Income taxes

9 Months Ended

Sep. 30, 2012

Income taxes

Income taxes

4.       Income taxes

The income tax expense of $2 million for the three months ended September 30, 2012 reflected an effective tax rate of 0.8%, which differed from the effective tax rate of 10.7% for the three months ended September 30, 2011primarily due to a tax benefit resulting from a federal income tax audit settlement allocated to us in the three months ended September 30, 2012 by a subsidiary of Vivendi S.A. (“Vivendi”), as further discussed below. The effective tax rate of 0.8% for the three months ended September 30, 2012 differed from the statutory rate of 35.0%primarily due to the tax benefit resulting from the federal income tax audit settlement, foreign income taxes levied at relatively lower rates, the geographic mix of our income, and recognition of California research and development credits and federal domestic production deductions. The federal research credit expired on December 31, 2011 and, as of September 30, 2012, an extension of the credit had not been signed into law, so we have excluded the benefit from this tax credit in our income tax calculation for the three months ended September 30, 2012.

For the nine months ended September 30, 2012, the tax rate was based on our projected annual effective tax rate for 2012, and also included certain discrete tax items recorded during the period. Our tax expense of $176 million for the nine months ended September 30, 2012 reflected an effective tax rate of 18.1%, which differed from the effective tax rate of 24.8% for thenine months ended September 30, 2011primarily due to the tax benefit resulting from the federal income tax audit settlement allocated to us in the three months ended September 30, 2012.

As previously disclosed, on July 9, 2008, a business combination (“the Business Combination”) occurred amongst Vivendi, the Company and certain of their respective subsidiaries pursuant to which Vivendi Games, Inc. (“Vivendi Games”), then a member of the consolidated U.S. tax group of Vivendi's subsidiary, Vivendi Holdings I Corp. (“VHI”), became a subsidiary of the Company.   As a result of the business combination, the favorable tax attributes of Vivendi Games, Inc. carried forward to the Company.  In late August 2012, VHI settled a federal income tax audit with the Internal Revenue Service (“IRS”)for the tax years ended December 31, 2002, 2003, and 2004.  In connection with the settlement agreement, VHI's consolidated federal net operating loss carryovers were adjusted and allocated to various companies that were part of its consolidated group during the relevant periods. This allocation resulted in a $132 million federal net operating loss allocation to Vivendi Games.  In September 2012, the Company filed an amended tax return for its December 31, 2008 tax year to utilize these additional federal net operating losses allocated as a result of the aforementioned settlement, resulting in the recording of a one-time tax benefit of $46 million. Prior to the settlement, and given the uncertainty of the VHI audit, the Company had insufficient information to allow it to record or disclose any information related to the audit until the quarter ended September 30, 2012.

The overall effective income tax rate for the year could be different from the effective tax rate for the three and nine months ended September 30, 2012 and will be dependent, in part, on our profitability for the remainder of the year. In addition, our effective income tax rates for the remainder of 2012 and future periods will depend on a variety of factors, such as changes in the mix of income by tax jurisdiction, applicable accounting rules, applicable tax laws and regulations, and rulings and interpretations thereof, developments in tax audits and other matters, and variations in the estimated and actual level of annual pre-tax income or loss. Further, the effective tax rate could fluctuate significantly on a quarterly basis and could be adversely affected by the extent that income (loss) before income tax expenses (benefit) is lower than anticipated in foreign regions where taxes are levied at relatively lower statutory rates and/or higher than anticipated in the United States where taxes are levied at relatively higher statutory rates.

The IRS is currently examining the Company's federal tax returns for the 2009 tax year. The Company also has several state and non-U.S. audits pending. Vivendi Games is no longer subject to U.S. federal income tax examinations for tax years before 2004 or state examinations for tax years before 2000. Although the final resolution of the Company's global tax disputes is uncertain, based on current information, in the opinion of the Company's management, the ultimate resolution of these matters are not expected to have a material adverse effect on the Company's consolidated financial position, liquidity or results of operations. However, an unfavorable resolution of the Company's global tax disputes could have a material adverse effect on the Company's business and results of operations in an interim period in which the matters are ultimatelyresolved.