Digital River 2006 Annual Report Download - page 46

and $8.3 million in 2004. The increase in 2006 from 2005 and 2004 reflects the increased amortization of
2006 acquisitions partially offset by full amortization of certain past acquisitions. We complete our annual
goodwill impairment test using a two-step approach in the fourth quarter of each year. Our assessment has
indicated that there is no impairment of goodwill for the years ended December 31, 2006, 2005 and 2004. We
have purchased, and expect to continue purchasing, assets or businesses, which may include the purchase of
intangible assets.
Income from Operations. Our income from operations in 2006 was $67.6 million, up from $66.4 million
in 2005 and $33.9 million in 2004. As a percentage of revenue, income from operations was 22.0% in 2006,
30.1% in 2005 and 22.0% in 2004. Income from operations decreased during 2006 from 2005 as a percentage
of revenue as expenses grew faster than revenues primarily due to higher spending on global growth initiatives
and stock-based compensation expense related to employee stock options and employee stock purchases
recognized under SFAS 123(R). The increase in income from operations in 2005 from 2004 resulted primarily
from growth in revenue while our cost of revenue and operating expenses grew at a slower rate.
Other Income, Net. Our other income, net line item is the total of interest income on our cash, cash
equivalents, and short-term investments, interest expense on our debt and foreign currency transaction gains
and losses. Interest income was $22.8 million, $9.7 million and $3.2 million in 2006, 2005 and 2004,
respectively. The increases in interest income were primarily due to higher cash balances. Interest expense was
$2.5 million in 2006 compared with $2.5 million in 2005 and $1.5 million in 2004. Our gain from foreign
currency remeasurement was $1.5 million in 2006 compared to a loss of $2.2 million in 2005. Gains or losses
were immaterial in 2004.
Income Taxes. In 2006, our tax expense was $28.7 million, made up of approximately $39.4 million of
current tax expense and $10.8 million of deferred tax benefit. In 2005, our tax expense was $14.9 million,
made up of approximately $26.1 million of current tax expense and $11.2 million of deferred tax benefit. In
2004, our tax expense was $1.1 million, made up of international current tax expense.
In 2006, we recorded tax expense at a rate that reflects the estimated impact of current year changes in
foreign operations. We have established new locations in Shannon, Ireland and Luxembourg. We transferred
existing non-U.S. operations to these locations and expanded these operations in order to more effectively
manage current international activity and facilitate further international growth. We commenced business
operations in these locations on April 1, 2006. These operating changes generally reduce our effective tax rate
compared to prior years.
As of December 31, 2006, we had net U.S. tax loss carryforwards of approximately $61.6 million and
foreign tax loss carryforwards of $1.3 million. The U.S. amount consists of $30.0 million of deductions
resulting from exercise of stock options and $31.6 million of acquired net operating losses. The U.S. tax loss
carryforwards expire in the years 2020 through 2025.
In prior years, there was uncertainty of future realization of the deferred tax assets resulting from
temporary differences and from tax loss carryforwards from operations and stock option deductions, therefore
a valuation allowance equal to the deferred tax assets was recorded. At December 31, 2005, we evaluated our
deferred tax assets related to tax loss carryforwards from stock option deductions and other items and
concluded it was more likely than not that the deferred tax assets would be realized, and accordingly the
valuation allowance was reversed.
In accordance with SFAS 123(R), which we adopted January 1, 2006, tax savings from expected future
deductions based on the expense attributable to our stock option plans are reflected in the U.S. tax provisions
for 2006 and 2005. They were not reflected in the provision for 2004.
We also have evaluated our deferred tax assets related to acquired operating losses and we believe a full
valuation allowance for these assets is required as it is not more likely than not that the deferred tax assets
will be realized. This valuation allowance is due to anticipated limitations on acquired losses, including
limitations under Section 382 of the Internal Revenue Code. Any future release of this valuation allowance
will reduce goodwill.
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