NetFlix 2005 Annual Report Download - page 82

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NETFLIX, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(in thousands, except share and per share data and percentages)
Rent expense associated with the operating leases was $3,454, $6,871 and $7,465 for the years ended
December 31, 2003, 2004 and 2005, respectively.
Litigation
From time to time, in the normal course of its operations, the Company is a party to litigation matters and
claims, including claims relating to employee relations and business practices. Litigation can be expensive and
disruptive to normal business operations. Moreover, the results of complex legal proceedings are difficult to
predict. The Company expenses legal fees as incurred. Listed below are material legal proceedings to which the
Company is a party. An unfavorable outcome of any of these matters could have a material adverse effect on the
Company’s financial position, liquidity or results of operations.
Between July 22 and September 9, 2004, seven purported securities class action suits were filed in the
United States District Court for the Northern District of California against the Company and, in the aggregate,
Reed Hastings, W. Barry McCarthy, Jr., and Leslie J. Kilgore. These class action suits were consolidated in
January 2005, and a consolidated complaint was filed on February 24, 2005. The complaint alleges violations of
certain federal securities laws, seeking unspecified damages on behalf of a class of purchasers of the Company’s
common stock between October 1, 2003 and October 14, 2004. The plaintiffs allege that the Company made
false and misleading statements and omissions of material facts based on its disclosure regarding churn and
delivery speed, claiming alleged violations by each named defendant of Sections 10(b) and 20(a) of the
Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder and alleged violations by certain of its
officers of Section 20A of Securities Exchange Act of 1934. On June 28, 2005, the Court dismissed the action
with leave to amend. Plaintiffs did so amend, and the Company filed a motion to dismiss the amended complaint.
Following a hearing on that motion, the Court dismissed the action with prejudice on November 18, 2005.
On September 23, 2004, Frank Chavez, individually and on behalf of others similarly situated, filed a class
action lawsuit against the Company in California Superior Court, City and County of San Francisco. The
complaint asserts claims of, among other things, false advertising, unfair and deceptive trade practices, breach of
contract as well as claims relating to the Company’s statements regarding DVD delivery times. The Company
previously reported a tentative settlement. On March 8, 2006, the Company entered into an amended settlement
which remains subject to revision and final court approval. A hearing for final approval is scheduled for
March 22, 2006. Under the terms of the amended settlement, Netflix subscribers who were enrolled in a paid
membership before January 15, 2005 and were a member on October 19, 2005 are eligible to receive a free
one-month upgrade in service level and Netflix subscribers who were enrolled in a paid membership before
January 15, 2005 and were not a member on October 19, 2005 are eligible to receive a free one-month Netflix
membership of either the 1, 2 or 3 DVDs at-a-time unlimited program. The Company has also agreed to pay the
plaintiffs’ attorneys’ fees and expenses in an amount not to exceed $2,528. The Company estimates the total cost
of the settlement will be approximately $8,953 with the actual cost dependent upon many unknown factors such
as the number of former Netflix subscribers who will claim the settlement benefit. In accordance with SFAS
No. 5, Accounting for Contingencies, we have estimated and recorded a charge against earnings in General and
administrative expenses of $8,953 associated with the legal fees and the free one month membership to former
subscribers in 2005. The charge for the free one month upgrade to the next level program for existing subscribers
will be recorded when the subscribers utilize the upgrade. The Company also recorded an insurance receivable of
$861 in 2005, representing the portion of legal fees to be reimbursed by the Company’s insurer. The Company
denies any wrongdoing or liability. There can be no assurance that failure to approve the settlement will not have
a material adverse effect on the Company.
F-22