Rosetta Stone 2011 Annual Report Download - page 48

Table of Contents
subscription and service revenue in our consolidated financial statements. Our audio practice products are normally combined with our packaged software
products and sold as a solution.
Revenue is primarily derived from the sale of packaged software and audio practice products, online software subscriptions and professional services.
Our professional services include training, implementation services and dedicated conversational coaching associated with Rosetta Stone TOTALe and
ReFLEX. Rosetta Stone TOTALe online, which was released in July 2009, combines dedicated conversational coaching and an online software subscription.
Rosetta Stone Version 4 TOTALe, which was released in September 2010, combines packaged software and dedicated conversational coaching. The content
of our packaged software and subscription offerings are the same. We simply offer our customers the ability to choose which format they prefer without
differentiating the learning experience. We began bundling time-based subscription licenses of our web-based TOTALe services with perpetual licenses of our
Rosetta Stone Version 3 language-learning solutions in the U.S. consumer market as part of our Rosetta Stone Version 4 TOTALe launch. As a result, we
defer approximately 10%-25% of each of these bundled sales over the term of the subscription license.
We sell our solutions directly to individuals, educational institutions, armed forces, corporations and government agencies. We distribute our consumer
products predominantly through our direct sales channels, primarily our websites and call centers, which we refer to as our direct-to-consumer channel. We
also distribute our consumer products through our kiosks, which we own, as well as through select retailers. The majority of our consumer customers purchase
our packaged software and audio practice products, online software subscriptions and professional services. We sell to institutions primarily through our
direct institutional sales force. Many institutions elect to license our products on a subscription basis. For purposes of explaining variances in our revenue, we
separately discuss changes in our consumer and institutional sales channels because the customers and revenue drivers of these channels are different.
For the year ended December 31, 2011 and 2010, we reclassified our home school sales vertical from Institutional to Consumer. We believe the drivers
of acquiring a home school customer are now more aligned with a typical sale in our consumer sales vertical. Prior year information has been modified to
conform to current year presentation. This presentation is also consistent with how we manage the home school channel.
Our consumer revenue is affected by seasonal trends associated with the holiday shopping season. As a result, our fourth quarter ended December 31,
2011 accounted for 32% of our annual revenue in 2011. Our institutional revenue is seasonally stronger in the second and third quarters of the calendar year
due to education and government purchasing cycles. We expect these trends to continue.
Cost of Revenue
Cost of product revenue consists of the direct and indirect materials and labor costs to produce and distribute our products. Such costs include packaging
materials, computer headsets, freight, inventory receiving, personnel costs associated with product assembly, third-party royalty fees and inventory storage,
obsolescence and shrinkage. Cost of subscription and service revenue primarily represents costs associated with supporting our online language-learning
service, which includes online language conversation coaching, hosting costs and depreciation. We also include the cost of credit card processing and
customer technical support in both cost of product revenue and cost of subscription and service revenue. We believe cost of revenue will also increase as a
percentage of revenue in future periods, as a result of our launch of Rosetta Stone Version 4 TOTALe,which includes services that have higher direct costs to
deliver to customers than prior versions of our products.
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