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 endedSeptember 30, 2019

Commission file number: 1-34283

Rosetta Stone Inc.

(Exact name of registrant as specified in its charter)

Delaware (State of incorporation)	043837082 (I.R.S. Employer Identification No.)
1621 North Kent Street, Suite 1200 Arlington, Virginia (Address of principal executive offices)	22209 (Zip Code)

703-387-5800

(Registrant’s telephone number, including area code)

N/A

(Former name or former address, if changed since last report)

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 and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  ☒   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 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 ☐	Smaller reporting company  ☐	Emerging growth company ☐
		(Do not check if a smaller reporting 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  ☒

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

Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.00005 per share	RST	New York Stock Exchange

Indicate the number of shares outstanding of each of the issuer’s classes of stock, as of the latest practicable date.

As of October 31, 2019, there were 24,059,722 shares of the registrant’s Common Stock, $.00005 par value, outstanding.

ROSETTA STONE INC.

Table of Contents

		Page
PART I. FINANCIAL INFORMATION
Item 1	Financial Statements (unaudited)	3
Item 2	Management's Discussion and Analysis of Financial Condition and Results of Operations	32
Item 3	Quantitative and Qualitative Disclosures About Market Risk	43
Item 4	Controls and Procedures	43
PART II. OTHER INFORMATION
Item 1	Legal Proceedings	44
Item 1A	Risk Factors	44
Item 2	Unregistered Sales of Equity Securities and Use of Proceeds	58
Item 3	Defaults Upon Senior Securities	58
Item 4	Mine Safety Disclosures	58
Item 5	Other Information	58
Item 6	Exhibits	59
Signatures		60

2

PART I. FINANCIAL INFORMATION

Item 1.  Financial Statements

ROSETTA STONE INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share amounts)

(unaudited)

	As of
	September 30, 2019			December 31, 2018
Assets
Current assets:
Cash and cash equivalents	$	36,205		$	38,092
Restricted cash		45			82
Accounts receivable (net of allowance for doubtful accounts of $508 and $372 at September 30, 2019 and December 31, 2018, respectively)		33,093			21,950
Inventory		1,523			933
Deferred sales commissions		11,872			11,597
Prepaid expenses and other current assets		4,922			4,041
Total current assets		87,660			76,695
Deferred sales commissions		7,788			6,933
Property and equipment, net		40,206			36,405
Operating lease right-of-use assets		6,078			—
Intangible assets, net		14,699			15,850
Goodwill		48,678			49,239
Other assets		1,786			2,136
Total assets	$	206,895		$	187,258
Liabilities and stockholders' deficit
Current liabilities:
Accounts payable	$	8,757		$	8,938
Accrued compensation		8,902			9,046
Income tax payable		192			328
Operating lease liabilities		1,701			—
Other current liabilities		11,436			13,925
Deferred revenue		123,103			113,378
Total current liabilities		154,091			145,615
Deferred revenue		55,729			49,507
Deferred income taxes		2,331			2,776
Operating lease liabilities		4,301			—
Other long-term liabilities		1,022			1,368
Total liabilities		217,474			199,266
Commitments and contingencies (Note 11)
Stockholders' deficit:
Preferred stock, $0.001 par value; 10,000 and 10,000 shares authorized, zero and zero shares issued and outstanding at September 30, 2019 and December 31, 2018, respectively)		—			—
Non-designated common stock, $0.00005 par value, 190,000 and 190,000 shares authorized, 25,060 and 24,426 shares issued, and 24,060 and 23,426 shares outstanding, at September 30, 2019 and December 31, 2018, respectively)		2			2
Additional paid-in capital		210,475			202,355
Treasury stock, at cost; 1,000 and 1,000 shares at September 30, 2019 and December 31, 2018, respectively)		(11,435	)		(11,435	)
Accumulated loss		(205,860	)		(199,592	)
Accumulated other comprehensive loss		(3,761	)		(3,338	)
Total stockholders' deficit		(10,579	)		(12,008	)
Total liabilities and stockholders' deficit	$	206,895		$	187,258

See accompanying notes to consolidated financial statements

3

ROSETTA STONE INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)

	Three months ended September 30,						Nine months ended September 30,
	2019			2018			2019			2018
Revenue	$	45,456		$	42,750		$	136,009		$	129,060
Cost of revenue		9,416			8,768			26,703			26,132
Gross profit		36,040			33,982			109,306			102,928
Operating expenses
Sales and marketing		24,700			24,948			73,738			74,013
Research and development		5,517			6,465			17,031			18,790
General and administrative		8,687			8,510			25,945			25,366
Total operating expenses		38,904			39,923			116,714			118,169
Loss from operations		(2,864	)		(5,941	)		(7,408	)		(15,241	)
Other income and (expense):
Interest income		6			23			48			71
Interest expense		(119	)		(82	)		(278	)		(246	)
Other income and (expense)		(33	)		99			1,282			(130	)
Total other income and (expense)		(146	)		40			1,052			(305	)
Loss before income taxes		(3,010	)		(5,901	)		(6,356	)		(15,546	)
Income tax (benefit) expense		(93	)		588			(88	)		1,503
Net loss	$	(2,917	)	$	(6,489	)	$	(6,268	)	$	(17,049	)
Loss per share:
Basic	$	(0.12	)	$	(0.28	)	$	(0.27	)	$	(0.75	)
Diluted	$	(0.12	)	$	(0.28	)	$	(0.27	)	$	(0.75	)
Common shares and equivalents outstanding:
Basic weighted average shares		23,609			22,814			23,369			22,647
Diluted weighted average shares		23,609			22,814			23,369			22,647

See accompanying notes to consolidated financial statements

4

ROSETTA STONE INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(in thousands)

(unaudited)

	Three months ended September 30,						Nine months ended September 30,
	2019			2018			2019			2018
Net loss	$	(2,917	)	$	(6,489	)	$	(6,268	)	$	(17,049	)
Other comprehensive loss, net of tax:
Foreign currency translation loss		(371	)		(144	)		(423	)		(225	)
Other comprehensive loss		(371	)		(144	)		(423	)		(225	)
Comprehensive loss	$	(3,288	)	$	(6,633	)	$	(6,691	)	$	(17,274	)

See accompanying notes to consolidated financial statements

5

ROSETTA STONE INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

	Nine months ended September 30,
	2019			2018
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss	$	(6,268	)	$	(17,049	)
Non-cash adjustments to reconcile net loss to cash provided by (used in) operating activities:
Stock-based compensation expense		3,988			3,388
Loss (gain) on foreign currency transactions		201			26
Bad debt expense		288			110
Depreciation and amortization		10,924			10,891
Operating lease costs		1,604			—
Deferred income tax (benefit) expense		(710	)		437
(Gain) loss on disposal or sale of assets		(1,389	)		12
Amortization of deferred financing costs		51			102
Net change in:
Accounts receivable		(11,552	)		(8,314	)
Inventory		(589	)		1,856
Deferred sales commissions		(1,138	)		(1,193	)
Prepaid expenses and other current assets		(1,039	)		875
Income tax receivable or payable		(139	)		(397	)
Other assets		242			(407	)
Accounts payable		(162	)		(36	)
Accrued compensation		456			(979	)
Other current liabilities		(1,898	)		(3,969	)
Operating lease liabilities		(1,575	)		—
Other long-term liabilities		(31	)		—
Deferred revenue		16,394			14,384
Net cash provided by (used in) operating activities		7,658			(263	)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment		(13,720	)		(11,700	)
Proceeds from sale of assets		1,396			17
Net cash used in investing activities		(12,324	)		(11,683	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the exercise of stock options		3,556			1,547
Proceeds from borrowings under credit facility		10,500			—
Repayments of borrowings under credit facility		(10,500	)		—
Payment of deferred financing costs		(47	)		(4	)
Payments under financing lease liabilities		(331	)		(336	)
Net cash provided by financing activities		3,178			1,207
Decrease in cash, cash equivalents, and restricted cash		(1,488	)		(10,739	)
Effect of exchange rate changes in cash, cash equivalents, and restricted cash		(436	)		(400	)
Net decrease in cash, cash equivalents, and restricted cash		(1,924	)		(11,139	)
Cash, cash equivalents, and restricted cash—beginning of period		38,174			43,036
Cash, cash equivalents, and restricted cash—end of period	$	36,250		$	31,897
SUPPLEMENTAL CASH FLOW DISCLOSURE:
Cash paid during the periods for:
Interest	$	227		$	144
Income taxes, net of refund	$	465		$	1,342
Noncash operating, investing and financing activities:
Accrued liability for purchase of property and equipment	$	1,135		$	1,793

See accompanying notes to consolidated financial statements

6

ROSETTA STONE INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)

(unaudited)

													Accumulated
	Non-Designated				Additional								Other			Total
	Common Stock				Paid-in		Treasury			Accumulated			Comprehensive			Stockholders'
	Shares		Amount		Capital		Stock			Loss			Loss			Deficit
Balance—January 1, 2019		22,912	$	2	$	202,355	$	(11,435	)	$	(199,592	)	$	(3,338	)	$	(12,008	)
Stock issued upon the exercise of stock options		67		—		744		—			—			—			744
Restricted stock award and performance stock unit vesting		270		—		—		—			—			—			—
Unrestricted common stock issued in lieu of cash bonus		37		—		576		—			—			—			576
Stock-based compensation expense		—		—		1,220		—			—			—			1,220
Net loss		—		—		—		—			(544	)		—			(544	)
Other comprehensive income		—		—		—		—			—			213			213
Balance—March 31, 2019		23,286	$	2	$	204,895	$	(11,435	)	$	(200,136	)	$	(3,125	)	$	(9,799	)
Stock issued upon the exercise of stock options		206		—		2,145		—			—			—			2,145
Restricted stock award and performance stock unit vesting		70		—		—		—			—			—			—
Stock-based compensation expense		—		—		1,356		—			—			—			1,356
Net loss		—		—		—		—			(2,807	)		—			(2,807	)
Other comprehensive loss		—		—		—		—			—			(265	)		(265	)
Balance—June 30, 2019		23,562	$	2	$	208,396	$	(11,435	)	$	(202,943	)	$	(3,390	)	$	(9,370	)
Stock issued upon the exercise of stock options		76		—		667		—			—			—			667
Restricted stock award and performance stock unit vesting		21		—		—		—			—			—			—
Stock-based compensation expense		—		—		1,412		—			—			—			1,412
Net loss		—		—		—		—			(2,917	)		—			(2,917	)
Other comprehensive loss		—		—		—		—			—			(371	)		(371	)
Balance—September 30, 2019		23,659	$	2	$	210,475	$	(11,435	)	$	(205,860	)	$	(3,761	)	$	(10,579	)

See accompanying notes to consolidated financial statements

7

ROSETTA STONE INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)

(unaudited) (Continued)

													Accumulated
	Non-Designated				Additional								Other			Total
	Common Stock				Paid-in		Treasury			Accumulated			Comprehensive			Stockholders'
	Shares		Amount		Capital		Stock			Loss			Loss			Equity / (Deficit)
Balance—January 1, 2018		22,316	$	2	$	195,644	$	(11,435	)	$	(178,890	)	$	(2,898	)	$	2,423
Stock issued upon the exercise of stock options		54		—		467		—			—			—			467
Restricted stock award and performance stock unit vesting		167		—		—		—			—			—			—
Stock-based compensation expense		—		—		583		—			—			—			583
Net loss		—		—		—		—			(6,402	)		—			(6,402	)
Cumulative effect adjustment - adoption of ASC 606		—		—		—		—			771			—			771
Other comprehensive income		—		—		—		—			—			529			529
Balance—March 31, 2018		22,537	$	2	$	196,694	$	(11,435	)	$	(184,521	)	$	(2,369	)	$	(1,629	)
Stock issued upon the exercise of stock options		85		—		850		—			—			—			850
Restricted stock award and performance stock unit vesting		147		—		—		—			—			—			—
Stock-based compensation expense		—		—		1,352		—			—			—			1,352
Net loss		—		—		—		—			(4,158	)		—			(4,158	)
Other comprehensive loss		—		—		—		—			—			(610	)		(610	)
Balance—June 30, 2018		22,769	$	2	$	198,896	$	(11,435	)	$	(188,679	)	$	(2,979