Rosetta Stone Inc. Reports Second Quarter 2012 Results

“Rosetta Stone” is a registered trademark or trademark of Rosetta Stone Ltd. in the United States and other countries.

Cautionary Statement Regarding Forward-Looking Statements

Certain statements in this press release are forward-looking statements, including our guidance for future financial performance and operating targets, and our long-term growth prospects. In this context, forward-looking statements often address our expected future business and financial performance, and often contain words such as “project,” “believe,” “plan,” “expect,” “anticipate,” “estimate,” “intend,” “should,” “would,” “could,” “potentially,” “seek,” “may,” “likely,” “will,” “financial outlook,” “strategy,” or “continue.” These forward-looking statements reflect the company's current views with respect to future events and are subject to certain risks, uncertainties, and assumptions. A number of important factors could cause actual results or events to differ materially from those indicated by such forward-looking statements, including demand for language learning software; the advantages of our products, services, technology, brand and business model as compared to others; our strategic focus; our ability to maintain effective internal controls or to remediate material weaknesses; our cash needs and expectations regarding cash flow from operations; our product development plans; the appeal and efficacy of our products; our expectations regarding capturing lifetime value and a broader range of market segments through such offerings; our plans regarding expansion of our marketing initiatives and sales force; our international expansion and growth plans; our plans regarding our kiosks and retail relationships; our plans regarding our Institutional business; the impact of any revisions to our pricing strategy; our ability to manage and grow our business and execute our business strategy; our financial performance; our actions to stabilize our business in the U.S. consumer market including realigning our cost structure and revitalizing our go-to-market strategy; our plans to transition our distribution to more online in the consumer space; adverse trends in general economic conditions and the other factors described more fully in the company's filings with the U.S. Securities and Exchange Commission (SEC), including the company’s annual report on Form 10-K for the fiscal year ended December 31, 2011, which is on file with the SEC. The company assumes no obligation to update the information in this communication, except as otherwise required by law. Readers are cautioned not to place undue reliance on these forward-looking statements that speak only as of the date hereof.

ROSETTA STONE INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)
		Three Months Ended								Six Months Ended
		June 30,								June 30,
			2012				2011				2012				2011
Revenue:
Product		$	37,543			$	48,055			$	85,073			$	90,358
Subscription and service			23,269				18,688				45,188				33,362
Total revenue			60,812				66,743				130,261				123,720
Cost of revenue:
Cost of product revenue			7,122				8,773				16,229				17,568
Cost of subscription and service revenue			4,198				2,747				8,565				5,414
Total cost of revenue			11,320				11,520				24,794				22,982
Gross profit			49,492				55,223				105,467				100,738
Operating expenses
Sales and marketing			35,125				40,535				73,529				78,354
Research and development			6,493				6,354				12,766				12,838
General and administrative			12,919				13,809				26,576				28,617
Total operating expenses			54,537				60,698				112,871				119,809
Loss from operations			(5,045	)			(5,475	)			(7,404	)			(19,071	)
Other income and (expense):
Interest income			21				83				99				162
Interest expense			-				(2	)			-				(4	)
Other income (expense)			320				47				(44	)			49
Total other income (expense)			341				128				55				207
Loss before income taxes			(4,704	)			(5,347	)			(7,349	)			(18,864	)
Income tax benefit			(160	)			(797	)			(902	)			(5,033	)
Net loss		$	(4,544	)		$	(4,550	)		$	(6,447	)		$	(13,831	)
Net loss per share:
Basic		$	(0.22	)		$	(0.22	)		$	(0.31	)		$	(0.67	)
Diluted		$	(0.22	)		$	(0.22	)		$	(0.31	)		$	(0.67	)
Common shares and equivalents outstanding:
Basic weighted average shares			20,995				20,716				20,969				20,695
Diluted weighted average shares			20,995				20,716				20,969				20,695

ROSETTA STONE INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share amounts)
(unaudited)
		June 30,			December 31,
		2012			2011
Assets
Current assets:
Cash and cash equivalents		$	118,774		$	106,516
Restricted cash			46			74
Short term investments			1,600			9,711
Accounts receivable (net of allowance for doubtful accounts of $1,043 and $1,951, respectively)			35,088			51,997
Inventory			6,238			6,723
Prepaid expenses and other current assets			6,425			7,081
Income tax receivable			10,151			7,678
Deferred income taxes			12,169			10,985
Total current assets			190,491			200,765
Property and equipment, net			17,936			20,869
Goodwill			34,849			34,841
Intangible assets, net			10,845			10,865
Deferred income taxes			7,913			8,038
Other assets			2,840			1,803
Total assets		$	264,874		$	277,181
Liabilities and stockholders' equity
Current liabilities:
Accounts payable		$	4,434		$	7,291
Accrued compensation			13,467			11,703
Other current liabilities			26,971			34,911
Deferred revenue			46,012			49,375
Total current liabilities			90,884			103,280
Deferred revenue			3,931			2,520
Other long-term liabilities			1,826			176
Total liabilities			96,641			105,976
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.001 par value; 10,000 and 10,000 authorized; zero and zero shares issued and outstanding June 30, 2012 and December 31, 2011			-			-
Non-designated common stock, $0.00005 par value, 190,000 and 190,000 shares authorized, 21,776 and 21,258 shares issued and outstanding at June 30, 2012 and December 31, 2011, respectively			2			2
Additional paid-in capital			155,305			151,823
Accumulated income			12,635			19,082
Accumulated other comprehensive income			291			298
Total stockholders' equity			168,233			171,205
Total liabilities and stockholders' equity		$	264,874		$	277,181

ROSETTA STONE INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
		Three Months Ended								Six Months Ended
		June 30,								June 30,
			2012				2011				2012				2011
Cash Flows From Operating Activities:
Net loss			(4,544	)			(4,550	)			(6,447	)			(13,831	)
Adjustments to reconcile net loss to cash provided by (used in) operating activities,
net of business acquisitions
Stock-based compensation expense			2,096				1,704				3,731				3,141
Bad debt expense			431				92				596				308
Depreciation and amortization			2,046				2,141				4,482				4,255
Deferred income tax benefit			158				5,941				(1,156	)			2,964
Loss on sales of equipment			348				1				380				16
Net change in:
Restricted cash			5				(5	)			28				23
Accounts receivable			(1,261	)			(10,332	)			16,314				7,987
Inventory			1,189				652				480				240
Prepaid expenses and other current assets			146				485				649				551
Income tax receivable			(1,504	)			(6,237	)			(2,740	)			(8,241	)
Other assets			144				(1,253	)			(1,065	)			(1,316	)
Accounts payable			(2,281	)			3,770				(2,868	)			2,757
Accrued compensation			3,850				3,264				1,774				397
Other current liabilities			207				1,476				(7,813	)			357
Excess tax benefit from stock options exercised			(18	)			(13	)			(18	)			(31	)
Other long-term liabilities			9				(6	)			1,596				(12	)
Deferred revenue			2,391				(69	)			(1,855	)			(1,572	)
Net cash provided by (used in) operating activities			3,412				(2,939	)			6,068				(2,007	)
Cash Flows From Investing Activities:
Purchases of property and equipment			(1,031	)			(2,814	)			(1,998	)			(5,465	)
Proceeds from (purchases of) available-for-sale securities			4,805				(99	)			8,112				(1,906	)
Acquisition, net of cash acquired			-				-				-				(75	)
Net cash provided by (used in) investing activities			3,774				(2,913	)			6,114				(7,446	)
Cash Flows From Financing Activities:
Proceeds from the exercise of stock options			-				40				-				80
Tax benefit of stock options exercised			18				13				18				31
Payments under capital lease obligations			(1	)			(2	)			(3	)			(5	)
Net cash provided by financing activities			17				51				15				106
Increase (decrease) in cash and cash equivalents			7,203				(5,801	)			12,197				(9,347	)
Effect of exchange rate changes in cash and cash equivalents			(502	)			76				61				405
Net increase (decrease) in cash and cash equivalents			6,701				(5,725	)			12,258				(8,942	)
Cash and cash equivalents—beginning of period			112,073				112,539				106,516				115,756
Cash and cash equivalents—end of period		$	118,774			$	106,814			$	118,774			$	106,814

ROSETTA STONE INC.
Reconciliation of Net Loss to Adjusted EBITDA
(in thousands)
(unaudited)
		Three Months Ended								Six Months Ended
		June 30,								June 30,
			2012				2011				2012				2011
Net loss		$	(4,544	)		$	(4,550	)		$	(6,447	)		$	(13,831	)
Interest (income)/expense, net			(21	)			(81	)			(99	)			(158	)
Income tax benefit			(160	)			(797	)			(902	)			(5,033	)
Depreciation and amortization			2,046				2,141				4,482				4,255
Stock-based compensation			2,096				1,704				3,731				3,141
Other EBITDA Adjustments			1,706				254				2,093				254
Adjusted EBITDA*		$	1,123			$	(1,329	)		$	2,858			$	(11,372	)

*Adjusted EBITDA equals GAAP net income or loss plus interest expense, income tax expense, depreciation, amortization, stock-based compensation expenses, restructuring costs and any expenses related to the previously disclosed lawsuit against Google, Inc.

Prior period Adjusted EBITDA has been conformed to current definition.

ROSETTA STONE INC.
Reconciliation of Previously Reported Adjusted EBITDA to Current Presentation
(in thousands)
(unaudited)
		Quarter Ended																				Quarter Ended
			3/31/2011				6/30/2011				9/30/2011				12/31/2011				2011				3/31/2012
Net loss		$	(9,281	)		$	(4,550	)		$	(1,177	)		$	(4,979	)		$	(19,987	)		$	(1,903	)
Interest (income)/expense, net			(77	)			(81	)			(61	)			(78	)			(297	)			(78	)
Income tax (benefit) expense			(4,236	)			(797	)			(4,762	)			1,814				(7,981	)			(742	)
Depreciation and amortization			2,114				2,141				2,184				2,285				8,724				2,436
Stock-based compensation			1,437				1,704				1,836				7,376				12,353				1,635
Previously Reported Adjusted EBITDA		$	(10,043	)		$	(1,583	)		$	(1,980	)		$	6,418			$	(7,188	)		$	1,348
Other EBITDA Adjustments			-				254				189				655				1,098				387
Revised Adjusted EBITDA*		$	(10,043	)		$	(1,329	)		$	(1,791	)		$	7,073			$	(6,090	)		$	1,735

*Adjusted EBITDA equals GAAP net income or loss plus interest expense, income tax expense, depreciation, amortization, stock-based compensation expenses, restructuring costs and any expenses related to the previously disclosed lawsuit against Google, Inc.

Prior period Adjusted EBITDA has been conformed to current definition.

ROSETTA STONE INC.
Reconciliation of Net Loss to Non-GAAP Net Loss
(in thousands, except per share amounts)
(unaudited)
		Three Months Ended								Six Months Ended
		June 30,								June 30,
			2012				2011				2012				2011
Net loss		$	(4,544	)		$	(4,550	)		$	(6,447	)		$	(13,831	)
Stock-based compensation, net of tax (1)			1,310				1,065				2,332				1,963
Amortization of intangibles, net of tax (1)			6				15				13				29
Non-GAAP net loss		$	(3,228	)		$	(3,470	)		$	(4,102	)		$	(11,839	)
Non-GAAP net loss per share:
Basic		$	(0.15	)		$	(0.17	)		$	(0.20	)		$	(0.57	)
Diluted		$	(0.15	)		$	(0.17	)		$	(0.20	)		$	(0.57	)
Common shares and equivalents outstanding:
Basic weighted average shares			20,995				20,716				20,969				20,695
Diluted weighted average shares			20,995				20,716				20,969				20,695
(1) Non-GAAP tax rate of 37.5%

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