PAY 10Q 4/30/15
Table of Contents


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended April 30, 2015
Or
¨

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from              to           
Commission file number: 001-32465
VERIFONE SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
04-3692546
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)

88 West Plumeria Drive
San Jose, CA 95134
(Address of principal executive offices with zip code)
(408) 232-7800
(Registrant’s telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  þ    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  þ
 
 
Accelerated filer  ¨
Non-accelerated filer  ¨   (Do not check if a smaller reporting company)
Smaller reporting company  ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  þ
The number of shares outstanding of each of the issuer's classes of common stock, as of the close of business on May 29, 2015:
Class
 
 
Number of shares
 
Common Stock, $0.01 par value per share
114,292,577
 
 



Table of Contents

VERIFONE SYSTEMS, INC.
TABLE OF CONTENTS
 

PART I — FINANCIAL INFORMATION
 
 
 
Item 1
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2
 
 
 
Item 3
 
 
 
Item 4
 
 
 
PART II — OTHER INFORMATION
 
 
 
Item 1
 
 
 
Item 1A
 
 
 
Item 2
 
 
 
Item 3
 
 
 
Item 4
 
 
 
Item 5
 
 
 
Item 6
 
 




2


PART I — FINANCIAL INFORMATION



ITEM 1.
FINANCIAL STATEMENTS

VERIFONE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
 
(Unaudited, in thousands, except per share data)
Net revenues:
 
 
 
 
 
 
 
System solutions
$
324,300

 
$
290,734

 
$
637,700

 
$
551,900

Services
165,844

 
175,683

 
338,670

 
350,583

Total net revenues
490,144

 
466,417

 
976,370

 
902,483

Cost of net revenues:
 
 
 
 
 
 
 
System solutions
188,972

 
187,571

 
374,640

 
355,079

Services
97,269

 
103,572

 
198,657

 
201,913

Total cost of net revenues
286,241

 
291,143

 
573,297

 
556,992

Total gross margin
203,903

 
175,274

 
403,073

 
345,491

Operating expenses:
 
 
 
 
 
 
 
Research and development
47,579

 
49,999

 
96,482

 
100,531

Sales and marketing
55,371

 
56,417

 
112,781

 
107,028

General and administrative
49,457

 
48,749

 
96,807

 
99,663

Litigation settlement and loss contingency expense
1,213

 
9,000

 
1,213

 
9,000

Amortization of purchased intangible assets
20,567

 
24,657

 
42,899

 
49,332

Total operating expenses
174,187

 
188,822

 
350,182

 
365,554

Operating income (loss)
29,716

 
(13,548
)
 
52,891

 
(20,063
)
Interest, net
(7,432
)
 
(9,490
)
 
(15,327
)
 
(20,879
)
Other income (expense), net
(3,169
)
 
(1,183
)
 
(2,926
)
 
(6,310
)
Income (loss) before income taxes
19,115

 
(24,221
)
 
34,638

 
(47,252
)
Income tax provision (benefit)
1,449

 
(658
)
 
2,844

 
(7,592
)
Consolidated net income (loss)
17,666

 
(23,563
)
 
31,794

 
(39,660
)
Net income attributable to noncontrolling interests
(102
)
 
(352
)
 
(382
)
 
(488
)
Net income (loss) attributable to VeriFone Systems, Inc. stockholders
$
17,564

 
$
(23,915
)
 
$
31,412

 
$
(40,148
)
Net income (loss) per share attributable to VeriFone Systems, Inc. stockholders:
 
 
 
 
 
 
 
Basic
$
0.15

 
$
(0.22
)
 
$
0.28

 
$
(0.36
)
Diluted
$
0.15

 
$
(0.22
)
 
$
0.27

 
$
(0.36
)
Weighted average number of shares used in computing net income (loss) per share:
 
 
 
 
 
 
 
Basic
113,940

 
111,104

 
113,688

 
110,706

Diluted
115,900

 
111,104

 
115,727

 
110,706



The accompanying notes are an integral part of these condensed consolidated financial statements.

3

Table of Contents

VERIFONE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
 
(Unaudited, in thousands)
Net income (loss) attributable to VeriFone Systems, Inc. stockholders
$
17,564

 
$
(23,915
)
 
$
31,412

 
$
(40,148
)
 
 
 
 
 
 
 
 
Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation adjustments
(30,260
)
 
15,680

 
(164,164
)
 
(3,016
)
Unrealized gain (loss) on derivatives designated as cash flow hedges
 
 
 
 
 
 
 
Change in unrealized gain (loss) on derivatives designated as cash flow hedges, net of tax
(213
)
 
906

 
(4,400
)
 
1,862

Amounts reclassified from Accumulated other comprehensive loss, net of tax
872

 
(682
)
 
1,572

 
(1,373
)
Net change in unrealized gain (loss) on derivatives designated as cash flow hedges
659

 
224

 
(2,828
)
 
489

Net change in other
27

 
28

 
54

 
(144
)
Other comprehensive income (loss)
(29,574
)
 
15,932

 
(166,938
)
 
(2,671
)
Comprehensive loss attributable to VeriFone Systems, Inc. stockholders
$
(12,010
)
 
$
(7,983
)
 
$
(135,526
)
 
$
(42,819
)












The accompanying notes are an integral part of these condensed consolidated financial statements.

4

Table of Contents

VERIFONE SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
 
April 30, 2015
 
October 31, 2014
 
(Unaudited, in thousands, 
except par value)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
234,219

 
$
250,187

Accounts receivable, net of allowances of $9,027 and $9,880
328,378

 
305,500

Inventories
129,392

 
124,275

Prepaid expenses and other current assets
112,839

 
105,610

Total current assets
804,828

 
785,572

Fixed assets, net
178,404

 
177,753

Purchased intangible assets, net
360,810

 
457,595

Goodwill
1,087,059

 
1,185,892

Deferred tax assets, net
13,172

 
30,394

Other long-term assets
68,609

 
65,037

Total assets
$
2,512,882

 
$
2,702,243

 
 
 
 
LIABILITIES AND EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
170,901

 
$
161,226

Accruals and other current liabilities
199,132

 
206,982

Deferred revenue, net
92,403

 
92,075

Short-term debt
31,996

 
32,131

Total current liabilities
494,432

 
492,414

Long-term deferred revenue, net
53,071

 
50,968

Long-term deferred tax liabilities, net
121,418

 
136,057

Long-term debt
811,380

 
851,040

Other long-term liabilities
70,179

 
101,092

Total liabilities
1,550,480

 
1,631,571

Commitments and contingencies

 

Redeemable noncontrolling interest in subsidiary

 
774

Stockholders’ equity:
 
 
 
Preferred stock: $0.01 par value, 10,000 shares authorized, no shares issued and outstanding

 

Common stock: $0.01 par value, 200,000 shares authorized, 114,239 and 113,314 shares issued and outstanding as of April 30, 2015 and October 31, 2014, respectively
1,142

 
1,133

Additional paid-in capital
1,705,381

 
1,675,695

Accumulated deficit
(506,796
)
 
(538,208
)
Accumulated other comprehensive loss
(271,768
)
 
(104,830
)
Total VeriFone Systems, Inc. stockholders’ equity
927,959

 
1,033,790

Noncontrolling interest in subsidiaries
34,443

 
36,108

Total equity
962,402

 
1,069,898

Total liabilities and equity
$
2,512,882

 
$
2,702,243


The accompanying notes are an integral part of these condensed consolidated financial statements.

5

Table of Contents

VERIFONE SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 
Six Months Ended April 30,
 
2015
 
2014
 
(Unaudited, in thousands)
Cash flows from operating activities
 
 
 
Consolidated net income (loss)
$
31,794

 
$
(39,660
)
Adjustments to reconcile consolidated net income (loss) to net cash provided by operating activities:
 
 
 
Depreciation and amortization, net
86,336

 
106,143

Stock-based compensation expense
21,027

 
27,609

Deferred income taxes, net
(7,216
)
 
(14,387
)
Other
10,019

 
6,402

Net cash provided by operating activities before changes in operating assets and liabilities
141,960

 
86,107

Changes in operating assets and liabilities:
 
 
 
Accounts receivable, net
(35,249
)
 
(16,678
)
Inventories
(11,665
)
 
24,858

Prepaid expenses and other assets
(19,295
)
 
4,544

Accounts payable
17,331

 
29,786

Deferred revenue, net
12,656

 
18,766

Other current and long-term liabilities
(8,320
)
 
(58,948
)
Net change in operating assets and liabilities
(44,542
)
 
2,328

Net cash provided by operating activities
97,418

 
88,435

Cash flows from investing activities
 
 
 
Capital expenditures
(48,873
)
 
(41,902
)
Acquisition of businesses, net of cash and cash equivalents acquired
(10,944
)
 

Other investing activities, net
60

 
2,618

Net cash used in investing activities
(59,757
)
 
(39,284
)
Cash flows from financing activities
 
 
 
Proceeds from debt, net of issuance costs
30,000

 
86,906

Repayments of debt
(70,204
)
 
(182,639
)
Proceeds from issuance of common stock through employee equity incentive plans
9,477

 
10,388

Other financing activities, net
(2,215
)
 
(1,974
)
Net cash used in financing activities
(32,942
)
 
(87,319
)
Effect of foreign currency exchange rate changes on cash and cash equivalents
(20,687
)
 
(223
)
Net decrease in cash and cash equivalents
(15,968
)
 
(38,391
)
Cash and cash equivalents, beginning of period
250,187

 
268,220

Cash and cash equivalents, end of period
$
234,219

 
$
229,829









The accompanying notes are an integral part of these condensed consolidated financial statements.

6

Table of Contents

VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Unaudited

Note 1. Principles of Consolidation and Summary of Significant Accounting Policies

Basis of Presentation

The accompanying unaudited Condensed Consolidated Financial Statements include the accounts of VeriFone Systems, Inc. and our wholly-owned and majority-owned subsidiaries, and have been prepared in accordance with U.S. GAAP for interim financial information and with the instructions on Form 10-Q pursuant to the rules and regulations of the U.S. Securities and Exchange Commission. The Condensed Consolidated Balance Sheet at October 31, 2014 has been derived from the audited Consolidated Balance Sheet at that date. All significant inter-company accounts and transactions have been eliminated. In accordance with those rules and regulations, we have omitted certain information and notes normally provided in our annual consolidated financial statements. In the opinion of management, the unaudited Condensed Consolidated Financial Statements contain all adjustments, consisting only of normal recurring items, necessary for the fair presentation of our financial position and results of operations for the interim periods. These unaudited Condensed Consolidated Financial Statements should be read in conjunction with the audited Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the fiscal year ended October 31, 2014. The results of operations for the three and six months ended April 30, 2015 are not necessarily indicative of the results expected for the entire fiscal year.

We operate in three business segments: Americas, EMEA, and Asia-Pacific. Our Americas segment is defined as our operations in North America, South America, Central America, and the Caribbean. Our EMEA segment is defined as our operations in Europe, Russia, the Middle East, and Africa. Our Asia-Pacific segment consists of our operations in Australia, New Zealand, China, India and throughout the rest of Greater Asia, including other Asia-Pacific Rim countries. Our reportable segments are the same as our operating segments. We determine our operating segments based on the discrete financial information used by our Chief Executive Officer, who is our chief operating decision maker, to assess performance, allocate resources, and make decisions regarding VeriFone's operations. Our Chief Executive Officer is evaluating using global product line financial information to manage the business in the future. If our Chief Executive Officer is provided different financial information to assess performance, allocate resources and make decisions regarding VeriFone's operations, we will reassess our operating segment presentation.

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions about future events that affect the amounts reported in our consolidated financial statements and accompanying notes. We evaluate our estimates on an ongoing basis when updated information related to such estimates becomes available. We base our estimates on historical experience and information available to us at the time these estimates are made. Actual results could differ materially from these estimates.

Significant Accounting Policies

During the three and six months ended April 30, 2015, there have been no changes in our significant accounting policies as described in our Annual Report on Form 10-K for the fiscal year ended October 31, 2014.

Concentrations of Credit Risk

For the three months ended April 30, 2015 and 2014 no single customer accounted for more than 10% of our total net revenues. For the three months ended April 30, 2015, one customer accounted for approximately 18.8% of total net revenues in our Asia-Pacific reportable segment. No single customer accounted for more than 10% of total net revenues in our Americas and EMEA reportable segments for the three months ended April 30, 2015. For the three months ended April 30, 2014, one customer accounted for approximately 12.5% of total net revenues in our Americas reportable segment and one customer accounted for approximately 11.7% of total net revenues in our Asia-Pacific reportable segment. No single customer accounted for more than 10% of total net revenues in our EMEA reportable segment for the three months ended April 30, 2014.

7

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)


For the six months ended April 30, 2015 and 2014 no single customer accounted for more than 10% of our total net revenues. For the six months ended April 30, 2015 one customer accounted for approximately 11.3% of total net revenues in our Asia-Pacific reportable segment. No single customer accounted for more than 10% of total net revenues in our Americas and EMEA reportable segments for the six months ended April 30, 2015. For the six months ended April 30, 2014, no single customer accounted for more than 10% of total net revenues in any of our reportable segments.

As of April 30, 2015 and October 31, 2014 no single customer accounted for more than 10% of our total Accounts receivable, net.

Recent Accounting Pronouncements

During April 2015, the FASB issued ASU 2015-03, Simplifying the Presentation of Debt Issuance Costs. ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. ASU 2015-03 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. We plan to early adopt ASU 2015-03 retrospectively effective October 31, 2015. Retrospective adoption will result in a $0.3 million decrease in Prepaid expenses and other current assets, and a $14.4 million decrease in Other long-term assets, with a corresponding $0.3 million decrease in Short-term debt and a $14.4 million decrease in Long-term debt in our Condensed Consolidated Balance Sheet at October 31, 2014. Adoption will not have any impact on results of operations.

During July 2013, the FASB issued ASU 2013-11, Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. ASU 2013-11 provides presentation requirements for unrecognized tax benefits when a net operating loss carryforward, a similar tax loss or a tax credit carryforward exists and would likely be settled as a reduction of such tax attributes. We prospectively adopted ASU 2013-11 effective November 1, 2014. Adoption resulted in a $24.2 million reduction of Deferred tax assets and Other long-term liabilities in our Condensed Consolidated Balance Sheets at November 1, 2014, because the payable amount of unrecognized tax benefits is presented net against Deferred tax assets. Adoption had no impact on our results of operations.

During May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which provides new guidance on the recognition of revenue and states that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard is effective for annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. Early adoption is not permitted. The FASB has indicated that there may be certain future changes to the revenue guidance and on April 29, 2015, the FASB issued an exposure draft proposing the deferral of the effective date by one year. We plan to adopt ASU 2014-09 effective November 1, 2017 unless it is deferred. We are currently evaluating the transition method we will use and the impact on our consolidated financial position and results of operations.

Note 2. Net Income (Loss) per Share of Common Stock

Basic net income (loss) per share of common stock is computed by dividing net income (loss) attributable to VeriFone Systems, Inc. stockholders by the weighted average number of shares of common stock outstanding for the period. Diluted net income (loss) per share of common stock is computed using the weighted average number of shares of common stock outstanding plus the effect of common stock equivalents, unless the common stock equivalents are anti-dilutive. The potential dilutive shares of our common stock resulting from assumed exercises of equity related instruments are determined using the treasury stock method. Under the treasury stock method, an increase in the fair market value of our common stock will result in a greater number of dilutive securities.


8

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

The following table presents the computation of net income (loss) per share of common stock (in thousands, except per share data):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Basic and diluted net income (loss) per share attributable to VeriFone Systems, Inc. stockholders:
 
 
 
 
 
 
 
Numerator:
 
 
 
 
 
 
 
Net income (loss) attributable to VeriFone Systems, Inc. stockholders
$
17,564

 
$
(23,915
)
 
$
31,412

 
$
(40,148
)
Denominator:
 
 
 
 
 
 
 
Weighted average shares attributable to VeriFone Systems, Inc. stockholders - basic
113,940

 
111,104

 
113,688

 
110,706

Weighted average effect of dilutive securities:
 
 
 
 
 
 
 
Stock options, RSUs and RSAs
1,960

 

 
2,039

 

Weighted average shares attributable to VeriFone Systems, Inc. stockholders - diluted
115,900

 
111,104

 
115,727

 
110,706

Net income (loss) per share attributable to VeriFone Systems, Inc. stockholders:
 
 
 
 
 
 
 
    Basic
$
0.15

 
$
(0.22
)
 
$
0.28

 
$
(0.36
)
    Diluted
$
0.15

 
$
(0.22
)
 
$
0.27

 
$
(0.36
)


For the three months ended April 30, 2015 and 2014, equity incentive awards representing 1.3 million, and 9.2 million shares of common stock, respectively, were excluded from the calculation of weighted average shares for diluted net income (loss) per share as they were anti-dilutive. For the six months ended April 30, 2015 and 2014, equity incentive awards representing 1.3 million, and 9.2 million shares of common stock, respectively, were excluded from the calculation of weighted average shares for diluted net income (loss) per share as they were anti-dilutive. Anti-dilutive awards, which include stock options, RSUs and RSAs, could impact future calculations of diluted net income per share if the fair market value of our common stock increases.

Warrants to purchase 7.2 million shares of our common stock were outstanding at October 31, 2013 and expired unexercised in equal amounts on each trading day from December 19, 2013 to February 3, 2014. The warrants were anti-dilutive in the six months ended April 30, 2014 because the warrants' $62.356 exercise price was greater than the average share price of our common stock during that period.

Note 3. Income Taxes

We recorded a $1.4 million income tax provision and a $0.7 million income tax benefit for the three months ended April 30, 2015 and 2014, respectively. We recorded a $2.8 million income tax provision and a $7.6 million income tax benefit for the six months ended April 30, 2015 and 2014, respectively. The income tax provision for the three months ended April 30, 2015 is primarily related to foreign taxes and other discrete activity. The income tax benefit for the three months ended April 30, 2014 includes tax benefits from statutory tax rate changes in certain foreign countries, decreases in prior year unrecognized tax benefits, and other discrete activity. The income tax provision for the six months ended April 30, 2015 is primarily related to foreign taxes offset by the reversal of unrecognized tax benefits where statutes of limitations expired and audits were settled. The income tax benefit for the six months ended April 30, 2014 includes tax benefits from statutory tax rate changes in certain foreign countries, decreases in prior year unrecognized tax benefits, and other discrete activity. Losses generated during the three and six months ended April 30, 2014 in the U.S. federal, state, and certain foreign jurisdictions did not result in a tax benefit due to valuation allowances.


9

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Our total unrecognized tax benefits were approximately $108.2 million as of April 30, 2015. The amount of unrecognized tax benefits could be reduced upon closure of tax examinations or if the statute of limitations on certain tax filings expires without assessment from the relevant tax authorities. We believe that it is reasonably possible that there could be an immaterial reduction in unrecognized tax benefits due to statute of limitation expirations in multiple tax jurisdictions during the next 12 months. Interest and penalties accrued on these uncertain tax positions will also be released upon the expiration of the applicable statute of limitations.

U.S. Internal Revenue Service Tax Audit Assessment

We are currently under audit by the U.S. Internal Revenue Service for fiscal years 2005 through 2010 related to our 5 year net operating loss carry back for fiscal 2010. We have received a Notice of Proposed Adjustment indicating the denial of our worthless stock deduction of $154.3 million, related to the insolvency of one of our UK subsidiaries, recorded on our 2010 tax return. The impact of the Notice of Proposed Adjustment is the denial of the loss carryback to 2005 and 2006 which resulted in an approximately $25.0 million cash refund and the disallowance of approximately $29.0 million of future tax benefits residing in the NOL carryover which are offset with a valuation allowance. We filed our protest to the Notice of Proposed Assessment in April 2015 and believe the Internal Revenue Service position for the denial is without merit.

Israel Tax Audit Assessment

We are also currently under audit by the Israel Tax Authority for fiscal years 2008 through 2013. The Israel Tax Authority has issued a tax assessment claiming there was a business restructuring that resulted in a transfer of some functions, assets and risks from Israel to the US parent company that the Israel Tax Authority claims was an equity sale of 1.36 billion Israeli new shekels (approximately $353.8 million at the foreign exchange rate as of April 30, 2015). The Israel Tax Authority is alleging that the claim applies alternatively to fiscal years 2008 or 2009. These claims result in a tax liability and deficiency penalty assessment in the range of 545.4 million Israeli new shekels (approximately $141.5 million at the foreign exchange rate as of April 30, 2015), if the claim was assessed for fiscal year 2009, to 633.5 million Israeli new shekels (approximately $164.3 million at the foreign exchange rate as of April 30, 2015), if the claim was assessed for fiscal year 2008, including interest and the required Israeli price index adjustments (referred to as the linkage differentials) through April 30, 2015.

We filed our objection to the tax assessment in January 2015 and believe the Israel Tax Authority assessment position is without merit. We have agreed with the Israel Tax Authority to repay our $69.0 million intercompany loan from Israel to the extent of the amount of a final agreed tax assessment, if any.

Note 4. Balance Sheet and Statement of Operations Details

Cash and Cash Equivalents

As of April 30, 2015 and October 31, 2014, $186.7 million and $216.4 million, respectively, of our cash and cash equivalents were held by our foreign subsidiaries. If we decide to distribute or use such cash and cash equivalents outside those foreign jurisdictions, including a distribution to the U.S., we may be subject to additional taxes or costs.

As of April 30, 2015 and October 31, 2014, Prepaid expenses and other current assets included $5.5 million and $6.2 million, respectively, of restricted cash. As of both April 30, 2015 and October 31, 2014, Other long-term assets included $2.6 million of restricted cash. Restricted cash was mainly comprised of pledged deposits.

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VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)


Inventories

Inventories consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
Raw materials
$
32,261

 
$
36,264

Work-in-process
1,451

 
1,662

Finished goods
95,680

 
86,349

Total inventories
$
129,392

 
$
124,275


Accruals and Other Current Liabilities

Accruals and other current liabilities consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
Accrued expenses
$
76,408

 
$
72,250

Accrued compensation
55,417

 
66,281

Accrued legal loss contingencies, including interest (Note 9)
6,209

 
5,728

Other current liabilities
61,098

 
62,723

Total accruals and other current liabilities
$
199,132

 
$
206,982


Other current liabilities were primarily comprised of accrued warranty, sales and value-added taxes payable, accrued liabilities for contingencies related to tax assessments, and accrued restructurings.

Accrued Warranty

Activity related to accrued warranty for the six months ended April 30, 2015 consisted of the following (in thousands):
Balance at beginning of period
$
15,411

Warranty charged to Cost of net revenues
5,977

Utilization of warranty accrual
(5,434
)
Other
(869
)
Balance at end of period
15,085

Less: current portion
(12,824
)
Long-term portion
$
2,261


Deferred Revenue, Net

Deferred revenue, net of related costs consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
Deferred revenue
$
168,954

 
$
168,712

Deferred cost of revenue
(23,480
)
 
(25,669
)
Deferred revenue, net
145,474

 
143,043

Less: current portion
(92,403
)
 
(92,075
)
Long-term portion
$
53,071

 
$
50,968


11

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VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Other Long-Term Liabilities
Other long-term liabilities consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
Unrecognized tax benefits liability, net
$
33,373

 
$
62,228

Contingent consideration payable
11,592

 
11,185

Other long-term liabilities
25,214

 
27,679

Total other long-term liabilities
$
70,179

 
$
101,092


Adoption of ASU 2013-11 effective November 1, 2014 resulted in a $24.2 million reduction in Unrecognized tax benefits liability, net, at November 1, 2014, because some of the unrecognized tax benefits are now presented net against Deferred tax assets. As of April 30, 2015, the $33.4 million Unrecognized tax benefits liability, net, includes accrued interest and penalties, none of which is expected to be paid within one year. We are unable to make a reasonably reliable estimate as to when cash settlement with a taxing authority may occur.

Redeemable noncontrolling interest in subsidiary

On September 30, 2010, we acquired 80% of the outstanding equity of All Business Solutions - ABS S.r.l., pursuant to a share purchase agreement under which the holders of the remaining 20% of outstanding equity have the option to require us to purchase their shares at the then fair market value. The redeemable noncontrolling interest was reported in a separate line above Shareholders' equity in our Condensed Consolidated Balance Sheets and was recognized at the greater of the initial carrying amount increased or decreased for the noncontrolling interest's share of net income or loss or its redemption value.

On April 2, 2015 the minority shareholders of ABS S.r.l. exercised their option to require us to purchase their shares. As a result, the noncontrolling interest is reported in Other current liabilities in our Condensed Consolidated Balance Sheet at April 30, 2015.

Accumulated Other Comprehensive Loss

Activity related to Accumulated other comprehensive loss for the six months ended April 30, 2015 consisted of the following (in thousands):
 
 
Foreign currency translation adjustments
 
Unrealized loss on derivatives designated as cash flow hedges (1)
 
Other (2)
 
Total
Balance at October 31, 2014
 
$
(102,767
)
 
$
(720
)
 
$
(1,343
)
 
$
(104,830
)
Gains (losses) before reclassifications, net of tax
 
(164,164
)
 
(4,400
)
 

 
(168,564
)
Amounts reclassified from Accumulated other comprehensive loss, net of tax
 

 
1,572

 
54

 
1,626

Other comprehensive income (loss)
 
(164,164
)
 
(2,828
)
 
54

 
(166,938
)
Balance at April 30, 2015
 
$
(266,931
)
 
$
(3,548
)
 
$
(1,289
)
 
$
(271,768
)
(1) Amounts reclassified from Accumulated other comprehensive loss, net of tax, were recorded in Interest, net in the Condensed Consolidated Statements of Operations. The related tax impacts were insignificant.
(2) Amounts reclassified from Accumulated other comprehensive loss, net of tax, were recorded in General and administrative expenses in the Condensed Consolidated Statements of Operations. The related tax impacts were insignificant.


12

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Stock-Based Compensation Expense

The following table presents the stock-based compensation expense recognized in our Condensed Consolidated Statements of Operations (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Cost of net revenues
$
409

 
$
208

 
$
1,128

 
$
761

Research and development
1,208

 
1,744

 
3,952

 
5,859

Sales and marketing
3,499

 
5,864

 
7,579

 
8,628

General and administrative
3,756

 
4,061

 
8,368

 
12,361

Total stock-based compensation
$
8,872

 
$
11,877

 
$
21,027

 
$
27,609


Note 5. Financial Instruments

Fair Value Measurements

Assets and Liabilities Measured and Recorded at Fair Value on a Recurring Basis

Our financial assets and liabilities consist principally of cash, accounts receivable, accounts payable, debt, foreign exchange forward contracts, interest rate swaps, and contingent consideration payable. We measure and record certain of our financial assets and liabilities at fair value on a recurring basis. The estimated fair value of cash, accounts receivable, and accounts payable approximates their carrying value. The estimated fair value of our debt approximates the carrying value because the interest rate on such debt adjusts to market rates on a periodic basis. Contingent consideration payable, interest rate swaps, and foreign exchange forward contracts are recorded at estimated fair value.

The following tables present our significant assets and liabilities that are measured at fair value on a recurring basis and their classification within the fair value hierarchy (in thousands). There were no transfers between levels of fair value hierarchy in the six months ended April 30, 2015 and the fiscal year ended October 31, 2014.
 
April 30, 2015
 
October 31, 2014
 
Carrying
Value
 
Level 1
 
Level 2
 
Level 3
 
Carrying
Value
 
Level 1
 
Level 2
 
Level 3
Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other current and long-term assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Derivative financial instruments
$
822

 
$

 
$
822

 
$

 
$
195

 
$

 
$
195

 
$

Total assets measured and recorded at fair value
$
822

 
$

 
$
822

 
$

 
$
195

 
$

 
$
195

 
$

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Other current and long-term liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Contingent consideration payable
$
12,760

 
$

 
$

 
$
12,760

 
$
11,824

 
$

 
$

 
$
11,824

Derivative financial instruments
4,236

 

 
4,236

 

 
1,315

 

 
1,315

 

Total liabilities measured and recorded at fair value
$
16,996

 
$

 
$
4,236

 
$
12,760

 
$
13,139

 
$

 
$
1,315

 
$
11,824



13

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Fair Value of Contingent Consideration Payable

The following table presents changes in our contingent consideration payable for the six months ended April 30, 2015, which is categorized in Level 3 of the fair value hierarchy (in thousands):
Balance at beginning of period
$
11,824

Additions
175

Payments
(186
)
Changes in estimates, included in Other income (expense), net
(90
)
Interest expense
1,037

Balance at end of period
$
12,760


The contingent consideration payable is classified as Level 3 because we use significant unobservable inputs to determine the expected outputs and an appropriate discount rate to calculate the fair value. The key assumptions in applying the approach for contingent consideration are internally forecasted net revenues, the probability of achieving the net revenues, and an appropriate discount rate. The maximum liability on the contingent consideration payable is indeterminate, as it depends on future net revenues. We will evaluate changes in the assumptions used to calculate the fair values of contingent consideration payable at the end of each period.

Derivative Financial Instruments

Interest Rate Swap Agreements Designated as Cash Flow Hedges

We use interest rate swap agreements to hedge the variability in cash flows related to interest payments. On March 23, 2012, we entered into a number of interest rate swap agreements to effectively convert $500.0 million of the term A loan from a floating rate to a 0.71% fixed rate plus applicable margin through March 31, 2015. On January 8, 2015, we entered into a number of new interest rate swap agreements to effectively convert $500.0 million of the term A loan from a floating rate to a 1.20% fixed rate plus applicable margin effective April 1, 2015, after the expiration of existing swap agreements. The principal amount under the term A loan covered by these new interest rate swap agreements will decrease to $450.0 million from April 1, 2017 through August 31, 2017, and $400.0 million from September 1, 2017 through March 31, 2018.

The interest rate swaps qualify for hedge accounting treatment as cash flow hedges. The notional amounts of interest rate swap agreements outstanding as of April 30, 2015 and October 31, 2014 were each $500.0 million.

Gains and losses arising from the effective portion of interest rate swap agreements are recorded in Accumulated other comprehensive loss, and are subsequently reclassified into earnings in the period or periods during which the underlying transactions affect earnings. As of April 30, 2015, the estimated net derivative loss related to our cash flow hedges included in Accumulated other comprehensive loss that will be reclassified into earnings in the next 12 months is $4.2 million.

Foreign Exchange Forward Contracts Not Designated as Hedging Instruments

We arrange and maintain foreign exchange forward contracts so as to yield gains or losses to offset changes in foreign currency denominated assets or liabilities due to changes in foreign exchange rates, with the objective to mitigate the volatility associated with foreign currency transaction gains or losses. Our foreign currency exposures are predominantly inter-company receivables and payables arising from product sales and loans from one of our entities to another. Our foreign exchange forward contracts generally mature within 90 days. The notional amounts of such contracts outstanding as of April 30, 2015 and October 31, 2014 were $229.3 million and $241.1 million, respectively.


14

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

We recognized the following gains (losses) on foreign exchange forward contracts not designated as cash flow hedges (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Gains (losses) recognized in Other income (expense), net in our Condensed Consolidated Statements of Operations
$
(631
)
 
$
(5,142
)
 
$
10,903

 
$
(5,573
)

Note 6. Goodwill and Purchased Intangible Assets

Goodwill

Activity related to goodwill for the six months ended April 30, 2015 consisted of the following (in thousands):
Balance at beginning of period
$
1,185,892

Additions
8,372

Currency translation adjustments
(107,205
)
Balance at end of period
$
1,087,059


Goodwill is not amortized. We review goodwill for impairment annually, and whenever events or changes in circumstances indicate its carrying amount may not be recoverable. Based on our review for potential indicators of impairment performed during the six months ended April 30, 2015 and the fiscal year ended October 31, 2014, there were no indicators of impairment.

On February 2015, we acquired all the outstanding shares of Double Beam, Inc. for a total consideration of $11.8 million in a transaction that we accounted for using the acquisition method of accounting. We paid $10.5 million at the close date and the remaining consideration is payable on the one year anniversary of the transaction. Double Beam delivers Android based cloud point-of-sale solutions in the United States. Purchased intangible assets, which principally related to developed and core technology, totaled $3.4 million and goodwill totaled $8.4 million at the acquisition date. The goodwill was assigned to our Americas reportable segment and will not be deductible for income tax purposes.

Purchased Intangible Assets, Net

Purchased Intangible assets, net consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
Customer relationships
$
596,802

 
$
(265,072
)
 
$
331,730

 
$
673,081

 
$
(255,161
)
 
$
417,920

Developed and core technology
98,743

 
(75,190
)
 
$
23,553

 
108,379

 
(76,738
)
 
$
31,641

Other
18,592

 
(13,065
)
 
5,527

 
20,556

 
(12,522
)
 
8,034

Total
$
714,137

 
$
(353,327
)
 
$
360,810

 
$
802,016

 
$
(344,421
)
 
$
457,595



15

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Activity related to purchased intangible assets during the six months ended April 30, 2015 includes a $87.6 million currency translation adjustment to Gross carrying amount and a $38.5 million currency translation adjustment to Accumulated amortization.

Amortization of purchased intangible assets was allocated as follows (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Included in Cost of net revenues
$
4,609

 
$
11,074

 
$
9,269

 
$
22,537

Included in Operating expenses
20,567

 
24,657

 
42,899

 
49,332

Total amortization of purchased intangible assets
$
25,176

 
$
35,731

 
$
52,168

 
$
71,869


Note 7. Financings

Amounts outstanding under our financing arrangements consisted of the following (in thousands):
 
April 30, 2015
 
October 31, 2014
2011 Credit Agreement
 
 
 
     Term A loan
$
577,500

 
$
592,500

     Term B loan
198,500

 
199,500

     Revolving loan
71,000

 
95,000

Other
421

 
706

Total principal payments due
847,421

 
887,706

Less: original issue discount
(4,045
)
 
(4,535
)
Total amounts outstanding
843,376

 
883,171

Less: current portion
(31,996
)
 
(32,131
)
Long-term portion
$
811,380

 
$
851,040


2011 Credit Agreement

Key terms of our amended and restated 2011 credit agreement (the "2011 Credit Agreement") include financial maintenance covenants and certain representations, warranties, covenants, and conditions that are customarily required for similar financings. We were in compliance with all financial covenants under this credit agreement as of April 30, 2015.

Borrowings under this credit agreement bear interest at a “Base Rate” or “Eurodollar Rate”, at our option, plus an applicable margin based on certain financial ratios, determined and payable quarterly. As of April 30, 2015, we elected the "Eurodollar Rate" margin option for our borrowings and the interest margins were 2.00% for the term A loan and the revolving loan, and 2.75% for term B loan. Accordingly as of April 30, 2015, the interest rate was 2.19% for the term A loan and the revolving loan and 3.5% for the term B loan. We have a number of interest rate swap agreements to effectively convert a portion of term A loan from a floating interest rate to a fixed interest rate. As of April 30, 2015, $500.0 million of the term A loan is effectively at a 1.20% fixed rate plus applicable margin based on interest rate swaps. As of April 30, 2015, the commitment fee for the unused portion of the revolving loan was 0.375% per annum, payable quarterly in arrears, and the amount available to draw under the revolving loan was $429.0 million.

Note 8. Restructurings

As part of cost optimization and corporate transformation initiatives, during fiscal year 2014 our management approved, committed to and initiated restructuring plans to reduce headcount, and consolidate facilities and data centers. These plans are expected to be substantially complete by the end of fiscal year 2015.


16

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Activity related to our restructuring plans for the six months ended April 30, 2015 consisted of the following (in thousands):
 
April 2014 Restructuring Plan
 
June 2014 Restructuring Plan
 
 
 
Employee
Involuntary Termination Benefits
 
Facilities
Related
Costs
 
Employee
Involuntary Termination Benefits
 
Facilities
Related
Costs
 
Total
Balance at beginning of period
$
319

 
$
1,194

 
$
5,500

 
$
399

 
$
7,412

Charges, net of adjustments
(67
)
 
537

 
994

 
70

 
1,534

Cash payments
(224
)
 
(1,866
)
 
(4,779
)
 
(454
)
 
(7,323
)
Other

 
135

 

 

 
135

Balance at end of period
$
28

 
$

 
$
1,715

 
$
15

 
$
1,758

Cumulative costs to date
$
5,139

 
$
1,967

 
$
12,329

 
$
841

 
$
20,276


The following table presents the restructuring expense recognized in our Condensed Consolidated Statements of Operations (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Cost of net revenues
$
(48
)
 
$
866

 
$
35

 
$
866

Research and development
32

 
734

 
154

 
734

Sales and marketing
108

 
2,614

 
793

 
2,614

General and administrative
69

 
1,557

 
552

 
1,557

 
$
161

 
$
5,771

 
$
1,534

 
$
5,771


Note 9. Commitments and Contingencies

Commitments

Leases

We lease certain facilities under non-cancelable operating leases that contain free rent periods, leasehold improvement rebates or rent escalation clauses. Rent expense under these leases is recorded on a straight-line basis over the lease term. We are committed to pay a portion of the related actual operating expenses under some of these lease agreements, and those operating expenses are not included in the table below. The difference between amounts paid and rent expense is recorded as deferred rent. The short-term and long-term portions are included in Accruals and other current liabilities and Other long-term liabilities, respectively, in our Condensed Consolidated Balance Sheets.

In connection with our taxi solutions business, we enter into operating lease arrangements for the right to place advertising in or on taxicabs. In general, these lease arrangements are non-cancelable for terms ranging from three to eight years, require us to pay minimum lease amounts based on the types and locations of the advertising displays in or on the taxicabs, and are subject to fee escalation clauses. Based upon the number of operational taxicabs with our advertising displays at April 30, 2015, we had total lease commitments of $76.9 million relating to such lease arrangements, which are included in the future minimum lease payments in the table below.


17

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Future minimum lease payments under these leases as of April 30, 2015 were as follows (in thousands):
Years Ending October 31:
Minimum
Lease Payments
Remainder of fiscal year 2015
$
17,944

2016
29,897

2017
26,259

2018
17,812

2019
16,329

2020
13,109

Thereafter
14,137

Total
$
135,487


Rent expense consisted of the following (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Rent expense for non-cancelable taxi operating leases
$
8,372

 
$
9,528

 
$
17,301

 
$
17,978

Facility and other rent expense
6,701

 
7,406

 
13,886

 
14,824

Total rent expense
$
15,073

 
$
16,934

 
$
31,187

 
$
32,802


Manufacturing Agreements

We work on a purchase order basis with our contract manufacturers, which are located in China, Singapore, Malaysia, Brazil, Germany, and Romania, and component suppliers located throughout the world, to supply nearly all of our finished goods inventories, spare parts, and accessories. We provide each such supplier with a purchase order to cover the manufacturing requirements, which generally constitutes a binding commitment by us to purchase materials and finished goods produced by the manufacturer as specified in the purchase order. Most of these purchase orders are considered to be non-cancelable and are expected to be paid within one year of the issuance date. As of April 30, 2015, the amount of purchase commitments issued to contract manufacturers and component suppliers totaled approximately $115.3 million. Of this amount, $11.6 million has been recorded in Accruals and other current liabilities in our Condensed Consolidated Balance Sheets because these commitments are not expected to have future value to us.

Bank Guarantees

We have issued bank guarantees with maturities ranging from two months to six years to certain of our customers and vendors as required in some countries to support certain performance obligations under our service or other agreements with those parties. As of April 30, 2015, the maximum amount that may become payable under these guarantees was $12.1 million, of which $1.9 million was collateralized by restricted cash deposits.

Letters of Credit

We provide standby letters of credit in the ordinary course of business to third parties as required. As of April 30, 2015, the maximum amounts that may become payable under these letters of credit was $8.0 million, of which $1.0 million was collateralized by restricted cash deposits.


18

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Contingencies

We evaluate the circumstances regarding outstanding and potential litigation and other contingencies on a quarterly basis to determine whether there is at least a reasonable possibility that a loss exists requiring accrual or disclosure, and if so, whether an estimate of the possible loss or range of loss can be made, or whether such an estimate cannot be made. When a loss is probable and reasonably estimable, we accrue for such amount based on our estimate of the probable loss considering information available at the time. When a loss is reasonably possible, we disclose the estimated possible loss or range of loss in excess of amounts accrued. Except as otherwise disclosed below, we do not believe that losses were probable or that there was a reasonable possibility that a material loss may have been incurred with respect to the matters disclosed.

Brazilian Tax Assessments

State Value-Added Tax

The Brazilian subsidiary we acquired as part of our acquisition of Hypercom in August 2011 received an unfavorable administrative decision on a tax enforcement action against it filed by the São Paulo State Revenue Department for collection of state sales taxes related to purported sales of software for the 1998 and 1999 tax years. In 2004, an appeal against this unfavorable administrative decision was filed in a judicial proceeding. The first level decision in the judicial proceeding was issued in our favor. The São Paulo State Revenue Department filed an appeal of this decision. The second level administrative decision ordered that the case be returned to the lower court in order to allow the production of further evidence. Based on our current understanding of the underlying facts of this matter, we believe it is reasonably possible that we may receive an unfavorable decision in this proceeding. The tax assessment including estimated interest through April 30, 2015 for this matter totals approximately 7.7 million Brazilian reais (approximately $2.7 million at the foreign exchange rate as of April 30, 2015). As of April 30, 2015, we have not accrued for this matter.

Federal Tax Assessments

Brazilian Federal Tax Amnesty

In December 2013, without admitting any fault or liability, we elected to enroll certain of our pending Brazilian tax assessments in the Brazilian Federal Tax Amnesty Program created by Law n. 11.941/2009 in 2009 and reopened for enrollment from October 2013 to December 2013, known as the "REFIS Amnesty.” The REFIS Amnesty is a program administered by the Brazilian tax authorities and allows entities charged with tax assessments that fall within the program’s scope to voluntarily settle such assessments with certain discounts applied to the amounts due. After conducting an evaluation of our existing Brazilian federal tax assessments and the terms offered by the REFIS Amnesty, we determined to voluntarily settle a number of our pending assessments.

Tax assessment matters that fall within the REFIS Amnesty's scope are generally listed in the program's web-based portal for enrollment. Although no formal acceptance by the tax authorities is issued at the time of our enrollment of a matter, we expect the tax authorities to confirm our enrollment as they complete their process to formally consolidate the matters we enrolled in the REFIS Amnesty. In connection with our enrollment of the tax assessments into the REFIS Amnesty, we were required to forego any further legal defense or proceedings with respect to the merits of such assessments. In exchange, the enrolled assessments were closed and we were granted discounts on our payment of the related accrued interest and penalties and are able to pay under an installment plan, subject to our compliance with the terms of the program. For certain assessments, existing net operating loss carryforwards, or net operating losses, may be used to satisfy a portion of the settlement obligation. Under the terms of the REFIS Amnesty, our right to fund the settlement through the installment payment plan would be canceled after three instances of our not timely paying the installment amounts as scheduled, in which case the full amounts of the original tax debts, including interest and penalties without the benefit of discount, would become immediately due and payable. We have included the terms and amounts below for those assessments that we have placed into the REFIS Amnesty.


19

Table of Contents
VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

Federal Tax Assessments related to Brazilian Subsidiaries from Lipman Acquisition

Two of our Brazilian subsidiaries that were acquired as a part of the November 2006 acquisition of Lipman Electronic Engineering Ltd. (“Lipman”) were notified of assessments regarding Brazilian customs penalties that relate to alleged infractions in the importation of goods. The assessments were issued by the Federal Revenue Department in the City of Vitória, the City of São Paulo, and the City of Itajai. In each of these cases, the tax authorities allege that the structure used for the importation of goods was simulated with the objective of evading taxes levied on the importation by under-invoicing the imported goods. The tax authorities allege that the simulation was created through an interposition of parties and that the real sellers and buyers of the imported goods were hidden. In February 2013, the São Paulo assessment was canceled following a favorable second level decision that was not appealed.

In the Vitória tax assessment, the fines were reduced from 4.7 million Brazilian reais (approximately $1.6 million at the foreign exchange rate as of April 30, 2015) to 1.5 million Brazilian reais (approximately $505,000 at the foreign exchange rate as of April 30, 2015) on a first level administrative decision on January 26, 2007. Both we and the tax authorities filed appeals of the first level administrative decision. In this appeal, we argued that the tax authorities did not have enough evidence to determine that the import transactions were indeed fraudulent and that, even if there were some irregularities in such importations, they could not be deemed to be our responsibility since all the transactions were performed by the third-party importer of the goods. On June 30, 2010, the Taxpayers Administrative Council of Tax Appeals decided to reinstate the original claim amount of 4.7 million Brazilian reais (approximately $1.6 million at the foreign exchange rate as of April 30, 2015) against us. On February 27, 2013, the Taxpayers Administrative Council of Tax Appeals issued its formal ruling reinstating the original claim amount. On May 31, 2013, we filed a motion to clarify such ruling, which is pending a decision.

In the Itajai tax assessment, we were notified on January 18, 2008, of a first level administrative decision rendered that maintained the total fine of 2.0 million Brazilian reais (approximately $682,000 at the foreign exchange rate as of April 30, 2015) as imposed, excluding interest. On May 27, 2008, we appealed the first level administrative decision to the Taxpayers Council. This matter is pending second level decision.

In December 2013, we sought to enroll the entire amount of tax liabilities in dispute for both the Vitória and Itajai assessments in the REFIS Amnesty. However, because we are named as a jointly-liable party rather than as the primary defendant in these matters, these assessments were not listed in the REFIS Amnesty web-based portal as available for election under the REFIS Amnesty. We believe these matters qualify for inclusion in the REFIS Amnesty and have filed the required notifications to our local tax office and commenced payments to indicate our decision to enroll these matters in the REFIS Amnesty. We expect the tax authorities' confirmation that these matters have been included in the REFIS Amnesty once they complete their procedures to consolidate the enrolled assessments. We elected to make the amnesty payments for these matters in monthly installments over a 30-month period for total payments, inclusive of interest and penalties, of 7.6 million Brazilian reais (approximately $2.6 million at the foreign exchange rate as of April 30, 2015). We accrued the full amount of the payments, plus estimated interest, under the REFIS Amnesty for these matters in December 2013 when we enrolled in the program, and made our first payment on December 26, 2013. As of April 30, 2015, we have remaining installment payments totaling 3.0 million Brazilian reais (approximately $1.0 million at the foreign exchange rate as of April 30, 2015).

We had previously accrued the estimated liability for both the Vitória and Itajai assessments. Based on our understanding of the underlying facts of these matters, we believe it is probable we may receive an unfavorable decision for each of these assessments unless we are able to resolve these matters through the REFIS Amnesty. Upon confirmation of acceptance of these matters into the REFIS Amnesty, we will reduce our accrued liabilities related to these matters to reflect the discounted amounts due under the REFIS Amnesty. As of April 30, 2015, we have accruals totaling 12.3 million Brazilian reais (approximately $4.2 million at the foreign exchange rate as of April 30, 2015).


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Federal Tax Assessments related to Brazilian Subsidiary from Hypercom Acquisition

The Brazilian subsidiary we acquired as part of our acquisition of Hypercom in August 2011 is the subject of outstanding tax assessments by the federal tax authorities alleging unpaid IRPJ, CSL, COFINS and PIS taxes from 2002 and 2003. The 2002 assessments are the subject of an administrative proceeding and the 2003 assessments are the subject of a civil enforcement action. Three of the four claims for the 2002 assessments were previously settled prior to our acquisition of Hypercom. The first level administrative court issued an unfavorable decision for the remaining claim related to the 2002 tax assessments. Our appeal to the Administrative Tax Appeals Council was denied in December 2013. With respect to the 2003 tax assessments, we received a partially favorable ruling, and our appeal for the remaining assessments is pending decision in the civil courts. In December 2013, we elected to enroll the tax liability for the remaining 2002 assessment in dispute and the portion of the 2003 assessments for which we received an unfavorable ruling in the REFIS Amnesty.

For the 2002 assessment, we applied available net operating losses, to the extent permitted, toward the interest and penalties portion of the settlement obligation under the REFIS Amnesty. For the remaining balance, we elected to make the amnesty payments in monthly installments over a 90-month period for total payments of 2.2 million Brazilian reais (approximately $763,000 at the foreign exchange rate as of April 30, 2015). We accrued the full amount of the payments, plus estimated interest, under the REFIS Amnesty for this matter in December 2013 when we enrolled in the program, and made our first payment on December 26, 2013. In the first quarter of fiscal year 2015, based on new provisions made available under the REFIS Amnesty, we elected to pay all remaining outstanding amounts due under the REFIS Amnesty in relation to the 2002 assessment, and settled such payments using cash and additional available net operating losses.

For the 2003 assessments, we applied available net operating losses, to the extent permitted, toward the interest and penalties portion of the settlement obligation under the REFIS Amnesty. At the time we initially appealed the 2003 assessments to the civil courts, we were required to make a deposit of 2.8 million Brazilian reais (approximately $980,000 at the foreign exchange rate as of April 30, 2015) to the court in order to perfect our appeal. In light of our enrollment of certain of the 2003 assessments in the REFIS Amnesty, we have notified the civil court of our enrollment and requested the release of the portion of the deposit for the assessments enrolled in the REFIS Amnesty, which totals 675,000 Brazilian reais (approximately $233,000 at the foreign exchange rate as of April 30, 2015). Once approved by the court, the released funds will be applied against the settlement obligation under the REFIS Amnesty. Approximately 2.2 million Brazilian reais (approximately $747,000 at the foreign exchange rate as of April 30, 2015) will remain deposited in connection with the 2003 assessments that will continue in the civil courts and which deposits will be released to the prevailing party after resolution of the underlying assessments.

Excluding the assessments that have been enrolled in the REFIS Amnesty for this matter, which have been accrued as described above, the remaining assessments total 3.6 million Brazilian reais (approximately $1.2 million at the foreign exchange rate as of April 30, 2015), including estimated penalties and interest, as of April 30, 2015. Based on our current understanding of the underlying facts of this matter, we believe it is reasonably possible we may receive an unfavorable decision related to these remaining assessments.

We also elected to enroll a number of outstanding tax offset requests that were previously applied for by the Brazilian subsidiary we acquired as part of our acquisition of Hypercom in August 2011 in the REFIS Amnesty. These outstanding tax offset requests relate to non-income tax debts, primarily for IRPJ, PIS and COFINS for past tax years, and total approximately 2.5 million Brazilian reais (approximately $862,000 at the foreign exchange rate as of April 30, 2015), including estimated penalties and interest. We applied available net operating losses toward the interest and penalties portion of the settlement obligation under the REFIS Amnesty. For the remaining balance, we elected to make the amnesty payments in monthly installments over a 90-month period for total payments of 1.3 million Brazilian reais (approximately $461,000 at the foreign exchange rate as of April 30, 2015). We accrued the full amount of the payments, plus estimated interest, under the REFIS Amnesty for these matters in December 2013 when we enrolled in the program, and made our first payment on December 26, 2013. After further review, the tax authorities agreed to our positions in certain of these cases and reduced our liabilities under the REFIS Amnesty. In the first quarter of fiscal year 2015, based on new provisions made available under the REFIS Amnesty, we elected to pay all remaining outstanding amounts due under the REFIS Amnesty in relation to the remaining tax offset requests, and settled such payments using cash and additional available net operating losses.


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Municipality Services Tax Assessments

In December 2009, one of the Brazilian subsidiaries that was acquired as part of the Lipman acquisition was notified of a tax assessment regarding alleged nonpayment of tax on services rendered for the period from September 2004 to December 2004. This assessment was issued by the municipality of São Paulo (the "municipality"), and asserts a services tax deficiency and related penalties totaling 875,000 Brazilian reais (approximately $301,000 at the foreign exchange rate as of April 30, 2015), excluding interest. The municipality claims that the Brazilian subsidiary rendered certain services within the municipality of São Paulo but simulated that those services were rendered in another city. At the end of December 2010 the municipality issued further tax assessments alleging the same claims for 2005 through June 2007. These additional subsequent claims assert services tax deficiencies and related penalties totaling 5.9 million Brazilian reais (approximately $2.0 million at the foreign exchange rate as of April 30, 2015), excluding interest. We received unfavorable decisions from the administrative courts, which ruled to maintain the tax assessments for each of these matters. No further grounds of appeal are available to us for these assessments within the administrative courts. In October 2012, as a result of the decision at the administrative level, the tax authorities filed an enforcement action in the civil courts to collect on the services tax assessments amounts awarded by the administrative court, and seeking other related costs and fees. On March 6, 2013, we filed our defensive claims in the civil courts in response to the tax authorities' enforcement action. In February 2013 the tax authorities filed an additional enforcement action in the civil courts to collect on the penalties related to the services tax assessments amounts awarded by the administrative courts. Based on our understanding of the underlying facts of this matter and our evaluation of the potential outcome at the judicial level, we believe it is reasonably possible that our Brazilian subsidiary will be required to pay some amount of the alleged tax assessments and penalties related to these matters, as well as amounts of interest and certain costs and fees imposed by the court related thereto. As of April 30, 2015, the amount of the alleged tax assessments and penalties related to these matters was approximately 5.8 million Brazilian reais (approximately $2.0 million at the foreign exchange rate as of April 30, 2015), and the estimated interest, costs and fees related thereto were approximately 14.2 million Brazilian reais (approximately $4.9 million at the foreign exchange rate as of April 30, 2015).

The Brazilian subsidiary we acquired as part of our acquisition of Hypercom in August 2011 received an unfavorable administrative decision on a tax enforcement action against it filed by the municipality of Curitiba for collection of alleged services tax deficiency. An appeal against this unfavorable administrative decision was filed in a judicial proceeding and currently the case is pending the municipality of Curitiba's compliance with the writ of summons. As of April 30, 2015, the underlying assessment, including estimated interest, was approximately 8.3 million Brazilian reais (approximately $2.9 million at the foreign exchange rate as of April 30, 2015). Based on our current understanding of the underlying facts of this matter, we believe it is reasonably possible that we may receive an unfavorable decision in this proceeding.

Patent Infringement

Cardsoft, Inc. et al v. VeriFone Holdings, Inc., VeriFone, Inc., Hypercom Corporation, et al.

On March 6, 2008, Cardsoft, Inc. and Cardsoft (Assignment for the Benefit of Creditors), LLC (collectively, “Cardsoft”) commenced an action in the United States District Court for the Eastern District of Texas, Marshall Division, against us and Hypercom Corporation, among others, alleging infringement of U.S. Patents No. 6,934,945 and No. 7,302,683 purportedly owned by Cardsoft. Cardsoft sought, in its complaint, a judgment of infringement, an injunction against further infringement, damages, interest and attorneys' fees. On June 8, 2012, the jury returned an unfavorable verdict finding that Cardsoft's patents were valid and were infringed by the accused VeriFone and Hypercom devices, and further determined that a royalty rate of $3 per unit should be applied. Accordingly, the jury awarded Cardsoft infringement damages and royalties of approximately $15.4 million covering past sales of the accused devices by VeriFone and Hypercom. The jury concluded there was no willful infringement by either VeriFone or Hypercom.


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Following the jury's verdict, we determined that it was probable we would incur a loss on this litigation based on the jury's verdict and the status of the litigation proceedings at that time. Accordingly, we accrued for the full amount of the jury's verdict plus estimated pre-judgment interest and, effective from July 31, 2012, we began accruing estimated ongoing royalties of $3 per unit of accused device to Cost of net revenues. During the fiscal quarter ended October 31, 2012, we completed redesigns of the terminals subject to the jury's verdict specifically to address the Cardsoft allegations, and implemented such redesigns in the U.S. We further obtained the legal opinion of independent intellectual property counsel that our terminals, as redesigned, do not infringe the Cardsoft patents-in-suit. We concluded based on the procedures taken and legal reviews obtained, that it was not probable that an ongoing royalty based on the jury's verdict applies to our terminals as redesigned, and ceased accruing an ongoing royalty.

On October 30, 2013, the District Court issued judgment upholding the jury's verdict that the patent was valid and infringed. The judgment confirmed the jury's award of infringement damages and royalties of approximately $15.4 million covering past sales of the VeriFone and Hypercom accused devices, plus pre-judgment interest, post-judgment interest and costs. The court also ruled that an ongoing royalty should be applied for sales of the accused devices after the verdict date and ordered the parties to mediate on the issue of an ongoing royalty rate. The parties participated in mediation but were unable to reach a resolution. In March 2014, Cardsoft filed a motion requesting the court to set an ongoing royalty rate. We opposed, arguing (among other things) that no ongoing royalty applies in light of our redesigns of the products subject to the District Court's infringement ruling.

We appealed the District Court's judgment to the U.S. Court of Appeals for the Federal Circuit. On October 17, 2014, a three-judge panel of the Federal Circuit issued a unanimous opinion in our favor. The Federal Circuit ruling reversed the District Court's judgment and, further, concluded that our products did not infringe the Cardsoft patents as a matter of law. As a result, the District Court's finding of infringement and order of past and ongoing royalties, as well as related interest and costs, have been reversed. Previously, based on our assessment and the status of this matter before the District Court, we had accrued a total estimated loss of approximately $20.0 million, including estimated pre-judgment interest, potential ongoing royalties and statutory post-judgment interest related to this litigation. As a result of the Federal Circuit's favorable opinion reversing the District Court's judgment and ruling that our products do not infringe as a matter of law, in October 2014, we reversed the total estimated loss previously accrued.

On December 22, 2014, the Federal Circuit denied Cardsoft's petition for rehearing by the panel and hearing en banc, and issued its mandate on December 29, 2014. On March 23, 2015, Cardsoft filed a petition for certiorari with the U.S. Supreme Court, requesting the Court to grant its petition, vacate the Federal Circuit's decision and remand for the Federal Circuit to review using a lower standard of review. We have opposed Cardsoft's petition and continue to believe that the likelihood of a reversal of the Federal Circuit's opinion is remote.

Following the Federal Circuit's issuance of its mandate, Cardsoft also filed motions before the District Court claiming that it was entitled to a new trial to allege infringement under the doctrine of equivalents and seeking to reopen the case before the District Court. We have opposed these motions and have filed a cross motion to dismiss this matter in its entirety. The District Court has not yet scheduled a hearing date on these motions.

Although we have concluded that any reversal of the Federal Circuit's opinion is remote, if Cardsoft were to prevail in reversing all or part of the Federal Circuit's opinion, the proceedings could have a material adverse effect on our business, financial condition, results of operations, and cash flows.


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Class Action and Derivative Lawsuits

In re VeriFone Holdings, Inc. Shareholder Derivative Litigation Proceedings

Beginning on December 13, 2007, several actions were filed against certain current and former directors and officers derivatively on our behalf. These derivative lawsuits were filed in: (1) the U.S. District Court for the Northern District of California, as In re VeriFone Holdings, Inc. Shareholder Derivative Litigation, Lead Case No. C 07-6347 MHP, which consolidates King v. Bergeron, et al. (Case No. 07-CV-6347), Hilborn v. VeriFone Holdings, Inc., et al. (Case No. 08-CV-1132), Patel v. Bergeron, et al. (Case No. 08-CV-1133), and Lemmond, et al. v. VeriFone Holdings, Inc., et al. (Case No. 08-CV-1301); and (2) the Superior Court of California, County of Santa Clara, as In re VeriFone Holdings, Inc. Derivative Litigation, Lead Case No. 1-07-CV-100980, which consolidates Catholic Medical Mission Board v. Bergeron, et al. (Case No. 1-07-CV-100980) and Carpel v. Bergeron, et al. (Case No. 1-07-CV-101449). We prevailed in our motion to dismiss the federal derivative claims before the U.S. District Court for the Northern District of California and, on November 28, 2011, in ruling on lead plaintiff's appeal against the district court's judgment dismissing lead plaintiff's derivative claims, the Ninth Circuit issued judgment affirming the dismissal of lead plaintiff's complaint against us. The time period for the lead plaintiff to appeal the Ninth Circuit's judgment has expired.

On October 31, 2008, the state derivative plaintiffs filed their consolidated derivative complaint in the Superior Court of California, County of Santa Clara naming us as a nominal defendant and bringing claims for insider selling, breach of fiduciary duty, unjust enrichment, waste of corporate assets and aiding and abetting breach of fiduciary duty against certain of our current and former officers and directors and our largest stockholder as of October 31, 2008, GTCR Golder Rauner LLC. On February 18, 2009, plaintiff Catholic Medical Mission Board voluntarily dismissed itself from the action. In November 2008, we filed a motion to stay the state court action pending resolution of the parallel federal actions, and the parties agreed by stipulation to delay briefing on the motion to stay until after the issue of demand futility was resolved in the federal derivative case. On June 2, 2011, the court entered a stipulated order requiring the parties to submit a case status report on August 1, 2011 and periodically thereafter. The parties submitted status reports to the court through February 1, 2013 as requested by the court. On January 30, 2013, counsel for plaintiff informed us that Mr. Carpel, the nominal plaintiff, had sold his shares in the company and therefore no longer had standing to maintain a derivative action against us. On February 15, 2013, plaintiff filed a motion for leave to publish notice to our stockholders seeking a new nominal plaintiff. On May 10, 2013, the court adopted its tentative order granting the motion to publish notice, which was formally entered on May 17, 2013. Under the terms of the order, the parties were ordered to publish notice of the potential dismissal of the action and any qualifying shareholder who wishes to intervene must notify the court within ninety days from the formal entry of the order. Otherwise, the action will be dismissed. On August 14, 2013, counsel for the former nominal plaintiff, Mr. Carpel, filed a notice of intent to substitute a new nominal plaintiff, Joel Gerber, into the action. On September 16, 2013, counsel for former plaintiff Carpel filed a motion to substitute a new plaintiff, Joel Gerber, into the action. On October 16, 2013, the court granted the motion and deemed the amended complaint filed as of the same date. Our demurrer to the amended complaint was filed on April 7, 2014. On May 23, 2014, plaintiff filed a statement of non-opposition to our demurrer and filed a motion to stay the action to allow plaintiff to make a demand on our current Board of Directors. We filed our opposition to the motion to stay on June 18, 2014 and plaintiff filed his reply on July 25, 2014.

On December 3, 2014, the court issued an order sustaining our demurrer and granting plaintiff's motion to stay. Plaintiff made a demand on the Board of Directors on December 23, 2014. The Board must respond within a reasonable time period. The stay will be terminated upon service of the Board's response and plaintiff shall have 20 days from the date of service either to file an amended complaint or to voluntarily dismiss the action. The parties are currently engaged in settlement discussions.


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Israel Securities Class Action

On January 27, 2008, a class action complaint was filed against us in the Central District Court in Tel Aviv, Israel on behalf of purchasers of our stock on the Tel Aviv Stock Exchange. The complaint seeks compensation for damages allegedly incurred by the class of plaintiffs due to the publication of erroneous financial reports. We filed a motion to stay the action, in light of the proceedings already filed in the United States, on March 31, 2008. A hearing on the motion was held on May 25, 2008. Further briefing in support of the stay motion, specifically with regard to the threshold issue of applicable law, was submitted on June 24, 2008. On September 11, 2008, the Israeli District Court ruled in our favor, holding that U.S. law would apply in determining our liability. On October 7, 2008, plaintiffs filed a motion for leave to appeal the Israeli District Court's ruling to the Israeli Supreme Court. Our response to plaintiffs' appeal motion was filed on January 18, 2009. The Israeli District Court has stayed its proceedings until the Israeli Supreme Court rules on plaintiffs' motion for leave to appeal. On January 27, 2010, after a hearing before the Israeli Supreme Court, the court dismissed the plaintiffs' motion for leave to appeal and addressed the case back to the Israeli District Court. The Israeli Supreme Court instructed the Israeli District Court to rule whether the Israel class action should be stayed, under the assumption that the applicable law is U.S. law. Plaintiffs subsequently filed an application for reconsideration of the Israeli District Court's ruling that U.S. law is the applicable law. Following a hearing on plaintiffs' application, on April 12, 2010, the parties agreed to stay the proceedings pending resolution of the U.S. securities class action, without prejudice to plaintiffs' right to appeal the Israeli District Court's decision regarding the applicable law to the Israeli Supreme Court. On May 25, 2010, plaintiff filed a motion for leave to appeal the decision regarding the applicable law with the Israeli Supreme Court. In August 2010, plaintiff filed an application to the Israeli Supreme Court arguing that the U.S. Supreme Court's decision in Morrison et al. v. National Australia Bank Ltd., 561 U.S. 247, 130 S. Ct. 2869 (2010), may affect the outcome of the appeal currently pending before the Court and requesting that this authority be added to the Court's record. Plaintiff concurrently filed an application with the Israeli District Court asking that court to reverse its decision regarding the applicability of U.S. law to the Israel class action, as well as to cancel its decision to stay the Israeli proceedings in favor of the U.S. class action in light of the U.S. Supreme Court's decision in Morrison. On August 25, 2011, the Israeli District Court issued a decision denying plaintiff's application and reaffirming its ruling that the law applicable to the Israel class action is U.S. law. The Israeli District Court also ordered that further proceedings in the case be stayed pending the decision on appeal in the U.S. class action.

On November 13, 2011, plaintiff filed an amended application for leave to appeal addressing the Israeli District Court's ruling. We filed an amended response on December 28, 2011. On January 1, 2012, the Israeli Supreme Court ordered consideration of the application by three justices. On July 2, 2012, the Israeli Supreme Court ordered us to file an updated notice on the status of the proceedings in the U.S. securities class action then pending in the U.S. Court of Appeals for the Ninth Circuit by October 1, 2012. On October 11, 2012, we filed an updated status notice in the Israeli Supreme Court on the proceedings in the U.S. securities class action pending at the time in the U.S. Court of Appeals for the Ninth Circuit. On January 9, 2013, the Israeli Supreme Court held a further hearing on the status of the appeal in the U.S. Court of Appeals for the Ninth Circuit and recommended that the parties meet and confer regarding the inclusion of the Israeli plaintiffs in the federal class action pending in the U.S. On February 10, 2013, the Israeli Supreme Court issued an order staying the case pursuant to the joint notice submitted to the court by the parties on February 4, 2013. The plaintiff and putative class members in this action are included in the stipulated settlement of the federal securities class action, In re VeriFone Holdings, Inc., disclosed above unless an individual plaintiff opts out. Following the February 25, 2014 judgment and orders by the U.S. court, in April 2014, the parties in the Israel class action filed a joint motion requesting that the Israeli Supreme Court renew the proceedings on appeal concerning the determination of the applicable law. A hearing was held on June 23, 2014 concerning whether the Israel class action should proceed in light of the settlement in the U.S. class action. On June 29, 2014, the plaintiff filed a supplemental pleading at the court’s request. We filed our reply pleading on August 19, 2014, and plaintiff filed a further response pleading on September 4, 2014. On April 2, 2015, the Israeli Supreme Court ruled that the Israeli class action is estopped by the U.S. class action settlement and dismissed the case.

On May 13, 2015, a new class action complaint was filed against us in Israel alleging similar claims as the dismissed Israeli class action, and alleging that Israeli shareholders were deprived of due process in the U.S. class action settlement proceedings. We intend to move to dismiss the new class action on substantially the same grounds on which the previous case was dismissed.


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In re VeriFone Securities Litigation

On March 7, 2013, a putative securities class action was filed in the U.S. District Court for the Northern District of California against us, certain of our former officers and one of our current officers and alleged claims in connection with our February 20, 2013 announcement of preliminary financial results for the fiscal quarter ended January 31, 2013. The action, captioned Sanders v. VeriFone Systems, Inc. et al., Case No. C 13-1038, and subsequently re-captioned In re VeriFone Securities Litigation, was initially brought on behalf of a putative class of purchasers of VeriFone securities between December 14, 2011 and February 19, 2013 and asserted claims under the Securities Exchange Act Sections 10(b) and 20(a) and SEC Rule 10b-5 for securities fraud and control person liability. The claims were based on allegations that we and the individual defendants made false or misleading public statements regarding our business, operations, and financial controls during the putative class period. The complaint sought unspecified monetary damages and other relief. Two additional class actions related to the same matter (Laborers Local 235 Benefit Funds v. VeriFone Systems, Inc. et al., Case No. CV 13-1676 and Bland v. VeriFone Systems, Inc. et al., Case No. CV 13-1853) were filed in April 2013. On May 6, 2013, several putative plaintiffs and plaintiffs' law firms filed motions to consolidate these three securities class actions and requesting appointment as lead plaintiff and lead counsel, respectively. The plaintiffs in Laborers Local 235 Benefit Funds v. VeriFone Systems, Inc. et al. and Bland v. VeriFone Systems, Inc. et al. voluntarily dismissed their respective actions, without prejudice, on July 10, 2013 and July 17, 2013, respectively, and filed motions to be appointed lead plaintiff in the action previously captioned Sanders v. VeriFone Systems, Inc. et al. On October 7, 2013, the court entered an order appointing the Selz Funds as lead plaintiffs and appointing Gold Bennett Cera & Sidener LLP as lead counsel. Lead plaintiffs' first amended complaint was filed on December 16, 2013. The first amended complaint expanded the putative class period to December 14, 2011 and February 20, 2013, inclusive, and removed the current officer who was named in the original complaint from the action. We filed our motion to dismiss the amended complaint on February 14, 2014, lead plaintiffs filed their opposition on April 15, 2014 and we filed our reply on May 16, 2014. On May 27, 2014, the court took the motion to dismiss under submission without oral argument. On August 8, 2014, the court dismissed the amended complaint, with leave to amend. Lead plaintiffs filed their second amended complaint on October 7, 2014. We filed a motion to dismiss the second amended complaint on December 8, 2014. Lead plaintiffs filed their opposition and we filed our reply. The court has taken the motion under submission without a hearing.

Dolled v. Bergeron et al.

On April 19, 2013, a derivative action, Dolled v. Bergeron et al., Case No. 113-CV-245056, was filed in the Superior Court of California, County of Santa Clara in connection with our February 20, 2013 announcement of preliminary financial results for the fiscal quarter ended January 31, 2013. The action, brought derivatively on behalf of VeriFone, names VeriFone as a nominal defendant and brings claims for insider selling, breach of fiduciary duty and unjust enrichment variously against certain of our current and former officers and directors. The complaint seeks unspecified monetary damages, restitution and disgorgement of profits and compensation paid to defendants, injunctive relief directing us to reform its corporate governance, and payment of the plaintiff's costs and attorneys' fees. On May 30, 2013, the court entered the parties' stipulation and proposed order, which appointed plaintiff and plaintiff's counsel as lead plaintiff and lead counsel, respectively, in the consolidated action, captioned In re VeriFone Systems, Inc. Derivative Litigation. The next case management conference is scheduled for September 25, 2015.


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Zoumboulakis v. McGinn et al.

On May 24, 2013, a federal derivative action, Zoumboulakis v. McGinn et al., Case No. 13-CV-02379, was filed in the U.S. District Court for the Northern District of California against certain current and former directors and officers derivatively on our behalf. The complaint, which names us as a nominal defendant, alleges breach of fiduciary duty and abuse of control and asserts claims under Section 14(a) of the Securities Exchange Act of 1934 for false or misleading financial statements and proxy statement disclosures. The complaint seeks unspecified monetary damages, including exemplary damages, restitution from defendants, injunctive relief directing us to make certain corporate governance reforms, and payment of the plaintiff's costs and attorneys' fees. On August 12, 2013, the court entered defendants' motion seeking to relate this action to the pending shareholder class action, Sanders v. VeriFone Systems, Inc. et al. On October 31, 2013, the court entered a stipulation and order setting a December 31, 2013 deadline for the filing of an amended complaint and setting a January 30, 2014 deadline for defendants to move or answer. An initial case management conference was held on January 17, 2014. On January 21, 2014, plaintiff filed an amended complaint, which removed one of our former officers from the action and added an additional former director as a defendant. The amended complaint brings claims against the defendants for breach of fiduciary duty, abuse of control, violations of Securities Exchange Act Section 14(a), and unjust enrichment. The amended complaint also brings claims for insider trading against three of the named former and current directors. We filed our motion to dismiss the amended complaint on March 7, 2014, plaintiff filed an opposition on April 23, 2014, and we filed our reply on May 16, 2014. On May 27, 2014, the court took the motion to dismiss under submission without oral argument. On August 7, 2014, the court dismissed the amended complaint, with leave to amend. Plaintiff filed a second amended complaint on October 17, 2014. We filed a motion to dismiss the second amended complaint on December 18, 2014. Plaintiff filed an opposition and we filed our reply. The court has taken the motion under submission without a hearing.

If any of these class action or derivative lawsuits is resolved adversely to us, it could have a material adverse effect on our business, financial condition, results of operations, and cash flows.

Antitrust Investigation

The Competition Commission of India ("CCI") investigated certain complaints made against us alleging unfair practices based on certain provisions in our software development license arrangements in India. We cooperated with requests by the CCI in its investigation. In March 2014, the director general of the CCI investigating the allegations issued a report rejecting certain of the allegations, but also finding that certain provisions of our licenses may constitute unfair business practices. VeriFone India Sales Pvt. Ltd. filed objections to that report.

In April 2015, the CCI issued rulings directing Verifone India to cease and desist from engaging in the alleged anti-competitive conduct and imposing a penalty, the amount of which is not material to our results of operations. We have accrued the full amount of this penalty and intend to appeal these rulings.

The CCI's rulings reserved the right to pursue additional proceedings against individuals that it deems responsible for the alleged conduct. We are unable to make any estimate of potential loss for any further proceedings the CCI may pursue but do not expect it to be material to our results of operations.

Other Litigation

After termination of their services, several former contractors of one of our Brazilian subsidiaries filed individual lawsuits in the Labor Court of São Paulo against the subsidiary alleging an employer-employee relationship and wrongful termination, and claiming, among other damages, statutorily-imposed salaries, vacations, severance and bonus amounts, social contributions and penalties and moral damages. In October 2012, we received a partially unfavorable judgment for one of these lawsuits, with the court ruling that an employer-employee relationship existed. We did not prevail in our appeal of the unfavorable judgment. As of April 30, 2015, we have accrued for the unfavorable judgment in this matter, which amount is not material to our results of operations. We have settled, without admitting any wrongdoing or violation of law, the other filed lawsuits, in each case, for a cash payment. The amounts of these settlements are not material to our results of operations.


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Certain of the foregoing cases are still in the preliminary stages, and we are not able to quantify the extent of our potential liability, if any. Further, the outcome of litigation is inherently unpredictable and subject to significant uncertainties. If any of these matters are resolved adversely to us, this could have a material adverse effect on our business, financial condition, results of operations, and cash flows. In addition, defending these legal proceedings is likely to be costly, which may have a material adverse effect on our financial condition, results of operations and cash flows, and may divert management's attention from the day-to-day operations of our business. We are subject to various other legal proceedings related to commercial, customer, and employment matters that have arisen during the ordinary course of business, including a number of pending labor-related claims that arose in the ordinary course of business against the Hypercom Brazilian subsidiary prior to our acquisition of Hypercom. The outcome of such legal proceedings is inherently unpredictable and subject to significant uncertainties. Although there can be no assurance as to the ultimate disposition of these matters, our management has determined, based upon the information available at the date of these financial statements, including expected availability of insurance coverage, that the expected outcome of these matters, individually or in the aggregate, will not have a material adverse effect on our consolidated financial position, results of operations or cash flows.

Note 10. Segment and Geographic Information

Segment Information

Net revenues and operating income of each segment reflect net revenues and expenses that are directly attributable to that segment. Net revenues and expenses not allocated to segment net revenues and segment operating income include amortization of purchased intangible assets, adjustments to contingent consideration, fair value decrease (step-down) in deferred revenue at acquisition, corporate inventory reserves, asset impairments, restructuring expenses, stock-based compensation, as well as corporate research and development, sales and marketing, general and administrative expense (benefits). We do not separately evaluate assets by segment, and therefore assets by segment are not presented below.

The following table sets forth net revenues for our reportable segments and reconciles segment net revenues to total net revenues (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Segment net revenues:
 
 
 
 
 
 
 
Americas
$
261,024

 
$
208,631

 
$
492,526

 
$
399,147

EMEA
179,654

 
190,575

 
360,188

 
376,876

Asia-Pacific
49,588

 
67,569

 
124,466

 
127,902

Total segment net revenues
490,266

 
466,775

 
977,180

 
903,925

Net revenues not allocated to segment net revenues
(122
)
 
(358
)
 
(810
)
 
(1,442
)
Total net revenues
$
490,144

 
$
466,417

 
$
976,370

 
$
902,483



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VERIFONE SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

The following table sets forth operating income for our reportable segments and reconciles segment operating income to consolidated operating income (loss) (in thousands):
 
Three Months Ended April 30,
 
Six Months Ended April 30,
 
2015
 
2014
 
2015
 
2014
Operating income by segment:
 
 
 
 
 
 
 
Americas
$
81,957

 
$
49,194

 
$
152,242

 
$
99,636

EMEA
49,354

 
52,597

 
96,311

 
106,334

Asia-Pacific
4,212

 
16,101

 
18,383

 
27,865

Total segment operating income
135,523

 
117,892

 
266,936

 
233,835

Items not allocated to segment operating income:
 
 
 
 
 
 
 
Net revenues not allocated to segment net revenues
(122
)
 
(358
)
 
(810
)
 
(1,442
)
Amortization of purchased intangible assets
(25,176
)
 
(35,731
)
 
(52,168
)
 
(71,869
)
Stock-based compensation expense
(8,872
)
 
(11,877
)
 
(21,027
)
 
(27,609
)
Restructuring expense
(161
)
 
(5,771
)
 
(1,534
)
 
(5,771
)
Litigation settlement and loss contingency expense
(1,213
)
 
(9,000
)
 
(1,213
)
 
(9,000
)
Other expenses not allocated to segments
(70,263
)
 
(68,703
)
 
(137,293
)
 
(138,207
)
Total operating income (loss)
$
29,716

 
$
(13,548
)
 
$
52,891

 
$
(20,063
)









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ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This section should be read in conjunction with our consolidated financial statements and related notes included in our 2014 Annual Report on Form 10-K and the Condensed Consolidated Financial Statements and Notes included in Part I, Item I of this Quarterly Report on Form 10-Q. This section and other parts of this Quarterly Report on Form 10-Q and certain information incorporated by reference herein contain forward-looking statements that involve risks and uncertainties. In some cases, forward-looking statements can be identified by words such as "may," "should," "expect," "plan," "intend," "anticipate," "believe," "estimate," "predict," "potential," or "continue," the negative of such terms, or comparable terminology. Such forward-looking statements are based on current expectations, estimates, and projections about our industry and management's beliefs and assumptions, and do not reflect the potential impact of any mergers, acquisitions, or other business combinations or divestitures that have not been completed. Forward-looking statements are not guarantees of future performance, and our actual results may differ materially from the results expressed or implied in the forward-looking statements. Factors that might cause such differences include, but are not limited to, those discussed in Part I, Item 1A, Risk Factors, in our 2014 Annual Report on Form 10-K and in Part II, Item 1A, Risk Factors, of this Quarterly Report on Form 10-Q, and elsewhere in these reports, including our disclosures of Critical Accounting Policies and Estimates in Part II, Item 7 in our 2014 Annual Report on Form 10-K and in Part I, Item 2 of this Quarterly Report on Form 10-Q, and our disclosures in Part II, Item 7A, Quantitative and Qualitative Disclosures About Market Risk in our 2014 Annual Report on Form 10-K and in Part I, Item 3, Quantitative and Qualitative Disclosures About Market Risk of this Quarterly Report on Form 10-Q, as well as in our Condensed Consolidated Financial Statements and Notes thereto. We are under no duty to update any of the forward-looking statements after the date of this Quarterly Report on Form 10-Q to conform such statements to actual results or to changes in expectations. We assume no obligation to revise or update any forward-looking statements for any reason, except as required by law.
In this Quarterly Report on Form 10-Q, each of the terms “VeriFone,” "Company," "us," "we," and "our" refers to VeriFone Systems, Inc. and its consolidated subsidiaries.

Our Management's Discussion and Analysis of Financial Condition and Results of Operations is provided in addition to our Condensed Consolidated Financial Statements and accompanying notes to assist readers in understanding our results of operations, financial condition, and cash flows. This section is organized as follows:

Overview: Discussion of our business and overall financial results, and other highlights related to our results of operations for the periods presented.

Results of Operations:

Consolidated Results of Operations: An analysis and discussion of our financial results comparing our consolidated results of operations for the three and six months ended April 30, 2015 to the three and six months ended April 30, 2014.

Segment Results of Operations: An analysis and discussion of our financial results comparing the results of operations for each of our three reportable segments, Americas, EMEA, and Asia-Pacific, for the three and six months ended April 30, 2015 to the three and six months ended April 30, 2014.

Financial Outlook: A discussion of our expectations regarding certain trends that may affect our financial condition and results of operations.

Liquidity and Capital Resources: An analysis of changes in our balance sheets and cash flows, and discussion of our financial condition and potential sources of liquidity.

Contractual Obligations and Off-Balance Sheet Arrangements: Disclosures related to our contractual obligations, contingent liabilities, commitments, and off-balance-sheet arrangements, as of April 30, 2015.

Critical Accounting Policies and Estimates: A discussion of the accounting policies and estimates that we believe are most important to understanding the assumptions and judgments incorporated in our reported financial results and forecasts, as well as recent accounting pronouncements that have had or are expected to have a material impact on our results of operations.

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Overview

Our Business

We are a global leader in secure electronic payment solutions at the point of sale (“POS”). We provide expertise, solutions and services that add value at the POS and enable innovative forms of commerce. For over 30 years, we have been a leader in designing, manufacturing, marketing and supplying a broad range of innovative payment solutions and complementary services that enable secure electronic payment transactions and value-added services at the POS. We focus on delivering value to our clients at the POS where merchant and consumer requirements drive increasingly innovative POS payment capabilities, value-added services that increase merchant revenues and consumer experience and solutions that enrich the interaction between merchant and consumers. Key industries in which we operate include financial services, retail, petroleum, restaurant, hospitality, taxi, transportation, and healthcare.

We operate in three business segments: Americas, EMEA, and Asia-Pacific. Our Americas segment includes our operations in North America, South America, Central America, and the Caribbean. Our EMEA segment is comprised of our operations in Europe, Russia, the Middle East, and Africa. Our Asia-Pacific segment consists of our operations in Australia, New Zealand, China, India and throughout the rest of Greater Asia, including other Asia-Pacific Rim countries. We determine our operating segments based on the discrete financial information used by our Chief Executive Officer, who is our chief operating decision maker, to assess performance, allocate resources, and make decisions regarding VeriFone's operations. Our Chief Executive Officer is evaluating using global product line financial information to manage the business in the future. If our Chief Executive Officer is provided different financial information to assess performance, allocate resources and make decisions regarding VeriFone's operations, we will reassess our operating segment presentation.

The markets in which we operate are highly competitive. We compete based on various factors, including product functions and features, pricing, product quality and reliability, design innovation, interoperability with third-party systems and brand reputation. We also compete based on product availability and certifications, as well as service offerings and support. We continue to experience intense competition in all of our operating segments from traditional POS terminal providers and we also see new companies entering our markets, including entrants offering some form of mobile device based payment options. In certain markets, such as China and Brazil, we see customers requiring a choice of offerings to meet their preference of features and enhancements for a lower cost. This trend has increased competition and pricing pressures. Our competitors are introducing increasingly aggressive pricing in these markets and clients are relying more on pricing for their purchase decisions.

Our Sources of Revenue

Sales of our point of sale electronic payment devices and systems continue to be a significant source of revenues. These system solutions consist of point of sale electronic payment devices that run our unique operating systems, security and encryption software, and certified payment software, and that are designed to suit our clients' needs in a variety of environments, including traditional multilane and countertop implementations, self-service or unattended environments, as well as in-vehicle and portable deployments. Our system solutions can securely process a wide range of payment types including signature and PIN-based debit cards, credit cards, contactless/radio frequency identification cards, smart cards, pre-paid gift and other stored-value cards, electronic bill payment, check authorization and conversion, signature capture and electronic benefits transfer, or EBT. Our unique architecture enables multiple value-added applications, including third-party applications, such as gift card and loyalty card programs, healthcare insurance eligibility, and time and attendance tracking, and allows these applications to reside on the same system without requiring recertification upon the addition of new applications. Security continues to be an important factor for our clients and we have experienced increasing demand for EMV capable terminal solutions.

We continue to invest in developing a broad portfolio of service solutions complementary to our systems solutions and designed to meet a wide range of merchant and partner needs, including removing complexity from payments, increasing ease of use, adding value by enriching the consumer experience at the POS and helping our clients grow their businesses and strengthening their relationships with consumers. Services are an important part of our business and revenues, accounting for approximately 33.8% and 34.7% of our total net revenues in the three and six months ended April 30, 2015 respectively. Our service offerings include our Payment-as-a-Service solutions, managed services and terminal management solutions, payment-enabled media, in-taxi payment solutions, security solutions, and other value-added services at the point of sale. We also offer a host of support services, including software development, installation and deployment, warranty, post-sale support, repairs, and training.

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Timing of Revenue

The timing of our customer orders may cause our revenue to vary from period to period. Specifically, revenues recognized in our fiscal quarters can vary significantly when larger customers or our distributors delay orders due to regulatory and industry standards compliance, budget considerations, product feature availability, dual vendor sourcing requirements, technology refresh cycles, economic conditions or other concerns that impact their business or purchasing decisions. For example, the timing of customer orders is often impacted by the timing of technology refreshes or the timing of completed product certifications by a particular customer or in a particular market. Customer purchases have also been impacted by regulatory factors such as new or pending banking regulations and government initiatives to drive cashless transactions.

In addition, revenues can be back-end weighted when we receive sales orders and deliver a higher proportion of our System solutions toward the end of our fiscal quarters. This variability and back-end weighting of orders may adversely affect our results of operations in a number of ways, and could negatively impact revenues and profits. First, the product mix of orders may not align with manufacturing forecasts, which could result in a shortage of the components needed for production. Second, existing manufacturing capacity may not be sufficient to deliver the desired volume of orders in a concentrated time when they are received. Third, back-end weighted demand could negatively impact gross margins through higher labor, delivery, and other manufacturing and distribution costs. If, on the other hand, we were to seek to manage the fulfillment of back-end weighted orders through holding increased inventory levels, we would risk higher inventory obsolescence charges if our sales fall short of our expectations.

Because our revenue recognition depends on, among other things, the timing of product shipments, decisions we make about product shipments, particularly toward the end of a fiscal quarter, may impact our reported revenues. The timing of product shipments may depend on a number of factors, including costs of air shipments if required, the delivery date requested by customers, and our operating capacity to fill orders and ship products, as well as our own long and short-term business planning and supply chain management. These factors may affect timing of shipments and consequently revenues recognized for a particular period.

Significant Matters

Transformation Initiatives

During December 2013 we launched a transformation program that focuses on three initiatives: portfolio management, research and development re-engineering, and cost optimization. Savings from the cost optimization initiative are being re-invested in the first two initiatives, as we focus on our future product roadmap and efforts to improve product quality and time-to-market. As part of this transformation program, our management has approved restructuring plans to reduce headcount, and consolidate facilities and data centers. We have incurred $20.3 million in restructuring charges since these plans were approved, of which $1.5 million was incurred during the first half of fiscal year 2015. We expect to incur additional charges totaling approximately $1.4 million during the rest of fiscal year 2015 as a result of these plans. See Note 8, Restructurings, in the Notes to Condensed Consolidated Financial Statements of this Quarterly Report on Form 10-Q for further information on these restructuring plans.



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Financial Results Highlights

Overall

Our consolidated total net revenues for the three months ended April 30, 2015 were $490.1 million, compared to $466.4 million for the three months ended April 30, 2014, up 5.1% year over year.

Operating income for the three months ended April 30, 2015 was $29.7 million compared to a $13.5 million loss for the three months ended April 30, 2014.

Net cash provided by operating activities for the six months ended April 30, 2015 totaled $97.4 million.

Segment Revenues

The following chart summarizes our total net revenues by segment for the three months ended April 30, 2015 and 2014 (in millions), as well as our System solutions and Services net revenues in each segment as a percentage of total net revenues for that segment in each period.


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Consolidated Results of Operations

Three Months Ended April 30, 2015 compared to April 30, 2014

 
Three Months Ended April 30,
 
2015
 
% of Net revenues (1)
 
2014
 
% of Net revenues (1)
 
(in thousands, except percentages)
Net revenues:
 
System solutions
$
324,300

 
66.2%
 
$
290,734

 
62.3%
Services
165,844

 
33.8%
 
175,683

 
37.7%
Total net revenues
490,144

 
100.0%
 
466,417

 
100.0%
 
 
 
 
 
 
 
 
Gross margin:
 
 
 
 
 
 
 
System solutions
135,328

 
41.7%
 
103,163

 
35.5%
Services
68,575

 
41.3%
 
72,111

 
41.0%
Total gross margin
203,903

 
41.6%
 
175,274

 
37.6%
 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
Research and development
47,579

 
9.7%
 
49,999

 
10.7%
Sales and marketing
55,371

 
11.3%
 
56,417

 
12.1%
General and administrative
49,457

 
10.1%
 
48,749

 
10.5%
Litigation settlement and loss contingency expense
1,213

 
0.2%
 
9,000

 
1.9%
Amortization of purchased intangible assets
20,567

 
4.2%
 
24,657

 
5.3%
Total operating expenses
174,187

 
35.5%
 
188,822

 
40.5%
Operating income (loss)
29,716

 
6.1%
 
(13,548
)
 
(2.9)%
Interest, net
(7,432
)
 
(1.5)%
 
(9,490
)
 
(2.0)%
Other income (expense), net
(3,169
)
 
(0.6)%
 
(1,183
)
 
(0.3)%
Income (loss) before income taxes
19,115

 
3.9%
 
(24,221
)
 
(5.2)%
Income tax provision (benefit)
1,449

 
0.3%
 
(658
)
 
(0.1)%
Consolidated net income (loss)
$
17,666

 
3.6%
 
$
(23,563
)
 
(5.1)%
(1) System solutions and Services gross margin as a percentage of total net revenues is computed as a percentage of the corresponding System solutions and Services net revenues.

System solutions net revenues for the three months ended April 30, 2015 were $324.3 million, compared to $290.7 million for the three months ended April 30, 2014, up $33.6 million or 11.6%, as a result of increased System solutions net revenues in our Americas and EMEA segments, driven primarily by increased demand for EMV capable products, market share gains and new product releases. These increases were partially offset by a decrease in System solution net revenues in our Asia-Pacific segment where we are seeing continued pricing pressures and increased competition. During the three months ended April 30, 2015, we experienced a $20.7 million unfavorable impact from foreign currency fluctuations, and also experienced continued competition and pricing pressures globally. See further discussion under Segment Results of Operations below.

Services net revenues for the three months ended April 30, 2015 were $165.8 million, compared to $175.7 million for the three months ended April 30, 2014, down $9.9 million or 5.6%, primarily due to a $19.0 million unfavorable impact from foreign currency fluctuations, which was partially offset by the benefit of additional services associated with increased System solutions net revenues. Geographically the change is primarily due to decreases in EMEA and Asia-Pacific Services net revenues, which were partially offset by an increase in Services net revenues in Americas. See further discussion under Segment Results of Operations below.


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Total gross margin for the three months ended April 30, 2015 was $203.9 million or 41.6% of total net revenues, compared to $175.3 million or 37.6% of total net revenues, for the three months ended April 30, 2014, up $28.6 million or 4.0 percentage points. Gross margin in dollars increased primarily due to the increase in Americas total net revenues, which was partially offset by unfavorable impacts from foreign currency fluctuations. Gross margin as a percentage of total net revenues increased primarily due to changes in customer and product mix, partially offset by the impact of pricing pressures in Asia-Pacific and, to some extent, in Europe and Latin America.

Research and development for the three months ended April 30, 2015 was $47.6 million compared to $50.0 million for the three months ended April 30, 2014, down $2.4 million or 4.8%, primarily due to an $8.6 million reduction in personnel related costs as a result of our transformation initiatives, partially offset by a $7.1 million increase in outside contractor costs. Outside contractor costs increased due to greater use of outside contractors as we invested in additional specialized resources to focus on platform development efforts, and shorten our product development life-cycle and time to market.

Sales and marketing for the three months ended April 30, 2015 was $55.4 million, compared to $56.4 million for the three months ended April 30, 2014, down $1.0 million or 1.8%. During the three months ended April 30, 2014, sales and marketing expense was higher by $2.5 million in charges related to employee involuntary termination benefits under our restructuring plans which did not recur in the three months ended April 30, 2015. Such decrease was partially offset by outside services associated with increased revenue and building new global product organizations during the three months ended April 30, 2015.

General and administrative for the three months ended April 30, 2015 was $49.5 million, compared to $48.7 million for the three months ended April 30, 2014, up $0.8 million or 1.6%, primarily due to increase in personnel and outside services associated with investments to implement a shared services model for certain of our back office functions, as well as investments to enhance our IT infrastructure and human resources support capabilities.

Litigation settlement and loss contingency expense for the three months ended April 30, 2015 was $1.2 million related to litigation settlements and rulings. Litigation settlement and loss contingency expense during the three months ended April 30, 2014 was $9.0 million due to an accrual related to the agreement in principle in the then pending action captioned, Creative Mobile Technologies, LLC v. VeriFone Systems, Inc. et al. during April 2014.

Amortization of purchased intangible assets for the three months ended April 30, 2015 was $20.6 million, compared to $24.7 million for the three months ended April 30, 2014, down $4.1 million or 16.6%, primarily due to the impact of foreign currency fluctuations as a result of year over year increases in the value of the U.S. dollar compared to European currencies.

Interest, net for the three months ended April 30, 2015 was $7.4 million, compared to $9.5 million for the three months ended April 30, 2014, down $2.1 million or 22.1%, primarily due to lower loan balances and lower interest rates on our debt during the three months ended April 30, 2015.

Income tax provision (benefit) for the three months ended April 30, 2015 was a $1.4 million provision, compared to a $0.7 million benefit for the three months ended April 30, 2014, a $2.1 million change. The income tax provision for the three months ended April 30, 2015 was primarily related to foreign taxes. The tax benefit for the three months ended April 30, 2014 was primarily related to tax benefits from statutory tax rate changes in certain foreign countries, and decreases in prior year unrecognized tax benefits.






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Six Months Ended April 30, 2015 compared to April 30, 2014

 
Six Months Ended April 30,
 
2015
 
% of Net revenues (1)
 
2014
 
% of Net revenues (1)
 
(in thousands, except percentages)
Net revenues:
 
System solutions
$
637,700

 
65.3%
 
$
551,900

 
61.2%
Services
338,670

 
34.7%
 
350,583

 
38.8%
Total net revenues
976,370

 
100.0%
 
902,483

 
100.0%
 
 
 
 
 
 
 
 
Gross margin:
 
 
 
 
 
 
 
System solutions
263,060

 
41.3%
 
196,821

 
35.7%
Services
140,013

 
41.3%
 
148,670

 
42.4%
Total gross margin
403,073

 
41.3%
 
345,491

 
38.3%
 
 
 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
 
 
Research and development
96,482

 
9.9%
 
100,531

 
11.1%
Sales and marketing
112,781

 
11.6%
 
107,028

 
11.9%
General and administrative
96,807

 
9.9%
 
99,663

 
11.0%
Litigation settlement and loss contingency expense
1,213

 
0.1%
 
9,000

 
1.0%
Amortization of purchased intangible assets
42,899

 
4.4%
 
49,332

 
5.5%
Total operating expenses
350,182

 
35.9%
 
365,554

 
40.5%
Operating income (loss)
52,891

 
5.4%
 
(20,063
)
 
(2.2)%
Interest, net
(15,327
)
 
(1.6)%
 
(20,879
)
 
(2.3)%
Other income (expense), net
(2,926
)
 
(0.3)%
 
(6,310
)
 
(0.7)%
Income (loss) before income taxes
34,638

 
3.5%
 
(47,252
)
 
(5.2)%
Income tax provision (benefit)
2,844

 
0.3%
 
(7,592
)
 
(0.8)%
Consolidated net income (loss)
$
31,794

 
3.3%
 
$
(39,660
)
 
(4.4)%
(1) System solutions and Services gross margin as a percentage of total net revenues is computed as a percentage of the corresponding System solutions and Services net revenues.

System solutions net revenues for the six months ended April 30, 2015 were $637.7 million, compared to $551.9 million for the six months ended April 30, 2014, up $85.8 million or 15.5%, as a result of increased System solutions net revenues in our Americas and EMEA segments, driven primarily by increased demand for EMV capable products, market share gains and new product releases. These increases were partially offset by a decrease in System solutions net revenues in our Asia-Pacific segment where we are seeing continued pricing pressures and increased competition. During the six months ended April 30, 2015, we experienced a $33.1 million unfavorable impact from foreign currency fluctuations, and also experienced continued competition and pricing pressures globally. See further discussion under Segment Results of Operations below.

Services net revenues for the six months ended April 30, 2015 were $338.7 million, compared to $350.6 million for the six months ended April 30, 2014, down $11.9 million or 3.4%, primarily due to a $29.8 million unfavorable impact from foreign currency fluctuations, which was partially offset by the benefit of additional services associated with increased System solutions net revenues. Geographically the change is primarily due to a decrease in EMEA Services net revenues, which was partially offset by increases in Services net revenues in Americas and Asia-Pacific. See further discussion under Segment Results of Operations below.


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Table of Contents

Total gross margin for the six months ended April 30, 2015 was $403.1 million or 41.3% of total net revenues, compared to $345.5 million or 38.3% of total net revenues, for the six months ended April 30, 2014, up $57.6 million or 3.0 percentage points. Gross margin in dollars increased primarily due to the increase in Americas total net revenues, which was partially offset by unfavorable impacts from foreign currency fluctuations. Gross margin as a percentage of total net revenues increased primarily due to changes in customer and product mix, partially offset by the impact of pricing pressures in Asia-Pacific and, to some extent, in Europe and Latin America.

Research and development for the six months ended April 30, 2015 was $96.5 million compared to $100.5 million for the six months ended April 30, 2014, down $4.0 million or 4.0%, primarily due to a $16.1 million reduction in personnel related costs as a result of our transformation initiatives, partially offset by a $12.0 million increase in outside contractor costs. Outside contractor costs increased due to greater use of outside contractors as we invested in additional specialized resources to focus on platform development efforts, and shorten our product development life-cycle and time to market.

Sales and marketing for the six months ended April 30, 2015 was $112.8 million, compared to $107.0 million for the six months ended April 30, 2014, up $5.8 million or 5.4%, primarily due to additional personnel related costs associated with increased revenue and building new global product organizations.

General and administrative for the six months ended April 30, 2015 was $96.8 million, compared to $99.7 million for the six months ended April 30, 2014, down $2.9 million or 2.9%. General and administrative expenses decreased by $4.5 million due to costs incurred during the six months ended April 30, 2014 for new hires, separation pay and additional stock based compensation that did not recur during the six months ended April 30, 2015. Such decrease was partially offset by a $3.1 million increase during the six months ended April 30, 2015 in outside services cost associated with investments to implement a shared services model for certain of our back office functions, as well as to enhance our IT infrastructure and human resources support capabilities.

Litigation settlement and loss contingency expense for the six months ended April 30, 2015 was $1.2 million related to litigation settlements and rulings. Litigation settlement and loss contingency expense during the six months ended April 30, 2014 was $9.0 million due to an accrual related to the settlement in the then pending action captioned, Creative Mobile Technologies, LLC v. VeriFone Systems, Inc. et al. during April 2014.

Amortization of purchased intangible assets for the six months ended April 30, 2015 was $42.9 million, compared to $49.3 million for the six months ended April 30, 2014, down $6.4 million or 13.0%, primarily due to the impact of foreign currency fluctuations as a result of year over year increases in the value of the U.S. dollar compared to European currencies.

Interest, net for the six months ended April 30, 2015 was $15.3 million, compared to $20.9 million for the six months ended April 30, 2014, down $5.6 million or 26.8%, primarily due to lower loan balances and lower interest rates on our debt during the six months ended April 30, 2015.

Income tax provision (benefit) for the six months ended April 30, 2015 was a $2.8 million provision, compared to a $7.6 million benefit for the six months ended April 30, 2014, a $10.4 million change. The income tax provision for the six months ended April 30, 2015 was primarily related to foreign taxes, partially offset by tax benefits related to release of reserves for unrecognized tax benefits where statutes have expired and tax audits were settled. The tax benefit for the six months ended April 30, 2014 was primarily related to tax benefits from statutory tax rate changes in certain foreign countries, and decreases in prior year unrecognized tax benefits.


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Segment Results of Operations

Net revenues and operating income of each segment reflect net revenues and expenses that are directly attributable to that segment. Net revenues and expenses not allocated to segment net revenues and segment operating income include amortization of purchased intangible assets, adjustments to contingent consideration, fair value decrease (step-down) in deferred revenue at acquisition, corporate inventory reserves, asset impairments, restructuring expenses, costs of transformation initiatives, stock-based compensation, as well as corporate costs within research and development, sales and marketing, and general and administrative expenses.

Americas Net Revenues and Operating Income

Our Americas segment includes our operations in North America, South America, Central America, and the Caribbean. Americas customers are diverse, and include traditional and specialty merchants, financial institutions, payment processors, and distributors, among others. Americas net revenues in some markets are dependent upon a limited number of customers and regulatory restrictions. The timing of purchasing decisions and size of orders from customers, as well as increasing competitive pressures, can significantly impact Americas net revenues from period to period. For example, our net revenues can increase in periods when larger financial institutions or tier 1 retailers undertake an upgrade or other change, and decrease in periods when such projects are completed. In addition, customer decisions to adopt new technology are influenced by factors such as the timing or expected timing of new standards and regulations, and new product releases and certifications of those products. Our business transactions in Americas are denominated predominately in U.S. dollars and Brazilian reais.

Three Months Ended April 30, 2015 compared to April 30, 2014
 
Three Months Ended April 30,
 
2015
 
% of Net revenues
 
2014
 
% of Net revenues
 
(in thousands, except percentages)
Net revenues:
 
 
 
 
 
 
 
System solutions
$
189,537

 
72.6
%
 
$
141,138

 
67.6
%
Services
71,487

 
27.4
%
 
67,493

 
32.4
%
Total net revenues
$
261,024

 
100.0
%
 
$
208,631

 
100.0
%
Operating income
$
81,957

 
31.4
%
 
$
49,194

 
23.6
%

System solutions net revenues for the three months ended April 30, 2015 were $189.5 million, compared to $141.1 million for the three months ended April 30, 2014, up $48.4 million or 34.3%. System solutions net revenues increased by $47.6 million in North America during the three months ended April 30, 2015, as a result of more purchases by several of our large customers as they rolled out next generation terminals with EMV capabilities, as well as increasing adoption of our products by small and medium businesses. System solutions net revenue also increased by $13.3 million in North America as our petroleum customers started to roll out next generation terminals. We experienced a $13.1 million decrease in Brazil System solutions net revenues, primarily as a result of a $7.2 million unfavorable foreign currency impact due to a decrease in the value of the Brazilian real as compared to the U.S. dollar year over year. The remaining decreases in Brazil System solutions net revenues was due to continued competition and pricing pressures, as well as the timing of purchase decisions by large customers, which were influenced by the timing of ongoing tender processes and the availability of our products with functionality needed for such tenders.

Services net revenues for the three months ended April 30, 2015 were $71.5 million compared to $67.5 million for the three months ended April 30, 2014, up $4.0 million or 5.9%. Services net revenues increased by $6.2 million in North America primarily due to additional services associated with increased System solutions net revenues partially offset by unfavorable foreign currency impact in Latin America.


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Operating income for the three months ended April 30, 2015 was $82.0 million or 31.4% of total net revenues, compared to $49.2 million or 23.6% of total net revenues, for the three months ended April 30, 2014, up $32.8 million or 7.8 percentage points. Operating income in dollars increased primarily due to the increase in total net revenues, with operating expenses relatively comparable year over year. Operating income as a percentage of total net revenues increased primarily due to changes in customer mix and growth in sales of new products during the three months ended April 30, 2015.

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Six Months Ended April 30, 2015