THQ 2006 Annual Report Download - page 65

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revenue related to such license. When, in management’s estimate, future cash flows will not be sufficient to
recover previously capitalized costs, we expense these capitalized costs to license amortization and
royalties. If actual revenues or revised forecasted revenues fall below the initial forecasted revenues for a
particular license, the charge to license amortization and royalties expense may be larger than anticipated
in any given quarter. As of March 31, 2006, the net carrying value of our licenses was $81.5 million. If we
were required to write off licenses, due to changes in market conditions or product acceptance, our results
of operations could be materially adversely affected.
Software Development.We utilize both internal development teams and third-party software developers
to develop our software. We account for software development costs in accordance with SFAS No. 86,
“Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed.” We
capitalize software development costs once technological feasibility is established and we determine that
such costs are recoverable against future revenues. For products where proven game engine technology
exists, this may occur early in the development cycle. We capitalize the milestone payments made to third-
party software developers and the direct payroll and overhead costs for our internal development teams.
We evaluate technological feasibility on a product-by-product basis. Amounts related to software
development for which technological feasibility is not yet met are charged as incurred to product
development expense in our consolidated statements of operations.
On a quarterly basis, we compare our unamortized software development costs to net realizable value, on a
product-by-product basis. The amount by which any unamortized software development costs exceed their
net realizable value is charged to software development amortization. The net realizable value is the
estimated future gross revenues from the product, reduced by the estimated future costs of completingthe
product.
Commencing upon product release, capitalized software development costs are amortized to software
development amortization based on the ratio of current revenues to total projected revenues. If actual
revenues, or revised projected revenues, fall below the initial projections, the charge to software
development amortization may be larger than anticipated in any given quarter. As of March 31, 2006, the
net carrying value of our software development was $109.1 million.
The milestone payments made to our third-party developers during their development of our games are
typically considered non-refundable advances against the total compensation they can earn based upon the
sales performance of the products. Any additional compensation earned beyond the milestone payments
are expensed to software development amortization as earned.
Goodwill and Other Intangible Assets. In accordance with our accounting policy, we performed an annual
review of goodwill for impairment during the quarter ended June 30, 2005, and found no impairment. We
will perform a similar review in future quarters ended June 30, or more frequently if indicators of potential
impairment exist. Our impairment review process is based on a discounted future cash flow approach that
uses our estimates of revenue for the reporting units, driven by assumed success of our products and
product release schedules, and estimated costs as well as appropriate discount rates. These estimates are
consistent with the plans and estimates that we use to manage the underlying businesses. We performed
similar impairment tests during the quarter ended June 30, 2005for indefinite-lived intangible assets and
found no impairment. All identifiable intangible assets with finite lives will continue to be amortized over
their estimated useful lives and assessed for impairment under SFAS No. 144, “Accounting for the
Impairment or Disposal of Long-Lived Assets.”
Revenue Recognition. Our revenue recognition policies are in compliance with American Institute of
Certified Public Accountants Statement of Position (“SOP”) 97-2, “Software Revenue Recognition,” as
amended by SOP 98-9, “Modification of SOP 97-2, Software Revenue Recognition, WithRespect to
Certain Transactions,” which provide guidance on generally accepted accounting principles for recognizing
revenue on software transactions, and Staff Accounting Bulletin (“SAB”) No. 104, “Revenue Recognition