and benefits, from headcount reductions, and professional services fees of $2.8 million as well as lower marketing expenses of $0.3 million.
Mobile Services
Mobile Services segment results of operations were as follows (dollars in thousands):
201920182019-2018
Change
%
Change
Total revenue$27,143  $29,670  $(2,527) (9)%
Cost of revenue7,500  8,623  (1,123) (13)%
Gross profit19,643  21,047  (1,404) (7)%
Gross margin72 %71 %%
Total operating expenses29,340  28,066  1,274  %
Operating income (loss)$(9,697) $(7,019) $(2,678) (38)%

2019 compared with 2018
Mobile Services revenue decreased by $2.5 million, or 9%, and was primarily driven by a decrease of $2.8 million in subscription services revenue, offset by an increase of $0.3 million in software license revenue.
Software license
For our software license revenues, the $0.3 million increase was primarily the result of revenue from sales of our recently introduced SAFR product, which recognized negligible revenue in the prior year. At this time, we believe that there is risk that the effects of the recent outbreak of coronavirus COVID-19 on global mobility and corporate investment could negatively impact growth expectations and sales prospects for our SAFR business.
Subscription service
For our subscription services, the $2.8 million decrease was driven by fewer subscribers to our ringback tones causing a decrease in revenue of $3.5 million and a revenue decrease of $0.4 million related to professional services fees. These decreases were offset by an increase in revenue from our intercarrier messaging platform business of $1.1 million.
Cost of revenue decreased by $1.1 million or 13% as compared to the prior year, due primarily to reductions in salaries and benefits of $0.6 million related to headcount reductions and infrastructure costs of $0.4 million.
Operating expenses increased by $1.3 million or 5% primarily due to increased salaries and benefits related to increased investment in SAFR, partially offset by savings in our ringback tones business.

Games
Games segment results of operations were as follows (dollars in thousands):
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201920182019-2018
Change
%
Change
Total revenue$25,489  $21,672  $3,817  18 %
Cost of revenue6,975  6,123  852  14 %
Gross profit18,514  15,549  2,965  19 %
Gross margin73 %72 %%
Total operating expenses20,220  20,324  (104) (1)%
Operating income (loss)$(1,706) $(4,775) $3,069  64 %
2019 compared with 2018
Games revenue increased by $3.8 million, or 18% as compared to the prior year primarily due to increases of $1.2 million in product sales revenues, $1.6 million in advertising and other revenues and $1.0 million in our subscription services revenues, described more fully below. Our Games segment continues to shift its focus toward free-to-play games that offer in-game purchases of virtual goods, the revenue from which is included within product sales, and away from premium mobile games that require a one-time purchase.
Subscription Services
Our subscription sales increased $1.0 million as a result of new subscription offerings for our Original Stories games.
Product sales
Our product sales increased $1.2 million as a result of higher in-game purchases of $4.6 million compared to the prior-year period, offset by lower sales of games of $3.4 million as we continue to shift toward free-to-play games that offer in-game purchases of virtual goods and away from premium mobile games that require a one-time purchase.
Advertising and other
Our advertising and other revenues increased $1.6 million as compared to the prior-year period primarily as a result of offering more in-game advertising within our free-to-play and other mobile games.
Cost of revenue increased by $0.9 million, or 14%, due to higher app store fees of $1.2 million, partially offset by lower publisher license and service royalties.
Operating expenses decreased by $0.1 million, primarily due to lower salaries, benefits, professional services fees and infrastructure expenses, offset by higher marketing fees of $1.4 million.
Napster
Napster segment results of operations were as follows (in thousands):
201920182019-2018
Change
Total revenue$106,311  $—  $106,311  
Cost of revenue85,901  —  85,901  
Gross profit20,410  —  20,410  
Gross margin19 %— %19 %
Total operating expenses25,789  —  25,789  
Operating income (loss)$(5,379) $—  $(5,379) 

2019 compared with 2018
As described in Note 4. Acquisitions, we acquired control and began consolidating Napster effective January 18, 2019. Our consolidated results include Napster from the acquisition date forward.
Napster's revenues relate to subscription services and include $55.4 million of direct-to-consumer revenues and $50.9 million of revenues resulting from services sold through distribution partners in the year ended December 31, 2019.
Cost of revenues primarily consist of content royalties related to music label and publishing rights for the domestic and international music streaming services. These costs can vary materially from period to period due to the significant judgments, assumptions, and estimates of the amounts to be paid. Napster's cost of revenues for the year ended December 31, 2019 included $1.5 million of amortization expense related to intangible assets acquired.
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Operating expenses primarily include salaries, benefits, and professional services fees. In the year ended December 31, 2019, Napster's operating expenses included $2.8 million of amortization expense related to intangible assets acquired and $0.5 million of restructuring charges.
Corporate
Corporate segment results of operations were as follows (dollars in thousands):
201920182019-2018
Change
%
Change
Cost of revenue$(280) $(877) $597  (68)%
Total operating expenses14,894  11,245  3,649  32 %
Operating income (loss)$(14,614) $(10,368) $(4,246) (41)%
2019 compared with 2018
Cost of revenue increased by $0.6 million compared to the prior year due to the reversal in 2018 of certain aged royalty liabilities relating to our legacy music business.
Operating expenses increased by $3.6 million, or 32%. The increase was primarily due to professional fees driven by $1.3 million of costs associated with our acquisition of Napster and higher salaries and benefits of $1.2 million. The overall increase was also impacted by $1.0 million related to the change in fair value of the Napster contingent consideration liability.
Consolidated Operating Expenses
Our operating expenses consist primarily of salaries and related personnel costs including stock-based compensation, consulting fees associated with product development, sales commissions, amortization of certain intangible assets capitalized in our acquisitions, professional service fees, advertising costs, restructuring charges, and lease exit costs. Operating expenses were as follows (dollars in thousands):
201920182019-2018
Change
%
Change
Research and development$34,848  $30,789  $4,059  13 %
Sales and marketing32,778  21,140  11,638  55 %
General and administrative31,305  20,706  10,599  51 %
Restructuring and other charges2,498  1,873  625  33 %
Lease exit and related charges  (454) 454  NM  
Total consolidated operating expenses$101,429  $74,054  $27,375  37 %
Research and development expenses increased by $4.1 million, or 13%, in the year ended 2019 as compared to 2018 primarily due to the Napster Acquisition on January 18, 2019, and the consolidation of their results from the acquisition date forward. Napster's research and development expenses for the year ended December 31, 2019 totaled $7.0 million. This increase was offset by a decrease in salaries, benefits and professional services fees of $2.9 million related to our other segments.
Sales and marketing expenses increased by $11.6 million, or 55%, in the year ended 2019, compared with 2018. The increase was primarily due to the Napster Acquisition, as discussed above. Napster's sales and marketing expenses for the year ended December 31, 2019 totaled $9.8 million. The overall increase in sales and marketing expenses was also impacted by $1.0 million increase in salaries and benefits and $1.1 million in marketing expenses primarily due to increased efforts towards free-to-play games. These increases were offset by a $0.3 million decrease in infrastructure expense.
General and administrative expenses increased by $10.6 million, or 51%, in the year ended 2019, compared with 2018. The increase was primarily due to the Napster Acquisition as discussed above. Napster's general and administrative expenses for the year ended December 31, 2019 totaled $8.5 million, which includes $0.2 million of acquisition-related costs. We also incurred additional expenses of $1.3 million in 2019 for costs associated with the Napster Acquisition and recorded the change in fair value of the Napster contingent consideration liability of $1.0 million as an expense.
Restructuring and other charges and Lease exit and related charges consist of costs associated with the ongoing reorganization of our business operations and our ongoing expense re-alignment efforts. For additional details on these charges see Note 11. Restructuring Charges and Note 12. Lease Exit and Related Charges.
Other Income (Expenses)
Other income (expenses), net was as follows (dollars in thousands):
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201920182019-2018
Change
%
Change
Interest expense$(636) $—  $(636) NM  
Interest income131  344  (213) (62)%
Gain (loss) on equity investments, net12,338  —  12,338  NM  
Equity in net loss of Napster —  (757) 757  NM  
Other income (expense), net420  (103) 523  NM  
Total other income (expense), net$12,253  $(516) $12,769  NM  
Interest expense relates to RealNetworks and Napster's notes payable and long-term debt, as described in detail in Note 10. Notes Payable and Long-term Debt.
Total other income (expense), net, for the year ended December 31, 2019 includes $12.3 million related to RealNetworks' gain on consolidation of Napster, as described in more detail in Note 4. Acquisitions.
Income Taxes
During the years ended December 31, 2019 and 2018, we recognized income tax expense of $1.1 million and $2.2 million, respectively, related to U.S. and foreign income taxes.
The income tax expense for the year ended December 31, 2019 was largely the result of foreign withholding taxes and income taxes in foreign jurisdictions. The income tax expense for the year ended December 31, 2018 was largely the result of foreign withholding taxes, income taxes in foreign jurisdictions, and income tax expense for the accrued tax associated with future repatriations of foreign earnings that are no longer considered to be indefinitely reinvested.
We assess the likelihood that our deferred tax assets will be recovered based upon our consideration of many factors, including the current economic climate, our expectations of future taxable income, our ability to project such income, and the appreciation of our investments and other assets. We maintain a partial valuation allowance of $160.8 million for our deferred tax assets due to uncertainty regarding their realization as of December 31, 2019. The net increase in the valuation allowance since December 31, 2018 of $23.5 million was the result of an increase in current year deferred tax assets, mainly related to the acquisition of Napster, for which the Company maintains a valuation allowance.
We generate income in a number of foreign jurisdictions, some of which have higher tax rates and some of which have lower tax rates relative to the U.S. federal statutory rate. Changes to the blend of income between jurisdictions with higher or lower effective tax rates than the U.S. federal statutory rate could affect our effective tax rate. For the year ended December 31, 2019, decreases in tax expense from income generated in foreign jurisdictions with lower tax rates in comparison to the U.S. federal statutory rate were offset by increases in tax expense from income generated in foreign jurisdictions having comparable, or higher tax rates in comparison to the U.S. federal statutory rate.
As of December 31, 2019 and 2018, RealNetworks had $5.0 million and $0.4 million in uncertain tax positions, respectively. The increase in uncertain tax positions is primarily the result of the Napster Acquisition, for which unrecognized tax positions were recorded relating to federal research and development tax credit carryforward risks, as well as transfer pricing risks in certain foreign jurisdictions. The total amount of unrecognized tax benefits that would affect our effective tax rate if recognized, is $1.3 million as of December 31, 2019. Notwithstanding current year accruals for existing positions, we do not anticipate that the total amount of unrecognized tax benefits will significantly change within the next twelve months.
We file numerous consolidated and separate income tax returns in the U.S. including federal, state and local, as well as foreign jurisdictions. With few exceptions, we are no longer subject to U.S. federal income tax examinations for tax years before 2013 or state, local, or foreign income tax examinations for years before 1993. We are currently under audit by various states and foreign jurisdictions for certain tax years subsequent to 1993.
Liquidity and Capital Resources
The following summarizes working capital, cash, cash equivalents, short-term investments, and restricted cash and investments (in thousands):
 December 31,
 20192018
Working capital$(41,601) $33,481  
Cash, cash equivalents, and short-term investments16,805  35,585  
Restricted cash equivalents5,374  1,630  
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The 2019 decrease in working capital from December 31, 2018 was predominantly due to the consolidation of Napster, which has a negative working capital due in part to its accrued music royalties, which totaled $54.2 million at December 31, 2019.
Cash and cash equivalents, and short-term investments decreased from December 31, 2018 due to our ongoing negative cash flow from operating activities, which totaled $25.3 million in the year of 2019, Napster's net repayment of debt of $4.7 million, and amounts required to be restricted, as discussed below. These decreases were partially offset by proceeds from borrowing on our revolving credit facility of $3.9 million and our January 2019 Napster Acquisition, which added $9.9 million of net cash and cash equivalents. In the near term, we expect to see continued net negative cash flow from operating activities.
The increase in restricted cash equivalents is due to the restricted amounts required by the Loan Agreement we entered into in August 2019. See Note 5. Fair Value Measurements for additional details.
The following summarizes cash flow activity (in thousands):
 Years Ended December 31,
 20192018
Cash provided by (used in) operating activities$(25,370) $(19,221) 
Cash provided by (used in) investing activities11,081  3,798  
Cash provided by (used in) financing activities(623) (62) 
Cash used in operating activities consisted of net income (loss) including noncontrolling interests adjusted for certain non-cash items such as depreciation and amortization, stock-based compensation, gain on equity investment, fair value adjustments to contingent consideration liability and the effect of changes in certain operating assets and liabilities.
Cash used in operating activities was $6.1 million higher in the year ended December 31, 2019 as compared to 2018. Cash used in operations was higher primarily due to our higher operating loss recorded for year 2019 compared to the prior year.
For the year ended December 31, 2019, cash provided by investing activities of $11.1 million was primarily due to our Napster Acquisition on January 18, 2019. Our initial cash consideration paid at closing of $0.2 million was offset by the cash, cash equivalents and restricted cash on Napster's balance sheet at that date. As fully described below, we are obligated to make further cash payments relating to the acquisition. The increase was offset in part by fixed asset purchases of $1.2 million.
For the year ended December 31, 2018, cash provided by investing activities of $3.8 million was due to sales and maturities of short-term investments totaling $8.8 million. The sales and maturities were offset by our purchase of a Netherlands-based game development studio in the second quarter of 2018 for net cash consideration of $4.2 million and by purchases of equipment, software and leasehold improvements of $0.8 million.
Financing activities for the year ended December 31, 2019 used cash totaling $0.6 million. This cash outflow was primarily due to Napster's net repayment of debt of $4.7 million, partially offset by proceeds from borrowing on our revolving credit facility of $3.9 million. See Note 10. Notes Payable and Long-term Debt for additional details.
Financing activities for the year ended December 31, 2018 used cash totaling $0.1 million which was from $0.3 million for tax payments from shares withheld upon vesting of restricted stock offset in part by proceeds received from the issuance of common stock of $0.2 million.
While we currently have no planned significant capital expenditures for 2020 other than those in the ordinary course of business, we do have contractual commitments for future payments related to office leases. See Note 17. Leases for additional details.
As discussed in Note 4. Acquisitions, we acquired a controlling interest in Napster on January 18, 2019. We paid initial cash consideration of $0.2 million in the first quarter of 2019 and have accrued an additional $0.8 million as a current liability as of December 31, 2019. We also have recognized a liability for the estimated fair value of contingent consideration related to the acquisition. As discussed in Note 4. Acquisitions, this fair value amount was estimated using multiple scenarios for each tranche of contingent consideration, probability weighting each scenario, and discounting to arrive at an estimated fair value. This fair value calculation is directly impacted by the total estimated enterprise value of Napster. The contingent consideration will be adjusted quarterly to fair value through earnings, and as of December 31, 2019 the estimated fair value of the contingent consideration was $12.6 million, with $2.8 million recognized as a current liability and $9.8 million as a long-term liability. Any future amounts RealNetworks pays for contingent consideration could vary materially from the estimated amounts we have accrued as of December 31, 2019. See Note 4. Acquisitions for additional details.
In August 2019, RealNetworks and Napster entered into the Loan Agreement with a third-party financial institution. Under the terms of the Agreement, which are further described in Note 10. Notes Payable and Long-term Debt, the bank extended a two-year revolving line of credit not to exceed $10.0 million in the aggregate. As of December 31, 2019, $3.9
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million had been drawn on the revolving line of credit, and any further advances will be used for working capital and general corporate purposes.
In 2019, Mr. Glaser directly invested $0.8 million in one of our subsidiaries in exchange for shares of preferred stock of that entity. The subsidiary is developing a platform that transforms the experience of viewing video entertainment into a social, connected playground. As of December 31, 2019, RealNetworks owned approximately 82% of the subsidiary's outstanding equity, and we consolidate its financial results into our financial statements. The financial results of the subsidiary are reported in our Consumer Media segment.
On February 10, 2020, we entered into a Series B Preferred Stock Purchase Agreement with Mr. Glaser, pursuant to which Mr. Glaser invested approximately $10.0 million in RealNetworks in exchange for the issuance to him of 8,064,516 shares of Series B Preferred Stock. The Series B Preferred Stock is non-voting and is convertible into common stock on a one-to-one basis, provided, however, that no conversion is permitted in the event that such conversion would cause Mr. Glaser’s beneficial ownership of our common stock to exceed the 38.5% threshold set forth in our Second Amended and Restated Shareholder Rights Plan dated November 30, 2018. The Series B Preferred Stock has no liquidation preference and no preferred dividend.
We have evaluated our current liquidity position in light of our history of declining revenue and operating losses as well as our near-term expectations of net negative cash flows from operating activities. While we currently believe existing unrestricted cash balances, including the $10.0 million in cash proceeds from our recent sale of Series B Preferred Stock, along with current availability on our revolving line of credit will be sufficient to allow us to meet our obligations for the next 12 months, our assessment is subject to inherent risks and uncertainties. Moreover, our operating forecast is partly dependent on factors that are outside of our control. Compounding these risks, uncertainties, and other factors are the potential effects of the recent coronavirus pandemic and related impacts on global commerce and financial markets. Further, we must successfully complete the process currently underway with our lender of negotiating customary covenants for 2020. These conditions, when evaluated within the guidance of ASC 205-40, raise substantial doubt about our ability to meet our obligations over the ensuing 12 months and, therefore, to continue as a going concern.
We have active plans to mitigate these conditions. Specifically, we plan to reduce negative cash flow through operating expense reductions, as well as through the deferral of certain obligations where we believe that we have the legal basis to do so. In addition, we are evaluating various strategic opportunities, which may include selling certain businesses or product lines, soliciting external investment into certain of our businesses, or seeking other strategic partnerships. Our plans are subject to inherent risks and uncertainties, which are accentuated by the effects of the current pandemic and related financial crisis. Accordingly, there can be no assurance that our plans can be effectively implemented and, therefore, that the conditions can be effectively mitigated.
Napster will also require outside funding in order to meet its anticipated cash needs over the next 12 months. RealNetworks has no contractual or implied legal obligation to provide funding or other financial support to Napster, and any funding to Napster under the Loan Agreement must be effectuated by RealNetworks. Significant financial distress at Napster could have negative implications in our assessment of goodwill and long-lived assets on RealNetworks' balance sheet.
In the future, we may seek to raise additional funds through public or private equity financing or through other sources. Such sources of funding may or may not be available to us on commercially reasonable terms. The sale of additional equity securities could result in dilution to our shareholders. In addition, in the future, we may enter into cash or stock acquisition transactions or other strategic transactions that could reduce cash available to fund our operations or result in dilution to shareholders.
Our cash equivalents consist of money market funds.
We conduct our operations primarily in four functional currencies: the U.S. dollar, Brazilian real, the euro and the Chinese yuan. We currently do not actively hedge our foreign currency exposures and are therefore subject to the risk of exchange rate fluctuations. We are exposed to foreign exchange rate fluctuations as the financial results of foreign subsidiaries are translated into U.S. dollars in consolidation. Our exposure to foreign exchange rate fluctuations also arises from intercompany payables and receivables to and from our foreign subsidiaries.
As of December 31, 2019, approximately $11.4 million of the $16.8 million of cash and cash equivalents are held by our foreign subsidiaries outside the U.S. We have reevaluated our historical assertion that undistributed foreign earnings were indefinitely reinvested and for which deferred taxes were not provided. As a result of the enactment of the Tax Act and as of December 31, 2019, we are no longer indefinitely reinvesting substantially all of the Company's foreign earnings outside of the U.S. As a result of this change, we have recorded deferred taxes of $0.9 million as of December 31, 2019 to reflect local country and foreign withholding taxes associated with a future repatriation of such foreign earnings.
Contractual Obligations
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We have contractual obligations for Long-term debt and for Long-term lease liabilities, both of which are recorded on our balance sheet. For details on the maturity of Long-term debt please refer to Note 10. Notes Payable and Long-term Debt and for future minimum lease payments please refer to Note 17. Leases. Please also refer to Note 18. Commitments and Contingencies. For income tax liabilities for uncertain tax positions, we cannot make a reasonably reliable estimate of the amount and period of any related future payments. As of December 31, 2019, we had $5.0 million of gross unrecognized tax benefits for uncertain tax positions.
Off-Balance Sheet Arrangements
We do not maintain accruals associated with certain guarantees, as discussed in Note 19. Guarantees; those guarantee obligations constitute off-balance sheet arrangements.
As disclosed in Note 17. Leases, we adopted the new accounting requirement for leases on January 1, 2019 and thus our operating lease obligations are now recorded on our consolidated balance sheet, rather than disclosed as off-balance sheet items.
Critical Accounting Policies and Estimates
The preparation of our financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reported period. Our critical accounting policies and estimates are as follows:
Revenue recognition;
Music royalties;
Valuation of definite-lived assets and goodwill; and
Accounting for income taxes.
Revenue Recognition. We recognize revenue from contracts with customers as control of the promised good or service is transferred. Please refer to Note 3. Revenue Recognition for further details regarding our recognition policies.
Music Royalties. Napster estimates the amounts of royalties payable to music publishers or other rights-holders in relation to the use of music content on Napster's music services (both domestic and international). Material differences in these estimates and the actual amounts ultimately determined to be payable may impact the amount and timing of expense in future periods. Napster’s license agreements with rights-holders for the content used on its music service are often complex, and the determination of royalty accruals can involve significant judgments, assumptions, and estimates of the amounts to be paid. The variables involved in determining royalty payments or accruals may include the applicable revenue, the type of content used, the country it is used in, the number of plays, the number of subscribers, the rights granted to trial or promotional users, and identification of the appropriate license holder, among other variables. In addition, some rights-holders have allowed the use of their content prior to finalizing the applicable license agreement. In these circumstances, royalties are accrued based on Napster's best estimate of the expected amount.
In certain jurisdictions, rights-holders may have several years to claim royalties for musical compositions, in respect of which ownership has not already been claimed. While Napster bases its estimates on contractual rates, historical experience and on various other assumptions that management believes to be reasonable, actual results may differ materially from these estimates under different assumptions or conditions.
Many of Napster's content license agreements give the rights-holders the right to audit Napster's royalty payments. Given the complexity of the licensing arrangements, any such audit could result in disputes over whether Napster has correctly reported and paid the proper royalties. If such a dispute were to occur, Napster could be required to pay additional royalties, and the amounts involved could be material.
Napster may occasionally be involved in legal actions or other third-party assertions related to use of content on its platform. These actions might be costly and could adversely impact Napster's financial position, results of operations, or cash flows. Napster records a liability when it is probable that a loss has been incurred and the amount can be reasonably estimated. Determining whether a loss is probable and estimable requires management to use significant judgment. Given the uncertainties associated with any litigation, the actual outcome can be different than Napster's estimates and could adversely affect its results of operations, financial position, and cash flows.
Valuation of Definite-Lived Assets and Goodwill. Assets acquired and liabilities assumed in a business acquisition are measured at fair value under the purchase accounting method and any goodwill is recognized as the excess of the total purchase price over the fair value of assets acquired and liabilities assumed. The fair value estimates are based upon estimates and assumptions relating to future revenues, cash flows, operating expenses and costs of capital. These estimates and assumptions are complex and subject to a significant degree of judgment with respect to certain factors including, but not limited to, the cash flows of long-term operating plans and risk-commensurate discount rates and cost of capital. In addition, the size, scope, and complexity of an acquisition will affect the time it takes to obtain the necessary information to record the acquired assets and
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liabilities at fair value. It may take up to one year to finalize the initial fair value estimates used in the preliminary purchase accounting. Accordingly, it is reasonably likely that our initial estimates will be subsequently revised, which could affect carrying amounts of goodwill, intangibles, noncontrolling interests, contingent consideration, and potentially other assets and liabilities in our financial statements.
Our definite-lived assets consist primarily of amortizable intangible assets acquired in business combinations, property, plant and equipment, and right-of-use operating lease assets. Definite-lived assets are amortized on a straight line basis over their estimated useful lives. We review definite-lived assets for impairment whenever events or changes in circumstances indicate the carrying amount of such assets may not be recoverable. Recoverability of these assets is measured by comparison of their carrying amount to future undiscounted cash flows the assets are expected to generate. If definite-lived assets are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the assets exceeds their fair market value.
We test goodwill for impairment on an annual basis, in our fourth quarter, or more frequently if circumstances indicate reporting unit carrying values may exceed their fair values. As part of this test, we first perform a qualitative assessment to determine if the fair value of a reporting unit is more likely than not less than the reporting unit's carrying amount including goodwill. If this assessment indicates it is more likely than not, we then compare the carrying value of the reporting unit to the estimated fair value of the reporting unit. If the carrying value of the reporting unit exceeds the estimated fair value, we then calculate the implied estimated fair value of goodwill for the reporting unit and compare it to the carrying amount of goodwill for the reporting unit. If the carrying amount of goodwill exceeds the implied estimated fair value, an impairment charge to current operations is recorded to reduce the carrying value to implied estimated value.
The impairment analysis of definite-lived assets and goodwill is based upon estimates and assumptions relating to our future revenue, cash flows, operating expenses, costs of capital and capital purchases. These estimates and assumptions are complex and subject to a significant degree of judgment with respect to certain factors including, but not limited to, the cash flows of our long-term operating plans, market and interest rate risk, and risk-commensurate discount rates and cost of capital. Significant or sustained declines in future revenue or cash flows, or adverse changes in our business climate, among other factors, and their resulting impact on the estimates and assumptions relating to the value of our definite-lived and goodwill assets could result in the need to perform an impairment analysis in future periods which could result in a significant impairment. While we believe our estimates and assumptions are reasonable, due to their complexity and subjectivity, these estimates and assumptions could vary from period to period. Changes in these estimates and assumptions could materially affect the estimate of future cash flows and related fair values of these assets and result in significant impairments, which could have a material adverse effect on our financial condition or results of operations. For further discussion, please see the risk factor entitled, "Any impairment to our goodwill and definite-lived assets could result in a material charge to our earnings" under Item 1A Risk Factors.
Accounting for Income Taxes. We use the asset and liability method of accounting for income taxes. Under this method, income tax expense is recognized for the amount of taxes payable or refundable for the current year. In addition, deferred income tax expense and deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax basis of assets and liabilities and for operating losses and tax credit carryforwards. Deferred tax assets and liabilities and operating loss and tax credit carryforwards are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences and operating loss and tax credit carryforwards are expected to be recovered or settled. We must make assumptions, judgments and estimates to determine the current and deferred provision for income taxes, deferred tax assets and liabilities and any valuation allowance to be recorded against deferred tax assets. Our judgments, assumptions, and estimates relative to the current provision for income tax take into account current tax laws, our interpretation of current tax laws and possible outcomes of future audits conducted by foreign and domestic tax authorities. Changes in tax law or our interpretation of tax laws and future tax audits could materially impact the amounts provided for income taxes in our consolidated financial statements.
Each reporting period we must periodically assess the likelihood that our deferred tax assets will be recovered from future sources of taxable income, and to the extent that recovery is not more likely than not, a valuation allowance must be established. The establishment of a valuation allowance and increases to such an allowance result in either increases to income tax expense or reduction of income tax benefit in the statement of operations and comprehensive income. In certain instances, changes in the valuation allowance may be allocated directly to the related components of shareholders' equity on the consolidated balance sheet. Factors we consider in making such an assessment include, but are not limited to, past performance and our expectation of future taxable income, macroeconomic conditions and issues facing our industry, existing contracts, our ability to project future results and any appreciation of our investments and other assets.
As of December 31, 2019, approximately $11.4 million of the $16.8 million of cash and cash equivalents are held by our foreign subsidiaries outside the U.S. We have reevaluated our historical assertion that undistributed foreign earnings were indefinitely reinvested and for which deferred taxes were not provided. As a result of the enactment of the Tax Act and as of
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December 31, 2019, we are no longer indefinitely reinvesting substantially all of the Company's foreign earnings outside of the U.S. As a result of this change, we have recorded deferred taxes of $0.9 million as of December 31, 2019 to reflect local country and foreign withholding taxes associated with a future repatriation of such foreign earnings.
Recently Issued Accounting Standards
See Note 2. Recent Accounting Pronouncements.

Item 7A.Quantitative and Qualitative Disclosures About Market Risk
The following discussion about our market risk involves forward-looking statements. All statements that do not relate to matters of historical fact should be considered forward-looking statements. Actual results could differ materially from those projected in any forward-looking statements.
Interest Rate Risk. Our exposure to interest rate risk from changes in market interest rates relates primarily to RealNetworks and Napster's long-term debt and notes payable. RealNetworks and Napster's borrowing arrangements have floating rate interest payments and thus have a degree of interest rate risk, if interest rates increase. Based on the outstanding long-term debt and notes payable as of December 31, 2019, a hypothetical 10% increase/decrease in interest rates would not increase/decrease our annual interest expense or cash flows by more than a nominal amount.
Foreign Currency Risk. We conduct business internationally in several currencies and thus are exposed to adverse movements in foreign currency exchange rates.
Our exposure to foreign exchange rate fluctuations arise in part from: (1) translation of the financial results of foreign subsidiaries into U.S. dollars in consolidation; (2) the remeasurement of non-functional currency assets, liabilities and intercompany balances into U.S. dollars for financial reporting purposes; and (3) non-U.S. dollar denominated sales to foreign customers.
Our foreign currency risk management program reduces, but does not entirely eliminate, the impact of currency exchange rate movements.
We have cash balances denominated in foreign currencies which are subject to foreign currency fluctuation risk. The majority of our foreign currency denominated cash is held in Brazilian real, euros, Chinese yuan and Japanese yen. A hypothetical 10% increase or decrease in those currencies relative to the U.S. dollar as of December 31, 2019 would not result in a material impact on our financial position, results of operations or cash flows.


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Item 8.Financial Statements and Supplementary Data

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REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
December 31,
2019
December 31,
2018
ASSETS
Current assets:
Cash and cash equivalents$16,805  $35,561  
Short-term investments  24  
Trade accounts receivable, net of allowances29,507  11,751  
Deferred costs, current portion823  331  
Prepaid expenses and other current assets7,445  5,911  
Total current assets54,580  53,578  
Equipment, software, and leasehold improvements, at cost:
Equipment and software32,167  37,458  
Leasehold improvements3,311  3,292  
Total equipment, software, and leasehold improvements35,478  40,750  
Less accumulated depreciation and amortization32,657  37,996  
Net equipment, software, and leasehold improvements2,821  2,754  
Operating lease assets11,592    
Restricted cash equivalents5,374  1,630  
Other assets1,891  3,997  
Deferred costs, non-current portion1,021  528  
Deferred tax assets, net761  851  
Other intangible assets, net19,286  26  
Goodwill62,428  16,955  
Total assets$159,754  $80,319  
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable$4,927  $3,910  
Accrued royalties, fulfillment and other current liabilities77,303  11,312  
Commitment to Napster  2,750  
Deferred revenue, current portion6,620  2,125  
Notes payable7,331    
Total current liabilities96,181  20,097  
Deferred revenue, non-current portion96  268  
Deferred rent  986  
Deferred tax liabilities, net1,172  1,168  
Long-term lease liabilities8,466    
Long-term debt3,900    
Other long-term liabilities11,666  960  
Total liabilities121,481  23,479  
Commitments and contingencies
Shareholders’ equity:
Preferred stock, $0.001 par value, no shares issued and outstanding:
Series A: authorized 200 shares    
Undesignated series: authorized 59,800 shares    
Common stock, $0.001 par value authorized 250,000 shares; issued and outstanding 38,227 shares in 2019 and 37,728 shares in 201838  37  
Additional paid-in capital644,070  641,930  
Accumulated other comprehensive loss(61,323) (61,118) 
Retained deficit(544,010) (524,009) 
Total shareholders’ equity38,775  56,840  
Noncontrolling interests(502)   
Total equity38,273  56,840  
Total liabilities and equity$159,754  $80,319  
See accompanying notes to consolidated financial statements.
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REALNETWORKS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(In thousands, except per share data)
 Years Ended December 31,
 20192018
Net revenue$172,113  $69,510  
Cost of revenue103,127  17,727  
Gross profit68,986  51,783  
Operating expenses:
Research and development34,848