10-Q 1 adbe10qq213.htm 10-Q ADBE 10Q Q213
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________________
 
FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended May 31, 2013

 or
o
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: 0-15175
 
ADOBE SYSTEMS INCORPORATED
(Exact name of registrant as specified in its charter)
_________________________
Delaware
(State or other jurisdiction of
incorporation or organization)
77-0019522
(I.R.S. Employer
Identification No.)

345 Park Avenue, San Jose, California 95110-2704
(Address of principal executive offices and zip code)

(408) 536-6000
(Registrant’s telephone number, including area code)
 _________________________
 
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 x  No o
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 x  No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
(Do not check if a smaller
reporting company)
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o  No x
The number of shares outstanding of the registrant’s common stock as of June 21, 2013 was 502,261,330.
 



ADOBE SYSTEMS INCORPORATED
FORM 10-Q
 
TABLE OF CONTENTS
 
 
 
Page No.

PART I—FINANCIAL INFORMATION
 
Item 1.

 

 

 

 

 

Item 2.

Item 3.

Item 4.
 
 
 
 

 PART II—OTHER INFORMATION
 
Item 1.

Item 1A.

Item 2.

Item 4.
Item 6.






 

2


PART I—FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except par value)
 
May 31,
2013
 
November 30,
2012
 
(Unaudited)
 
(*)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
1,246,410

 
$
1,425,052

Short-term investments
2,619,298

 
2,113,301

   Trade receivables, net of allowances for doubtful accounts of $10,908 and $12,643, respectively
470,052

 
617,233

Deferred income taxes
54,525

 
59,537

Prepaid expenses and other current assets
143,799

 
116,237

Assets held for sale
23,573

 

Total current assets
4,557,657

 
4,331,360

Property and equipment, net
645,865

 
664,302

Goodwill
4,225,169

 
4,133,259

Purchased and other intangibles, net
551,265

 
545,036

Investment in lease receivable
207,239

 
207,239

Other assets
93,174

 
93,327

Total assets
$
10,280,369

 
$
9,974,523

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 

 
 

Trade payables
$
53,685

 
$
49,759

Accrued expenses
538,402

 
590,140

Capital lease obligations
20,083

 
11,217

Accrued restructuring
6,671

 
9,287

Income taxes payable
7,129

 
49,886

Deferred revenue
638,885

 
561,463

Total current liabilities
1,264,855

 
1,271,752

Long-term liabilities:
 

 
 

Debt and capital lease obligations
1,505,560

 
1,496,938

Deferred revenue
52,376

 
58,102

Accrued restructuring
8,790

 
12,263

Income taxes payable
161,937

 
155,096

Deferred income taxes
286,104

 
265,106

Other liabilities
73,445

 
50,084

Total liabilities
3,353,067

 
3,309,341

Stockholders’ equity:
 

 
 

Preferred stock, $0.0001 par value; 2,000 shares authorized, none issued

 

Common stock, $0.0001 par value; 900,000 shares authorized; 600,834 shares issued; 
  503,052 and 494,132 shares outstanding, respectively
61

 
61

Additional paid-in-capital
3,189,883

 
3,038,665

Retained earnings
6,855,463

 
7,003,003

Accumulated other comprehensive income
27,461

 
30,712

Treasury stock, at cost (97,782 and 106,702 shares, respectively), net of reissuances
(3,145,566
)
 
(3,407,259
)
Total stockholders’ equity
6,927,302

 
6,665,182

Total liabilities and stockholders’ equity
$
10,280,369

 
$
9,974,523

_________________________________________ 
(*)
The Condensed Consolidated Balance Sheet as of November 30, 2012 has been derived from the audited Consolidated Financial Statements at that date but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.
See accompanying Notes to Condensed Consolidated Financial Statements.

3


ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
(Unaudited)
 
Three Months Ended
 
Six Months Ended
 
May 31,
2013
 
June 1,
2012
 
May 31,
2013
 
June 1,
2012
Revenue:
 
 
 
 
 
 
 
Products
$
644,899

 
$
871,022

 
$
1,320,688

 
$
1,679,543

Subscription
254,521

 
159,519

 
478,787

 
305,749

Services and support
111,129

 
93,908

 
218,947

 
184,377

Total revenue
1,010,549

 
1,124,449

 
2,018,422

 
2,169,669

 
Cost of revenue:
 

 
 
 
 
 
 
Products
26,805

 
40,074

 
78,787

 
65,742

Subscription
66,527

 
54,823

 
129,107

 
103,603

Services and support
41,949

 
36,021

 
84,071

 
69,838

Total cost of revenue
135,281

 
130,918

 
291,965

 
239,183

 
Gross profit
875,268

 
993,531

 
1,726,457

 
1,930,486

 
Operating expenses:
 

 
 
 
 
 
 
Research and development
203,097

 
180,903

 
412,735

 
358,631

Sales and marketing
402,208

 
386,459

 
800,241

 
745,422

General and administrative
120,870

 
110,603

 
253,723

 
213,284

Restructuring and other charges
24,992

 
(2,191
)
 
24,994

 
(5,016
)
Amortization of purchased intangibles
12,792

 
12,614

 
25,231

 
24,043

Total operating expenses
763,959

 
688,388

 
1,516,924

 
1,336,364

 
Operating income
111,309

 
305,143

 
209,533

 
594,122

 
Non-operating income (expense):
 

 
 
 
 
 
 
Interest and other income (expense), net
1,268

 
(1,128
)
 
2,514

 
(3,913
)
Interest expense
(17,205
)
 
(16,629
)
 
(34,039
)
 
(33,467
)
Investment gains (losses), net
(4,245
)
 
7,188

 
(3,397
)
 
8,209

Total non-operating income (expense), net
(20,182
)
 
(10,569
)
 
(34,922
)
 
(29,171
)
Income before income taxes
91,127

 
294,574

 
174,611

 
564,951

Provision for income taxes
14,581

 
70,698

 
32,948

 
155,866

Net income
$
76,546

 
$
223,876

 
$
141,663

 
$
409,085

Basic net income per share
$
0.15

 
$
0.45

 
$
0.28

 
$
0.83

Shares used to compute basic net income per share
503,384

 
495,950

 
500,996

 
494,983

Diluted net income per share
$
0.15

 
$
0.45

 
$
0.28

 
$
0.81

Shares used to compute diluted net income per share
512,446

 
501,377

 
511,535

 
502,154



  See accompanying Notes to Condensed Consolidated Financial Statements.


4


ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
(Unaudited)
 
Three Months Ended
 
Six Months Ended
 
May 31,
2013
 
June 1,
2012
 
May 31,
2013
 
June 1,
2012
 
Increase/(Decrease)
 
Increase/(Decrease)
Net income
$
76,546

 
$
223,876

 
$
141,663

 
$
409,085

Other comprehensive income, net of taxes:
 
 
 
 
 
 
 
Available-for-sale securities:
 
 
 
 
 
 
 
Unrealized gains / losses on available-for-sale securities
(5,255
)
 
(7,297
)
 
(4,553
)
 
5,568

Reclassification adjustment for gains on available-for-sale securities recognized during the period
(788
)
 
(413
)
 
(2,372
)
 
(911
)
Net increase (decrease) from available-for-sale securities
(6,043
)
 
(7,710
)
 
(6,925
)
 
4,657

Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Unrealized gains on derivative instruments
10,885

 
10,191

 
32,660

 
22,772

Reclassification adjustment for gains on derivative instruments recognized during the period
(15,299
)
 
(10,661
)
 
(22,392
)
 
(21,009
)
Net increase (decrease) from derivatives designated as hedging instruments
(4,414
)
 
(470
)
 
10,268

 
1,763

Foreign currency translation adjustments
(2,192
)
 
(17,952
)
 
(6,594
)
 
(15,755
)
Other comprehensive income, net of taxes
(12,649
)
 
(26,132
)
 
(3,251
)
 
(9,335
)
Total comprehensive income, net of taxes
$
63,897

 
$
197,744

 
$
138,412

 
$
399,750



See accompanying Notes to Condensed Consolidated Financial Statements.



5


ADOBE SYSTEMS INCORPORATED
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Six Months Ended
 
May 31,
2013
 
June 1,
2012
Cash flows from operating activities:
 
 
 
Net income
$
141,663

 
$
409,085

Adjustments to reconcile net income to net cash provided by operating activities:
 

 
 
Depreciation, amortization and accretion
157,702

 
147,035

Stock-based compensation
163,066

 
142,980

Write down of assets held for sale
23,838

 

Deferred income taxes
18,661

 
58,094

Unrealized (gains) losses on investments
3,894

 
(7,403
)
Other non-cash items
(9,191
)
 
(13,578
)
Excess tax benefits from stock-based compensation

 
(5,354
)
Changes in operating assets and liabilities, net of acquired assets and assumed
      liabilities:
 
 
 
Trade receivables, net
147,839

 
134,658

Prepaid expenses and other current assets
(18,651
)
 
(32,956
)
Trade payables
3,437

 
(43,203
)
Accrued expenses
(46,482
)
 
(43,767
)
Accrued restructuring
(5,209
)
 
(56,156
)
Income taxes payable
(30,132
)
 
12,593

Deferred revenue
70,744

 
60,553

Net cash provided by operating activities
621,179

 
762,581

Cash flows from investing activities:
 

 
 

Purchases of short-term investments
(1,358,634
)
 
(910,579
)
Maturities of short-term investments
196,201

 
281,911

Proceeds from sales of short-term investments
641,203

 
489,623

Acquisitions, net of cash acquired
(96,356
)
 
(353,245
)
Purchases of property and equipment
(106,439
)
 
(111,855
)
Purchases of long-term investments and other assets
(59,768
)
 
(9,448
)
Proceeds from sale of long-term investments
3,240

 
27,626

Net cash used for investing activities
(780,553
)
 
(585,967
)
Cash flows from financing activities:
 

 
 

Purchases of treasury stock
(300,000
)
 
(305,000
)
Proceeds from issuance of treasury stock
273,221

 
89,237

Excess tax benefits from stock-based compensation

 
5,354

Proceeds from debt and capital lease obligations
25,703

 

Repayment of debt and capital lease obligations
(9,804
)
 
(4,554
)
Debt issuance costs
(357
)
 
(2,297
)
Net cash used for financing activities
(11,237
)
 
(217,260
)
Effect of foreign currency exchange rates on cash and cash equivalents
(8,031
)
 
2,384

Net decrease in cash and cash equivalents
(178,642
)
 
(38,262
)
Cash and cash equivalents at beginning of period
1,425,052

 
989,500

Cash and cash equivalents at end of period
$
1,246,410

 
$
951,238

Supplemental disclosures:
 

 
 
Cash paid for income taxes, net of refunds
$
68,507

 
$
96,105

Cash paid for interest
$
32,676

 
$
34,172

Non-cash investing activities:
 
 
 
Issuance of common stock and stock awards assumed in business acquisitions
$
661

 
$
4,265


See accompanying Notes to Condensed Consolidated Financial Statements.

6


ADOBE SYSTEMS INCORPORATED
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 
(Unaudited)

NOTE 1.  BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
We have prepared the accompanying unaudited Condensed Consolidated Financial Statements pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Pursuant to these rules and regulations, we have condensed or omitted certain information and footnote disclosures we normally include in our annual Consolidated Financial Statements prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). In management’s opinion, we have made all adjustments (consisting only of normal, recurring adjustments, except as otherwise indicated) necessary to fairly present our financial position, results of operations and cash flows. Our interim period operating results do not necessarily indicate the results that may be expected for any other interim period or for the full fiscal year. These financial statements and accompanying notes should be read in conjunction with the Consolidated Financial Statements and notes thereto in our Annual Report on Form 10-K for the fiscal year ended November 30, 2012 on file with the SEC (our “Annual Report”).
With the exception of the discussion below, there have been no material changes to our significant accounting policies as compared to the significant accounting policies described in our Annual Report.
Recent Accounting Pronouncements 
In December 2011, the Financial Accounting Standards Board (“FASB”) amended the accounting standards to increase the prominence of other comprehensive income (“OCI”) by eliminating the option to present components of OCI as part of the statement of changes in shareholders’ equity and requires the components of OCI to be presented either in a single continuous statement of comprehensive income or in two consecutive statements. We adopted the amended accounting standards at the beginning of our first quarter of fiscal 2013 by electing to present separate consolidated statements of comprehensive income from the consolidated statements of income.
In February 2013, the FASB further amended the above accounting standards to improve the presentation of amounts reclassified out of accumulated other comprehensive income in its entirety and by component by presenting the reclassification adjustments on either the face of the the statement where net income is presented or in a separate disclosure in the notes to the financial statements. Amounts that are not required to be reclassified in their entirety to net income are required to be cross referenced to related footnote disclosures that provide additional detail. We elected to early adopt the amended accounting standard at the beginning of our second quarter of fiscal 2013 by electing to present the reclassification adjustments and other required disclosures in a separate footnote.
The amended accounting standards only impact the financial statement presentation of OCI and do not change the components that are recognized in net income or OCI. The adoption had no impact on the Company’s financial position or results of operations.
NOTE 2.  ACQUISITIONS
On December 20, 2012, we completed our acquisition of privately held Behance, an online social media platform to showcase and discover creative work. During the first quarter of fiscal 2013, we began integrating Behance into our Digital Media reportable segment. Behance’s community and portfolio capabilities will accelerate our strategy to bring additional community features to Creative Cloud. We have included the financial results of Behance in our Condensed Consolidated Financial Statements beginning on the acquisition date.
Under the acquisition method of accounting, the total purchase price was allocated to Behance’s net tangible and intangible assets based upon their estimated fair values as of December 20, 2012. The total final purchase price for Behance was approximately $111.1 million of which approximately $91.4 million was allocated to goodwill, $28.5 million to identifiable intangible assets and $8.8 million to net liabilities assumed. The impact of this acquisition was not material to our Condensed Consolidated Financial Statements.
On January 13, 2012, we completed our acquisition of privately held Efficient Frontier, a multi-channel digital ad buying and optimization company. During the first quarter of fiscal 2012, we began integrating Efficient Frontier into our Digital Marketing reportable segment. The Efficient Frontier business adds cross-channel digital ad campaign forecasting, execution and optimization capabilities to our Adobe Marketing Cloud, along with a social marketing engagement platform and social ad buying capabilities. We have included the financial results of Efficient Frontier in our Condensed Consolidated Financial Statements beginning on the acquisition date.

7


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Under the acquisition method of accounting, the total purchase price was allocated to Efficient Frontier’s net tangible and intangible assets based upon their estimated fair values as of January 13, 2012. The total final purchase price for Efficient Frontier was approximately $374.7 million of which approximately $291.4 million was allocated to goodwill, $122.7 million to identifiable intangible assets and $39.4 million to net liabilities assumed. The impact of this acquisition was not material to our Condensed Consolidated Financial Statements.
NOTE 3.  CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
Cash equivalents consist of instruments with remaining maturities of three months or less at the date of purchase. We classify all of our cash equivalents and short-term investments as “available-for-sale.” In general, these investments are free of trading restrictions. We carry these investments at fair value, based on quoted market prices or other readily available market information. Unrealized gains and losses, net of taxes, are included in accumulated other comprehensive income, which is reflected as a separate component of stockholders’ equity in our Condensed Consolidated Balance Sheets. Gains and losses are recognized when realized in our Condensed Consolidated Statements of Income. When we have determined that an other-than-temporary decline in fair value has occurred, the amount of the decline that is related to a credit loss is recognized in income. Gains and losses are determined using the specific identification method.
Cash, cash equivalents and short-term investments consisted of the following as of May 31, 2013 (in thousands):
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Estimated
Fair Value
Current assets:
 
 
 
 
 
 
 
Cash
$
322,438

 
$

 
$

 
$
322,438

Cash equivalents:
 
 
 
 
 
 
 
Corporate bonds and commercial paper
23,992

 

 
(1
)
 
23,991

Money market mutual funds
761,427

 

 

 
761,427

Time deposits
138,554

 

 

 
138,554

Total cash equivalents
923,973

 

 
(1
)
 
923,972

Total cash and cash equivalents
1,246,411

 

 
(1
)
 
1,246,410

Short-term fixed income securities:
 
 
 
 
 
 
 
Corporate bonds and commercial paper
1,406,253

 
7,714

 
(1,501
)
 
1,412,466

Foreign government securities
14,863

 
44

 
(9
)
 
14,898

Municipal securities
194,428

 
277

 
(31
)
 
194,674

U.S. agency securities
534,734

 
1,445

 
(363
)
 
535,816

U.S. Treasury securities
461,277

 
287

 
(459
)
 
461,105

Subtotal
2,611,555

 
9,767

 
(2,363
)
 
2,618,959

Marketable equity securities
180

 
159

 

 
339

Total short-term investments
2,611,735

 
9,926

 
(2,363
)
 
2,619,298

Total cash, cash equivalents and short-term investments
$
3,858,146

 
$
9,926

 
$
(2,364
)
 
$
3,865,708



8


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Cash, cash equivalents and short-term investments consisted of the following as of November 30, 2012 (in thousands):
 
Amortized
Cost
 
Unrealized
Gains
 
Unrealized
Losses
 
Estimated
Fair Value
Current assets:
 
 
 
 
 
 
 
Cash
$
200,771

 
$

 
$

 
$
200,771

Cash equivalents:
 

 
 
 
 
 
 

Corporate bonds and commercial paper
3,998

 

 

 
3,998

Money market mutual funds and repurchase agreements
1,171,270

 

 

 
1,171,270

Municipal securities
3,895

 

 

 
3,895

Time deposits
45,118

 

 

 
45,118

Total cash equivalents
1,224,281

 

 

 
1,224,281

Total cash and cash equivalents
1,425,052

 

 

 
1,425,052

Short-term fixed income securities:
 
 
 
 
 
 
 

Corporate bonds and commercial paper
1,059,158

 
11,415

 
(133
)
 
1,070,440

Foreign government securities
6,919

 
45

 
(12
)
 
6,952

Municipal securities
180,488

 
97

 
(60
)
 
180,525

Time deposits
20,113

 

 

 
20,113

U.S. agency securities
501,863

 
2,346

 
(18
)
 
504,191

U.S. Treasury securities
330,072

 
801

 
(37
)
 
330,836

Subtotal
2,098,613

 
14,704

 
(260
)
 
2,113,057

Marketable equity securities
237

 
7

 

 
244

Total short-term investments
2,098,850

 
14,711

 
(260
)
 
2,113,301

Total cash, cash equivalents and short-term investments
$
3,523,902

 
$
14,711

 
$
(260
)
 
$
3,538,353


See Note 4 for further information regarding the fair value of our financial instruments.
The following table summarizes the fair value and gross unrealized losses related to available-for-sale securities, aggregated by investment category, that have been in an unrealized loss position for less than twelve months, as of May 31, 2013 and November 30, 2012 (in thousands):
 
2013
 
2012
 
Fair 
Value
 
Gross
Unrealized
Losses
 
Fair 
Value
 
Gross
Unrealized
Losses
Corporate bonds and commercial paper
$
532,012

 
$
(1,501
)
 
$
95,489

 
$
(132
)
Foreign government securities
10,076

 
(9
)
 
2,105

 
(12
)
Municipal securities
30,705

 
(31
)
 
40,524

 
(60
)
U.S. Treasury and agency securities
425,823

 
(823
)
 
48,203

 
(55
)
Total
$
998,616

 
$
(2,364
)
 
$
186,321

 
$
(259
)
 
There were 422 securities and 65 securities that were in an unrealized loss position for less than twelve months at May 31, 2013 and at November 30, 2012, respectively.

9


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The following table summarizes the fair value and gross unrealized losses related to available-for-sale securities, aggregated by investment category, that were in a continuous unrealized loss position for more than twelve months, as of November 30, 2012 (in thousands):
 
2012
 
Fair 
Value
 
Gross
Unrealized
Losses
Corporate bonds and commercial paper
$
2,999

 
$
(1
)
Total
$
2,999

 
$
(1
)
As of May 31, 2013, there were no securities in an unrealized loss position for more than twelve months. As of November 30, 2012, there was one security in an unrealized loss position for more than twelve months.
The following table summarizes the cost and estimated fair value of short-term fixed income securities classified as short-term investments based on stated effective maturities as of May 31, 2013 (in thousands):
 
Amortized
Cost
 
Estimated
Fair Value
Due within one year
$
662,219

 
$
663,737

Due between one and two years
780,088

 
783,575

Due between two and three years
825,495

 
827,482

Due after three years
343,753

 
344,165

Total
$
2,611,555

 
$
2,618,959

We review our debt and marketable equity securities classified as short-term investments on a regular basis to evaluate whether or not any security has experienced an other-than-temporary decline in fair value. We consider factors such as the length of time and extent to which the market value has been less than the cost, the financial condition and near-term prospects of the issuer and our intent to sell, or whether it is more likely than not we will be required to sell the investment before recovery of the investment’s amortized cost basis. If we believe that an other-than-temporary decline exists in one of these securities, we write down these investments to fair value. For debt securities, the portion of the write-down related to credit loss would be recorded to interest and other income, net in our Condensed Consolidated Statements of Income. Any portion not related to credit loss would be recorded to accumulated other comprehensive income, which is reflected as a separate component of stockholders’ equity in our Condensed Consolidated Balance Sheets. For equity securities, the write-down would be recorded to investment gains (losses), net in our Condensed Consolidated Statements of Income. During the six months ended May 31, 2013, we did not consider any of our investments to be other-than-temporarily impaired.
NOTE 4.  FAIR VALUE MEASUREMENTS
Assets and Liabilities Measured and Recorded at Fair Value on a Recurring Basis
We measure certain financial assets and liabilities at fair value on a recurring basis. There have been no transfers between fair value measurement levels during the six months ended May 31, 2013.

10


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The fair value of our financial assets and liabilities at May 31, 2013 was determined using the following inputs (in thousands):
 
  Fair Value Measurements at Reporting Date Using
 
 
 
Quoted Prices
in Active
Markets for
Identical Assets
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
 
Total
 
(Level 1)
 
(Level 2)
 
(Level 3)
Assets:
 
 
 
 
 
 
 
Cash equivalents:
 
 
 
 
 
 
 
Corporate bonds and commercial paper
$
23,991

 
$

 
$
23,991

 
$

Money market mutual funds
761,427

 
761,427

 

 

Time deposits
138,554

 
138,554

 

 

Short-term investments:
 
 
 
 
 
 
 
Corporate bonds and commercial paper
1,412,466

 

 
1,412,466

 

Foreign government securities
14,898

 

 
14,898

 

Marketable equity securities
339

 
339

 

 

Municipal securities
194,674

 

 
194,674

 

U.S. agency securities
535,816

 

 
535,816

 

U.S. Treasury securities
461,105

 

 
461,105

 

Prepaid expenses and other current assets:
 
 
 

 
 

 
 

Foreign currency derivatives
23,781

 

 
23,781

 

Other assets:
 
 
 

 
 

 
 

Deferred compensation plan assets
18,450

 
399

 
18,051

 

Total assets
$
3,585,501

 
$
900,719

 
$
2,684,782

 
$

Liabilities:
 

 
 

 
 

 
 

Accrued expenses:
 

 
 

 
 

 
 

Foreign currency derivatives
$
2,498

 
$

 
$
2,498

 
$

Total liabilities
$
2,498

 
$

 
$
2,498

 
$



11


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The fair value of our financial assets and liabilities at November 30, 2012 was determined using the following inputs (in thousands): 
 
  Fair Value Measurements at Reporting Date Using
 
 
 
Quoted Prices
in Active
Markets for
Identical Assets
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
 
Total
 
(Level 1)
 
(Level 2)
 
(Level 3)
Assets:
 
 
 
 
 
 
 
Cash equivalents:
 
 
 
 
 
 
 
Corporate bonds and commercial paper
$
3,998

 
$

 
$
3,998

 
$

Money market mutual funds and repurchase
    agreements
1,171,270

 
1,171,270

 

 

Municipal securities
3,895

 

 
3,895

 

Time deposits
45,118

 
45,118

 

 

Short-term investments:
 

 


 


 


Corporate bonds and commercial paper
1,070,440

 

 
1,070,440

 

Foreign government securities
6,952

 

 
6,952

 

Marketable equity securities
244

 
244

 

 

Municipal securities
180,525

 

 
180,525

 

Time deposits
20,113

 

 
20,113

 

U.S. agency securities
504,191

 

 
504,191

 

U.S. Treasury securities 
330,836

 

 
330,836

 

Prepaid expenses and other current assets:
 

 
 

 
 

 
 

Foreign currency derivatives
13,513

 

 
13,513

 

Other assets:
 

 
 

 
 

 
 

Deferred compensation plan assets
15,094

 
436

 
14,658

 

Total assets
$
3,366,189

 
$
1,217,068

 
$
2,149,121

 
$

Liabilities:
 

 
 

 
 

 
 

Accrued expenses:
 

 
 

 
 

 
 

Foreign currency derivatives
$
998

 
$

 
$
998

 
$

Total liabilities
$
998

 
$

 
$
998

 
$


See Note 3 for further information regarding the fair value of our financial instruments. 
Our fixed income available-for-sale securities consist of high quality, investment grade securities from diverse issuers with a minimum credit rating of BBB and a weighted average credit rating of AA-. We value these securities based on pricing from pricing vendors who may use quoted prices in active markets for identical assets (Level 1 inputs) or inputs other than quoted prices that are observable either directly or indirectly (Level 2 inputs) in determining fair value. However, we classify all of our fixed income available-for-sale securities as having Level 2 inputs. The valuation techniques used to measure the fair value of our financial instruments having Level 2 inputs were derived from non-binding market consensus prices that are corroborated by observable market data, quoted market prices for similar instruments, or pricing models such as discounted cash flow techniques. Our procedures include controls to ensure that appropriate fair values are recorded such as comparing prices obtained from multiple independent sources.
Our deferred compensation plan assets consist of prime money market funds and mutual funds.


12


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

We also have direct investments in privately held companies accounted for under the cost method, which are periodically assessed for other-than-temporary impairment. If we determine that an other-than-temporary impairment has occurred, we write down the investment to its fair value. We estimate fair value of our cost method investments considering available information such as pricing in recent rounds of financing, current cash positions, earnings and cash flow forecasts, recent operational performance and any other readily available market data. For the three and six months ended May 31, 2013, we determined there was an other-than-temporary impairment of $5.0 million on our cost method investments and wrote down the investments to fair value.
In May 2013, management approved a plan to sell land, building and other assets located in Waltham, Massachusetts (the “Waltham property assets”). The Company classified the Waltham property assets with a total carrying amount of $47.4 million as assets held for sale and recorded these assets at fair value net of estimated costs to sell on the Condensed Consolidated Balance Sheets as of May 31, 2013. The fair value, net of estimated cost to sell was approximately $23.6 million, and was measured with the assistance of third-party valuation models which used inputs such as market comparable data for similar properties to be purchased by other operating and investing entities and discounted cash flow techniques as part of the analysis. The fair value measurement was categorized as Level 3 as significant unobservable inputs were used in the valuation analysis. As a result, we recorded a write-down of $23.8 million during the second quarter of fiscal 2013. These charges are included in restructuring and other charges in our Condensed Consolidated Statements of Income. See Note 6 for further details regarding our assets held for sale.
As of May 31, 2013, the carrying value of our lease receivables approximated fair value, based on Level 2 observable inputs which include Treasury rates, LIBOR rates and applicable credit spreads. See Note 13 for further details regarding our investment in lease receivables. The fair value of our long-term debt was approximately $1.6 billion as of May 31, 2013, based on Level 2 quoted prices in inactive markets. See Note 14 for further details regarding our debt.
NOTE 5.  DERIVATIVES AND HEDGING ACTIVITIES
In countries outside the U.S., we transact business in U.S. Dollars and in various other currencies. We may use foreign exchange option contracts or forward contracts to hedge certain cash flow exposures resulting from changes in these foreign currency exchange rates. These foreign exchange contracts, carried at fair value, have maturities of up to twelve months. We enter into these foreign exchange contracts to hedge a portion of our forecasted foreign currency denominated revenue in the normal course of business and accordingly, they are not speculative in nature.
We recognize these contracts as derivative instruments and they are classified as either assets or liabilities on the balance sheet and measured at fair value. Gains and losses resulting from changes in fair value are accounted for depending on the use of the derivative and whether it is designated and qualifies for hedge accounting. To receive hedge accounting treatment, all hedging relationships are formally documented at the inception of the hedge, and the hedges must be highly effective in offsetting changes to future cash flows on hedged transactions. We record changes in the intrinsic value of these cash flow hedges in accumulated other comprehensive income in our Condensed Consolidated Balance Sheets, until the forecasted transaction occurs. When the forecasted transaction occurs, we reclassify the related gain or loss on the cash flow hedge to revenue. In the event the underlying forecasted transaction does not occur, or it becomes probable that it will not occur, we reclassify the gain or loss on the related cash flow hedge from accumulated other comprehensive income to interest and other income (expense), net in our Condensed Consolidated Statements of Income at that time. If we do not elect hedge accounting, or the derivative does not qualify for hedge accounting treatment, the changes in fair market value from period to period are recorded in interest and other income (expense), net in our Condensed Consolidated Statements of Income.
We also hedge our net recognized foreign currency denominated assets and liabilities with foreign exchange forward contracts to reduce the risk that the value of these assets and liabilities will be adversely affected by changes in exchange rates. These derivative instruments hedge assets and liabilities that are denominated in foreign currencies and are carried at fair value with changes in the fair value recorded to interest and other income (expense), net in our Condensed Consolidated Statements of Income. These derivative instruments do not subject us to material balance sheet risk due to exchange rate movements because gains and losses on these derivatives are intended to offset gains and losses on the assets and liabilities being hedged.

13


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The bank counterparties to these contracts expose us to credit-related losses in the event of their nonperformance. However, to mitigate that risk, we only contract with counterparties who meet our minimum requirements as determined by our counterparty risk assessment process. We monitor ratings, credit spreads and potential downgrades on at least a quarterly basis. Based on our ongoing assessment of counterparty risk, we may adjust our exposure to various counterparties. In addition, our hedging policy establishes maximum limits for each counterparty to mitigate any concentration of risk.
The aggregate fair value of derivative instruments in net asset positions as of May 31, 2013 and November 30, 2012 was $23.8 million and $13.5 million, respectively. These amounts represent the maximum exposure to loss at the reporting date as a result of all of the counterparties failing to perform as contracted. This exposure could be reduced by up to $2.5 million and $1.0 million, respectively, of liabilities included in master netting arrangements with those same counterparties.
The fair value of derivative instruments on our Condensed Consolidated Balance Sheets as of May 31, 2013 and November 30, 2012 were as follows (in thousands):
 
2013
 
2012
 
Fair Value
Asset
Derivatives(1)
 
Fair Value
Liability
Derivatives(2)
 
Fair Value
Asset
Derivatives(1)
 
Fair Value
Liability
Derivatives(2)
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Foreign exchange option contracts(3) 
$
21,158

 
$

 
$
10,897

 
$

Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
 Foreign exchange forward contracts
2,623

 
2,498

 
2,616

 
998

Total derivatives
$
23,781

 
$
2,498

 
$
13,513

 
$
998

_________________________________________ 
(1) 
Included in prepaid expenses and other current assets on our Condensed Consolidated Balance Sheets.
(2) 
Included in accrued expenses on our Condensed Consolidated Balance Sheets.
(3) 
Hedging effectiveness expected to be recognized into income within the next twelve months.
 
The effect of derivative instruments designated as cash flow hedges and of derivative instruments not designated as hedges in our Condensed Consolidated Statements of Income for the three and six months ended May 31, 2013 was as follows (in thousands):
 
Three Months
 
Six Months
 
Foreign
Exchange
Option
Contracts
 
Foreign
Exchange
Forward
Contracts
 
Foreign
Exchange
Option
Contracts
 
Foreign
Exchange
Forward
Contracts
Derivatives in cash flow hedging relationships:
 
 
 
 
 
 
 
Net gain (loss) recognized in OCI, net of tax(1) 
$
10,885

 
$

 
$
32,660

 
$

Net gain (loss) reclassified from accumulated
OCI into income, net of tax(2)
$
15,299

 
$

 
$
22,392

 
$

Net gain (loss) recognized in income(3) 
$
(4,999
)
 
$

 
$
(9,667
)
 
$

Derivatives not designated as hedging relationships:
 
 
 
 
 
 
 
Net gain (loss) recognized in income(4) 
$

 
$
3,318

 
$

 
$
4,796



14


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The effect of derivative instruments designated as cash flow hedges and of derivative instruments not designated as hedges in our Condensed Consolidated Statements of Income for the three and six months ended June 1, 2012 was as follows (in thousands):
 
Three Months
 
Six Months
 
Foreign
Exchange
Option
Contracts
 
Foreign
Exchange
Forward
Contracts
 
Foreign
Exchange
Option
Contracts
 
Foreign
Exchange
Forward
Contracts
Derivatives in cash flow hedging relationships:
 
 
 
 
 
 
 
Net gain (loss) recognized in OCI, net of tax(1) 
$
10,191

 
$

 
$
22,772

 
$

Net gain (loss) reclassified from accumulated
OCI into income, net of tax(2)
$
10,661

 
$

 
$
21,009

 
$

Net gain (loss) recognized in income(3) 
$
(6,714
)
 
$

 
$
(14,958
)
 
$

Derivatives not designated as hedging relationships:
 
 
 
 
 
 
 
Net gain (loss) recognized in income(4) 
$

 
$
8,423

 
$

 
$
16,573


_________________________________________ 
(1) 
Net change in the fair value of the effective portion classified in other comprehensive income (“OCI”).
(2) 
Effective portion classified as revenue.
(3) 
Ineffective portion and amount excluded from effectiveness testing classified in interest and other income (expense), net.
(4) 
Classified in interest and other income (expense), net.
NOTE 6.  ASSETS HELD FOR SALE

In May 2013, management approved a plan to sell land, building and other assets located in Waltham, Massachusetts (the “Waltham property assets”) with a total carrying amount of $47.4 million. The decision to sell the Waltham property assets was largely based upon lack of operational needs for a facility of this size, in combination with recent improvements in market conditions for commercial real estate in the area. During May 2013, we began to actively market the Waltham property assets and we expect to sell the property within one year from management's approval of the plan. As of May 31, 2013, we classified the Waltham property assets as held for sale on the Condensed Consolidated Balance Sheets at its fair value, net of estimated cost to sell of $23.6 million which was the lesser of the fair value less cost to sell or carrying amount of the assets. We ceased recognizing depreciation expense on the Waltham property assets upon reclassification. As a result, we recorded a write-down of $23.8 million during the second quarter of fiscal 2013. These charges are included in restructuring and other charges in our Condensed Consolidated Statements of Income.
NOTE 7.  GOODWILL AND PURCHASED AND OTHER INTANGIBLES
Goodwill as of May 31, 2013 and November 30, 2012 was $4.225 billion and $4.133 billion, respectively. The increase was primarily due to our acquisition of Behance. During the second quarter of fiscal 2013, we completed our annual goodwill impairment test associated with our three reporting unitsDigital Media, Digital Marketing and Print and Publishingand determined there was no impairment of goodwill.

15


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Purchased and other intangible assets subject to amortization as of May 31, 2013 and November 30, 2012 were as follows (in thousands): 
 
2013
 
2012
 
Cost
 
Accumulated Amortization
 
Net
 
Cost
 
Accumulated Amortization
 
Net
Purchased technology
$
358,512

 
$
(181,269
)
 
$
177,243

 
$
366,574

 
$
(161,538
)
 
$
205,036

Customer contracts and relationships
$
324,161

 
$
(91,564
)
 
$
232,597

 
$
318,027

 
$
(74,214
)
 
$
243,813

Trademarks
66,475

 
(23,443
)
 
43,032

 
53,293

 
(19,171
)
 
34,122

Acquired rights to use technology
152,817

 
(66,316
)
 
86,501

 
104,402

 
(56,782
)
 
47,620

Localization
7,226

 
(2,550
)
 
4,676

 
8,586

 
(4,654
)
 
3,932

Other intangibles
17,644

 
(10,428
)
 
7,216

 
18,742

 
(8,229
)
 
10,513

Total other intangible assets
$
568,323

 
$
(194,301
)
 
$
374,022

 
$
503,050

 
$
(163,050
)
 
$
340,000

Purchased and other intangible
    assets, net
$
926,835

 
$
(375,570
)
 
$
551,265

 
$
869,624

 
$
(324,588
)
 
$
545,036

 
In the first quarter of fiscal 2013, we acquired rights to use certain technology for approximately $51.8 million. Of this cost, an estimated $25.3 million was related to future licensing rights and has been capitalized and will be amortized on a straight-line basis over the estimated useful lives ranging from five to ten years. We estimated that the remaining cost of approximately $26.5 million was related to historical use of licensing rights and was expensed as cost of product revenue.   

In the first quarter of fiscal 2013, certain purchased intangibles associated with our Omniture acquisition became fully amortized and were removed from the balance sheet. Excluding the expense associated with historical use of the acquired rights to use the technology discussed above, amortization expense related to purchased and other intangible assets was $37.5 million and $74.9 million for the three and six months ended May 31, 2013, respectively. Comparatively, amortization expense was $39.5 million and $72.6 million for the three and six months ended June 1, 2012, respectively. Of these amounts, $26.6 million and $53.0 million were included in cost of sales for the three and six months ended May 31, 2013, respectively, and $27.0 million and $48.6 million were included in cost of sales for the three and six months ended June 1, 2012, respectively.
As of May 31, 2013, we expect amortization expense in future periods to be as follows (in thousands):
Fiscal Year
 
Purchased
Technology
 
Other Intangible
Assets
Remainder of 2013
$
35,578

 
$
39,362

2014
66,544

 
67,134

2015
51,819

 
61,229

2016
13,136

 
55,605

2017
6,736

 
47,170

Thereafter
3,430

 
103,522

Total expected amortization expense
$
177,243

 
$
374,022


16


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

NOTE 8.  ACCRUED EXPENSES
Accrued expenses as of May 31, 2013 and November 30, 2012 consisted of the following (in thousands):
 
2013
 
2012
Accrued compensation and benefits
$
249,877

 
$
242,887

Sales and marketing allowances 
64,525

 
87,916

Accrued corporate marketing
31,620

 
39,503

Taxes payable
18,343

 
26,164

Royalties payable
9,470

 
10,040

Accrued interest expense
20,969

 
20,796

Other
143,598

 
162,834

Accrued expenses                                                                                         
$
538,402

 
$
590,140


Other primarily includes general corporate accruals for local and regional expenses and technical support. Other is also comprised of deferred rent related to office locations with rent escalations and foreign currency liability derivatives.
NOTE 9.  STOCK-BASED COMPENSATION
Summary of Restricted Stock Units
Restricted stock unit activity for the six months ended May 31, 2013 and the fiscal year ended November 30, 2012 was as follows (in thousands):
 
2013
 
2012
Beginning outstanding balance
18,415

 
16,871

Awarded
6,190

 
9,431

Released
(5,402
)
 
(5,854
)
Forfeited
(899
)
 
(2,147
)
Increase due to acquisition

 
114

Ending outstanding balance
18,304

 
18,415


 Information regarding restricted stock units outstanding at May 31, 2013 and June 1, 2012 is summarized below:
 
Number of
Shares
(thousands)
 
Weighted
Average
Remaining
Contractual
Life
(years)
 
Aggregate
Intrinsic
Value(*)
(millions)
2013
 
 
 
 
 
Restricted stock units outstanding
18,304

 
1.47
 
$
785.4

Restricted stock units vested and expected to vest
16,009

 
1.40
 
$
684.6

2012
 

 
 
 
 

Restricted stock units outstanding
18,674

 
1.74
 
$
555.6

Restricted stock units vested and expected to vest
15,949

 
1.64
 
$
473.7

_________________________________________ 
(*) 
The intrinsic value is calculated as the market value as of the end of the fiscal period. As reported by the NASDAQ Global Select Market, the market values as of May 31, 2013 and June 1, 2012 were $42.91 and $29.82, respectively. 

17


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Summary of Performance Shares 
The following table sets forth the summary of performance share activity under our Performance Share Program for fiscal 2013 (the “2013 Program”) for the six months ended May 31, 2013 (in thousands): 
 
Shares
Granted
 
Maximum
Shares Eligible
to Receive
Beginning outstanding balance

 

Awarded
945

 
1,891

Forfeited
(64
)
 
(128
)
Ending outstanding balance
881

 
1,763

Effective January 24, 2013, our Executive Compensation Committee modified our Performance Share Program by eliminating the use of qualitative performance objectives, with 100% of shares to be earned based on the achievement of an objective total stockholder return measure over a three-year performance period. Performance awards will be granted under the 2013 Program pursuant to the terms of our 2003 Equity Incentive Plan. The purpose of the 2013 Program is to align key management and senior leadership with stockholders’ interests over the long term and to retain key employees. Performance share awards will be awarded and fully vest upon the Executive Compensation Committee's certification of the level of achievement following the three-year anniversary of the grant date on January 24, 2016. Participants in the 2013 Program generally have the ability to receive up to 200% of the target number of shares originally granted.
In the first quarter of fiscal 2013, the Executive Compensation Committee certified the actual performance achievement of participants in the 2012 Performance Share Program (the “2012 Program”). Based upon the achievement of specific and/or market-based performance goals outlined in the 2012 Program, participants had the ability to receive up to 150% of the target number of shares originally granted. Actual performance resulted in participants achieving 116% of target or approximately 1.3 million shares for the 2012 Program. One third of the shares under the 2012 Program vested in the first quarter of fiscal 2013 and the remaining two thirds vest evenly on the following two anniversaries of the grant, contingent upon the recipient's continued service to Adobe.
In the first quarter of fiscal 2012, the Executive Compensation Committee certified the actual performance achievement of participants in the 2011 Performance Share Program (the “2011 Program”). Based upon the achievement of goals outlined in the 2011 Program, participants had the ability to receive up to 150% of the target number of shares originally granted. Actual performance resulted in participants achieving 130% of target or approximately 0.5 million shares for the 2011 Program. One third of the shares under the 2011 Program vested in the first quarter of fiscal 2012 and the remaining two thirds vest evenly on the following two anniversaries of the grant, contingent upon the recipient's continued service to Adobe.
The following table sets forth the summary of performance share activity under our 2010, 2011 and 2012 programs, based upon share awards actually achieved, for the six months ended May 31, 2013 and the fiscal year ended November 30, 2012 (in thousands):
 
2013
 
2012
Beginning outstanding balance
388

 
405

Achieved
1,279

 
492

Released
(665
)
 
(464
)
Forfeited
(125
)
 
(45
)
Ending outstanding balance
877

 
388

 

18


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Information regarding performance shares outstanding at May 31, 2013 and June 1, 2012 is summarized below: 
 
Number of
Shares
(thousands)
 
Weighted
Average
Remaining
Contractual
Life
(years)
 
Aggregate
Intrinsic
Value(*)
(millions)
2013
 
 
 
 
 
Performance shares outstanding
877

 
1.08
 
$
37.6

Performance shares vested and expected to vest
793

 
1.06
 
$
33.9

2012
 

 
 
 
 

Performance shares outstanding
434

 
1.03
 
$
12.9

Performance shares vested and expected to vest
394

 
1.01
 
$
11.7

_________________________________________ 
(*) 
The intrinsic value is calculated as the market value as of the end of the fiscal period. As reported by the NASDAQ Global Select Market, the market values as of May 31, 2013 and June 1, 2012 were $42.91 and $29.82, respectively.     
Summary of Stock Options 
Option grants during the three and six months ended May 31, 2013 and June 1, 2012 were primarily made to non-employee directors who elected to receive options during the annual equity grant period in the second quarter of each fiscal year. The assumptions used to value option grants during the three and six months ended May 31, 2013 and June 1, 2012 were as follows: 
 
Three Months
 
Six Months
 
2013
 
2012
 
2013
 
2012
Expected life (in years)
3.2

 
4.2

 
3.2

 
3.9 - 4.2
Volatility
27
%
 
31
%
 
27
%
 
31 - 34%
Risk free interest rate
0.36
%
 
0.71
%
 
0.36
%
 
0.54 - 0.71%

There were no stock purchases under the employee stock purchase plan (“ESPP”) during the three months ended May 31, 2013 and June 1, 2012. The assumptions used to value employee stock purchase rights during the six months ended May 31, 2013 and June 1, 2012 were as follows:
 
 
Six Months
 
 
2013
 
2012
Expected life (in years)
 
0.5 - 2.0
 
0.5 - 2.0

Volatility
 
26 - 30%
 
36
%
Risk free interest rate
 
0.12 - 0.27%
 
0.06 - 0.27%

 

The expected life of ESPP shares is the average of the remaining purchase periods under each offering period.

Option activity for the six months ended May 31, 2013 and the fiscal year ended November 30, 2012 was as follows (in thousands):
 
2013
 
2012
Beginning outstanding balance
24,517

 
34,802

Granted
25

 
57

Exercised
(10,462
)
 
(6,754
)
Cancelled
(1,429
)
 
(4,692
)
Increase due to acquisition
129

 
1,104

Ending outstanding balance
12,780

 
24,517


19


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

 
Information regarding stock options outstanding at May 31, 2013 and June 1, 2012 is summarized below:
 
Number of
Shares
(thousands)
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life
(years)
 
Aggregate
Intrinsic
Value(*)
(millions)
2013
 
 
 
 
 
 
 
Options outstanding
12,780

 
$
31.84

 
2.89
 
$
142.1

Options vested and expected to vest
12,576

 
$
31.95

 
2.84
 
$
138.5

Options exercisable
10,387

 
$
33.05

 
2.36
 
$
102.9

2012
 

 
 

 
 
 
 

Options outstanding
27,392

 
$
31.26

 
3.27
 
$
87.0

Options vested and expected to vest
26,741

 
$
31.38

 
3.20
 
$
82.9

Options exercisable
21,503

 
$
32.82

 
2.63
 
$
47.0

_________________________________________ 
(*) 
The intrinsic value is calculated as the difference between the market value as of the end of the fiscal period and the exercise price of the shares. As reported by the NASDAQ Global Select Market, the market values as of May 31, 2013 and June 1, 2012 were $42.91 and $29.82, respectively.
Summary of Employee Stock Purchase Plan Shares
Employees purchased 1.2 million shares at an average price of $25.49 and 1.1 million shares at an average price of $23.64 for the six months ended May 31, 2013 and June 1, 2012, respectively. The intrinsic value of shares purchased during the six months ended May 31, 2013 and June 1, 2012 was $14.5 million and $5.0 million, respectively. The intrinsic value is calculated as the difference between the market value on the date of purchase and the purchase price of the shares.
Compensation Costs
As of May 31, 2013, there was $530.5 million of unrecognized compensation cost, adjusted for estimated forfeitures, related to non-vested stock-based awards which will be recognized over a weighted average period of 2.2 years. Total unrecognized compensation cost will be adjusted for future changes in estimated forfeitures.
Total stock-based compensation costs that have been included in our Condensed Consolidated Statements of Income for the three months ended May 31, 2013 and June 1, 2012 were as follows (in thousands):
 
 
2013
 
2012
Income Statement Classifications
 
Option
Grants
and Stock
Purchase
Rights
 
Restricted
Stock and
Performance
Share
Awards
 
Option
Grants
and Stock
Purchase
Rights
 
Restricted
Stock and
Performance
Share
Awards 
Cost of revenue—subscription
$
446

 
$
1,181

 
$
701

 
$
714

Cost of revenue—services and support
826

 
2,360

 
702

 
2,373

Research and development
4,734

 
23,210

 
4,217

 
20,288

Sales and marketing
4,893

 
24,026

 
6,387

 
19,373

General and administrative
2,146

 
15,048

 
3,990

 
12,654

Total
$
13,045

 
$
65,825

 
$
15,997

 
$
55,402


20


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

Total stock-based compensation costs that have been included in our Condensed Consolidated Statements of Income for the six months ended May 31, 2013 and June 1, 2012 were as follows (in thousands):
 
 
2013
 
2012
Income Statement Classifications
 
Option
Grants
and Stock
Purchase
Rights
 
Restricted
Stock and
Performance
Share
Awards
 
Option
Grants
and Stock
Purchase
Rights
 
Restricted
Stock and
Performance
Share
Awards
Cost of revenue—subscription
$
1,083

 
$
2,244

 
$
1,443

 
$
1,317

Cost of revenue—services and support
1,681

 
4,810

 
1,818

 
4,443

Research and development
10,554

 
48,941

 
11,416

 
38,369

Sales and marketing
11,560

 
47,778

 
15,167

 
36,289

General and administrative
4,660

 
29,755

 
8,490

 
24,228

Total
$
29,538

 
$
133,528

 
$
38,334

 
$
104,646

NOTE 10.  RESTRUCTURING CHARGES
Fiscal 2011 Restructuring Plan
In the fourth quarter of fiscal 2011, we initiated a restructuring plan consisting of reductions in workforce and the consolidation of facilities in order to better align our resources around our Digital Media and Digital Marketing strategies.
During the six months ended May 31, 2013, we continued to implement restructuring activities under this plan. Total costs incurred to date and expected to be incurred for closing redundant facilities are $10.7 million as all facilities under this plan have been exited as of May 31, 2013.
Other Restructuring Plans
Other restructuring plans include other Adobe plans and other plans associated with certain of our acquisitions that are substantially complete. We continue to make cash outlays to settle obligations under these plans, however the current impact to our Condensed Consolidated Financial Statements is not significant. Our other restructuring plans primarily consist of the 2009 Restructuring Plan, which was implemented in the fourth quarter of fiscal 2009, in order to appropriately align our costs in connection with our fiscal 2010 operating plan.
During the six months ended May 31, 2013 we vacated approximately 21,000 square feet of sales facilities in Australia in connection with our other restructuring plans.
Summary of Restructuring Plans
The following table sets forth a summary of restructuring activities related to all of our restructuring plans described above during the six months ended May 31, 2013 (in thousands):
 
November 30,
2012
 
Costs
Incurred
 
Cash
Payments
 
Other
Adjustments*
 
May 31,
2013
Fiscal 2011 Restructuring Plan:
 
 
 
 
 
 
 
 
 
Termination benefits
$
1,248

 
$

 
$
(732
)
 
$
(66
)
 
$
450

Cost of closing redundant facilities
9,623

 

 
(813
)
 
(3,855
)
 
4,955

Other Restructuring Plans:
 
 
 
 
 
 
 
 
 
Termination benefits
991

 

 
(192
)
 
(38
)
 
761

Cost of closing redundant facilities
9,688

 
5,115

 
(4,624
)
 
(884
)
 
9,295

Total restructuring plans
$
21,550

 
$
5,115

 
$
(6,361
)
 
$
(4,843
)
 
$
15,461


21


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

_________________________________________ 
(*) 
Included in Other Adjustments are foreign currency translation adjustments and goodwill adjustments of $0.7 million and $0.2 million, respectively.
Accrued restructuring charges of approximately $15.5 million as of May 31, 2013 includes $6.7 million recorded in accrued restructuring, current and $8.8 million related to long-term facilities obligations recorded in accrued restructuring, non-current on our Condensed Consolidated Balance Sheets. We expect to pay accrued termination benefits through fiscal 2013 and facilities-related liabilities under contract through fiscal 2021 of which approximately 62% will be paid through 2015.
NOTE 11.  STOCKHOLDERS’ EQUITY
Retained Earnings
The changes in retained earnings for the six months ended May 31, 2013 were as follows (in thousands): 
Balance as of November 30, 2012
$
7,003,003

Net income
141,663

Re-issuance of treasury stock
(289,203
)
Balance as of May 31, 2013
$
6,855,463

We account for treasury stock under the cost method. When treasury stock is re-issued at a price higher than its cost, the difference is recorded as a component of additional paid-in-capital in our Condensed Consolidated Balance Sheets. When treasury stock is re-issued at a price lower than its cost, the difference is recorded as a component of additional paid-in-capital to the extent that there are gains to offset the losses. If there are no treasury stock gains in additional paid-in-capital, the losses upon re-issuance of treasury stock are recorded as a component of retained earnings in our Condensed Consolidated Balance Sheets.
The components of accumulated other comprehensive income and activity, net of related taxes, as of May 31, 2013 was as follows (in thousands):
 
November 30,
2012
 
Increase / Decrease
 
Reclassification Adjustments
 
May 31,
2013
Net unrealized gains on available-for-sale securities:
 
 
 
 
 
 
 
Unrealized gains on available-for-sale securities
$
14,699

 
$
(2,424
)
 
$
(2,400
)
 
$
9,875

Unrealized losses on available-for-sale securities
(260
)
 
(2,129
)
 
28

 
(2,361
)
Total net unrealized gains on available-for-sale securities
14,439

 
(4,553
)
 
(2,372
)
(1) 
7,514

Net unrealized gains on derivative instruments designated as hedging instruments
6,604

 
32,660

 
(22,392
)
(2) 
16,872

Cumulative foreign currency translation adjustments
9,669

 
(6,594
)
 

 
3,075

Total accumulated other comprehensive income, net of taxes
$
30,712

 
$
21,513

 
$
(24,764
)
 
$
27,461

_________________________________________ 
(1) 
Classified in interest and other income (expense), net.
(2) 
Classified as revenue.


22


ADOBE SYSTEMS INCORPORATED

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(Unaudited)

The following table sets forth the taxes related to each component of other comprehensive income for the three and six months ended May 31, 2013 and June 1, 2012 (in thousands):
 
Three Months
 
Six Months
 
2013
 
2012
 
2013
 
2012
Available-for-sale securities:
 
 
 
 
 
 
 
Unrealized gains / losses
$
24

 
$
(3,069
)
 
$
34

 
$
(671
)
Reclassification adjustments