THQ 2009 Annual Report Download - page 69

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property. Prior to the related product’s release, we expense, as part of cost of sales—license amortization
and royalties, capitalized license costs when we estimate such amounts are not recoverable.
Licenses are expensed to cost of sales—license amortization and royalties at the higher of (i) the
contractual royalty rate based on actual net product sales related to such license, or (ii) an effective rate
based upon total projected 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 cost
of sales—license amortization and royalties. If actual revenues or revised forecasted revenues fall below
the initial forecasted revenue for a particular license, the charge to cost of sales—license amortization and
royalties expense may be larger than anticipated in any given quarter. As of March 31, 2009, the net
carrying value of our licenses was $92.9 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’’ (‘‘FAS 86’’).
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 cost of sales—software amortization and royalties. The net realizable
value is the estimated future net revenues from the product, reduced by the estimated future direct costs
associated with the product such as completion costs, cost of sales and advertising.
Commencing upon product release, capitalized software development costs are amortized to cost of
sales—software amortization and royalties based on the ratio of current gross revenues to total projected
gross revenues. In fiscal 2009, we recorded $63.3 million of additional amortization expense related to the
cancellation of certain games. As of March 31, 2009, the net carrying value of our software development
was $162.5 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 is
expensed to cost of sales—software amortization and royalties as earned.
Goodwill and Other Intangible Assets. We perform an annual assessment of goodwill for impairment
during the fourth quarter of each year or more frequently, if events or circumstances occur that would
indicate a reduction in the fair value of the Company. In the latter half of the third quarter of fiscal 2009,
our stock price declined significantly, resulting in a market capitalization that was substantially below the
carrying value of our net assets. In addition, the unfavorable macroeconomic conditions and uncertainties
have adversely affected our environment. As a result, in connection with the preparation of the fiscal 2009
third quarter financial statements, we performed an interim goodwill impairment test consistent with SFAS
No. 142, ‘‘Goodwill and Other Intangible Assets’’ (FAS 142).
We performed the first step of the two-step impairment test required by FAS 142, which includes
comparing the fair value of our single reporting unit to its carrying value. Due to market conditions at the
time of the test, our analysis was weighted towards the market value approach, which is based on recent
share prices and includes a control premium based on recent transactions that have occurred within our
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