EA 12.31.2013 - Q3 FY14 10Q DOC
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
 
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended December 31, 2013
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 No. 000-17948
ELECTRONIC ARTS INC.
(Exact name of registrant as specified in its charter)
 
Delaware
94-2838567
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
209 Redwood Shores Parkway
Redwood City, California
94065
(Address of principal executive offices)
(Zip Code)
(650) 628-1500
(Registrant’s telephone number, including area code)
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
As of January 31, 2014, there were 309,590,213 shares of the Registrant’s Common Stock, par value $0.01 per share, outstanding.

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ELECTRONIC ARTS INC.
FORM 10-Q
FOR THE PERIOD ENDED DECEMBER 31, 2013
Table of Contents
 
 
 
Page
 
Item 1.
 
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 6.

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PART I – FINANCIAL INFORMATION

Item 1.
Condensed Consolidated Financial Statements (Unaudited)
ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS 
(Unaudited)
(In millions, except par value data)
December 31, 2013
 
March 31, 2013 (a)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
1,746

 
$
1,292

Short-term investments
324

 
388

Receivables, net of allowances of $268 and $200, respectively
526

 
312

Inventories
55

 
42

Deferred income taxes, net
51

 
52

Other current assets
219

 
239

Total current assets
2,921

 
2,325

Property and equipment, net
518

 
548

Goodwill
1,725

 
1,721

Acquisition-related intangibles, net
196

 
253

Deferred income taxes, net
46

 
53

Other assets
167

 
170

TOTAL ASSETS
$
5,573

 
$
5,070

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
137

 
$
136

Accrued and other current liabilities
823

 
737

Deferred net revenue (online-enabled games)
1,699

 
1,044

Total current liabilities
2,659

 
1,917

0.75% convertible senior notes due 2016, net
575

 
559

Income tax obligations
210

 
205

Deferred income taxes, net
1

 
1

Other liabilities
124

 
121

Total liabilities
3,569

 
2,803

Commitments and contingencies (See Note 13)

 

Stockholders’ equity:
 
 
 
Preferred stock, $0.01 par value. 10 shares authorized

 

Common stock, $0.01 par value. 1,000 shares authorized; 309 and 302 shares issued and outstanding, respectively
3

 
3

Paid-in capital
2,287

 
2,174

Retained earnings (accumulated deficit)
(338
)
 
21

Accumulated other comprehensive income
52

 
69

Total stockholders’ equity
2,004

 
2,267

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
$
5,573

 
$
5,070

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).
 
(a)
Derived from audited consolidated financial statements.

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ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 
(Unaudited)
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
(In millions, except per share data)
2013
 
2012
 
2013
 
2012
Net revenue:
 
 
 
 
 
 
 
Product
$
485

 
$
703

 
$
1,378

 
$
1,886

Service and other
323

 
219

 
1,074

 
702

Total net revenue
808

 
922

 
2,452

 
2,588

Cost of revenue:
 
 
 
 
 
 
 
Product
438

 
363

 
909

 
866

Service and other
79

 
66

 
215

 
213

Total cost of revenue
517

 
429

 
1,124

 
1,079

Gross profit
291

 
493

 
1,328

 
1,509

Operating expenses:
 
 
 
 
 
 
 
Research and development
275

 
278

 
836

 
866

Marketing and sales
214

 
220

 
525

 
590

General and administrative
91

 
70

 
305

 
258

Acquisition-related contingent consideration

 
(45
)
 
(37
)
 
(65
)
Amortization of intangibles
4

 
7

 
12

 
21

Restructuring and other charges
(1
)
 
2

 
(2
)
 
27

Total operating expenses
583

 
532

 
1,639

 
1,697

Operating loss
(292
)
 
(39
)
 
(311
)
 
(188
)
Gain on strategic investments, net

 
14

 

 
14

Interest and other income (expense), net
(6
)
 
(8
)
 
(19
)
 
(17
)
Loss before provision for income taxes
(298
)
 
(33
)
 
(330
)
 
(191
)
Provision for income taxes
10

 
12

 
29

 
34

Net loss
$
(308
)
 
$
(45
)
 
$
(359
)
 
$
(225
)
Net loss per share:
 
 
 
 
 
 
 
Basic and Diluted
$
(1.00
)
 
$
(0.15
)
 
$
(1.17
)
 
$
(0.72
)
Number of shares used in computation:
 
 
 
 
 
 
 
Basic and Diluted
309

 
304

 
307

 
313

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).


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ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(Unaudited)
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
(In millions)
2013
 
2012
 
2013
 
2012
Net loss
$
(308
)
 
$
(45
)
 
$
(359
)
 
$
(225
)
Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Change in unrealized gains and losses on available-for-sale securities

 
(9
)
 

 
(34
)
Reclassification adjustment for realized gains on available-for-sale securities

 
(15
)
 

 
(15
)
Change in unrealized gains and losses on derivative instruments
(4
)
 
(2
)
 
(15
)
 
(4
)
Reclassification adjustment for net realized losses on derivative instruments
3

 
1

 
5

 
2

Foreign currency translation adjustments
(9
)
 
(5
)
 
(7
)
 
(3
)
Total other comprehensive income (loss), net of tax
(10
)
 
(30
)
 
(17
)
 
(54
)
Total comprehensive loss
$
(318
)
 
$
(75
)
 
$
(376
)
 
$
(279
)

See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).


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ELECTRONIC ARTS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended December 31,
(In millions)
2013
 
2012
OPERATING ACTIVITIES
 
 
 
Net loss
$
(359
)
 
$
(225
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
Depreciation, amortization and accretion, net
170

 
178

Stock-based compensation
111

 
122

Acquisition-related contingent consideration
(37
)
 
(65
)
Non-cash restructuring charges

 
7

Net (gains) losses on investments and disposal of property and equipment
1

 
(12
)
Change in assets and liabilities:
 
 
 
Receivables, net
(210
)
 
(18
)
Inventories
(12
)
 

Other assets
17

 
14

Accounts payable
13

 
(115
)
Accrued and other liabilities
75

 
53

Deferred income taxes, net
7

 
(13
)
Deferred net revenue (online-enabled games)
655

 
165

Net cash provided by operating activities
431

 
91

INVESTING ACTIVITIES
 
 
 
Capital expenditures
(81
)
 
(81
)
Proceeds from sale of marketable equity securities

 
25

Proceeds from maturities and sales of short-term investments
331

 
404

Purchase of short-term investments
(270
)
 
(244
)
Acquisition-related restricted cash

 
25

Acquisition of subsidiaries, net of cash acquired
(5
)
 
(10
)
Net cash provided by (used in) investing activities
(25
)
 
119

FINANCING ACTIVITIES
 
 
 
Proceeds from issuance of common stock
51

 
19

Payment of debt issuance costs

 
(2
)
Repurchase and retirement of common stock

 
(336
)
Acquisition-related contingent consideration payment
(1
)
 
(28
)
Net cash provided by (used in) financing activities
50

 
(347
)
Effect of foreign exchange on cash and cash equivalents
(2
)
 
2

Increase (decrease) in cash and cash equivalents
454

 
(135
)
Beginning cash and cash equivalents
1,292

 
1,293

Ending cash and cash equivalents
$
1,746

 
$
1,158

Supplemental cash flow information:
 
 
 
Cash paid during the period for income taxes, net
$
21

 
$
21

Cash paid during the period for interest
$
3

 
$
2

Non-cash investing activities:
 
 
 
Change in unrealized gains and losses on available-for-sale securities, net of taxes
$

 
$
(34
)
See accompanying Notes to Condensed Consolidated Financial Statements (unaudited).

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ELECTRONIC ARTS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

(1) DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
We develop, market, publish and distribute game software content and services that can be played by consumers on a variety of platforms, including video game consoles (such as Sony’s PLAYSTATION 3 and 4 and Microsoft’s Xbox 360 and One), personal computers, mobile devices (such as the Apple iPhone and Google Android compatible phones), tablets and electronic readers (such as the Apple iPad and Amazon Kindle), and the Internet. Our ability to publish games across multiple platforms, through multiple distribution channels, and directly to consumers (online and wirelessly) has been, and will continue to be, a cornerstone of our product strategy. We have generated substantial growth in new business models and alternative revenue streams (such as subscription, micro-transactions, and advertising) based on the continued expansion of our online and wireless product and service offerings. Some of our games are based on our wholly-owned intellectual property (e.g., Battlefield, Mass Effect, Need for Speed, The Sims, Bejeweled, and Plants vs. Zombies), and some of our games are based on content that we license from others (e.g., FIFA and Madden NFL). Our goal is to turn our core intellectual properties into year-round businesses available on a range of platforms. Our products and services may be purchased through physical and online retailers, platform providers such as console manufacturers and mobile carriers via digital downloads, as well as directly through our own online distribution platform Origin.
Our fiscal year is reported on a 52- or 53-week period that ends on the Saturday nearest March 31. Our results of operations for the fiscal years ending or ended, as the case may be, March 31, 2014 and 2013 contain 52 weeks each, and ends or ended, as the case may be, on March 29, 2014 and March 30, 2013, respectively. Our results of operations for the three and nine months ended December 31, 2013 and 2012 contained 13 and 39 weeks each and ended on December 28, 2013 and December 29, 2012, respectively. For simplicity of disclosure, all fiscal periods are referred to as ending on a calendar month end.
The Condensed Consolidated Financial Statements are unaudited and reflect all adjustments (consisting only of normal recurring accruals unless otherwise indicated) that, in the opinion of management, are necessary for a fair presentation of the results for the interim periods presented. The preparation of these Condensed Consolidated Financial Statements requires management to make estimates and assumptions that affect the amounts reported in these Condensed Consolidated Financial Statements and accompanying notes. Actual results could differ materially from those estimates. The results of operations for the current interim periods are not necessarily indicative of results to be expected for the current year or any other period.
These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in our Annual Report on Form 10-K for the fiscal year ended March 31, 2013, as filed with the United States Securities and Exchange Commission (“SEC”) on May 22, 2013.
Reclassifications
During the fourth quarter of fiscal year 2013, we reviewed our operating expenses and reclassified certain amounts, primarily headcount and facilities costs, to align with our current operating structure. As a result, we also reclassified the related prior year amounts within our Condensed Consolidated Statements of Operations for comparability purposes. These reclassifications did not affect the Company’s consolidated net revenue, gross profit, operating income, or net income. The effect of the reclassifications on the previously-reported Condensed Consolidated Statement of Operations is reflected in the table below:
 
Three Months Ended December 31, 2012
 
Nine Months Ended December 31, 2012
 
As Previously Reported
 
Change
 
Reclassified Balance
 
As Previously Reported
 
Change
 
Reclassified Balance
Operating expenses:
 
 
 
 
 
 
 
 
 
 
 
Research and development
$
286

 
$
(8
)
 
$
278

 
$
890

 
$
(24
)
 
$
866

Marketing and sales
214

 
6

 
220

 
571

 
19

 
590

General and administrative
68

 
2

 
70

 
253

 
5

 
258

Impact of Recently Issued Accounting Standards
In July 2013, the FASB issued ASU 2013-11, Income Taxes (Topic 220): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists. The amendments of this ASU require that entities that have an unrecognized tax benefit and a net operating loss carryforward or similar tax loss or tax credit carryforward in the same jurisdiction as the uncertain tax position present the unrecognized tax benefit as a reduction of the deferred tax asset for the loss or tax credit carryforward rather than as a liability when the uncertain tax position would reduce

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the loss or tax credit carryforward under the tax law. The disclosure requirements will be effective for annual periods (and interim periods within those annual periods) beginning after December 15, 2013, and will require prospective application. Early adoption is permitted. The adoption will impact our balance sheet only, and we expect to adopt this new standard in the first quarter of fiscal year 2015. While we have not completed our analysis, we anticipate the adoption will result in equal reductions to both deferred tax assets and noncurrent income tax obligations between $50 million and $100 million.
(2) FAIR VALUE MEASUREMENTS
There are various valuation techniques used to estimate fair value, the primary one being the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining fair value, we consider the principal or most advantageous market in which we would transact and consider assumptions that market participants would use when pricing the asset or liability. We measure certain financial and nonfinancial assets and liabilities at fair value on a recurring and nonrecurring basis.
Fair Value Hierarchy
The three levels of inputs that may be used to measure fair value are as follows:
Level 1. Quoted prices in active markets for identical assets or liabilities.
Level 2. Observable inputs other than quoted prices included within Level 1, such as quoted prices for similar assets or liabilities, quoted prices in markets with insufficient volume or infrequent transactions (less active markets), or model-derived valuations in which all significant inputs are observable or can be derived principally from or corroborated with observable market data for substantially the full term of the assets or liabilities.
Level 3. Unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of assets or liabilities.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
As of December 31, 2013 and March 31, 2013, our assets and liabilities that were measured and recorded at fair value on a recurring basis were as follows (in millions): 
 
 
 
Fair Value Measurements at Reporting Date Using
 
  
 
 
 
Quoted Prices in
Active Markets 
for Identical
Financial
Instruments
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
 
 
 
As of
December 31,
2013
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
Balance Sheet Classification
Assets
 
 
 
 
 
 
 
 
 
Money market funds
$
415

 
$
415

 
$

 
$

 
Cash equivalents
Available-for-sale securities:
 
 
 
 
 
 
 
 
 
Corporate bonds
168

 

 
168

 

 
Short-term investments
U.S. Treasury securities
64

 
64

 

 

 
Short-term investments
U.S. agency securities
51

 

 
51

 

 
Short-term investments
Commercial paper
49

 

 
49

 

 
Short-term investments and cash equivalents
Deferred compensation plan assets (a)
13

 
13

 

 

 
Other assets
Foreign currency derivatives
3

 

 
3

 

 
Other current assets
Total assets at fair value
$
763

 
$
492

 
$
271

 
$

 
 
Liabilities
 
 
 
 
 
 
 
 
 
Contingent consideration (b)
$
2

 
$

 
$

 
$
2

 
Accrued and other current 
liabilities and other liabilities
Foreign currency derivatives
3

 

 
3

 

 
Accrued and other current liabilities
Total liabilities at fair value
$
5

 
$

 
$
3

 
$
2

 
 
 

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Fair Value Measurements Using Significant
Unobservable Inputs (Level 3)
 
 
 
 
 
 
 
 
 
Contingent
Consideration
 
 
Balance as of March 31, 2013
 
 
 
 
 
 
$
43

 
 
Change in fair value (c)
 
 
 
 
 
 
(37
)
 
 
Payments (d)
 
 
 
 
 
 
(4
)
 
 
Balance as of December 31, 2013
 
 
 
 
 
 
$
2

 
 

 
 
 
 
Fair Value Measurements at Reporting Date Using
 
  
 
 
 
Quoted Prices in
Active Markets 
for Identical
Financial
Instruments
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
 
 
 
As of
March 31,
2013
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
Balance Sheet Classification
Assets
 
 
 
 
 
 
 
 
 
Money market funds
$
469

 
$
469

 
$

 
$

 
Cash equivalents
Available-for-sale securities:
 
 
 
 
 
 
 
 
 
Corporate bonds
178

 

 
178

 

 
Short-term investments
U.S. agency securities
91

 

 
91

 

 
Short-term investments and cash equivalents
U.S. Treasury securities
88

 
88

 

 

 
Short-term investments and cash equivalents
Commercial paper
73

 

 
73

 

 
Short-term investments and cash equivalents
Deferred compensation plan assets (a)
11

 
11

 

 

 
Other assets
Foreign currency derivatives
6

 

 
6

 

 
Other current assets
Total assets at fair value
$
916

 
$
568

 
$
348

 
$

 
 
Liabilities
 
 
 
 
 
 
 
 
 
Contingent consideration (b)
$
43

 
$

 
$

 
$
43

 
Accrued and other current liabilities and other liabilities
Total liabilities at fair value
$
43

 
$

 
$

 
$
43

 
 

 
 
 
Fair Value Measurements Using Significant
Unobservable Inputs (Level 3)
 
 
 
 
 
 
 
 
 
Contingent
Consideration
 
 
Balance as of March 31, 2012
 
 
 
 
 
 
$
112

 
 
Change in fair value (c)
 
 
 
 
 
 
(64
)
 
 
Payment (d)
 
 
 
 
 
 
(5
)
 
 
Balance as of March 31, 2013
 
 
 
 
 
 
$
43

 
 

(a)
The deferred compensation plan assets consist of various mutual funds.

(b)
The contingent consideration as of March 31, 2013 represents the estimated fair value of the additional variable cash consideration payable in connection with our acquisitions of PopCap Games, Inc. (“PopCap”), KlickNation Corporation (“KlickNation”) and Chillingo Limited (“Chillingo”) that are contingent upon the achievement of certain performance milestones. The contingent consideration as of December 31, 2013 represents the estimated fair value of the additional variable cash consideration payable in connection with our acquisitions of KlickNation and Chillingo that are contingent upon the achievement of certain performance milestones. We estimated the fair value of the acquisition-related contingent consideration payable using probability-weighted discounted cash flow models, and applied a discount rate that appropriately captures the risk associated with the obligation. The weighted average of the discount rates used during the nine months ended December 31, 2013 was 17 percent. The weighted average of the discount rates used during the fiscal year 2013 was 13 percent. The significant unobservable input used in the fair value measurement of the contingent consideration payable are forecasted earnings. Significant changes in forecasted

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earnings would result in a significantly higher or lower fair value measurement. At December 31, 2013 and March 31, 2013, the fair market value of acquisition-related contingent consideration totaled $2 million and $43 million, respectively, compared to a maximum potential payout of $10 million and $566 million, respectively.

(c)
The change in fair value is reported as acquisition-related contingent consideration in our Condensed Consolidated Statements of Operations.

(d)
During the nine months ended December 31, 2013, we made payments totaling $4 million to settle certain performance milestones achieved in connection with one of our acquisitions. During fiscal year 2013, we made payments totaling $5 million to settle certain performance milestones achieved in connection with two of our acquisitions.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

During the three and nine months ended December 31, 2013, our assets that were measured and recorded at fair value on a nonrecurring basis and the related impairments on those assets were as follows (in millions):
 
 
 
Fair Value Measurements Using
 
 
 
 
 
Net Carrying
Value as of
December 31,  2013
 
Quoted Prices in
Active Markets 
for Identical Assets
 
Significant
Other Observable Inputs
 
Significant
Unobservable
Inputs
 
Total Impairments for the Three Months Ended December 31, 2013
 
Total Impairments for the Nine Months Ended December 31, 2013
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
 
Assets
 
 
 
 
 
 
 
 
 
 
 
Royalty-based asset
$

 
$

 
$

 
$

 
$

 
$
17

Total impairments recorded for non-recurring measurements on assets held as of December 31, 2013
 
 
 
 
 
 
 
$

 
$
17

During the nine months ended December 31, 2013, we became aware of facts and circumstances that indicated that the carrying value of one of our royalty-based assets was not recoverable. The impairment charge is included in cost of revenue on our Condensed Consolidated Statements of Operations.
 
 
 
Fair Value Measurements Using
 
 
 
 
 
Net Carrying Value as of December 31, 2012
 
Quoted Prices in Active Markets for Identical Assets
 
Significant Other Observable Inputs
 
Significant Unobservable Inputs
 
Total Impairments for the Three Months Ended December 31, 2012
 
Total Impairments for the Nine Months Ended December 31, 2012
 
 
(Level 1)
 
(Level 2)
 
(Level 3)
 
 
Assets
 
 
 
 
 
 
 
 
 
 
 
Acquisition-related intangible assets
$
15

 
$

 
$

 
$
15

 
$
6

 
$
8

Total impairments recorded for non-recurring measurements on assets held as of December 31, 2012
 
 
 
 
 
 
 
$
6

 
$
8

During the three and nine months ended December 31, 2012, we became aware of facts and circumstances that indicated that the carrying value of some of our acquisition-related intangible assets were not recoverable. This impairment is included in cost of product revenue on our Condensed Consolidated Statement of Operations.




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(3) FINANCIAL INSTRUMENTS
Cash and Cash Equivalents
As of December 31, 2013 and March 31, 2013, our cash and cash equivalents were $1,746 million and $1,292 million, respectively. Cash equivalents were valued at their carrying amounts as they approximate fair value due to the short maturities of these financial instruments.
Short-Term Investments
Short-term investments consisted of the following as of December 31, 2013 and March 31, 2013 (in millions): 
 
As of December 31, 2013
 
As of March 31, 2013
 
Cost or
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
Cost or
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
Gains
 
Losses
 
Gains
 
Losses
 
Corporate bonds
$
168

 
$

 
$

 
$
168

 
$
177

 
$
1

 
$

 
$
178

U.S. agency securities
51

 

 

 
51

 
76

 

 

 
76

U.S. Treasury securities
64

 

 

 
64

 
85

 

 

 
85

Commercial paper
41

 

 

 
41

 
49

 

 

 
49

Short-term investments
$
324

 
$

 
$

 
$
324

 
$
387

 
$
1

 
$

 
$
388

We evaluate our investments for impairment quarterly. Factors considered in the review of investments with an unrealized loss include the credit quality of the issuer, the duration that the fair value has been less than the adjusted cost basis, the severity of the impairment, the reason for the decline in value and potential recovery period, the financial condition and near-term prospects of the investees, our intent to sell and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value, and any contractual terms impacting the prepayment or settlement process. Based on our review, we did not consider these investments to be other-than-temporarily impaired as of December 31, 2013 and March 31, 2013.
The following table summarizes the amortized cost and fair value of our short-term investments, classified by stated maturity as of December 31, 2013 and March 31, 2013 (in millions): 
 
As of December 31, 2013
 
As of March 31, 2013
 
Amortized
Cost
 
Fair
Value
 
Amortized
Cost
 
Fair
Value
Short-term investments
 
 
 
 
 
 
 
Due in 1 year or less
$
106

 
$
106

 
$
160

 
$
160

Due in 1-2 years
106

 
106

 
126

 
127

Due in 2-3 years
107

 
107

 
101

 
101

Due in 3-4 years
5

 
5

 

 

Short-term investments
$
324

 
$
324

 
$
387

 
$
388


0.75% Convertible Senior Notes Due 2016
The following table summarizes the carrying value and fair value of our 0.75% Convertible Senior Notes due 2016 as of December 31, 2013 and March 31, 2013 (in millions): 
 
As of December 31, 2013
 
As of March 31, 2013
 
Carrying
Value
 
Fair
Value
 
Carrying
Value
 
Fair
Value
0.75% Convertible Senior Notes due 2016
$
575

 
$
682

 
$
559

 
$
614

The carrying value of the 0.75% Convertible Senior Notes due 2016 excludes the fair value of the equity conversion feature, which was classified as equity upon issuance, while the fair value is based on quoted market prices for the 0.75% Convertible Senior Notes due 2016, and includes the equity conversion feature. The fair value of the 0.75% Convertible Senior Notes due 2016 is classified as Level 2 within the fair value hierarchy. See Note 12 for additional information related to our 0.75% Convertible Senior Notes due 2016.

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(4) DERIVATIVE FINANCIAL INSTRUMENTS
The assets or liabilities associated with our derivative instruments and hedging activities are recorded at fair value in other current assets or accrued and other current liabilities, respectively, on our Condensed Consolidated Balance Sheets. As discussed below, the accounting for gains and losses resulting from changes in fair value depends on the use of the derivative instrument and whether it is designated and qualifies for hedge accounting.
We transact business in various foreign currencies and have significant international sales and expenses denominated in foreign currencies, subjecting us to foreign currency risk. We purchase foreign currency forward and option contracts, generally with maturities of 12 months or less, to reduce the volatility of cash flows primarily related to forecasted revenue and expenses denominated in certain foreign currencies. Our cash flow risks are primarily related to fluctuations in the Euro, British pound sterling and Canadian dollar. In addition, we utilize foreign currency forward contracts to mitigate foreign exchange rate risk associated with foreign-currency-denominated monetary assets and liabilities, primarily intercompany receivables and payables. The foreign currency forward contracts not designated as hedging instruments generally have a contractual term of approximately 3 months or less and are transacted near month-end. At each quarter-end, the fair value of the foreign currency forward contracts generally is not significant. We do not use foreign currency option or foreign currency forward contracts for speculative or trading purposes.
Cash Flow Hedging Activities
Our foreign currency option and forward contracts are designated and qualify as cash flow hedges. The effectiveness of the cash flow hedge contracts, including time value, is assessed monthly using regression analysis, as well as other timing and probability criteria. To qualify for hedge accounting treatment, all hedging relationships are formally documented at the inception of the hedges and must be highly effective in offsetting changes to future cash flows on hedged transactions. The derivative assets or liabilities associated with our hedging activities are recorded at fair value in other current assets or accrued and other liabilities on our Condensed Consolidated Balance Sheets. The effective portion of gains or losses resulting from changes in the fair value of these hedges is initially reported, net of tax, as a component of accumulated other comprehensive income in stockholders’ equity. The gross amount of the effective portion of gains or losses resulting from changes in the fair value of these hedges is subsequently reclassified into net revenue or research and development expenses, as appropriate, in the period when the forecasted transaction is recognized in our Condensed Consolidated Statements of Operations. In the event that the gains or losses in accumulated other comprehensive income are deemed to be ineffective, the ineffective portion of gains or losses resulting from changes in fair value, if any, is reclassified to interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. In the event that the underlying forecasted transactions do not occur, or it becomes remote that they will occur, within the defined hedge period, the gains or losses on the related cash flow hedges are reclassified from accumulated other comprehensive income to interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. During the three and nine months ended December 31, 2013 and 2012, we reclassified an immaterial amount of losses into interest and other income (expense), net. Total gross notional amounts and fair values for currency derivatives with cash flow hedge accounting designation are as follows:
 
As of December 31, 2013
 
As of March 31, 2013
 
Notional Amount
 
Fair Value
 
Notional Amount
 
Fair Value
 
 
Asset
 
Liability
 
 
Asset
 
Liability
Option contracts to purchase
$
22

 
$

 
$

 
$
84

 
$

 
$

Forward contracts to purchase
73

 

 
1

 

 

 

Total
$
95

 
$

 
$
1

 
$
84

 
$

 
$

 
 
 
 
 
 
 
 
 
 
 
 
Option contracts to sell
$
36

 
$

 
$

 
$
149

 
$
6

 
$

Forward contracts to sell
92

 

 
1

 

 

 

Total
$
128

 
$

 
$
1

 
$
149

 
$
6

 
$

The net impact of the gains and losses from our cash flow hedging activities in our Condensed Consolidated Statements of Operations for the nine months ended December 31, 2013 was a loss of $5 million and $2 million for the nine months ended December 31, 2012.
The net impact of the gains and losses from our cash flow hedging activities in our Condensed Consolidated Statements of Operations for three months ended December 31, 2013 and 2012 was immaterial.


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Balance Sheet Hedging Activities
Our foreign currency forward contracts that are not designated as hedging instruments are accounted for as derivatives whereby the fair value of the contracts are reported as other current assets or accrued and other current liabilities on our Condensed Consolidated Balance Sheets, and gains and losses resulting from changes in the fair value are reported in interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. The gains and losses on these foreign currency forward contracts generally offset the gains and losses in the underlying foreign-currency-denominated monetary assets and liabilities, which are also reported in interest and other income (expense), net, in our Condensed Consolidated Statements of Operations. As of December 31, 2013, we had foreign currency forward contracts to purchase and sell approximately $713 million in foreign currencies. Of this amount, $601 million represented contracts to sell foreign currencies in exchange for U.S. dollars, $101 million to purchase foreign currency in exchange for U.S. dollars, and $10 million to sell foreign currency in exchange for British pounds sterling, and $1 million to purchase foreign currency in exchange for British pounds sterling. As of March 31, 2013, we had foreign currency forward contracts to purchase and sell approximately $306 million in foreign currencies. Of this amount, $213 million represented contracts to sell foreign currencies in exchange for U.S. dollars, $87 million to purchase foreign currency in exchange for U.S. dollars, and $6 million to sell foreign currency in exchange for British pounds sterling. The fair value of our foreign currency forward contracts was measured using Level 2 inputs. $3 million was reported as other current assets and $1 million was reported as accrued and other current liabilities as of December 31, 2013. The fair value of our foreign currency forward contracts was measured using Level 2 inputs and was immaterial as of March 31, 2013.
The effect of foreign currency forward contracts in our Condensed Consolidated Statements of Operations for the three and nine months ended December 31, 2013 and 2012, was as follows (in millions):
 
Location of Gain (Loss) Recognized in Income on
Derivative
 
Amount of Gain (Loss) Recognized in Income on Derivative
 
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
 
2013
 
2012
 
2013
 
2012
Foreign currency forward contracts not designated as hedging instruments
Interest and other income (expense), net
 
$
1

 
$
(10
)
 
$
(4
)
 
$
(9
)


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(5) ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The changes in accumulated other comprehensive income (loss) by component, net of tax, for the three months ended December 31, 2013 are as follows (in millions):
 
Unrealized Gains (Losses) on Available-for-Sale Securities
 
Unrealized Gains (Losses) on Derivative Instruments
 
Foreign Currency Translation Adjustments
 
Total
Balances as of September 30, 2013
$
(4
)
 
$
(9
)
 
$
75

 
$
62

Other comprehensive loss before reclassifications

 
(4
)
 
(9
)
 
(13
)
Amounts reclassified from accumulated other comprehensive income

 
3

 

 
3

Net current-period other comprehensive loss

 
(1
)
 
(9
)
 
(10
)
Balances as of December 31, 2013
$
(4
)
 
$
(10
)
 
$
66

 
$
52


The changes in accumulated other comprehensive income (loss) by component, net of tax, for the nine months ended December 31, 2013 are as follows (in millions):
 
Unrealized Gains (Losses) on Available-for-Sale Securities
 
Unrealized Gains (Losses) on Derivative Instruments
 
Foreign Currency Translation Adjustments
 
Total
Balances as of March 31, 2013
$
(4
)
 
$

 
$
73

 
$
69

Other comprehensive loss before reclassifications

 
(15
)
 
(7
)
 
(22
)
Amounts reclassified from accumulated other comprehensive income

 
5

 

 
5

Net current-period other comprehensive loss

 
(10
)
 
(7
)
 
(17
)
Balances as of December 31, 2013
$
(4
)
 
$
(10
)
 
$
66

 
$
52

The effects on net loss of amounts reclassified from accumulated other comprehensive income (loss) for the three and nine months ended December 31, 2013 were as follows (in millions):
 
 
Amount Reclassified From Accumulated Other Comprehensive Income (loss)
 
 
Details about Accumulated Other Comprehensive Income (Loss) Components
 
Three Months Ended
December 31, 2013
 
Nine Months Ended
December 31, 2013
 
Statement of Operations Classification
Reclassification adjustment for net realized losses on derivative instruments
 
 
 
 
 
 
 
 
$
2

 
$
4

 
Net revenue
 
 
1

 
1

 
Research and development
Total amount reclassified, net of tax
 
$
3

 
$
5

 
 


(6) BUSINESS COMBINATIONS
During the nine months ended December 31, 2013, we completed one acquisition that did not have a significant impact on our Condensed Consolidated Financial Statements.

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(7) GOODWILL AND ACQUISITION-RELATED INTANGIBLES, NET
The changes in the carrying amount of goodwill for the nine months ended December 31, 2013 are as follows (in millions):
 
As of
March 31, 2013
 
Activity
 
Effects of Foreign Currency Translation
 
As of
December 31, 2013
Goodwill
$
2,089

 
$
5

 
$
(1
)
 
$
2,093

Accumulated impairment
(368
)
 

 

 
(368
)
Total
$
1,721

 
$
5

 
$
(1
)
 
$
1,725

Goodwill represents the excess of the purchase price over the fair value of the underlying acquired net tangible and intangible assets. Goodwill is not amortized, but rather subject to at least an annual assessment for impairment by applying a fair value-based test. Our goodwill is fully attributed to our operating segment. See note 16 for additional information regarding our segment information.
Acquisition-related intangibles consisted of the following (in millions):
 
As of December 31, 2013
 
As of March 31, 2013
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Acquisition-
Related
Intangibles, Net
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Acquisition-
Related
Intangibles, Net
Developed and core technology
$
531

 
$
(370
)
 
$
161

 
$
527

 
$
(324
)
 
$
203

Trade names and trademarks
130

 
(104
)
 
26

 
130

 
(99
)
 
31

Registered user base and other intangibles
87

 
(86
)
 
1

 
87

 
(84
)
 
3

Carrier contracts and related
85

 
(77
)
 
8

 
85

 
(73
)
 
12

In-process research and development

 

 

 
4

 

 
4

Total
$
833

 
$
(637
)
 
$
196

 
$
833

 
$
(580
)
 
$
253

Amortization of intangibles for the three and nine months ended December 31, 2013 and 2012 are classified in the Condensed Consolidated Statement of Operations as follows (in millions):
 
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
 
2013
 
2012
 
2013
 
2012
Cost of product
$
10

 
$
15

 
$
27

 
$
32

Cost of service and other
6

 
8

 
18

 
20

Operating expenses
4

 
7

 
12

 
21

Total
$
20

 
$
30

 
$
57

 
$
73

Acquisition-related intangible assets are amortized using the straight-line method over the lesser of their estimated useful lives or the agreement terms, typically from two to 14 years. As of December 31, 2013 and March 31, 2013, the weighted-average remaining useful life for acquisition-related intangible assets was approximately 3.3 years and 3.9 years, respectively.
As of December 31, 2013, future amortization of acquisition-related intangibles that will be recorded in the Condensed Consolidated Statement of Operations is estimated as follows (in millions): 
Fiscal Year Ending March 31,
 
2014 (remaining three months)
$
19

2015
65

2016
53

2017
32

2018
12

2019
8

Thereafter
7

Total
$
196



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(8) RESTRUCTURING AND OTHER CHARGES
Restructuring and other restructuring plan-related information as of December 31, 2013 was as follows (in millions): 
 
Fiscal 2013
Restructuring
 
Fiscal 2011
Restructuring
 
Other
Restructurings and Reorganization
 
 
 
Workforce
 
Facilities-
related
 
Other
 
Other
 
Facilities-
related
 
Total
Balances as of March 31, 2012
$

 
$

 
$

 
$
75

 
$
3

 
$
78

Charges to operations
10

 
3

 
9

 
6

 
(1
)
 
27

Charges settled in cash
(10
)
 

 
(1
)
 
(24
)
 
(1
)
 
(36
)
Changes settled in non-cash

 
(1
)
 
(7
)
 

 
1

 
(7
)
Balances as of March 31, 2013

 
2

 
1

 
57

 
2

 
62

Charges to operations

 
1

 

 
(3
)
 

 
(2
)
Charges settled in cash

 
(2
)
 

 
(1
)
 
(1
)
 
(4
)
Balances as of December 31, 2013
$

 
$
1

 
$
1

 
$
53

 
$
1

 
$
56


Fiscal 2013 Restructuring

In fiscal year 2013, we announced a restructuring plan to align our cost structure with our ongoing digital transformation. Under this plan, we reduced our workforce, terminated licensing agreements, and consolidated or closed various facilities. We completed all actions under this restructuring plan during fiscal year 2013.

Since the inception of the fiscal 2013 restructuring plan through December 31, 2013, we have incurred charges of $23 million, consisting of (1) $10 million in employee-related expenses, (2) $9 million related to license termination costs, and (3) $4 million related to the closure of certain of our facilities. Substantially all of these costs were settled in cash by March 31, 2013, with the exception of approximately $2 million of license and lease termination costs, which will be settled by August 2016. We do not expect to incur any additional restructuring charges under this plan.
Fiscal 2011 Restructuring
In fiscal year 2011, we announced a plan focused on the restructuring of certain licensing and developer agreements in an effort to improve the long-term profitability of our packaged goods business. Under this plan, we amended certain licensing and developer agreements. To a much lesser extent, as part of this restructuring we had workforce reductions and facilities closures through March 31, 2011. Substantially all of these exit activities were completed by March 31, 2011.
Since the inception of the fiscal 2011 restructuring plan through December 31, 2013, we have incurred charges of $171 million, consisting of (1) $128 million related to the amendment of certain licensing agreements and other intangible asset impairment costs, (2) $31 million related to the amendment of certain developer agreements, and (3) $12 million in employee-related expenses. The $53 million restructuring accrual as of December 31, 2013 related to the fiscal 2011 restructuring is expected to be settled by June 2016. We currently estimate recognizing in future periods through June 2016, approximately $7 million for the accretion of interest expense related to our amended licensing and developer agreements, of which $1 million will be recognized during the remainder of fiscal year 2014. This interest expense will be included in restructuring and other charges in our Condensed Consolidated Statement of Operations.
Overall, including $171 million in charges incurred through December 31, 2013, we expect to incur total cash and non-cash charges between $175 million and $180 million by June 2016. These charges will consist primarily of (1) charges, including accretion of interest expense, related to the amendment of certain licensing and developer agreements and other intangible asset impairment costs (approximately $166 million) and (2) employee-related costs ($12 million).
Other Restructurings and Reorganization
We also engaged in various other restructurings and a reorganization based on management decisions made prior to fiscal 2011. We do not expect to incur any additional restructuring charges under these plans. The $1 million restructuring accrual as of December 31, 2013 related to our other restructuring plans is expected to be settled by September 2016.


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(9) ROYALTIES AND LICENSES
Our royalty expenses consist of payments to (1) content licensors, (2) independent software developers, and (3) co-publishing and distribution affiliates. License royalties consist of payments made to celebrities, professional sports organizations, movie studios and other organizations for our use of their trademarks, copyrights, personal publicity rights, content and/or other intellectual property. Royalty payments to independent software developers are payments for the development of intellectual property related to our games. Co-publishing and distribution royalties are payments made to third parties for the delivery of products.
Royalty-based obligations with content licensors and distribution affiliates are either paid in advance and capitalized as prepaid royalties or are accrued as incurred and subsequently paid. These royalty-based obligations are generally expensed to cost of revenue generally at the greater of the contractual rate or an effective royalty rate based on the total projected net revenue for contracts with guaranteed minimums. Prepayments made to thinly capitalized independent software developers and co-publishing affiliates are generally made in connection with the development of a particular product, and therefore, we are generally subject to development risk prior to the release of the product. Accordingly, payments that are due prior to completion of a product are generally expensed to research and development over the development period as the services are incurred. Payments due after completion of the product (primarily royalty-based in nature) are generally expensed as cost of revenue.

Our contracts with some licensors include minimum guaranteed royalty payments, which are initially recorded as an asset and as a liability at the contractual amount when no performance remains with the licensor. When performance remains with the licensor, we record guarantee payments as an asset when actually paid and as a liability when incurred, rather than recording the asset and liability upon execution of the contract. Royalty liabilities are classified as current liabilities to the extent such royalty payments are contractually due within the next 12 months.
Each quarter, we also evaluate the expected future realization of our royalty-based assets, as well as any unrecognized minimum commitments not yet paid to determine amounts we deem unlikely to be realized through product sales. Any impairments or losses determined before the launch of a product are generally charged to research and development expense. Impairments or losses determined post-launch are charged to cost of revenue. We evaluate long-lived royalty-based assets for impairment generally using undiscounted cash flows when impairment indicators exist. Unrecognized minimum royalty-based commitments are accounted for as executory contracts, and therefore, any losses on these commitments are recognized when the underlying intellectual property is abandoned (i.e., cease use) or the contractual rights to use the intellectual property are terminated. During the three months ended December 31, 2013, we did not recognize any losses or impairment charges on previously unrecognized royalty-based commitments. During the nine months ended December 31, 2013, we recognized total losses of $27 million. During the nine months ended December 31, 2012, we recognized losses of $15 million on previously unrecognized royalty-based commitments, inclusive of $9 million in license termination costs related to our fiscal 2013 restructuring. The losses related to restructuring and other plan-related activities are presented in Note 8.
The current and long-term portions of prepaid royalties and minimum guaranteed royalty-related assets, included in other current assets and other assets, consisted of (in millions): 
 
As of
December 31, 2013
 
As of
March 31, 2013
Other current assets
$
56

 
$
63

Other assets
66

 
93

Royalty-related assets
$
122

 
$
156

At any given time, depending on the timing of our payments to our co-publishing and/or distribution affiliates, content licensors, and/or independent software developers, we recognize unpaid royalty amounts owed to these parties as accrued liabilities. The current and long-term portions of accrued royalties, included in accrued and other current liabilities and other liabilities, consisted of (in millions): 
 
As of
December 31, 2013
 
As of
March 31, 2013
Accrued royalties
$
105

 
$
103

Other accrued expenses
14

 
21

Other liabilities
52

 
46

Royalty-related liabilities
$
171

 
$
170


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As of December 31, 2013, $1 million of restructuring accruals related to the fiscal 2013 restructuring plan, and $53 million of restructuring accruals related to the fiscal 2011 restructuring plan are included in royalty-related liabilities in the table above. See Note 8 for details of restructuring and other restructuring plan-related activities and Note 10 for the details of our accrued and other current liabilities.
In addition, as of December 31, 2013, we were committed to pay approximately $1,147 million to content licensors, independent software developers, and co-publishing and/or distribution affiliates, but performance remained with the counterparty (i.e., delivery of the product or content or other factors) and such commitments were therefore not recorded in our Condensed Consolidated Financial Statements. See Note 13 for further information on our developer and licensor commitments.

(10) BALANCE SHEET DETAILS
Inventories
Inventories as of December 31, 2013 and March 31, 2013 consisted of (in millions): 
 
As of
December 31, 2013
 
As of
March 31, 2013
Finished Goods
$
55

 
$
41

Raw materials and work in process

 
1

Inventories
$
55

 
$
42

Property and Equipment, Net
Property and equipment, net, as of December 31, 2013 and March 31, 2013 consisted of (in millions): 
 
As of
December 31, 2013
 
As of
March 31, 2013
Computer equipment and software
$
704

 
$
660

Buildings
334

 
336

Leasehold improvements
129

 
129

Office equipment, furniture and fixtures
70

 
72

Land
63

 
64

Warehouse equipment and other
10

 
10

Construction in progress
8

 
8

 
1,318

 
1,279

Less: accumulated depreciation
(800
)
 
(731
)
Property and equipment, net
$
518

 
$
548

Depreciation expense associated with property and equipment was $33 million and $95 million for three and nine months ended December 31, 2013, respectively. Depreciation expense associated with property and equipment was $30 million and $87 million for the three and nine months ended December 31, 2012, respectively.

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Accrued and Other Current Liabilities
Accrued and other current liabilities as of December 31, 2013 and March 31, 2013 consisted of (in millions): 
 
As of
December 31, 2013
 
As of
March 31, 2013
Other accrued expenses
$
373

 
$
338

Accrued compensation and benefits
210

 
217

Accrued royalties
105

 
103

Deferred net revenue (other)
135

 
79

Accrued and other current liabilities
$
823

 
$
737

Deferred net revenue (other) includes the deferral of subscription revenue, deferrals related to our Switzerland distribution business, advertising revenue, licensing arrangements, and other revenue for which revenue recognition criteria has not been met.
Deferred Net Revenue (Online-Enabled Games)
Deferred net revenue (online-enabled games) was $1,699 million and $1,044 million as of December 31, 2013 and March 31, 2013, respectively. Deferred net revenue (online-enabled games) generally includes the unrecognized revenue from bundled sales of certain online-enabled games for which we do not have VSOE for the obligation to provide unspecified updates. We recognize revenue from the sale of online-enabled games for which we do not have VSOE for the unspecified updates on a straight-line basis, generally over an estimated nine-month period beginning in the month after shipment for physical games sold through retail and an estimated six-month period for digitally distributed games. However, we expense the cost of revenue related to these transactions during the period in which the product is delivered (rather than on a deferred basis).

(11) INCOME TAXES
We estimate our annual effective tax rate at the end of each quarterly period, and we record the tax effect of certain discrete items, which are unusual or occur infrequently, in the interim period in which they occur, including changes in judgment about deferred tax valuation allowances. In addition, jurisdictions with a projected loss for the year, jurisdictions with a year-to-date loss where no tax benefit can be recognized, and jurisdictions where we are unable to estimate an annual effective tax rate are excluded from the estimated annual effective tax rate. The impact of such an exclusion could result in a higher or lower effective tax rate during a particular quarter depending on the mix and timing of actual earnings versus annual projections.
We recognize deferred tax assets and liabilities for both the expected impact of differences between the financial statement amount and the tax basis of assets and liabilities and for the expected future tax benefit to be derived from tax losses and tax credit carry forwards. We record a valuation allowance against deferred tax assets when it is considered more likely than not that all or a portion of our deferred tax assets will not be realized. In making this determination, we are required to give significant weight to evidence that can be objectively verified. It is generally difficult to conclude that a valuation allowance is not needed when there is significant negative evidence, such as cumulative losses in recent years. Forecasts of future taxable income are considered to be less objective than past results, particularly in light of the economic environment. Therefore, cumulative losses weigh heavily in the overall assessment. Based on the assumptions and requirements noted above, we have recorded a valuation allowance against most of our U.S. deferred tax assets. In addition, we expect to provide a valuation allowance on future U.S. tax benefits until we can sustain a level of profitability or until other significant positive evidence arises that suggest that these benefits are more likely than not to be realized.

The provision for income taxes reported for the three and nine months ended December 31, 2013 is based on our projected annual effective tax rate for fiscal year 2014, and also includes certain discrete items recorded during the period. Our effective tax rate for the three and nine months ended December 31, 2013 was a tax expense of 3.4 percent and 8.8 percent, respectively, as compared to a tax expense of 36.4 percent and 17.8 percent, respectively, for the same periods of fiscal year 2013. The effective tax rate for the three and nine months ended December 31, 2013 and 2012 differs from the statutory rate of 35.0 percent primarily due to the U.S. losses for which no benefit is recognized and non-U.S. losses with a reduced or zero tax rate. The effective tax rate for the three and nine months ended December 31, 2013 differs from the same period in fiscal year 2013 primarily due to differences in pre-tax loss.
During the three and nine months ended December 31, 2013, we recorded a net increase of $5 million and $12 million, respectively, in gross unrecognized tax benefits. The total gross unrecognized tax benefits as of December 31, 2013 is $309 million, of which approximately $46 million is offset by prior cash deposits to tax authorities for issues pending resolution. A portion of our unrecognized tax benefits will affect our effective tax rate if they are recognized upon favorable resolution of the

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uncertain tax positions. As of December 31, 2013, if recognized, approximately $111 million of the unrecognized tax benefits would affect our effective tax rate and approximately $184 million would result in adjustments to deferred tax assets with corresponding adjustments to the valuation allowance.
During the three and nine months ended December 31, 2013, we recorded a net increase in taxes of $1 million and $3 million, respectively, for accrued interest and penalties related to tax positions taken on our tax returns. As of December 31, 2013, the combined amount of accrued interest and penalties related to uncertain tax positions included in income tax obligations on our Condensed Consolidated Balance Sheet was approximately $26 million.
The IRS has completed its examination of our federal income tax returns through fiscal year 2008. As of December 31, 2013, the IRS had proposed certain adjustments to our tax returns. The effects of these adjustments have been considered in estimating our future obligations for unrecognized tax benefits and are not expected to have a material impact on our financial position or results of operations. Some of these proposed adjustments are pending resolution by the Appeals division of the IRS. Furthermore, the IRS is currently examining our returns for fiscal years 2009 through 2011.
We are also currently under income tax examination in Canada for fiscal years 2004 and 2005, in Germany for fiscal years 2008 through 2012, and in Italy for fiscal years 2009 through 2011. We remain subject to income tax examination for several other jurisdictions including Canada for fiscal years after 2005, in France for fiscal years after 2011, in Germany for fiscal years after 2012, in the United Kingdom for fiscal years after 2011, and in Switzerland for fiscal years after 2007.
The timing of the resolution of income tax examinations is highly uncertain, and the amounts ultimately paid, if any, upon resolution of the issues raised by the taxing authorities may differ materially from the amounts accrued for each year. Although potential resolution of uncertain tax positions involve multiple tax periods and jurisdictions, it is reasonably possible that a reduction of up to $120 million of the reserves for unrecognized tax benefits may occur within the next 12 months, some of which, depending on the nature of the settlement or expiration of statutes of limitations, may affect our income tax provision (benefit) and therefore benefit the resulting effective tax rate. The actual amount could vary significantly depending on the ultimate timing and nature of any settlements.
(12) FINANCING ARRANGEMENTS
0.75% Convertible Senior Notes Due 2016
In July 2011, we issued $632.5 million aggregate principal amount of 0.75% Convertible Senior Notes due 2016 (the “Notes”). The Notes are senior unsecured obligations which pay interest semiannually in arrears at a rate of 0.75 percent per annum on January 15 and July 15 of each year, beginning on January 15, 2012 and will mature on July 15, 2016, unless earlier purchased or converted in accordance with their terms prior to such date. The Notes are senior in right of payment to any unsecured indebtedness that is expressly subordinated in right of payment to the Notes.

The Notes are convertible into cash and shares of our common stock based on an initial conversion value of 31.5075 shares of our common stock per $1,000 principal amount of Notes (equivalent to an initial conversion price of approximately $31.74 per share). Upon conversion of the Notes, holders will receive cash up to the principal amount of each Note, and any excess conversion value will be delivered in shares of our common stock. Prior to April 15, 2016, the Notes are convertible only if (1) the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending on the last trading day of the immediately preceding fiscal quarter is greater than or equal to 130 percent of the conversion price ($41.26 per share) on each applicable trading day; (2) during the five business day period after any ten consecutive trading day period in which the trading price per $1,000 principal amount of notes falls below 98 percent of the last reported sale price of our common stock multiplied by the conversion rate on each trading day; or (3) specified corporate transactions, including a change in control, occur. On or after April 15, 2016, a holder may convert any of its Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date. The conversion rate is subject to customary anti-dilution adjustments (for example, certain dividend distributions or tender or exchange offer of our common stock), but will not be adjusted for any accrued and unpaid interest. The Notes are not redeemable prior to maturity except for specified corporate transactions and events of default, and no sinking fund is provided for the Notes. The Notes do not contain any financial covenants.
We separately account for the liability and equity components of the Notes. The carrying amount of the equity component representing the conversion option is equal to the fair value of the Convertible Note Hedge, as described below, which is a substantially identical instrument and was purchased on the same day as the Notes. The carrying amount of the liability component was determined by deducting the fair value of the equity component from the par value of the Notes as a whole, and represents the fair value of a similar liability that does not have an associated convertible feature. A liability of $525 million as of the date of issuance was recognized for the principal amount of the Notes representing the present value of the Notes’ cash

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flows using a discount rate of 4.54 percent. The excess of the principal amount of the liability component over its carrying amount is amortized to interest expense over the term of the Notes using the effective interest method. The equity component is not remeasured as long as it continues to meet the conditions for equity classification.
In accounting for $15 million of issuance costs related to the Notes issuance, we allocated $13 million to the liability component and $2 million to the equity component. Debt issuance costs attributable to the liability component are being amortized to interest expense over the term of the Notes, and issuance costs attributable to the equity component were netted with the equity component in additional paid-in capital.
The carrying values of the liability and equity components of the Notes are reflected in our Condensed Consolidated Balance Sheet as follows (in millions): 
  
As of
December 31, 2013
 
As of
March 31, 2013
Principal amount of Notes
$
633

 
$
633

Unamortized discount of the liability component
(58
)
 
(74
)
Net carrying amount of Notes
$
575

 
$
559

Equity component, net
$
105

 
$
105


As of December 31, 2013, the remaining life of the Notes is approximately 2.5 years.
Convertible Note Hedge and Warrants Issuance
In addition, in July 2011, we entered into privately negotiated convertible note hedge transactions (the “Convertible Note Hedge”) with certain counterparties to reduce the potential dilution with respect to our common stock upon conversion of the Notes. The Convertible Note Hedge, subject to customary anti-dilution adjustments, provides us with the option to acquire, on a net settlement basis, approximately 19.9 million shares of our common stock at a strike price of $31.74, which corresponds to the conversion price of the Notes and is equal to the number of shares of our common stock that notionally underlie the Notes. As of December 31, 2013, we have not purchased any shares under the Convertible Note Hedge. We paid $107 million for the Convertible Note Hedge, which was recorded as an equity transaction.
Separately, in July 2011 we also entered into privately negotiated warrant transactions with the certain counterparties whereby we sold to independent third parties warrants (the “Warrants”) to acquire, subject to customary anti-dilution adjustments that are substantially the same as the anti-dilution provisions contained in the Notes, up to 19.9 million shares of our common stock (which is also equal to the number of shares of our common stock that notionally underlie the Notes), with a strike price of $41.14. The Warrants could have a dilutive effect with respect to our common stock to the extent that the market price per share of our common stock exceeds $41.14 on or prior to the expiration date of the Warrants. We received proceeds of $65 million from the sale of the Warrants.
Credit Facility
On August 30, 2012, we entered into a $500 million senior unsecured revolving credit facility with a syndicate of banks. The credit facility terminates on February 29, 2016 and contains an option to arrange with existing lenders and/or new lenders for them to provide up to an aggregate of $250 million in additional commitments for revolving loans. Proceeds of loans made under the credit facility may be used for general corporate purposes.

The loans bear interest, at our option, at the base rate plus an applicable spread or an adjusted LIBOR rate plus an applicable spread, in each case with such spread being determined based on our consolidated leverage ratio for the preceding fiscal quarter. We are also obligated to pay other customary fees for a credit facility of this size and type. Interest is due and payable in arrears quarterly for loans bearing interest at the base rate and at the end of an interest period (or at each three month interval in the case of loans with interest periods greater than three months) in the case of loans bearing interest at the adjusted LIBOR rate. Principal, together with all accrued and unpaid interest, is due and payable on February 29, 2016.

The credit agreement contains customary affirmative and negative covenants, including covenants that limit or restrict our ability to, among other things, incur subsidiary indebtedness, grant liens, dispose of all or substantially all assets and pay dividends or make distributions, in each case subject to customary exceptions for a credit facility of this size and type. We are also required to maintain compliance with a capitalization ratio and maintain a minimum level of total liquidity and a minimum level of domestic liquidity.


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The credit agreement contains customary events of default, including among others, non-payment defaults, covenant defaults, bankruptcy and insolvency defaults and a change of control default, in each case, subject to customary exceptions for a credit facility of this size and type. The occurrence of an event of default could result in the acceleration of the obligations under the credit agreement, an obligation by any guarantors to repay the obligations in full and an increase in the applicable interest rate.

As of December 31, 2013, no amounts were outstanding under the credit facility. During the three months ended September 30, 2012, we paid $2 million of debt issuance costs in connection with obtaining this credit facility. These costs are deferred and are being amortized to interest expense over the 3.5 years term of the credit facility.   

The following table summarizes our interest expense recognized for the three and nine months ended December 31, 2013 and 2012 that is included in interest and other income (expense), net on our Condensed Consolidated Statements of Operations (in millions): 
 
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
 
2013
 
2012
 
2013
 
2012
Amortization of debt discount
$
6

 
$
5

 
$
16

 
$
15

Amortization of debt issuance costs
1

 

 
3

 
2

Coupon interest expense
1

 
1

 
3

 
3

Other interest expense

 
1

 
1

 
1

Total interest expense
$
8

 
$
7

 
$
23

 
$
21


(13) COMMITMENTS AND CONTINGENCIES
Lease Commitments
As of December 31, 2013, we leased certain facilities, furniture and equipment under non-cancelable operating lease agreements. We were required to pay property taxes, insurance and normal maintenance costs for certain of these facilities and any increases over the base year of these expenses on the remainder of our facilities.
Development, Celebrity, League and Content Licenses: Payments and Commitments
The products we produce in our studios are designed and created by our employee designers, artists, software programmers and by non-employee software developers (“independent artists” or “third-party developers”). We typically advance development funds to the independent artists and third-party developers during development of our games, usually in installment payments made upon the completion of specified development milestones. Contractually, these payments are generally considered advances against subsequent royalties on the sales of the products. These terms are set forth in written agreements entered into with the independent artists and third-party developers.
In addition, we have certain celebrity, league and content license contracts that contain minimum guarantee payments and marketing commitments that may not be dependent on any deliverables. Celebrities and organizations with whom we have contracts include, but are not limited to: FIFA (Fédération Internationale de Football Association), FIFPRO Foundation, FAPL (Football Association Premier League Limited), and DFL Deutsche Fußball Liga GmbH (German Soccer League) (professional soccer); Dr. Ing. h.c. F. Porsche AG, Ferrari S.p.A. (Need For Speed and Real Racing games); National Basketball Association (professional basketball); PGA TOUR (professional golf); National Hockey League and NHL Players’ Association (professional hockey); National Football League Properties, PLAYERS Inc., and Red Bear Inc. (professional football); Collegiate Licensing Company (collegiate football); Zuffa, LLC (Ultimate Fighting Championship); ESPN (content in EA SPORTS games); Hasbro, Inc. (certain of Hasbro’s board game intellectual properties); Disney Interactive (Star Wars); and Fox Digital Entertainment, Inc. (The Simpsons). These developer and content license commitments represent the sum of (1) the cash payments due under non-royalty-bearing licenses and services agreements and (2) the minimum guaranteed payments and advances against royalties due under royalty-bearing licenses and services agreements, the majority of which are conditional upon performance by the counterparty. These minimum guarantee payments and any related marketing commitments are included in the table below.


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The following table summarizes our minimum contractual obligations as of December 31, 2013 (in millions): 
 
 
 
Fiscal Year Ending March 31,
 
 
 
2014
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Remaining
 
 
 
 
 
 
 
 
 
 
 
 
 
Total
 
three mos.)
 
2015
 
2016
 
2017
 
2018
 
2019
 
Thereafter
Unrecognized commitments
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Developer/licensor commitments
$
1,147

 
$
6

 
$
174

 
$
273

 
$
102

 
$
93

 
$
62

 
$
437

Marketing commitments
180

 
5

 
35

 
35

 
20

 
20

 
21

 
44

Operating leases
157

 
12

 
46

 
37

 
22

 
17

 
13

 
10

0.75% Convertible Senior Notes due 2016 interest (a)
14

 
2

 
5

 
5

 
2

 

 

 

Other purchase obligations
25

 
11

 
11

 
3

 

 

 

 

Total unrecognized commitments
1,523

 
36

 
271

 
353

 
146

 
130

 
96

 
491

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Recognized commitments
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
0.75% Convertible Senior Notes due 2016 principal (a)
633

 

 

 

 
633

 

 

 

Licensing and lease obligations (b)
61

 
1

 
13

 
12

 
33

 
1

 
1

 

Total recognized commitments
694

 
1

 
13

 
12

 
666

 
1

 
1

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total commitments
$
2,217

 
$
37

 
$
284

 
$
365

 
$
812

 
$
131

 
$
97

 
$
491

(a)
Included in the $14 million coupon interest on the 0.75% Convertible Senior Notes due 2016 is $2 million of accrued interest recognized as of December 31, 2013. We will be obligated to pay the $632.5 million principal amount of the 0.75% Convertible Senior Notes due 2016 in cash and any excess conversion value in shares of our common stock upon redemption of the Notes at maturity on July 15, 2016 or upon earlier redemption. The $632.5 million principal amount excludes $58 million of unamortized discount of the liability component. See Note 12 for additional information regarding our 0.75% Convertible Senior Notes due 2016.
(b)
See Note 8 for additional information regarding recognized commitments resulting from our restructuring plans. Lease commitments have not been reduced for approximately $6 million due in the future from third parties under non-cancelable sub-leases.
The unrecognized amounts represented in the table above reflect our minimum cash obligations for the respective fiscal years, but do not necessarily represent the periods in which they will be recognized and expensed in our Condensed Consolidated Financial Statements. In addition, the amounts in the table above are presented based on the dates the amounts are contractually due as of December 31, 2013; however, certain payment obligations may be accelerated depending on the performance of our operating results.
In addition to what is included in the table above, as of December 31, 2013, we had a liability for unrecognized tax benefits and an accrual for the payment of related interest totaling $265 million, of which we are unable to make a reasonably reliable estimate of when cash settlement with a taxing authority will occur.
Subsequent to December 31, 2013, we entered into various licensor, sponsorship and development agreements with third parties, which contingently commits us to pay an additional approximately $100 million at various dates through fiscal year 2019.
Also, in addition to what is included in the table above as of December 31, 2013, in connection with our KlickNation and Chillingo acquisitions, we may be required to pay an additional $10 million of cash consideration based upon the achievement of certain performance milestones through March 31, 2015. As of December 31, 2013, we have accrued $2 million of contingent consideration on our Condensed Consolidated Balance Sheet representing the estimated fair value of the contingent consideration.
Legal Proceedings
In March 2011, Robin Antonick filed a complaint in the United States District Court for the Northern District of California, alleging that he wrote the source code for the original John Madden Football game published by EA in 1988 and that EA used certain parts of that source code in later editions in the Madden franchise without compensating him. On July 23, 2013, a jury

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found in favor of Mr. Antonick with respect to John Madden Football games released on the Sega Genesis platform between 1990 and 1996. Mr. Antonick seeks compensatory damages for those games in the amount of approximately $3.5 million, plus an additional $8 million in prejudgment interest. On January 22, 2014, the district court overturned the jury’s verdict and entered judgment in the case in favor of EA as a matter of law. Mr. Antonick has the right to appeal.
We are a defendant in several actions that allege we misappropriated the likenesses of various college athletes in certain of our college-themed sports games.
We are defending a putative class action lawsuit brought by Ryan Hart, a former college football player, in the United States District Court for the District of New Jersey in June 2009, which alleges that we misappropriated his likeness in our college-themed football game. The complaint seeks actual damages and other unspecified damages, which have not been quantified. In September 2011, the district court granted our motion to dismiss the complaint. On May 21, 2013, the Third Circuit Court of Appeal reversed the district court's decision and remanded the case back to the district court.
The In re NCAA Student-Athlete Name & Likeness Licensing litigation pending in the United States District Court for the Northern District of California involves two groups of common claims brought by several different former collegiate student-athletes in 2009. These various actions were consolidated into one action in February 2010. The first group of claims is a class action against us, the NCAA and the Collegiate Licensing Company (CLC) alleging that our college-themed video games misappropriated the likenesses of collegiate student-athletes without their authorization. This group of claims seeks actual damages, statutory damages and other unspecified damages, which have not been quantified. On July 31, 2013, the Ninth Circuit Court of Appeals affirmed the trial court’s denial of our motion to strike the complaint. The second group of claims is a federal antitrust class action against us, the NCAA and the CLC that challenges NCAA/CLC licensing practices and the NCAA By-Laws and regulations. This group of claims seeks unspecified damages, which have not been quantified.
In September 2013, we reached an agreement to settle all actions brought by college athletes. We and counsel for plaintiffs are in the process of preparing a written settlement agreement and other documents to present to the respective courts for approval of the settlement. We recognized a $30 million accrual during the second quarter of fiscal 2014 associated with the anticipated settlement. On November 4, 2013, the NCAA filed a complaint against the Company and CLC in the Superior Court of Fulton County, Georgia. The complaint seeks unspecified damages and alleges that the Company is contractually obligated to defend and indemnify the NCAA against claims asserted in In re NCAA Student-Athlete Name & Likeness Licensing concerning the alleged misappropriation of student-athletes’ publicity rights in EA’s collegiate video games. We have not yet responded to the NCAA’s complaint.
On December 17, 2013, a purported shareholder class action lawsuit was filed in the United States District Court for the Northern District of California against the Company and certain of its officers by an individual purporting to represent a class of purchasers of EA common stock. A second purported shareholder class action lawsuit alleging substantially similar claims was subsequently filed in the same court. The Company anticipates consolidation of these lawsuits. The lawsuits, which assert claims under Section 10(b) and 20(a) of the Securities Exchange Act of 1934, allege, among other things, that the Company and certain of its officers issued materially false and misleading statements regarding the rollout of the Company’s Battlefield 4 game. The lawsuits seek unspecified damages, which have not been quantified. We have not yet responded to the complaints.
We are also subject to claims and litigation arising in the ordinary course of business. We do not believe that any liability from any reasonably foreseeable disposition of such claims and litigation, individually or in the aggregate, would have a material adverse effect on our Condensed Consolidated Financial Statements.

(14) STOCK-BASED COMPENSATION
Valuation Assumptions
We are required to estimate the fair value of share-based payment awards on the date of grant. We recognize compensation costs for stock-based payment awards to employees based on the grant-date fair value using a straight-line approach over the service period for which such awards are expected to vest.

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We determine the fair value of our share-based payment awards as follows:

Restricted Stock Units, Restricted Stock, and Performance-Based Restricted Stock Units. The fair value of restricted stock units, restricted stock, and performance-based restricted stock units (other than market-based restricted stock units) is determined based on the quoted market price of our common stock on the date of grant. Performance-based restricted stock units include grants made (1) to certain members of executive management primarily granted in fiscal year 2009 and (2) in connection with certain acquisitions.

Market-Based Restricted Stock Units. Market-based restricted stock units consist of grants of performance-based restricted stock units to certain members of executive management that vest contingent upon the achievement of pre-determined market and service conditions (referred to herein as “market-based restricted stock units”). The fair value of our market-based restricted stock units is determined using a Monte-Carlo simulation model. Key assumptions for the Monte-Carlo simulation model are the risk-free interest rate, expected volatility, expected dividends and correlation coefficient.

Stock Options and Employee Stock Purchase Plan. The fair value of stock options and stock purchase rights granted pursuant to our equity incentive plans and our 2000 Employee Stock Purchase Plan (“ESPP”), respectively, is determined using the Black-Scholes valuation model based on the multiple-award valuation method. Key assumptions of the Black-Scholes valuation model are the risk-free interest rate, expected volatility, expected term and expected dividends.
The determination of the fair value of market-based restricted stock units, stock options and ESPP is affected by assumptions regarding subjective and complex variables. Generally, our assumptions are based on historical information and judgment is required to determine if historical trends may be indicators of future outcomes.
The estimated assumptions used in the Black-Scholes valuation model to value our stock option grants and ESPP were as follows:
 
Stock Option Grants
 
ESPP
 
Three Months Ended
December 31,
 
Nine Months Ended
December 31,
 
Nine Months Ended
December 31,
 
2013
 
2012
 
2013
 
2012
 
2013
 
2012
Risk-free interest rate
1.6%

 
0.4 - 1.0%

 
1.6%

 
0.4 - 1.0%

 
0.1
%
&#