UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 28, 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: 001-32431

DOLBY LABORATORIES, INC.

(Exact name of registrant as specified in its charter)

Delaware			90-0199783
(State or other jurisdiction of incorporation or organization)			(I.R.S. Employer Identification No.)
1275 Market Street	San Francisco	California	94103-1410
(Address of principal executive offices)			(Zip Code)

(415) 558-0200

Registrant’s telephone number, including area code

Securities registered pursuant to Section 12(b) of the Act:

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Class A common stock, $0.001 par value	DLB	The New York Stock Exchange

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 ☒ 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 (Section 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 ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See 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	☐	Smaller reporting company	☐
		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 ☒

On July 26, 2019, the registrant had 64,493,982 shares of Class A common stock, par value $0.001 per share, and 36,276,393 shares of Class B common stock, par value $0.001 per share, outstanding.

DOLBY LABORATORIES, INC.

FORM 10-Q

For the Fiscal Quarter Ended June 28, 2019

TABLE OF CONTENTS

	PART I – FINANCIAL INFORMATION
Item 1.	Unaudited Interim Condensed Consolidated Financial Statements	4
	Unaudited Interim Condensed Consolidated Balance Sheets	4
	Unaudited Interim Condensed Consolidated Statements of Operations	5
	Unaudited Interim Condensed Consolidated Statements of Comprehensive Income	6
	Unaudited Interim Condensed Consolidated Statements of Stockholders' Equity	7
	Unaudited Interim Condensed Consolidated Statements of Cash Flows	8
	Notes to Unaudited Interim Condensed Consolidated Financial Statements	9
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	47
Item 4.	Controls and Procedures	49
	PART II – OTHER INFORMATION
Item 1.	Legal Proceedings	50
Item 1A.	Risk Factors	50
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	63
Item 6.	Exhibits	64
Signatures

2

GLOSSARY OF TERMS

The following table summarizes certain terms and abbreviations that may be used within the text of this report:

Abbreviation	Term
AAC	Advanced Audio Coding
AFS	Available-For-Sale (Securities)
AOCI	Accumulated Other Comprehensive Income
APIC	Additional-Paid In-Capital
ASC	Accounting Standards Codification
ASP	Average Selling Price
ASU	Accounting Standards Update
ATSC	Advanced Television Systems Committee
AVC	Advanced Video Coding
AVR	Audio/Video Receiver
CE	Consumer Electronics
CES	Consumer Electronics Show
CODM	Chief Operating Decision Maker
COGS	Cost Of Goods Sold
COSO	Committee Of Sponsoring Organizations (Of The Treadway Commission)
DD	Dolby Digital®
DD+	Dolby Digital Plus™
DMA	Digital Media Adapter
DTV	Digital Television
DVB	Digital Video Broadcasting
DVD	Digital Versatile Disc
EPS	Earnings Per Share
ESP	Estimated Selling Price
ESPP	Employee Stock Purchase Plan
FASB	Financial Accounting Standards Board
FCPA	Foreign Corrupt Practices Act
FIFO	First-in, First-out
G&A	General & Administrative
HD	High Definition
HDR	High-Dynamic Range
HDTV	High Definition Television
HE-AAC	High Efficiency Advanced Audio Coding
HEVC	High Efficiency Video Coding
HFR	High Frame Rate
HTIB	Home Theater In-A-Box
IC	Integrated Circuit
IMB	Integrated Media Block
IP	Intellectual Property
IPO	Initial Public Offering
IPTV	Internet Protocol Television
IT	Information Technology
LIFO	Last-in, First-out
LP	Limited Partner/Partnership
ME	Multiple Element
NOL	Net Operating Loss
OCI	Other Comprehensive Income
ODD	Optical Disc Drive
OECD	Organization For Economic Co-Operation & Development
OEM	Original Equipment Manufacturer
OLED	Organic Light-Emitting Diode
OTT	Over-The-Top
PC	Personal Computer
PCS	Post-Contract Support
PP&E	Property, Plant, & Equipment
PSO	Performance-Based Stock Option
R&D	Research & Development
RSU	Restricted Stock Unit
S&M	Sales & Marketing
SERP	Supplemental Executive Retirement Plan
SoC	System(s)-On-A-Chip
STB	Set-Top Box
TPE	Third Party Evidence
TSR	Total Stockholder Return
UHD	Ultra High Definition
U.S. GAAP	Generally Accepted Accounting Principles In The United States
VSOE	Vendor Specific Objective Evidence

3

PART I - FINANCIAL INFORMATION

ITEM 1. UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DOLBY LABORATORIES, INC.

INTERIM CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share amounts)

(unaudited)

	June 28, 2019			September 28, 2018 (as adjusted)
ASSETS
Current assets:
Cash and cash equivalents	$	716,560		$	918,063
Restricted cash	7,485			7,187
Short-term investments	120,737			178,138
Accounts receivable, net of allowance for doubtful accounts of $10,448 and $5,258	231,185			166,133
Contract assets	182,912			165,959
Inventories, net	38,908			26,206
Prepaid expenses and other current assets	41,030			34,890
Total current assets	1,338,817			1,496,576
Long-term investments	211,352			187,782
Property, plant, and equipment, net	524,641			514,182
Intangible assets, net	189,304			184,019
Goodwill	335,936			327,982
Deferred taxes	109,208			74,766
Other non-current assets	100,550			80,080
Total assets	$	2,809,808		$	2,865,387
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	14,304		$	21,922
Accrued liabilities	243,738			243,128
Income taxes payable	862			2,680
Contract liabilities	19,435			17,468
Total current liabilities	278,339			285,198
Non-current contract liabilities	24,428			25,887
Other non-current liabilities	186,765			183,799
Total liabilities	489,532			494,884
Stockholders’ equity:
Class A, $0.001 par value, one vote per share, 500,000,000 shares authorized: 63,716,563 shares issued and outstanding at June 28, 2019 and 63,978,752 at September 28, 2018	58			61
Class B, $0.001 par value, ten votes per share, 500,000,000 shares authorized: 36,952,512 shares issued and outstanding at June 28, 2019 and 39,261,035 at September 28, 2018	41			41
Additional paid-in capital	—			66,127
Retained earnings	2,328,918			2,313,539
Accumulated other comprehensive (loss)	(14,496		)	(15,832		)
Total stockholders’ equity – Dolby Laboratories, Inc.	2,314,521			2,363,936
Controlling interest	5,755			6,567
Total stockholders’ equity	2,320,276			2,370,503
Total liabilities and stockholders’ equity	$	2,809,808		$	2,865,387

See accompanying notes to unaudited interim condensed consolidated financial statements

4

DOLBY LABORATORIES, INC.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)

 

	Fiscal Quarter Ended						Fiscal Year-To-Date Ended
	June 28, 2019			June 29, 2018 (as adjusted)			June 28, 2019			June 29, 2018 (as adjusted)
Revenue:
Licensing	$	271,897		$	183,771		$	842,484		$	726,078
Products and services	30,262			31,009			100,309			87,951
Total revenue	302,159			214,780			942,793			814,029
Cost of revenue:
Cost of licensing	13,290			12,111			40,761			31,980
Cost of products and services	26,400			22,272			74,133			64,323
Total cost of revenue	39,690			34,383			114,894			96,303
Gross margin	262,469			180,397			827,899			717,726
Operating expenses:
Research and development	60,408			60,357			177,680			176,294
Sales and marketing	83,390			79,834			261,686			224,002
General and administrative	54,183			47,893			152,412			146,925
Restructuring charges/(credits)	30,232			(82		)	30,264			(446		)
Total operating expenses	228,213			188,002			622,042			546,775
Operating income/(Loss)	34,256			(7,605		)	205,857			170,951
Other income/expense:
Interest income	6,551			5,487			19,230			13,160
Interest expense	(29		)	(87		)	(106		)	(151		)
Other income/(expense), net	1,022			(3,603		)	1,075			(5,439		)
Total other income	7,544			1,797			20,199			7,570
Income/(loss) before income taxes	41,800			(5,808		)	226,056			178,521
Provision for income taxes	(2,163		)	9,067			(14,486		)	(163,070		)
Net income including controlling interest	39,637			3,259			211,570			15,451
Less: net (income) attributable to controlling interest	(63		)	(143		)	(337		)	(421		)
Net income attributable to Dolby Laboratories, Inc.	$	39,574		$	3,116		$	211,233		$	15,030
Net income per share:
Basic	$	0.39		$	0.03		$	2.07		$	0.15
Diluted	$	0.38		$	0.03		$	2.01		$	0.14
Weighted-average shares outstanding:
Basic	101,218			103,836			102,012			103,386
Diluted	103,717			106,950			105,025			106,943
Related party rent expense:
Included in operating expenses	$	13,107		$	1,017		$	14,755		$	2,585
Included in net income attributable to controlling interest	$	111		$	179		$	463		$	535
Cash dividend declared per common share	$	0.19		$	0.16		$	0.57		$	0.48
Cash dividend paid per common share	$	0.19		$	0.16		$	0.57		$	0.48

See accompanying notes to unaudited interim condensed consolidated financial statements

5

DOLBY LABORATORIES, INC.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(in thousands)

(unaudited)

	Fiscal Quarter Ended						Fiscal Year-To-Date Ended
	June 28, 2019			June 29, 2018 (as adjusted)			June 28, 2019			June 29, 2018 (as adjusted)
Net income including controlling interest	$	39,637		$	3,259		$	211,570		$	15,451
Other comprehensive income:
Currency translation adjustments, net of tax of $0, $1,251, $0, and $110	(2,005		)	(8,297		)	(3,718		)	(2,815		)
Unrealized gains/(losses) on investments, net of tax of ($30), $11, $94, and $155	1,918			339			4,786			(2,813		)
Unrealized gains on cash flow hedges, net of tax of $0, $0, $0, and $0	134			—			134			—
Total other comprehensive income/(loss), net of tax	47			(7,958		)	1,202			(5,628		)
Total comprehensive income/(loss)	39,684			(4,699		)	212,772			9,823
Less: comprehensive (income) attributable to controlling interest	77			130			(203		)	(341		)
Comprehensive income/(loss) attributable to Dolby Laboratories, Inc.	$	39,761		$	(4,569	)	$	212,569		$	9,482

See accompanying notes to unaudited interim condensed consolidated financial statements

6

DOLBY LABORATORIES, INC.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(in thousands)

(unaudited)

	Fiscal Quarter-To-Date
	Dolby Laboratories, Inc.
	Common Stock			Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Income/(Loss)			Total Dolby Laboratories, Inc.			Controlling Interest			Total
Balance at March 29, 2019	$	100		$	—		$	2,361,607		$	(14,683	)	$	2,347,024		$	5,833		$	2,352,857
Net income							39,574						39,574			63			39,637
Other comprehensive income, net of tax										187			187			(140		)	47
Distributions to controlling interest													—			(1		)	(1		)
Stock-based compensation expense				18,863									18,863						18,863
Repurchase of common stock	(1		)	(35,651		)	(52,980		)				(88,632		)				(88,632		)
Cash dividends declared and paid on common stock							(19,283		)				(19,283		)				(19,283		)
Common stock issued under employee stock plans				17,869									17,869						17,869
Tax withholdings on vesting of restricted stock				(1,081		)							(1,081		)				(1,081		)
Balance at June 28, 2019	$	99		$	—		$	2,328,918		$	(14,496	)	$	2,314,521		$	5,755		$	2,320,276

	Fiscal Year-To-Date
	Dolby Laboratories, Inc.
	Common Stock			Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Income/(Loss)			Total Dolby Laboratories, Inc.			Controlling Interest			Total
Balance at September 28, 2018 (as adjusted)	$	102		$	66,127		$	2,313,539		$	(15,832	)	$	2,363,936		$	6,567		$	2,370,503
Net income							211,233						211,233			337			211,570
Other comprehensive income, net of tax										1,336			1,336			(134		)	1,202
Distributions to controlling interest													—			(1,015		)	(1,015		)
Stock-based compensation expense				59,580									59,580						59,580
Repurchase of common stock	(4		)	(148,972		)	(137,536		)				(286,512		)				(286,512		)
Cash dividends declared and paid on common stock							(58,318		)				(58,318		)				(58,318		)
Common stock issued under employee stock plans	1			45,026									45,027						45,027
Tax withholdings on vesting of restricted stock				(21,761		)							(21,761		)				(21,761		)
Balance at June 28, 2019	$	99		$	—		$	2,328,918		$	(14,496	)	$	2,314,521		$	5,755		$	2,320,276

	Fiscal Quarter-To-Date
	Dolby Laboratories, Inc.
	Common Stock		Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Income/(Loss)			Total Dolby Laboratories, Inc.			Controlling Interest			Total
Balance at March 30, 2018 (as adjusted)	$	102	$	113,827		$	2,316,906		$	(5,616	)	$	2,425,219		$	6,549		$	2,431,768
Net income						3,116						3,116			143			3,259
Other comprehensive income, net of tax									(7,685		)	(7,685		)	(273		)	(7,958		)
Stock-based compensation expense			17,101									17,101						17,101
Repurchase of common stock			(55,487		)							(55,487		)				(55,487		)
Cash dividends declared and paid on common stock						(16,640		)				(16,640		)				(16,640		)
Common stock issued under employee stock plans	1		14,879									14,880						14,880
Tax withholdings on vesting of restricted stock			(1,243		)							(1,243		)				(1,243		)
Balance at June 29, 2018 (as adjusted)	$	103	$	89,077		$	2,303,382		$	(13,301	)	$	2,379,261		$	6,419		$	2,385,680

	Fiscal Year-To-Date
	Dolby Laboratories, Inc.
	Common Stock			Additional Paid-In Capital			Retained Earnings			Accumulated Other Comprehensive Income/(Loss)			Total Dolby Laboratories, Inc.			Controlling Interest			Total
Balance at September 29, 2017 (as adjusted)	$	101		$	61,331		$	2,337,948		$	(7,753	)	$	2,391,627		$	7,100		$	2,398,727
Net income							15,030						15,030			421			15,451
Other comprehensive income, net of tax										(5,548		)	(5,548		)	(80		)	(5,628		)
Distributions to controlling interest													—			(1,022		)	(1,022		)
Stock-based compensation expense				53,476									53,476						53,476
Repurchase of common stock	(1		)	(90,479		)							(90,480		)				(90,480		)
Cash dividends declared and paid on common stock							(49,596		)				(49,596		)				(49,596		)
Common stock issued under employee stock plans	3			85,938									85,941						85,941
Tax withholdings on vesting of restricted stock				(21,189		)							(21,189		)				(21,189		)
Balance at June 29, 2018 (as adjusted)	$	103		$	89,077		$	2,303,382		$	(13,301	)	$	2,379,261		$	6,419		$	2,385,680

See accompanying notes to unaudited interim condensed consolidated financial statements

7

DOLBY LABORATORIES, INC.

INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Fiscal Year-To-Date Ended
	June 28, 2019			June 29, 2018 (as adjusted)
Operating activities:
Net income including controlling interest	$	211,570		$	15,451
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization	62,814			61,398
Stock-based compensation	59,580			53,476
Amortization of premium on investments	319			2,046
Provision for doubtful accounts	5,201			2,465
Deferred income taxes	(34,872		)	15,163
Restructuring charge for exit of leased building	27,463			—
Other non-cash items affecting net income	2,100			5,147
Changes in operating assets and liabilities:
Accounts receivable, net	(70,022		)	1,975
Contract assets	(16,942		)	12,897
Inventories	(15,976		)	(508		)
Prepaid expenses and other assets	(13,719		)	(13,718		)
Accounts payable and accrued liabilities	(10,733		)	(16,368		)
Income taxes, net	(5,226		)	102,422
Contract liabilities	491			(838		)
Other non-current liabilities	(4,854		)	(537		)
Net cash provided by operating activities	197,194			240,471
Investing activities:
Purchases of investment securities	(220,321		)	(151,585		)
Proceeds from sales of investment securities	149,023			72,090
Proceeds from maturities of investment securities	109,821			194,038
Purchases of property, plant, and equipment	(79,670		)	(54,869		)
Payments for business acquisitions, net of cash acquired	(14,919		)	(6,563		)
Purchase of intangible assets	(17,255		)	(12,543		)
Net cash (used in)/provided by investing activities	(73,321		)	40,568
Financing activities:
Proceeds from issuance of common stock	45,027			85,941
Repurchase of common stock	(286,512		)	(90,480		)
Payment of cash dividend	(58,318		)	(49,596		)
Distribution to controlling interest	(1,015		)	(1,022		)
Shares repurchased for tax withholdings on vesting of restricted stock	(21,761		)	(21,189		)
Net cash used in financing activities	(322,579		)	(76,346		)
Effect of foreign exchange rate changes on cash, cash equivalents, and restricted cash	(2,499		)	(1,598		)
Net increase/(decrease) in cash, cash equivalents, and restricted cash	(201,205		)	203,095
Cash, cash equivalents, and restricted cash at beginning of period	925,250			634,368
Cash, cash equivalents, and restricted cash at end of period	$	724,045		$	837,463
Supplemental disclosure:
Cash paid for income taxes, net of refunds received	$	43,549		$	48,931
Non-cash investing activities:
Property, plant, and equipment purchased and unpaid at period-end	$	(10,785	)	$	4,820
Purchase consideration payable for acquisition	$	1,700		$	750
Purchase consideration payable for intangibles	$	1,881		$	200

See accompanying notes to unaudited interim condensed consolidated financial statements

8

DOLBY LABORATORIES, INC.

NOTES TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. Basis of Presentation

Unaudited Interim Condensed Consolidated Financial Statements

We have prepared the accompanying unaudited interim condensed consolidated financial statements in accordance with U.S. GAAP, and with SEC rules and regulations, which allow for certain information and footnote disclosures that are normally included in annual financial statements prepared in accordance with U.S. GAAP to be condensed or omitted. In our opinion, these unaudited interim condensed consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements for the fiscal year ended September 28, 2018 and include all adjustments necessary for fair presentation. The accompanying unaudited interim condensed consolidated financial statements should be read in conjunction with our consolidated financial statements for the fiscal year ended September 28, 2018, which are included in our Annual Report on Form 10-K/A filed with the SEC.

The results for the fiscal quarter ended June 28, 2019 are not necessarily indicative of the results to be expected for any subsequent quarterly or annual financial period, including the fiscal year ending September 27, 2019.

Principles of Consolidation

The unaudited interim condensed consolidated financial statements include the accounts of Dolby Laboratories, Inc. and our wholly owned subsidiaries. In addition, we have consolidated the financial results of jointly owned affiliated companies in which our principal stockholder has a controlling interest. We report these controlling interests as a separate line in our consolidated statements of operations as net income attributable to controlling interest and in our consolidated balance sheets as a controlling interest. We eliminate all intercompany accounts and transactions upon consolidation.

Operating Segments

Since we operate as a single reporting segment, all required financial segment information is included in our unaudited interim condensed consolidated financial statements. This reflects the fact that our CODM, our Chief Executive Officer, evaluates our financial information and resources, and assesses the performance of these resources on a consolidated basis.

Use of Estimates

The preparation of our financial statements in accordance with U.S. GAAP requires management to make certain estimates and assumptions that affect the amounts reported and disclosed in our unaudited interim condensed consolidated financial statements and accompanying notes. Significant items subject to such estimates and assumptions include estimated shipments by our licensees for which we are owed a sales–based royalty, estimated selling prices for performance obligations within revenue arrangements; valuation allowances for accounts receivable; carrying values of inventories and certain property, plant, and equipment, goodwill and intangible assets; fair values of investments; accrued liabilities including liabilities for unrecognized tax benefits, deferred income tax assets and liabilities, and stock-based compensation. Actual results could differ from our estimates.

Fiscal Year

Our fiscal year is a 52 or 53 week period ending on the last Friday in September. The fiscal periods presented herein include the 13 week periods ended June 28, 2019 and June 29, 2018. Our fiscal year ending September 27, 2019 (fiscal 2019) and our fiscal year ended September 28, 2018 (fiscal 2018) both consist of 52 weeks.

Reclassifications

We have reclassified certain prior period amounts within our consolidated financial statements and accompanying notes to conform to our current period presentation. These reclassifications did not affect total revenue, operating income, or net income.

9

2. Summary of Significant Accounting Policies

We continually assess any ASUs or other new accounting pronouncements issued by the FASB to determine their applicability and impact on us. Where it is determined that a new accounting pronouncement will result in a change to our financial reporting, we take the appropriate steps to ensure that such changes are properly reflected in our consolidated financial statements or notes thereto.

Recently Issued Accounting Standards

Adopted Standards

At the beginning of fiscal 2019, we adopted the following standards:

Revenue Recognition.  We adopted ASU 2014-09, Revenue from Contracts with Customers ("ASC 606"), which outlines a comprehensive revenue recognition model. The standard requires revenue recognition to account for the transfer of promised goods or services to customers in an amount that reflects the consideration to which we expect to be entitled in exchange for those goods or services, and in our case, requires the use of more judgment and estimates than the previous accounting requirements. ASC 606 also includes Subtopic 340-40, Other Assets and Deferred Costs - Contracts with Customers, under which the incremental costs associated with obtaining a contract are required to be capitalized and amortized as expense as the contract’s performance obligations are satisfied. We do not capitalize sales commission costs because our performance obligations on which we pay commissions are complete at contract execution.

We adopted ASC 606 utilizing the full retrospective method of transition which requires a recast of each prior reporting period presented. The most significant impacts of adopting ASC 606 are as follows:

• We estimate and record per-unit royalty-based revenue earned from our licensees’ shipments in the same period in which those shipments occur, instead of recognizing our per-unit royalty-based revenue in the quarter in which it is reported to us by our licensees, which is generally in the quarter after those shipments have occurred. To the extent that our revenues are influenced by seasonal trends, the trends will impact revenue one fiscal quarter earlier than was previously the case;

• We record a favorable or unfavorable adjustment based on the difference between estimated and actual sales when we receive reporting of sales–based royalties on royalty statements from the licensees, generally in the subsequent fiscal quarter;

• For certain transactions that have extended payment and minimum commitment terms with no further performance obligations, we recognize licensing revenues on the later of contract execution or effective date regardless of when the amounts are due and payable;

• We recorded a one-time adjustment of $174.4 million to the period ending September 29, 2018 retained earnings to reflect the full impact of the accounting upon adoption.

We adjusted our condensed consolidated financial statements from amounts previously reported to reflect the adoption of the new standard. Select unaudited condensed consolidated statement of income line items, which reflect the adoption of the new standard, are as follows (in thousands, except per share data):

	Fiscal Quarter Ended								Fiscal Year-To-Date Ended
	June 29, 2018 (as previously reported)			Effect of Adopting ASC 606			June 29, 2018 (as adjusted)		June 29, 2018 (as previously reported)			Effect of Adopting ASC 606			June 29, 2018 (as adjusted)
Revenue	$	317,447		$	(102,667	)	$	214,780	$	906,599		$	(92,570	)	$	814,029
Gross margin	282,982			(102,585		)	180,397		810,299			(92,573		)	717,726
Provision for income taxes	(13,302		)	22,369			9,067		(198,332		)	35,262			(163,070		)
Net income attributable to Dolby Laboratories, Inc.	83,145			(80,029		)	3,116		72,154			(57,124		)	15,030
Diluted earnings per share	$	0.78		$	(0.75	)	$	0.03	$	0.67		$	(0.53	)	$	0.14

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Select condensed consolidated balance sheet line items, which reflect the adoption of the new standard, are as follows (in thousands):

	September 28, 2018 (as previously reported)		Effect of Adopting ASC 606			September 28, 2018 (as adjusted)
ASSETS
Accounts receivable, net	$	137,151	$	28,982		$	166,133
Contract assets	—		165,959			165,959
Prepaid expenses and other current assets	35,209		(319		)	34,890
Deferred taxes	101,070		(26,304		)	74,766
Other non-current assets	42,280		37,800			80,080
LIABILITIES AND STOCKHOLDERS' EQUITY
Accrued liabilities	223,594		19,534			243,128
Contract liabilities	23,931		(6,463		)	17,468
Non-current contract liabilities	40,064		(14,177		)	25,887
Other non-current liabilities	150,960		32,839			183,799
Retained earnings	2,139,154		174,385			2,313,539

Select condensed consolidated statement of cash flows line items, which reflect the adoption of the new standard, are as follows (in thousands):

	Fiscal Year-To-Date June 29, 2018 (as previously reported)¹			Effect of Adopting ASC 606			Fiscal Year-To-Date June 29, 2018 (as adjusted)
Operating activities:
Net income including controlling interest	$	72,575		$	(57,124	)	$	15,451
Adjustments to reconcile net income to net cash provided by operating activities:
Deferred income taxes	47,145			(31,982		)	15,163
Changes in operating assets and liabilities:
Accounts receivable	(78,480		)	80,455			1,975
Contract assets	—			12,897			12,897
Prepaid expenses and other assets	(13,719		)	1			(13,718		)
Accounts payable and other liabilities	(12,781		)	(3,587		)	(16,368		)
Contract liabilities	(366		)	(472		)	(838		)
Net cash provided by operating activities	240,471			—			240,471

¹ Previously reported statement of cash flows in the table above reflects the adoption of ASU 2016-18. The impact to our previously reported condensed consolidated statement of cash flows is not material. Refer to disclosure below for further detail.

In our adoption and as allowed by ASC 606, we:

• used the transaction price at the date on which the contract was completed rather than estimating variable consideration amounts in the comparative reporting period;

• did not disclose the amount of the transaction price allocated to the remaining performance obligations or provide an explanation of when we expect to recognize that amount as revenue for reporting periods presented before the date of initial adoption;

• reflected the aggregate effect of contract modifications in accounting for the contracts open as of the earliest reporting period presented;

• did not adjust transaction prices for the effects of a significant financing component, if at contract inception, we expected the period between customer payment and the transfer of goods or services to be one year or less.

We adopted Accounting Standards Update No. 2016-08, Revenue from Contracts with Customers ("ASC 606"), Principal versus Agent Considerations (Reporting Revenue Gross versus Net) ("ASU 2016-08"), which amended the principal-versus-agent implementation guidance and illustrations in ASU 2014-09. ASU 2016-08 clarifies

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that an entity should evaluate when it is the principal or agent for each specified good or service promised in a contract with a customer. We evaluated our contracts executed with and on our behalf with Via Licensing Corporation, our wholly-owned subsidiary that manages patent pools on behalf of third party patent owners and concluded that Via performs its functions as an agent to the patent pool licensors, which includes Dolby. Accordingly, we recognize our administrative fees and royalties net of the consideration paid to the patent licensors in the pool.

Cash Flow Classification. During the first quarter of fiscal 2019, we adopted ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The new standard addresses eight specific cash flow issues related to the classification and presentation of cash receipts and payments in the statement of cash flows. The adoption of these updates did not have a material impact on Dolby’s consolidated financial statements.

Income Taxes: Intra-Entity Asset Transfers. During the first quarter of fiscal 2019, we adopted ASU 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory. The new standard requires the recognition of the income tax consequences of an intercompany asset transfer, other than transfers of inventory, when the transfer occurs. For intercompany transfers of inventory, the income tax effects will continue to be deferred until the inventory has been sold to a third party. The adoption of the guidance did not have a material impact on Dolby's consolidated financial statements.

Restricted Cash.  During the first quarter of fiscal 2019, we adopted ASU 2016-18, Restricted Cash - a consensus of the FASB Emerging Issues Task Force, which clarifies how entities should present restricted cash and restricted cash equivalents in the statement of cash flows. The new standard requires entities to show the changes in the total of cash, cash equivalents, restricted cash and restricted cash equivalents in the statement of cash flows. We adopted the new guidance using the retrospective transition approach. The reclassified restricted cash balances from investing activities to changes in cash, cash equivalents, and restricted cash on the condensed consolidated statements of cash flows were not material for all periods presented. The adjusted condensed consolidated statement of cash flows for the prior comparative period has been reclassified as a result of the adoption of the new standard.

Accounting for Hedging Activities. During the first quarter of fiscal 2019, we adopted ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The new standard eliminates the requirement to separately measure and report hedge ineffectiveness. In the third quarter of fiscal 2019, we implemented a cash flow hedging program using forward currency contracts. This standard applies to the presentation and disclosure of the cash flow hedging program, which was not material in relation to our consolidated financial statements as a whole. The adoption of the standard did not have a material impact on Dolby's consolidated financial statements.

Standards Not Yet Effective

Leases.  In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which amends the existing accounting standards for leases. Under the new standard, a lessee will be required to recognize a lease liability and right-of-use asset for most leases. The new standard also modifies the classification criteria and accounting for sales-type and direct financing leases, and requires additional disclosures to enable users of financial statements to understand the amount, timing, and uncertainty of cash flows arising from leases.

We will adopt the new standard using the modified retrospective transition method, thereby recognizing the cumulative effect of initially applying Topic 842 as an adjustment to opening retained earnings on the adoption date, without revising the balances in comparative periods. Upon adoption, we will recognize a lease liability and right-of-use asset for each of our lease arrangements. We anticipate adoption of the standard will not have a material impact on our consolidated income statements. We plan to elect to utilize the transition guidance within the new standard which allows us to retain the historical lease classification and initial direct costs for any leases that exist prior to adoption of the standard. We will not reassess whether any contracts entered into prior to adoption are leases. We are in the process of evaluating our existing lease contracts and implementing changes to our systems. ASU 2016-02 is effective for Dolby beginning September 28, 2019.

Income Taxes: Comprehensive Income. On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act ("Tax Act"). In February 2018, the FASB issued ASU 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects From Accumulated Other Comprehensive Income, which allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Act and requires entities to provide certain disclosures regarding stranded tax effects. The ASU is effective for Dolby beginning September 28, 2019, and we do not currently plan to early adopt. We are currently evaluating the timing and impact of the standard on our consolidated financial statements.

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Collaborative Arrangements. In November 2018, the FASB issued ASU 2018-18, Collaborative Arrangements (Topic 808): Clarifying the Interaction between Topic 808 and Topic 606, which clarifies that certain transactions between participants in a collaborative arrangement should be accounted for under ASC 606 when the counterparty is a customer. In addition, ASU 2018-18 precludes an entity from presenting consideration from a transaction in a collaborative arrangement as revenue from contracts with customers if the counterparty is not a customer for that transaction. This standard will be effective for Dolby beginning September 29, 2020, and we do not currently plan to early adopt. We do not believe that this standard will have a material impact on our consolidated financial statements.

3. Revenue Recognition

We enter into revenue arrangements with our customers to license technologies, trademarks and patents for sound, imaging and voice solutions, and to sell products and services. We recognize revenue when we satisfy a performance obligation by transferring control over the use of a license, product, or service to a customer.

A. Identification of the Contract or Contracts with Customers

We generally determine that a contract with a customer exists upon the execution of an agreement and after consideration of collectability, which could include an evaluation of the customer's payment history, the existence of a standby letter-of-credit between the customer’s financial institution and our financial institution, public financial information, and other factors. At contract inception, we also evaluate whether two or more non-standard agreements with a customer should be combined and accounted for as a single contract.

B. Identification of Performance Obligations in a Contract

We generate revenues principally from the following sources, which represent performance obligations in our contracts with customers:

• Licensing.   We license our technologies, including patents, to a range of customers who incorporate them into their products for enhanced audio, imaging and voice functionality across broadcast, mobile, CE, PC, gaming, and other markets.

• Product Sales. We design and provide audio and imaging products for the cinema, television, broadcast, communications, and entertainment industries.

• Services.  We provide various services to support theatrical and television production for cinema exhibition, broadcast, and home entertainment, including equipment training, mixing room alignment, equalization, as well as audio, color and light image calibration.

• PCS. We provide PCS for products sold and for the equipment leased, and we support the implementation of our licensing technologies in our licensees’ products.

• Equipment Leases. We collaborate with established cinema exhibitors to offer Dolby Cinema, a branded premium cinema offering for movie audiences by leasing equipment and licensing our intellectual property.

• Licensing Administration Fees. We generate service fees for managing patent pools on behalf of third party patent owners through our wholly-owned subsidiary, Via Licensing Corporation.

Some of our revenue arrangements include multiple performance obligations, such as hardware, software, support and maintenance, and extended warranty services. We evaluate whether promised products and services are distinct performance obligations.

The majority of our arrangements with multiple performance obligations pertain to our digital cinema server and processor sales that include the following distinct performance obligations to which we allocate portions of the transaction price based on their stand-alone selling price:

• Digital cinema server hardware and embedded software, which is highly dependent on and highly interrelated with the hardware. Accordingly, the hardware and embedded software represent a single performance obligation.

• The right to support and maintenance, which is included with the purchase of the digital cinema server hardware, is a distinct performance obligation.

• The right to receive commissioning services is a distinct performance obligation within the sale of the Dolby Atmos Cinema Processor. These services consist of the review of venue designs specifying proposed

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speaker placement as well as calibration services performed for installed speakers to ensure optimal playback.

C. Determination of Transaction Price for Performance Obligations in a Contract

After identifying the distinct performance obligations, we determine the transaction price in accordance with the terms of the underlying executed contract which may include variable consideration such as discounts, rebates, refunds, rights of returns, and incentives. We assess and update, if necessary, the amount of variable consideration to which we are entitled for each reporting period. At the end of each reporting period, we estimate and accrue a liability for returns and adjustments as a reduction to revenue based on several factors, including past returns history.

With the exception of our sales-based royalties, we evaluate whether a significant financing component exists when we recognize revenue in advance of customer payments that occur over time. For example, some of our licensing arrangements include payment terms greater than one year from when we transfer control of our IP to a licensee and the receipt of the final payment for that IP. If a significant financing component exists, we classify a portion of the transaction price as interest income, instead of recognizing all the transaction price as revenue. We do not adjust the transaction price for the effects of financing if, at contract inception, the period between the transfer of control to a customer and final payment is expected to be one year or less.

D. Allocation of Transaction Price to Distinct Performance Obligations in a Contract

For our sales-based royalties where the license is the predominant item to which the royalties relate, we present all revenues as licensing.

For revenue arrangements that include multiple performance obligations, we determine the stand-alone selling price for each distinct performance obligation based on the actual selling prices made to customers. If the performance obligation is not sold separately, we estimate the stand-alone selling price. We do so by considering market conditions such as competitor pricing strategies, customer specific information and industry technology lifecycles, internal conditions such as cost and pricing practices, or applying the residual approach method when the selling price of the good, most commonly a license, is highly variable or uncertain.

Once the transaction price - including any variable consideration - has been determined, we allocate the transaction price to the performance obligations identified in the contract, and recognize revenue as or when control is transferred for each distinct performance obligation.

E. Revenue Recognition as Control is Transferred to a Customer

We generate our licensing revenue by licensing our technologies and patents to various types of licensees, such as chip manufacturers ("implementation licensees"), consumer product manufacturers, software vendors, and communications service providers. Our revenue recognition policies for each of these arrangements are summarized below.

Initial fees from implementation licensees.   Implementation licensees incorporate our technologies into their chipsets that, once approved by Dolby, are available for purchase by OEMs for use in end-user products. Implementation licensees only pay us a nominal initial fee on contract execution as consideration for the ongoing services that we provide to assist in their implementation process. Revenues from these initial fees are recognized ratably over the contractual term as a component of licensing revenue.

Sales-based licensing fees.   In our royalty bearing licensing agreements with OEMs, control is transferred upon the later of contract execution or the contract’s effective date. We apply the royalty exception, which requires that we recognize sales-based royalties at the later of when the sales occur based on our estimates or the completion of our performance obligations. These estimates involve the use of historical data and judgment for several key attributes including industry estimates of expected shipments, the percentage of markets using our technologies, and average sale prices. Generally, our estimates represent the current period’s shipments to which we expect our licensees to submit royalty statements in the following quarter. Upon receipt of royalty statements from the licensees with the actual reporting of sales-based royalties that we estimated previously, we record a favorable or unfavorable adjustment based on the difference, if any, between estimated and actual sales. In the third quarter of fiscal 2019, we recorded a favorable adjustment of approximately $7 million, which was primarily related to January through March shipments and largely based on actual royalty statements received from licensees.

Fixed and guaranteed licensing fees.   In certain cases, our arrangements require the licensee to pay fixed, non-

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refundable fees independent of the actual number of units they may distribute in the future. In these cases, control is transferred and fees are recognized upon the later of contract execution or the effective date. Additionally and separate from initial fees from implementation licensees, our sales- and usage-based licensing agreements include a nominal fee, which is also recognized at a point in time in which control of the IP has been transferred. Revenues from these arrangements are included as a component of licensing revenue.

Recoveries.  Through compliance efforts, we identify under-reported licensed activity related to non-current periods. We may record a favorable or unfavorable revenue adjustment in connection with the findings from these compliance efforts generally upon resolution with the licensee through agreement of the findings, or upon receipt of the licensee’s correction statement. Revenues from these arrangements are included as a component of licensing revenue.

We undertake activities aimed at identifying potential unauthorized uses of our technologies, which when successful result in the recognition of revenue. Recoveries stem from third parties who agree to remit payments to us based on past use of our technology. In these scenarios, a legally binding contract did not exist at time of use of our technology, and therefore, we recognize revenue recoveries upon execution of the agreement as that is the point in time to which a contract exists and control is transferred. These revenues are classified as licensing revenue.

In general, we classify legal costs associated with activities aimed at identifying potential unauthorized uses of our technologies, auditing existing licensees, and on occasion, pursuing litigation as S&M in our consolidated statements of operations.

We recognize licensing revenue gross of withholding taxes, which our licensees remit directly to their local tax authorities, and for which we receive a partial foreign tax credit in our income tax provision.

In addition to our licensing arrangements, we also enter into arrangements to deliver products and services.

Product Sales.   Revenue from the sale of products is recognized when the customer obtains control of the promised good or service, which is generally upon shipment. Payments are generally made within 90 days of sale.

Services.  We provide various services, such as engineering services related to movie soundtrack print mastering, equipment training and maintenance, mixing room alignment, equalization, and image calibration, which we bill on a fixed fee and time and materials basis. Most of these services are of a short duration and are recognized as control of the performance obligations are transferred which is when the related services are performed.

Collaborative Arrangements.   We collaborate with established cinema exhibitors to offer Dolby Cinema, a branded premium cinema offering for movie audiences. Under such collaborations, Dolby and the exhibitor are both active participants, and share the risks and rewards associated with the business. Accordingly, these collaborations are governed by revenue sharing arrangements under which Dolby receives revenue based on monthly box office reports from exhibitors in exchange for the use of our imaging and sound technologies, our proprietary designs and trademark as well as for the use of our equipment at the exhibitor’s venue. The use of our equipment meets the definition of a lease, and for the related portion of Dolby's share of revenue, we apply ASC 840, Leases, and recognize revenue based on monthly box office reports from exhibitors. Our revenue share is recognized as licensing revenue in our consolidated statements of operations.

In addition, we also enter into agreements where a portion involves guaranteed payments, which in some cases result in classifying the payments as a sales-type lease. In such arrangements, we consider control to transfer at the point in time to which we have installed and tested the e