XNAS:ZIPR Quarterly Report 10-Q Filing - 6/30/2012

Effective Date 6/30/2012

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark one)

  x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2012

 

OR

 

  ¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission file number: 000-51002

 

ZIPREALTY, INC.

(Exact name of registrant as specified in its charter)

 

 

DELAWARE 94-3319956
(State of incorporation) (IRS employer
  identification number)

 

2000 POWELL STREET, SUITE 300  
EMERYVILLE, CA 94608
(Address of principal executive offices) (Zip Code)

 

(510) 735-2600

(Registrant’s telephone number)

 

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  x    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  x    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 “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer ¨ Accelerated filer ¨ Non-accelerated filer ¨ Smaller reporting company x
    (Do not check if  
    a 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 x

 

We had 20,637,304 shares of common stock outstanding at July 30, 2012.

 

 
 

 

TABLE OF CONTENTS

  

    Page 
   
PART I — FINANCIAL INFORMATION 4
     
Item 1. Unaudited Condensed Consolidated Financial Statements 4
     
  Unaudited Condensed Consolidated Balance Sheets as of June 30, 2012 and December 31, 2011 4
     
  Unaudited Condensed Consolidated Statements of Operations and Comprehensive Income for the Three and Six Months Ended June 30, 2012 and 2011 5
     
  Unaudited Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2012 and 2011 6
     
  Notes to Unaudited Condensed Consolidated Financial Statements 7
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 15
     
Item 3. Quantitative and Qualitative Disclosures About Market Risk 32
     
Item 4. Controls and Procedures 32
   
PART II — OTHER INFORMATION  
     
Item 1. Legal Proceedings 33
     
Item 1A. Risk Factors 34
     
Item 5. Other Information 34
     
Item 6. Exhibits 34
   
SIGNATURE 35
   
EXHIBIT INDEX 36

   

2
 

 

Statement regarding forward-looking statements

 

This report includes forward-looking statements. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. All statements other than statements of historical facts contained in this report, including statements regarding our future financial position, business strategy and operations, and plans and objectives of management are forward-looking statements. The words “believe,” “may,” “will likely,” “should,” “could,” “estimate,” “continue,” “anticipate,” “intend,” “aim,” “expect,” “plan,” “potential,” “predict,” “project,” “designed,” “provides,” “facilitates,” “assists,” “helps” and similar expressions, as they relate to us, are intended to identify forward-looking statements. Forward-looking statements contained in this report include, but are not limited to, statements relating to:

 

•     trends in the residential real estate market, the market for mortgages, and the general economy;

 

•     our future financial results;

 

•     our future growth;

 

•     our future advertising and marketing activities; and

 

•     our future investment in technology.

 

We have based these forward-looking statements principally on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. No forward-looking statement is a guarantee of future performance and you should not place undue reliance on any forward-looking statement.

 

These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in “Risk Factors” in Item 1A of Part I of our annual report on Form 10-K for our fiscal year ended December 31, 2011, as such disclosure may be revised under “Risk Factors” in Item 1A of Part II of this report. Readers should carefully review such cautionary statements as they identify certain important factors that could cause actual results to differ materially from those in the forward-looking statements and from historical trends. Those cautionary statements are not exclusive and are in addition to other factors discussed elsewhere in this report or in materials incorporated herein by reference.

 

In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this report may not occur and actual results could differ materially from those anticipated or implied in the forward-looking statements. Except as otherwise required by law, we do not intend to update or revise any forward-looking statement contained in this report.

 

Trademarks

 

“ZipRealty” is one of our registered trademarks in the United States. We also own the rights to the domain name “www.Real-Estate.com.” “REALTOR” and “REALTORS” are registered trademarks of the National Association of REALTORS®. All other trademarks, trade names and service marks appearing in this report are the property of their respective owners.

 

Internet site

 

Our Internet address is www.ziprealty.com. We make publicly available free of charge on our Internet website our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission. Information contained on our website is not a part of this report.

 

Where you can find additional information

 

You may review a copy of this report, including exhibits and any schedule filed therewith, and obtain copies of such materials at prescribed rates, at the Securities and Exchange Commission’s Public Reference at Room 100 F Street NE, Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the Securities and Exchange Commission at 1-800-SEC-0330. The Securities and Exchange Commission maintains a website (http://www.sec.gov) that contains reports, proxy and information statements and other information regarding registrants, such as ZipRealty, that file electronically with the Securities and Exchange Commission.

  

3
 

 

PART I — FINANCIAL INFORMATION

 

Item 1. Unaudited Condensed Consolidated Financial Statements:

 

ZIPREALTY, INC.

 

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except per share amounts)

 

   June 30,
2012
   December 31,
2011
 
Assets          
Current assets          
Cash and cash equivalents  $13,373   $12,634 
Short-term investments   5,719    9,501 
Accounts receivable, net of allowance of $28 and $35, respectively   1,617    1,209 
Prepaid expenses and other current assets   1,656    2,002 
Total current assets   22,365    25,346 
Restricted cash   500    500 
Property and equipment, net   2,265    2,211 
Other assets   223    239 
Total assets  $25,353   $28,296 
           
Liabilities and Stockholders’ Equity          
Current liabilities          
Accounts payable  $825   $1,096 
Accrued expenses and other current liabilities   3,794    4,337 
Accrued restructuring charges, current portion   392    250 
Total current liabilities   5,011    5,683 
Other long-term liabilities   645    781 
Total liabilities   5,656    6,464 
           
Commitments and contingencies (Note 6)          
Stockholders’ equity          
Common stock: $0.001 par value; 100,000 shares authorized; 24,247 and 24,167 shares issued and 20,637 and 20,565 shares outstanding, respectively   24    24 
Additional paid-in capital   158,693    158,080 
Accumulated other comprehensive income (loss)       (3)
Accumulated deficit   (121,400)   (118,656)
Treasury stock at cost: 3,610 and 3,602 shares, respectively   (17,620)   (17,613)
Total stockholders’ equity   19,697    21,832 
Total liabilities and stockholders’ equity  $25,353   $28,296 

 

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

 

4
 

 

ZIPREALTY, INC.

 

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

(In thousands, except per share amounts)

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
                 
Net revenues  $20,288   $23,575   $36,361   $43,320 
Operating costs and expenses                    
Cost of revenues   11,098    12,597    19,435    23,305 
Product development   1,693    2,234    3,494    4,434 
Sales and marketing   5,026    7,281    10.858    15,436 
General and administrative   2,067    2,450    4,173    4,807 
Restructuring charges, net   95        1,157    2,264 
Total operating costs and expenses   19,979    24,562    39,117    50,246 
Income (loss) from operations   309    (987)   (2,756)   (6,926)
Interest income   5    15    13    43 
Income (loss) before income taxes   314    (972)   (2,743)   (6,883)
Provision for (benefit from) income taxes                
Net income (loss)  $314   $(972)  $(2,743)  $(6,883)
Net income (loss) per share:                    
Basic  $0.02   $(0.05)  $(0.13)  $(0.34)
Diluted  $0.02   $(0.05)  $(0.13)  $(0.34)
Weighted average common shares outstanding:                    
Basic   20,650    20,549    20,619    20,530 
Diluted   20,663    20,549    20,619    20,530 

 

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
Comprehensive income:                    
Net income (loss)  $314   $(972)  $(2,743)  $(6,883)
Change in accumulated unrealized gain (loss) on available-for-sale securities, net of tax        (7)   3    (14)
Comprehensive income (loss)  $314   $(979)  $(2,740)  $(6,897)

 

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

 

5
 

 

ZIPREALTY, INC.

 

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

   Six Months Ended
June 30,
 
   2012   2011 
Cash flows from operating activities          
Net loss  $(2,743)  $(6,883)
Adjustments to reconcile net loss to net cash used in operating activities          
Depreciation and amortization   870    959 
Amortization of intangible assets       14 
Stock-based compensation expense   519    837 
Non-cash restructuring charges   2    54 
Provision for doubtful accounts   (7)   40 
Amortization (accretion) of short-term investment premium (discount)   35    145 
Loss on disposal of property and equipment   4     
Changes in operating assets and liabilities          
Accounts receivable   (401)   (20)
Prepaid expenses and other current assets   346    129 
Other assets   16    (16)
Accounts payable   (271)   (552)
Accrued expenses and other current liabilities   (543)   (2,579)
Accrued restructuring charges, current portion   142    653 
Other long-term liabilities   (136)   (68)
Net cash used in operating activities   (2,167)   (7,287)
           
Cash flows from investing activities          
Purchases of short-term investments       (4,575)
Proceeds from sale or maturity of short-term investments   3,750    18,791 
Purchases of property and equipment   (915)   (839)
Net cash provided by investing activities   2,835    13,377 
           
Cash flows from financing activities          
Proceeds from stock option exercises   79    26 
Acquisition of treasury stock   (8)   (17)
Net cash provided by financing activities   71    9 
Net increase in cash and cash equivalents   739    6,099 
Cash and cash equivalents at beginning of period   12,634    13,393 
Cash and cash equivalents at end of period  $13,373   $19,492 

 

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

 

6
 

 

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

1. BACKGROUND AND BASIS OF PRESENTATION

 

The accompanying unaudited interim condensed consolidated financial statements as of June 30, 2012 and 2011 and for the six months then ended have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by Generally Accepted Accounting Principles (“GAAP”) for annual financial statements. In the opinion of the Company’s management, the unaudited interim condensed consolidated financial statements have been prepared on the same basis as the audited financial statements, and include all adjustments, consisting only of normal recurring adjustments, necessary for the fair presentation of the Company’s financial position for the periods presented. The results for the three and six months ended June 30, 2012 are not necessarily indicative of the results to be expected for the year ending December 31, 2012, or any other period. The unaudited condensed consolidated balance sheet at December 31, 2011 has been derived from the audited consolidated balance sheet at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. These financial statements and notes should be read in conjunction with the audited financial statements and notes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2011.

 

Principles of consolidation

 

The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries and reflect the elimination of intercompany accounts and transactions.

 

Seasonality

 

The Company’s net transaction revenues and income (loss) from operations have historically varied from quarter to quarter. Such variations are principally attributable to variations in home sales activity over the course of the calendar year. The Company has historically experienced lower net transaction revenues during the first quarter because holidays and adverse weather conditions in certain regions typically reduce the level of sales activity and listings inventories between the Thanksgiving and Presidents’ Day holidays. The Company’s historical quarterly operations have been additionally impacted in recent years as a result of economic conditions and government programs that altered home buyer behavior. Net transaction revenues during the three months ended June 30, 2011 and 2010 accounted for approximately 27.8% and 32.0% of annual net transaction revenues in 2011 and 2010, respectively. Net transaction revenues during the six months ended June 30, 2011 and 2010 accounted for approximately 50.8% and 53.9% of annual net transaction revenues in 2011 and 2010, respectively.

 

 

Reclassifications

 

Certain prior year amounts have been reclassified to conform to the current period’s presentation. Effective for the year ended December 31, 2011, for income statement presentation purposes, amortization of internal-use software and website development costs were reclassified from cost of revenues to product development. Accordingly, $265,000 and $516,000 have been reclassified from cost of revenues to product development for the three months and six months ended June 30, 2011, respectively.

 

Significant accounting policies

 

Revenue recognition

 

The Company derives the majority of its revenue from commissions earned as agents in residential real estate transactions and from commission referrals earned from its network of third-party brokerages. Commission revenue is recognized upon closing of a transaction, net of any rebate or commission discount or transaction fee adjustment. These transactions typically do not have multiple deliverables.

 

Non-commission revenues are derived primarily from marketing agreements with residential mortgage service providers, the sale of online advertising, lead referral fees and other revenues. Marketing service revenues are recognized over the term of the agreements as the contracted services are delivered. Advertising revenues on contracts are recognized as impressions are delivered or as clicks are provided to advertisers. Advertising and marketing contracts may consist of multiple deliverables which generally include a blend of various impressions or clicks as well as other marketing deliverables. Revenues related to revenue sharing arrangements are recognized based on revenue reports received from our partners, provided that collectability is reasonably assured.

  

Revenue is recognized only when the price is fixed or determinable, persuasive evidence an arrangement exists, the service has been delivered and collectability of the resulting receivable is reasonably assured.

 

7
 

 

2. SHORT-TERM INVESTMENTS AND FAIR VALUE MEASUREMENTS

 

Short-term investments

 

At June 30, 2012 and December 31, 2011, short-term investments were classified as available-for-sale securities, except for restricted cash, and were reported at fair value as follows:

   

   June 30, 2012   December 31, 2011 
   Gross
Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair Value
   Gross
Amortized
Cost
   Gross
Unrealized
Gains
   Gross
Unrealized
Losses
   Estimated
Fair Value
 
   (In thousands)   (In thousands) 
Money market funds  $7,931   $   $   $7,931   $10,320   $   $   $10,320 
Certificate of deposits   250            250    250            250 
Corporate obligations   226            226    1,745            1,745 
US Government sponsored obligations   4,843            4,843    4,861        (3)   4,858 
Total  $13,250   $   $   $13,250   $17,176   $   $(3)  $17,173 

 

   June 30,
2012
   December 31,
2011
 
   (In thousands)   (In thousands) 
Recorded as:          
Cash equivalents  $7,531   $7,672 
Short-term investments   5,719    9,501 
Total  $13,250   $17,173 

 

At June 30, 2012 and December 31, 2011, the Company did not have any investments with a significant unrealized loss position. All of the investments at June 30, 2012 mature within one year or less.

 

Fair Value Measurements

 

The Company follows the fair value hierarchy, established by the accounting standard related to fair value measurement, to prioritize the inputs used in valuation techniques. There are three broad levels to the fair value hierarchy of inputs to fair value. Level 1 is the highest priority and Level 3 is the lowest priority and are as follows:

 

  Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
     

 

  Level 2: Quoted prices in markets that are not active; or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability;
     

 

  Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).

 

The Company measures and reports certain financial assets at fair value on a recurring basis, including its investments in money market funds and available-for-sale securities. At June 30, 2012 and December 31, 2011, there were no liabilities within the scope of the accounting standards. The fair values of the Company’s Level 1 financial assets are based on quoted market prices of the identical underlying security. The fair values of the Company’s Level 2 financial assets are obtained from readily-available pricing sources for the identical underlying security that may not be actively traded. The Company utilizes a pricing service to assist in obtaining fair value pricing for the majority of this investment portfolio.

 

8
 

 

At June 30, 2012 and December 31, 2011, our available-for-sale short-term investments, measured at fair value on a recurring basis, by level within the fair value hierarchy were as follows:

 

   June 30, 2012   December 31, 2011 
   Level 1   Level 2   Level 3   Total   Level 1   Level 2   Level 3   Total 
   (In thousands)   (In thousands) 
Money market funds  $7,931   $   $   $7,931   $10,320   $   $   $10,320 
Certificates of deposits       250        250        250        250 
Corporate obligations       226        226        1,745        1,745 
US Government sponsored obligations       4,843        4,843        4,858        4,858 
                                         
Total  $7,931   $5,319   $   $13,250   $10,320   $6,853   $   $17,173 

  

3. NET INCOME (LOSS) PER SHARE

 

The following table sets forth the computation of basic and dilutive net income (loss) per share for the periods indicated:

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
   (In thousands, except per share data) 
Numerator:                    
Net income (loss)  $314   $(972)  $(2,743)  $(6,883)
                     
Denominator:                    
Shares used to compute EPS:                    
Basic   20,650    20,549    20,619    20,530 
Diluted   20,663    20,549    20,619    20,530 
Net income (loss) per share basic and diluted:                    
Basic  $0.02   $(0.05)  $(0.13)  $(0.34)
Diluted  $0.02   $(0.05)  $(0.13)  $(0.34)

 

 

The following weighted-average outstanding options and non-vested common shares were excluded in the computation of diluted net income (loss) per share for the periods presented because including them would be anti-dilutive:

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
   (In thousands) 
Options to purchase common stock       4,541    4,544    4,417 
Nonvested common stock       25        37 
Total       4,566    4,544    4,454 

 

9
 

 

 4. STOCK-BASED COMPENSATION

 

Valuation assumptions and stock-based compensation expense

 

The Company estimates the fair value of stock options on the day of grant using the Black-Scholes option pricing model, which incorporates various assumptions including volatility, expected life and interest rates. The expected volatility is based on the historical volatility of the Company’s common stock. The expected life of options granted during the three and six months ended June 30, 2012 and 2011 was estimated by taking the average of the vesting term and the contractual term of the option. The risk-free interest rate estimate is based upon U.S. Treasury bond rates appropriate for the expected life of the options.

  

The assumptions used and the resulting estimates of weighted average fair value per share of options granted were as follows:

 

 

   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
    2012     2011     2012     2011  
Expected volatility     49 %     47 %     49 %     47 %
Risk-free interest rate     0.7 - 0.9 %     1.7 - 2.0 %     0.7 - 1.2 %     1.7 - 2.7 %
Expected life (years)     5.5 - 6.1       5.5 - 6.1       5.5 - 6.1       5.5 - 6.1  
Expected dividend yield     0 %     0 %     0 %     0 %
Weighted-average fair value of options granted during the period   $ 0.64     $ 1.14     $ 0.60     $ 1.34  

 

Stock-based compensation expense was as follows:

 

   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
    2012     2011     2012     2011  
    (In thousands)  
Cost of revenues   $ 24     $ 48     $ 39     $ 108  
Product development     16       68       36       153  
Sales and marketing     60       130       86       204  
General and administrative     194       203       358       372  
Total stock-based compensation expense     294       449       519       837  
Tax effect on stock-based compensation                        
Net effect on net loss   $ 294     $ 449     $ 519     $ 837  

 

The accounting standards require forfeitures to be estimated at the time of grant and revised, if necessary in subsequent periods if actual forfeitures differ from those estimates. The Company estimated expected forfeitures based on various factors including employee class and historical experience. The amount of stock-based compensation expense has been reduced for estimated forfeitures. As of June 30, 2012, there was $2.3 million of unrecorded stock-based compensation, after estimated forfeitures, related to unvested stock options. That cost is expected to be recognized over a weighted average remaining recognition period of 2.5 years. As of June 30, 2012, there was no unrecorded stock-based compensation related to unvested restricted stock.

 

Stock option activity

 

A summary of the Company’s stock option activity for the period indicated was as follows:

 

   Number of Shares   Weighted
Average
Exercise
Price
   Weighted
Average
Remaining
Contractual
Life (Years)
   Aggregate
Intrinsic Value
 
   (In thousands)           (In thousands) 
Outstanding at December 31, 2011   4,163   $3.87    6.01   $20 
Options granted   1,617    1.29           
Options exercised   (80)   0.99           
Options forfeited/cancelled/expired   (596)   3.27           
Outstanding at June 30, 2012   5,104   $3.17    6.64   $275 
Exercisable at June 30, 2012   2,812   $4.22    4.51   $11 

 

 

Options generally vest over a four-year period with one-fourth (1/4) of the shares vesting one year after the vesting commencement date, and an additional one-forty eighth (1/48) of the shares vesting on the first day of each calendar month thereafter until all such shares are exercisable. The Company granted options for 183,000 shares during the three months ended March 31, 2012 that provide for accelerated vesting if the Company’s closing stock price is equal to or greater than $5.00 per share for a period of 120 consecutive days and granted options for 183,000 shares that provide for vesting in full if the Company achieves adjusted EBITDA profitability for the year ending December 31, 2012. Options generally expire after ten years. Options issued pursuant to the Company’s voluntary stock option exchange program, completed in July 2009, vest ratably over a 36 month period and expire after seven years.

 

Aggregate intrinsic value represents the difference between the Company’s closing stock price on the last trading day of the fiscal period, which was $1.45 on June 29, 2012, and the exercise price for the options that were in-the-money at June 30, 2012. The total number of in-the-money options exercisable as of June 30, 2012 was 23,000. Total intrinsic value of options exercised was $25,000 and $38,000 for the six months ended June 30, 2012 and 2011, respectively. The Company settles employee stock option exercises with newly issued common shares.

 

10
 

 

Restricted Stock

 

The Company expenses the cost of restricted stock awards, which is determined to be the fair market value of the shares at the date of grant, ratably over the period during which the restriction lapse. Stock-based compensation expense related to restricted stock for the three and six months ended June 30, 2012 was $-0- and ($3,000), respectively. Stock-based compensation expense related to restricted stock for the three and six months ended June 30, 2011 was $14,000 and $56,000, respectively.

 

 

A summary of the Company’s nonvested restricted stock for the period indicated was as follows:

 

  

Number of 

Shares 

  

Weighted 

Average Grant 

Date Fair Value 

Per Share 

 
   (In thousands)     
Nonvested at December 31, 2011   23   $4.90 
Shares granted        
Shares vested   (21)   4.90 
Shares forfeited   (2)   4.90 
Nonvested at June 30, 2012      $ 

 

5. INCOME TAXES

 

At the end of each interim period, the Company calculates an effective tax rate based on the Company’s best estimate of the tax provision (benefit) that will be provided for the full year, stated as a percentage of estimated annual pre-tax income (loss). The tax provision (benefit) for the interim period is determined using this estimated annual effective tax rate.

 

The Company maintains that a full valuation allowance should be maintained for its net deferred tax assets at June 30, 2012. The Company supports the need for a valuation allowance against the deferred tax assets due to negative evidence including recent historical results and management’s expectations for the future.

 

Based on the full valuation allowance and the loss for the six months ended June 30, 2012, the Company has not recorded a tax provision or benefit.

 

6. COMMITMENTS AND CONTINGENCIES

 

The Company leases office space under non-cancelable operating leases with various expiration dates through July 2017. Future gross and net lease commitments under non-cancelable operating leases at June 30, 2012 were as follows, in thousands:

 

      Gross
Operating
Lease
Commitments
    Sublease
Income
    Net
Operating
Lease
Commitments
 
Remainder of 2012     $ 1,067     $ (43 )   $ 1,024  
2013       1,544       (3 )     1,541  
2014       1,209             1,209  
2015       975             975  
2016       849             849  
Thereafter       456             456  
Total minimum lease payments     $ 6,100     $ (46 )   $ 6,054  
                             

 

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Legal proceedings

  

On March 26, 2010, we were named as one of fourteen defendants in a lawsuit filed in the United States District Court for the District of Delaware, Smarter Agent LLC v. Boopsie, Inc., et al., by plaintiff, Smarter Agent LLC. The complaint alleges that the defendants have each infringed on patents owned by Smarter Agent relating to mobile device application technology and seeks unspecified damages and injunctive relief. After completing our initial investigation of this matter, we do not currently believe that we have infringed on any patent, or that we have any liability for the claims alleged, and, thus, we intend to vigorously defend against this lawsuit. No estimate of possible loss, if any, can be made at this time.

 

On September 26, 2011, the California State Labor Commissioner filed a lawsuit against us in the Superior Court of California, Alameda County, State Labor Commissioner, etc., v. ZipRealty, Inc. The complaint concerns our compensation practices regarding real estate agents in California, who at the time at issue were classified as employees. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime, and failed to provide itemized wage statements, as required by California laws. In addition to wages and overtime, the complaint seeks liquidated damages, for a total claim in excess of $17 million. On January 18, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with California law. Accordingly, we believe that this claim is without merit and, thus, we intend to vigorously defend against this lawsuit. No estimate of possible loss, if any, can be made at this time. An adverse resolution may have a material effect of the Company’s results of operations and financial condition including liquidity.

 

On February 17, 2012, two real estate sales agents formerly employed by us, on behalf of themselves and all other similarly situated individuals, filed a lawsuit against us in the United States District Court, District of Arizona, Patricia Anderson and James Kwasiborski v. ZipRealty, Inc . The complaint concerns our compensation practices nationwide regarding our real estate agents, who at the time at issue were classified as employees. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime as required by federal law. In addition to the federal law allegations, the complaint also alleges violations of the Arizona Minimum Wage law. The complaint seeks liquidated and treble damages in addition to wages and overtime for an unspecified amount. On April 2, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with federal and state law. Accordingly, we believe that this claim is without merit and, thus, we intend to vigorously defend against this lawsuit. No estimate of possible loss, if any, can be made at this time.

 

On February 29, 2012, one real estate agent formerly employed by us, on behalf of herself and all other similarly situated individuals, filed a lawsuit against us in the Superior Court of California, Los Angeles County, Tracy Adewunmi v. ZipRealty, Inc. concerning our compensation practices regarding real estate agents in California. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime, failed to provide meal and rest periods, failed to reimburse employee expenses and failed to provide itemized wage statements as required by California laws. The complaint seeks unspecified damages including penalties and attorneys’ fees in addition to wages and overtime. We believe that the claims in this case are nearly identical to those in the State Labor Commissioner, etc., v. ZipRealty, Inc. On April 2, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with California law. Additionally, we filed a cross complaint against Ms. Adewumni for fraud and breach of contract, in which we alleged that she created false client accounts that resulted in her receiving higher commission payments than she was entitled to receive under her written employment agreement. Accordingly, we believe Ms. Adewumni’s claim is without merit and, thus, we intend to vigorously defend against this lawsuit. No estimate of possible loss, if any, can be made at this time.

 

 We are not currently subject to any other material legal proceedings. From time to time we have been, and we currently are, a party to litigation and subject to claims incident to the ordinary course of the business. The amounts in dispute in these matters are not material to us, and we believe that the resolution of these proceedings will not have a material adverse effect on the business, financial position, results of operations or cash flows.

  

Indemnifications

 

The Company has entered into various indemnification agreements in the ordinary course of our business. Pursuant to these agreements, the Company has agreed to indemnify, hold harmless and reimburse the indemnified parties, which include certain of our service providers as well as others, in connection with certain occurrences. In addition, the corporate charter documents require the Company to provide indemnification rights to the Company’s directors and officers to the fullest extent permitted by the Delaware General Corporation Law, and permit the Company to provide indemnification rights to our other employees and agents, for certain events that occur while these persons are serving in these capacities. The Company’s charter documents also protect each of its directors, to the fullest extent permitted by the Delaware General Corporation Law, from personal liability to the Company and its stockholders from monetary damages for a breach of fiduciary duty as a director. The Company has also entered into indemnification agreements with the Company’s directors and each of our officers with a title of Vice President or higher.

 

The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unspecified. The Company is not aware of any material indemnification liabilities for actions, events or occurrences that have occurred to date. The Company maintains insurance on some of the liabilities the Company has agreed to indemnify, including liabilities incurred by the Company’s directors and officers while acting in these capacities, subject to certain exclusions and limitations of coverage.

 

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7. RESTRUCTURING CHARGES, NET

 

2012 Restructuring Plan

 

During February 2012, the Company announced a restructuring, including a work force realignment to more appropriately allocate resources to its key strategic initiatives. The workforce realignment involved investing resources in some areas, reducing resources in others and eliminating some areas of the Company’s business that did not support its strategic priorities. During March 2012, the Company announced the transition of its owned-and-operated brokerage office in Salt Lake City to a third-party brokerage joining the Company’s Powered by Zip network. The Company recorded restructuring charges of approximately $0.1 million and $1.2 million related to the 2012 Restructuring Plan during the three and six months ended June 30, 2012, respectively, and expects to incur additional restructuring charges in the remainder of 2012 as it continues to execute the 2012 Restructuring Plan. Accrued restructuring charges as of June 30, 2012 are expected to be substantially paid out by September 30, 2012.

 

 

2011 Restructuring Plan

 

During January 2011, the Company announced a restructuring, including closing brokerage operations in selected underperforming markets and a workforce reduction in sales support and administration functions. The associated restructuring charges included employee severance pay and related expenses, non-cancelable lease obligations and other exit costs. As of June 30, 2012, the Company has recorded the majority of the cost of this restructuring. Accrued 2011 Restructuring Plan charges as of June 30, 2012 relate primarily to non-cancelable lease obligations and related facility costs which the Company expects to pay over the remaining terms of the obligations, which extend to 2016.

 

Restructuring charges activity, relating to the 2012 and 2011 Restructuring Plans, was as follows for the three months ended June 30, 2012 (in thousands):

  

        Balance as of
March 31,
2012
    Charges     Payments     Non-cash
adjustments
    Balance as of
June 30,
2012
      Total charges to
date as of
June 30, 2012
 
2012   Restructuring Plan                                                
    Employee severance and related expenses   $ 230     $ 96     $ (190 )   $  —     $ 136     1,126  
    Lease obligation and other exit costs     28             (23)             5       28  
    Non-cash charges                                   2  
                                                     
          258       96       (213 )           141       1,156  
                                                     
2011   Restructuring Plan                                                
    Employee severance and related expenses           (1)       1                   1,451  
    Lease obligation and other exit costs     309             (56 )           253       830  
    Non-cash charges                       28       28       59  
                                                     
          309       (1)       (55 )     28       281       2,340  
                                                     
    Total   $ 567     $ 95     $ (268 )   $ 28     $ 422     $ 3,496  

 

13
 

 

Restructuring charges activity, relating to the 2012 and 2011 Restructuring Plans, was as follows for the six months ended June 30, 2012 (in thousands):

 

        Balance as of
December 31,
2011
    Charges     Payments     Non-cash
adjustments
    Balance as of
June 30,
2012
      Total charges to
date as of
June 30, 2012
 
2012   Restructuring Plan                                                
    Employee severance and related expenses         $ 1,126     $ (990 )   $  —     $ 136     1,126  
    Lease obligation and other exit costs           28       (23)        —       5       28  
    Non-cash charges           2             (2)             2  
                                                     
                1,156       (1013 )     (2)       141       1,156  
                                                     
2011   Restructuring Plan                                                
    Employee severance and related expenses     39       1       (40)                   1,451  
    Lease obligation and other exit costs     377             (124 )           253       830  
    Non-cash charges                       28       28       59  
                                                     
          416       1       (164 )     28       281       2,340  
                                                     
    Total   $ 416     $ 1,157     $ (1,177 )   $ 26     $ 422     $ 3,496  
                                                     
                                                     
    Accrued restructuring charges were included in the Company’s consolidated balance sheet as follows (in thousands):     

 

 

     June 30,
2012
   December 31,
2011
 
  Accrued restructuring charges (current liabilities)  $392   $250 
  Accounts payable   30     
  Other long-term liabilities       166 
  Total accrued restructuring charges  $422   $416 

 

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  Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations:

 

The following discussion should be read together with our financial statements and related notes appearing elsewhere in this report. This discussion contains forward-looking statements based upon current expectations that involve numerous risks, uncertainties and assumptions. Our actual results could differ materially from those anticipated in these forward-looking statements for many reasons, including but not limited to those described under “Risk Factors” in Item 1A of Part I of our annual report on Form 10-K for our fiscal year ended December 31, 2011. Those reasons include, without limitation, those described at the beginning of this report under “Statement regarding forward-looking statements,” as well as those that may be set forth elsewhere in this report. Except as otherwise required by law, we do not intend to update any information contained in these forward-looking statements.

 

OVERVIEW

 

General

 

We are a leading national provider of proprietary technology and online marketing capabilities in the residential real estate brokerage industry. For home buyers and sellers who increasingly demand control, choice and seamless, customized service, we offer Internet-enabled, state-of-the-art technology and access to information that real estate professionals can combine with their own local knowledge and personal expertise to offer an exceptional start-to-finish experience to their clients. For real estate professionals who seek more productive ways to conduct business in our fiercely competitive industry, we provide technology and online marketing tools to enhance their online sales channel, including the attraction, incubation and service of their clients. Our technology and online marketing products serve our full-service, owned-and-operated residential real estate brokerage business, as well as our Powered by Zip network of leading third-party local brokerages in select markets that we provide with access to our proprietary information and systems.

 

Both our owned-and-operated brokerage and our Powered by Zip network share the same internal engine: the powerful proprietary technology and online marketing capabilities that are the hallmarks of our business. We conduct our owned-and-operated brokerage in 20 markets nationwide, all of which were opened prior to May 2009: Austin, TX, Baltimore, MD, Boston, MA, Chicago, IL, Dallas, TX, Denver, CO, Houston, TX, Las Vegas, NV, Long Island, NY, Los Angeles, CA, Orange County, CA, Orlando, FL, Phoenix, AZ, Richmond, VA, Sacramento, CA, San Diego, CA, the San Francisco Bay area, CA, Seattle, WA, Portland, OR, and Washington, DC. Our Powered by Zip network serves leading local brokerages in ten markets where we do not otherwise conduct business, including Atlanta, GA, Jacksonville, FL, Nashville, TN, the Greater Philadelphia area, PA, Raleigh-Durham, NC, Salt Lake City, UT, Tucson, AZ, Westchester/Bronx, NY, Tampa, FL, and Palm Beach, FL. The markets in our owned-and-operated brokerage and Powered by Zip network are served by over 1,700 local, licensed real estate agents, all of whom are independent contractors.

 

We derive the majority of our net revenues from commissions earned in our owned-and-operated brokerage representing buyers and sellers in residential real estate transactions. We record commission revenues net of any commission discount, transaction fee adjustment or, when applicable, rebate. Net transaction revenues are principally driven by the number of transactions closed and the average net revenue per transaction. Average net revenue per transaction is a function of the home sales price and percentage commission received on each transaction and can vary significantly by market.

 

We also derive commission referrals from net commission earned by brokerages in our Powered by Zip network and we derive revenues from certain marketing arrangements with residential mortgage service providers, the sale of online marketing, lead referral fees and other revenues. Historically, non-commission revenues represented less than 5% of our net revenues during any period, although they have exceeded 5% since the fourth quarter of 2010 due to lower transaction revenues resulting from our decision to close certain offices and our owned-and-operated brokerage lagging market growth, as well as efforts to diversify our revenue stream. In April 2012, we terminated our exclusive marketing agreement with Bank of America, a mortgage lender that paid us a flat marketing fee. We have since entered into new non-exclusive marketing agreements with other mortgage lenders in which we are paid either a flat marketing fee or on a cost-per-click basis, and we expect these arrangements to offset fully the revenues we received previously from Bank of America. However, we expect that the time required to bring these new marketing arrangements online will negatively impact non-commission revenues in the near term. We are seeking to enter into other such non-exclusive agreements with participants in the mortgage lending and related fields, and we routinely explore opportunities to grow our non-commission revenues through marketing and other business arrangements for offering services related to the purchase, sale and ownership of a home.

 

Restructuring and realignment: In early 2011, we restructured our business to heighten our focus on our core strengths in technology, online marketing and our most attractive local real estate markets. To that end, we closed our offices in twelve markets in the first quarter of 2011: Fresno/Central Valley, CA, Charlotte, NC, Naples, FL, Jacksonville, FL, Miami, FL, Palm Beach, FL, Tampa, FL, Hartford, CT, Minneapolis, MN, Virginia Beach, VA, Tucson, AZ, and Atlanta, GA. As we closed our offices in Tucson and Atlanta, we transitioned our local operations to third-party brokerages in our Powered by Zip network, and after we closed our offices in Jacksonville, we added a third-party brokerage in that market to our Powered by Zip network, as discussed below. We also reorganized local management responsibilities and significantly reduced our corporate sales support and administration, which encouraged greater local independence and efficiency. In the fourth quarter of 2011, we continued our restructuring by closing our offices in Raleigh-Durham, NC, and the Greater Philadelphia area, PA, while transitioning our operations in those markets to our Powered by Zip network, and in early 2012 we did likewise in Salt Lake City, UT, and in the Westchester/Bronx portion of our New York office, all as discussed below. We also began to realign our organization to operate more efficiently and to refocus our resources on the highest value priorities, including by combining our product and marketing functions, and by separating our brokerage operations from our technology and marketing functions. We also created and filled a new position — President of Brokerage Operations — to drive our owned-and-operated brokerage going forward.

 

15
 

 

Introduction of Powered by Zip network: In early 2011, we began to build our Powered by Zip network with select third-party local brokerages. We have since transitioned our previous owned-and-operated brokerage business in the markets of Atlanta, GA, the Greater Philadelphia area, PA, Raleigh-Durham, NC, Salt Lake City, UT, Tucson, AZ, and the Westchester/Bronx portion of our New York office to the third-party brokers who have joined our Powered by Zip network. We also service brokerages through our Powered by Zip network in the markets of Jacksonville, FL, Tampa, FL, and Palm Beach, FL, where we had ceased to conduct brokerage operations in the first quarter of 2011, and in the new market of Nashville, TN.

 

End of buyer rebates: Until the summer of 2011, for home buyers in our owned-and-operated brokerage business, we typically shared 20% of our commissions with them in the form of a cash rebate, where permitted by law. On July 1, 2011, we announced that we were discontinuing our commission rebate program, although home buyers who entered into a contract to purchase a home by July 15, 2011, and who closed escrow on the transaction by August 31, 2011, remained eligible to receive the rebate, subject to certain additional restrictions. By eliminating buyer rebates, we have focused consumer attention on our full-service, technology-enhanced customer service, as well as improved the financial productivity of real estate professionals in our owned-and-operated brokerage business. The termination of our rebate program has increased our average net revenue per transaction, but it may have negatively impacted our transaction volume. Also, net revenue increases resulting from the termination of the rebate program have been partially offset by increases in our agent compensation programs. We believe that the termination of our rebate program had a modest positive impact on our financial results for the second half of 2011 and the first half of 2012, and we expect it to have a negligible impact for the remainder of 2012.

 

Market conditions and trends in our business

 

Macroeconomic forces. For the past few years, the residential real estate market has been negatively impacted by macroeconomic conditions. We believe that conditions such as tight lending criteria, high numbers of distressed properties, and high unemployment continue to exert negative pressure on the residential real estate market, and may continue to do so for some time, although demand for housing may have been bolstered in 2011 and early 2012 by historically low mortgage rates. For the remainder of 2012, we believe that the health of the residential housing market will continue to be significantly affected by the availability of credit, inventory and shadow inventory levels, the pace at which banks process their foreclosure pipelines, and interest rates, as well as any significant change in unemployment levels. We cannot predict any changes in those macroeconomic forces, nor can we predict the combined impact of those changes on the residential real estate market.

  

Federal action. The federal government, state governments and related agencies have acted repeatedly to address the decline in the residential real estate market and the availability of home mortgage credit. Currently, under the Dodd-Frank Wall Street Reform Act, federal regulators must develop rules to discourage risky home mortgage lending practices by requiring lenders to retain 5% of the risk in the mortgages they originate, other than qualified residential mortgages, also known as QRMs, and other than mortgages that are backed by federally insured mortgage programs. Mortgages that do not meet these exemptions could carry higher interest rates or be less available to home buyers, which could dampen the housing market, particularly if the definition of a QRM is drawn narrowly. It is too soon to tell what the final rules will require. To the extent that governments and related agencies take actions to address the residential real estate market or the home mortgage market, there can be no assurance that those activities will have a positive, meaningful and lasting impact on either market, or that they will not result in unintended consequences.

 

Current residential real estate market conditions. Recent indicators of national residential real estate market conditions include the following:

 

  Volume: According to the National Association of REALTORS®, or NAR, existing home sales nationwide in June 2012 were up 4.5% year-over-year, with volume increases in all major regions of the country except the West. June 2012 represented the twelfth consecutive month of year-over-year volume increases nationwide. The year-over-year volume increase in June 2012 may have been due, in part, to historically low mortgage interest rates, as well as a reduction in the national home-price-to-rent ratio to its lowest level in over a decade. However, inventory shortages may be limiting buying opportunities, as discussed below.

 

16
 

 

  Price: According to NAR, in June 2012, the national median existing home sales price increased by 7.9% year-over-year, with increases in all major regions except the Northeast. June 2012 represented the fourth consecutive month of national year-over-year price increases, which hasn’t happened since the first half of 2006. The June 2012 price increase may have been due, in part, to a decrease in the percentage of national home sales that represented distressed properties, as well as inventory shortages, as discussed below.

 

  Inventory: According to NAR, the nationwide inventory of existing homes available for sale in June 2012 decreased by 24.4% year-over-year. NAR reports inventory shortages in the lower price ranges in all major regions except the Northeast, and in all but the highest price ranges in the West. Inventory shortages may be impairing homes sales volume and, conversely, pushing up prices in the affected regions.

 

  Distressed Properties: Currently, a significant percentage of our sales transaction volume is composed of distressed properties. Distressed properties are homes that are in foreclosure, are bank owned (or REO), or are “short sales,” meaning a sale where the sale price is less than the loans or debt secured by the home listed for sale. In June 2012, the percentage of our sales transactions composed of distressed properties in our owned-and-operated markets was approximately 28%, which was down from 36% in June 2011 for those same markets. Distressed properties not only tend to sell at reduced prices, but they also tend to put downward pressure on the values of other homes for sale in the same and nearby neighborhoods. We expect distressed properties to continue to represent a significant portion of the residential real estate market and of our business for the foreseeable future.

  

  Shadow Inventory: “Shadow inventory” refers to distressed and other properties that have not yet been listed for sale, as well as properties that homeowners wish to sell, but will not sell at current market prices. Shadow inventory can occur when lenders put REO properties (properties that have been foreclosed or forfeited to lenders) on the market gradually, rather than all at once, or delay the foreclosure process. They may choose to do so because of regulations and foreclosure moratoriums, because of the additional costs and resources required to process and sell foreclosed properties, or because they want to avoid depressing housing prices further by putting many distressed properties up for sale at the same time. It is difficult to assess the current volume of shadow inventory and its future impact on the residential real estate market, particularly given the uncertainty surrounding the foreclosure processing delays instituted by many major mortgage lenders as they settle their disputes with regulators concerning their lending practices.

 

Fluctuations in quarterly profitability. We have experienced fluctuations in profitability from period to period. Our profitability has been impacted by various factors, including ongoing market challenges, government intervention, seasonality, and, in previous years, new market expansion and legal settlements.

 

Industry seasonality and cyclicality. The residential real estate brokerage market is influenced both by seasonal factors and by overall economic cycles. While individual markets vary, transaction volume nationally tends to increase progressively from January through the summer months, then to slow gradually over the last three to four months of the calendar year. Revenues in each quarter are significantly affected by activity during the prior quarter, given the typical 30- to 45-day time lag between contract execution and closing for traditional home purchases. For non-traditional sales, the time lag from contract execution to closing can be longer. We have been, and believe we will continue to be, influenced by overall market activity and seasonal forces. We generally experience the most significant impact in the first and fourth quarters of each year, when our revenues are typically lower relative to the second and third quarters as a result of traditionally slower home sales activity and reduced listings inventory between Thanksgiving and Presidents’ Day.

 

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The impact of seasonality can be masked by the general health of the residential real estate market at any given point in time, whether affected by macroeconomic events, periodic business cycles or other factors. Generally, when economic conditions are fair or good, the housing market tends to perform well. If the economy is weak, if interest rates dramatically increase, if mortgage lending standards tighten, or if there are disturbances such as terrorist attacks or threats, the outbreak of war or geopolitical uncertainties, the housing market likely would be negatively impacted.

  

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

 

Our financial statements are prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. Accordingly, our actual results may differ from these estimates under different assumptions or conditions.

 

Our significant accounting policies are described in Note 1 of the Notes to Consolidated Financial Statements contained in our Form 10-K for the year ended December 31, 2011, and of those policies, we believe that the following accounting policies are the most critical to understand and evaluate our financial condition and results of operations.

 

Revenue recognition

 

We derive the majority of our net revenues from commissions earned in our owned-and-operated residential real estate brokerage, and from commission referrals earned from brokers in our Powered by Zip network. We recognize commission based revenues upon closing of a sale and purchase transaction, net of any rebate, commission discount or transaction fee adjustment. These transactions typically do not have multiple deliverable arrangements.

 

Non-commission based revenues are derived primarily from marketing agreements with residential mortgage service providers, the sale of online advertising, lead referral fees and other revenues. We classify these revenues as marketing and other revenues. Marketing service revenues are recognized over the term of the agreements as the contracted services are delivered. Advertising revenues on contracts are recognized as impressions are delivered or as clicks are provided to advertisers. Advertising and marketing contracts may consist of multiple deliverables which generally include a blend of various impressions or clicks as well as other marketing deliverables. Revenues related to revenue sharing arrangements are recognized based on revenue reports received from our partners, provided that collectability is reasonably assured.

 

Revenue is recognized only when the price is fixed or determinable, persuasive evidence an arrangement exists, the service has been delivered and collectability of the resulting receivable is reasonably assured.

 

Internal-use software and website development costs

 

We account for internal-use software and website development costs, including the development of our ZipRealty Agent Platform (“ZAP”) in accordance with the guidance set forth in the related accounting standards. We capitalize internal costs consisting of payroll and direct payroll-related costs of employees who devote time to the development of internal-use software, as well as any external direct costs. We amortize these costs over their estimated useful lives, typically 24 months. Our judgment is required in determining the point at which various projects enter the stages at which costs may be capitalized, in assessing the ongoing value of the capitalized costs, and in determining the estimated useful lives over which the costs are amortized. The estimated life is based on management’s judgment as to the product life cycle.

 

Stock-based compensation

 

We follow the provisions of accounting standards for share-based payments, which requires the measurement and recognition of compensation expense for all stock-based payment awards made to employees, consultants and directors, including employee stock options and employee stock purchases, based on estimated fair values. Under the fair value recognition provisions of the accounting standards, stock-based compensation cost is estimated at the grant date based on the fair value of the awards expected to vest and recognized as expense using the straight-line method over the requisite service period of the award.

 

18
 

 

We estimate the fair value of stock options using the Black-Scholes option pricing model, which incorporates various assumptions including volatility, expected life and interest rates. The expected volatility is based on the historical volatility of our common stock. The expected life of options is estimated by taking the average of the vesting term and the contractual term of the option. We estimate expected forfeitures based on various factors including employee class and historical experience. The estimation of stock awards that will ultimately vest requires judgment, and to the extent actual results or updated estimates differ from our current estimates, such amounts will be recorded as a cumulative adjustment in the period the estimates are revised.

 

Income taxes

 

Deferred tax assets and liabilities arise from the differences between the tax basis of an asset or liability and its reported amount in the financial statements as well as from net operating loss and tax credit carry forwards. The measurement of current and deferred tax assets and liabilities is based on provisions of enacted tax laws; the effects of future changes in tax laws or rates are not anticipated. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense or benefit is the tax payable or refundable, respectively, for the period adjusted for the change during the period in deferred tax assets and liabilities.

 

The accounting guidance for income taxes requires that deferred tax assets be evaluated for future realization and reduced by a valuation allowance to the extent we believe a portion will not be realized. We consider many factors when assessing the likelihood of future realization of our deferred tax assets, including our recent historical results and our expectations for the future. Historically, we have recorded a valuation allowance on our deferred tax assets, the majority of which relate to net operating loss carryforwards and we maintain that a full valuation allowance should be accounted for against our net deferred tax assets at June 30, 2012.

 

Restructuring costs

 

In connection with our cost reduction initiatives, we record restructuring charges for employee termination costs, costs related to leased facilities to be abandoned or subleased, fixed asset impairments and other exit-related costs. Formal plans are developed and approved by management. Restructuring costs related to employee severance and related expenses are recorded when probable and estimable. Fixed assets impaired as a result of restructuring are typically accounted for as assets held for sale or are abandoned. The recognition of restructuring charges requires us to make judgments and estimates regarding the nature, timing, and costs associated with the planned restructuring activity, including estimating sublease income and the fair value, less selling costs, of fixed assets being disposed of. Estimates of future liabilities may change, requiring us to record additional restructuring charges or to reduce or reverse the amount of liabilities already recorded. At the end of each reporting period, we evaluate the remaining accrued liabilities to ensure their adequacy, that no excess accruals are retained and that the utilization of the provisions is for the intended purpose in accordance with the approved restructuring plan. In the event circumstances change and the provision is no longer required, the provision is reversed.

 

Litigation

 

We are involved in legal proceedings on an ongoing basis. Based upon our evaluation and consultation with outside counsel handling our defense in these matters and an analysis of potential results, we accrue for losses related to litigation if we determine that a loss is probable and it can be reasonably estimated. If only a range of estimated losses can be determined, then we record an amount within the range that, in our judgment, reflects the most likely outcome; if none of the estimates within that range is a better estimate than any other amount, we record the low end of the range. Any such accrual is charged to expense in the appropriate period. We record litigation expenses in the period in which the litigation services were provided.

  

19
 

 

RESULTS OF OPERATIONS

 

The following table summarizes certain financial data related to our operations for the periods indicated:

 

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
Consolidated statements of operations data (unaudited)  2012   2011   2012   2011 
   (In thousands, except per share data) 
Net revenues  $20,288   $23,575   $36,361   $43,320 
                     
Operating costs and expenses                    
Cost of revenues   11,098    12,597    19,435    23,305 
Product development   1,693    2,234    3,494    4,434 
Sales and marketing   5,026    7,281    10,858    15,436 
General and administrative   2,067    2,450    4,173    4,807 
Restructuring charges, net   95        1,157    2,264 
Total operating costs and expenses   19,979    24,562    39,117    50,246 
Income (loss) from operations   309    (987)   (2,756)   (6,926)
Interest income   5    15    13    43 
Income (loss) before income taxes   314    (972)   (2,743)   (6,883)
Provision for (benefit from) income taxes                
Net income (loss)  $314   $(972)  $(2,743)  $(6,883)
                     
Net income (loss) per share:                    
Basic  $0.02   $(0.05)  $(0.13)  $(0.34)
Diluted  $0.02   $(0.05)  $(0.13)  $(0.34)
Weighted average common shares outstanding:                    
Basic   20,650    20,549    20,619    20,530 
Diluted   20,663    20,549    20,619    20,530 

 

The following table presents our operating results as a percentage of net revenues for the periods indicated:

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
Consolidated statements of operations data (unaudited)  2012   2011   2012   2011 
Net revenues   100.0%   100.0%   100.0%   100.0%
                     
Operating costs and expenses                    
Cost of revenues   54.7    53.5    53.5    53.8 
Product development   8.3    9.5    9.6    10.2 
Sales and marketing   24.8    30.9    29.9    35.6 
General and administrative   10.2    10.4    11.5    11.1 
Restructuring charges, net   0.5        3.2    5.2 
Total operating costs and expenses   98.5    104.3    107.7    115.9 
Income (loss) from operations   1.5    (4.3)   (7.7)   (15.9)
Interest income       0.1        0.1 
Income (loss) before income taxes   1.5    (4.2)   (7.7)   (15.8)
Provision for income taxes                
Net income (loss)   1.5%   (4.2)%   (7.7)%   (15.8)%

 

20
 

 

Comparison of the three months ended June 30, 2012 and 2011

Other operating data (1)

  

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
Number of markets at end of period - same markets (2)   20    20          
Number of markets at end of period – total markets (2)   20    23    (3)     
                     
Number of transactions closed during the period - same markets (3)   2,924    3,664    (740)   (20.2)%
Number of transactions closed during the period - total markets (3)   2,924    3,992    (1,068)   (26.8)%
                     
Average net revenue per transaction - same markets (4)  $6,560   $5,653   $907    16.0%
Average net revenue per transaction - total markets (4)  $6,560   $5,558   $1,002    18.0%
                     
Number of agents at end of the period - same markets   1,508    1,979    (471)   (23.8)%
Number of agents at end of the period - total markets   1,508    2,197    (689)   (31.4)%

 

 

(1) Other operating data includes our owned-and-operated markets only.

 

(2) Same markets operating data excludes markets closed as the result of our 2011 and 2012 restructuring plans. These plans included closing our owned-and-operated brokerage operations in selected underperforming markets and, in certain markets, transitioning operations to a third-party brokerage joining our Powered by Zip network. We closed our owned-and-operated brokerage offices in Fresno/Central Valley, Charlotte, Naples, Jacksonville, Miami, Palm Beach, Tampa, Hartford, Minneapolis, Virginia Beach, Atlanta, and Tucson during the quarter ended March 31, 2011 and we closed Philadelphia and Raleigh-Durham during the quarter ended December 31, 2011. Operations in Atlanta, Tucson, Raleigh, and Philadelphia were transitioned to our Powered by Zip network of third-party brokerages. Our brokerage operations in Salt Lake City were closed and transitioned to a brokerage in the Powered by Zip network during the quarter ended March 31, 2012. The Westchester/Bronx portion of our New York brokerage operations was transitioned to a third-party brokerage in the Powered by Zip network during the quarter ended June 30, 2012, and is excluded from the New York owned-and-operated data for all periods.

 

(3) The term “transaction” refers to each representation of a buyer or seller in a real estate purchase or sale.

 

(4) Average net revenue per transaction equals net transaction revenues divided by number of transactions with respect to each period.

 

Net revenues

 

Net transaction revenues consist primarily of commissions earned in our owned-and-operated residential real estate brokerage. Marketing and other revenues consist primarily of marketing agreements, lead generation, advertising and transaction referral commission, including commission referrals earned from brokers in our Powered by Zip network.

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Net transaction revenues                    
Same markets  $19,182   $20,713   $(1,531)   (7.4)%
Closed markets       1,474    (1,474)   (100.0)%
    19,182    22,187    (3,005)   (13.5)%
Marketing and other revenues   1,106    1,388    (282)   (20.3)%
Total net revenues  $20,288   $23,575   $(3,287)   (13.9)%

 

21
 

 

The decrease in our net transaction revenues of $3.0 million or 13.5% for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 was driven primarily by a decrease in the number of transactions closed during the period of 1,068 or 26.8%. Transactions closed during the period on a same market basis were 2,924 compared to 3,664 last year, a decrease of 740 or 20.2%. We believe the decrease in same market transaction volume was attributable to the impact of changes in our business model involving the conversion of our agents to independent contractors as well as continued weak economic conditions and reduced availability of mortgage financing. Same market average net revenue per transaction for the period was $6,560 compared to $5,653 last year, an increase of $907 or 16.0%. We discontinued our commission rebate program during late summer 2011 resulting in lower cash rebates paid during the current quarter which increased average net revenue per transaction in the three months ended June 30, 2012 by approximately $784. Additionally, the impact of higher average homesale prices increased average net revenue per transaction by approximately $123. The decrease in marketing and other revenues for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 was attributable to increased transaction referrals from brokers in our Powered by Zip network of $0.2 million and advertising income of $0.2 million, offset by decreases in lead generation fees of $0.2 million and marketing fees of $0.5 million.

  

We expect our net revenues will decrease in 2012 compared to 2011, driven by a decrease in the overall number of transactions closed, primarily as a result of closing our owned-and-operated brokerage operations in fifteen markets and in the Westchester/Bronx portion of our New York market. We expect an increase in average net revenue per transaction in 2012 compared to 2011 primarily resulting from the full year positive impact of the termination of the commission rebate program. We also expect our marketing and other revenues will decrease for 2012 compared to 2011 resulting primarily from the termination of our mortgage services marketing agreement with Bank of America in April 2012, under which we were paid a flat monthly marketing fee. We have since entered into new non-exclusive marketing agreements with other mortgage lenders in which we are paid either a flat marketing fee or on a cost-per-click basis, and we expect these arrangements to offset fully the revenues we received previously from Bank of America. However, we expect that the time required to bring these new marketing arrangements online will negatively impact non-commission revenues in the near term. We expect the loss of this revenue will be partially offset by increased transaction commission referrals earned from brokers in our Powered by Zip network

 

Cost of revenues

 

During the quarter ended March 31, 2011, we completed the transition of our agent force from an employee model to an independent contractor model. Under the employee model, our cost of revenues consisted principally of commissions, payroll taxes, benefits including health insurance, performance and tenure based award programs and agent expense reimbursements. Under the independent contractor model, our cost of revenues consists principally of commissions and related costs. Agent commissions are generally paid on net transaction revenues plus referral and other revenues generated by our agents.

 

   Three Months Ended
June 30,
   Increase   Percent  
   2012   2011   (Decrease)   Change 
   (In thousands) 
Cost of revenues                    
Same markets  $11,097   $11,859   $(762)   (6.4)%
Closed markets   1    738    (737)   (99.9)%
Total  $11,098   $12,597   $(1,499)   (11.9)%

 

The decrease in cost of revenues for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 was related to the overall decrease in net revenues on which we pay agent commissions. Same market cost of revenues for the three months ended June 30, 2012 were $11.1 million compared to $11.9 million for the three months ended June 30, 2011. Agent commissions decreased by approximately $0.8 million or 6.9%. Same market cost of revenues as a percentage of net transaction revenues was 57.2% in 2012 compared to 56.7% in 2011.

 

22
 

 

 We expect our cost of revenues will decrease in 2012, compared to 2011, because of decreased net transaction revenues. Our cost of revenues move in relation to the market net revenues on which commissions are based and also increases or decreases as a result of the mix of commission rates paid to our agents.

 

Product development

 

Product development expenses include our information technology costs relating to the maintenance of our website, proprietary technology platforms and system infrastructure. These costs consist primarily of compensation and benefits, software, equipment and infrastructure costs consisting primarily of facilities, communications and other operating expenses. Product development expenses also include amortization of capitalized internal-use software and website development costs.

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Product development  $1,693   $2,234   $(541)   (24.2)%

 

The decrease in product development expenses for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 was due primarily to decreases in salaries and benefits of $0.3 million attributable to reductions in headcount and technology infrastructure costs of $0.2 million. As a percentage of net revenues, product development expenses decreased by 1.2 percentage points for the three months ended June 30, 2012 compared to the three months ended June 30, 2011.

 

We expect to continue enhancing tools and features on our website and technology platform for consumers and brokers in our Powered by Zip network but expect that our product development expenses will decrease in 2012 compared to 2011 in absolute dollars and as a percentage of net revenues.

 

Sales and marketing

 

Sales and marketing expenses consist primarily of compensation and related costs for personnel engaged in sales, sales support and customer service as well as promotional, advertising and client acquisition costs. These expenses have been categorized below between those incurred in our market offices and those expenses which are incurred by the regional and corporate support functions across all markets.

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Sales and marketing:                    
Market level  $3,931   $5,906   $(1,975)   (33.4)%
Regional/corporate sales support and marketing   1,095    1,375    (280)   (20.4)%
Total  $5,026   $7,281   $(2,255)   (31.0)%

 

Market level sales and marketing expenses decreased for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 primarily as a result of closing markets and eliminating positions in our remaining markets attributable to our 2011 restructuring. The decrease of $2.0 million or 33.4 % was principally attributable to decreases in salaries and benefits of $0.4 million, customer acquisition and marketing costs of $1.3 million and facilities and operating expenses of $0.2 million. Approximately $0.6 million of the overall decrease was attributable to operations of the closed markets. As a percentage of net revenues, market level sales and marketing expenses were 19.4% in 2012 compared to 25.0% in 2011.

 

Regional/corporate sales support and marketing expenses decreased for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 and were primarily attributable to decreases in salaries and benefits of $0.3 million. As a percentage of net revenues, regional/corporate sales support and marketing expenses were approximately 5.4% in 2012 compared to 5.8% in 2011.

 

23
 

 

We expect our market level and regional/corporate sales and marketing expenses to decrease in absolute dollars and as a percentage of net revenues for 2012 primarily as a result of our 2011 and 2012 restructurings. The decrease in expenses consists of office operating expenses and customer acquisition and marketing cost in the markets that were closed as well as further expense reductions in the remaining markets and in the regional and corporate sales support and marketing operations.

 

General and administrative

 

General and administrative expenses consist primarily of compensation and related costs for personnel, facilities and operating expenses related to our executive, finance, human resources, facilities and legal organizations, and fees for professional services. Professional services are principally comprised of outside legal, audit and tax services.

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
General and administrative  $2,067   $2,450   $(383)   (15.7)%

 

General and administrative expenses for the three months ended June 30, 2012 compared to the three months ended June 30, 2011 decreased by approximately $0.4 million or 15.7% and were primarily attributable to decreased salaries and benefits of $0.1 million, recruiting and training expenses of $0.1 million, and consulting and professional fees of $0.1 million. As a percentage of net revenues, general and administrative expenses were 10.2% for the three months ended June 30, 2012 to 10.4% in the three months ended June 30, 2011.

 

We expect our general and administrative expenses for 2012 will decrease in absolute dollars and as a percentage of net revenues primarily as a result of our 2011and 2012 restructurings. The decrease in expenses consists of salaries, benefits and other infrastructure costs eliminated largely as a result of the conversion of our agent force to independent contractors. This decrease may be offset by increased legal expenses attributable to current legal proceedings.

 

Restructuring charges, net

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Restructuring charges, net  $95   $   $95    100.0%

 

During February 2012, we announced a restructuring, including a work force realignment to more appropriately allocate resources to our key strategic initiatives and the closing of brokerage operations in our Salt Lake City market (the “2012 Restructuring Plan”). The restructuring charges for the 2012 Restructuring Plan for the period ended June 30, 2012 of $0.1 million included employee severance pay and related expenses, non-cancelable lease obligations and other exit costs. During January 2011, we announced a restructuring, including closing brokerage operations in selected underperforming markets and a workforce reduction in sales support and administration functions (the “2011 Restructuring Plan”). The restructuring charges for the 2011 Restructuring Plan were insignificant for the period ended June 30, 2012.

 

Some expenses required estimates, particularly those related to our ability and the timing of generating sublease income and terminating lease obligations, and may require future adjustments to the amount of the restructuring charge recorded. We expect to incur additional restructuring charges of less than $0.4 million in the remainder of 2012 as we continue to execute our 2012 Restructuring Plan.

 

24
 

 

 Interest income

 

Interest income relates to interest we earn on our money market deposits and short-term investments.

 

   Three Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Interest income  $5   $15   $(10)   (64.1)%

 

Interest income fluctuates as our cash equivalents and short-term investment balances change and applicable interest rates increase or decrease. The decrease in interest income for the three months ended June 30, 2012, compared to the three months ended June 30, 2011, was due primarily to lower average balances. The lower average balances were attributable primarily to cash used in our operating activities as a result of the losses incurred over the last twelve months.

 

 

Comparison of the six months ended June 30, 2012 and 2011

Other operating data (1)

  

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
Number of markets at end of period - same markets (2)   20    20          
Number of markets at end of period – total markets (2)   20    23    (3)     
                     
Number of transactions closed during the period - same markets (3)   5,256    6,834    (1,578)   (23.1)%
Number of transactions closed during the period - total markets (3)   5,336    7,628    (2,292)   (30.0)%
                     
Average net revenue per transaction - same markets (4)  $6,351   $5,455   $896    16.4%
Average net revenue per transaction - total markets (4)  $6,342   $5,320   $1,022    19.2%
                     
Number of agents at end of the period - same markets   1,508    1,979    (471)   (23.8)%
Number of agents at end of the period - total markets   1,508    2,197    (689)   (31.4)%

  

(1) Other operating data includes our owned-and-operated markets only.

 

(2) Same markets operating data excludes markets closed as the result of our 2011 and 2012 restructuring plans. These plans included closing our owned-and-operated brokerage operations in selected underperforming markets and, in certain markets, transitioning operations to a third-party brokerage joining our Powered by Zip network. We closed our owned-and-operated brokerage offices in Fresno/Central Valley, Charlotte, Naples, Jacksonville, Miami, Palm Beach, Tampa, Hartford, Minneapolis, Virginia Beach, Atlanta, and Tucson during the quarter ended March 31, 2011 and we closed Philadelphia and Raleigh-Durham during the quarter ended December 31, 2011. Operations in Atlanta, Tucson, Raleigh, and Philadelphia were transitioned to our Powered by Zip network of third-party brokerages. Our brokerage operations in Salt Lake City were closed and transitioned to a brokerage in the Powered by Zip network during the quarter ended March 31, 2012. The Westchester/Bronx portion of our New York brokerage operations was transitioned to a third-party brokerage in the Powered by Zip network during the quarter ended June 30, 2012, and is excluded from the New York owned-and-operated data for all periods.

 

(3) The term “transaction” refers to each representation of a buyer or seller in a real estate purchase or sale.

 

(4) Average net revenue per transaction equals net transaction revenues divided by number of transactions with respect to each period.

 

25
 

 

Net revenues

 

Net transaction revenues consist primarily of commissions earned in our owned-and-operated residential real estate brokerage. Marketing and other revenues consist primarily of marketing agreements, lead generation, advertising and transaction referral commission, including commission referrals earned from brokers in our Powered by Zip network.

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Net transaction revenues                    
Same markets  $33,381   $37,276   $(3,895)   (10.4)%
Closed markets   459    3,303    (2,844)   (86.1)%
    33,840    40,579    (6,739)   (16.6)%
Marketing and other revenues   2,521    2,741    (220)   (8.0)%
Total net revenues  $36,361   $43,320   $(6,959)   (16.1)%

 

The decrease in net transaction revenues of $6.7 million or 16.6% for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 was driven primarily by a decrease in the number of transactions closed during the period of 2,292 or 30.0%. Transactions closed during the period on a same market basis were 5,256 compared to 6,834 last year, a decrease of 1,578 or 23.1%. We believe the decrease in same market transaction volume was attributable to the impact of changes in our business model involving the conversion of our agents to independent contractors as well as continued weak economic conditions and reduced availability of mortgage financing. Same market average net revenue per transaction for the period was $6,351 compared to $5,455 last year, an increase of $896 or 16.4%. We discontinued our commission rebate program during late summer 2011 resulting in lower cash rebates paid during the current period which increased average net revenue per transaction in the six months ended June 30, 2012 by approximately $790. Additionally, the impact of higher average home sale prices increased average net revenue per transaction by approximately $105. The decrease in marketing and other revenues for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 was attributable to increased transaction referrals from brokers in our Powered by Zip network of $0.3 million and advertising income of $0.4 million, offset by decreases in lead generation fees of $0.4 million, marketing fees of $0.4 million and referral fees of $0.1 million.

  

We expect our net revenues will decrease in 2012 compared to 2011, driven by a decrease in the overall number of transactions closed, primarily as a result of closing our owned-and-operated brokerage operations in fifteen markets and in the Westchester/Bronx portion of our New York market. We expect an increase in average net revenue per transaction in 2012 compared to 2011 primarily resulting from the full year positive impact of the termination of the commission rebate program. We also expect our marketing and other revenues will decrease for 2012 compared to 2011 resulting primarily from the termination of our mortgage services marketing agreement with Bank of America in April 2012, under which we were paid a flat monthly marketing fee. We have since entered into new non-exclusive marketing agreements with other mortgage lenders in which we are paid either a flat marketing fee or on a cost-per-click basis, and we expect these arrangements to offset fully the revenues we received previously from Bank of America. However, we expect that the time required to bring these new marketing arrangements online will negatively impact non-commission revenues in the near term. We expect the loss of this revenue will be partially offset by increased transaction commission referrals earned from brokers in our Powered by Zip network

 

Cost of revenues

 

During the three months ended March 31, 2011, we completed the transition of our agent force from an employee model to an independent contractor model. Under the employee model, our cost of revenues consists principally of commissions, payroll taxes, benefits including health insurance, performance and tenure based award programs, agent expense reimbursements and amortization of internal-use software and website development costs which relate primarily to our ZAP technology. Under the independent contractor model, our cost of revenues consists principally of commissions and amortization of internal-use software and website development costs which relate primarily to our ZAP technology. Agent commissions are generally paid on market net revenues which include net transaction revenues plus referral and other revenues generated by our agents.

 

26
 

 

   Six Months Ended
June 30,
   Increase   Percent  
   2012   2011   (Decrease)   Change 
   (In thousands) 
Cost of revenues                
Same markets  $19,204   $21,448   $(2,244)   (10.5)%
Closed markets   231    1,857    (1,626)   (87.6)%
Total  $19,435   $23,305   $(3,870)   (16.6)%

 

The decrease in cost of revenues of $3.9 million for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 was primarily related to the overall decrease in net revenues on which we pay agent commissions. Cost of revenues on a same market basis for the six months ended June 30, 2012 was $19.1 million compared to $21.4 million for the six months ended June 30, 2011. Agent performance and tenure based programs, benefits and expense reimbursements decreased by approximately $0.2 million or 100.0% attributable to the transition of our agents to independent contractors who do not qualify for benefits and expense reimbursements and to the elimination of performance and tenure based programs as a component of agent compensation. Same market cost of revenues as a percentage of market net revenues for the six months ended June 30, 2012 was 56.8%, a decrease of 0.2 percentage points from 57.0% for the six months ended June 30, 2011.

 

Product development

 

Product development expenses include our information technology costs relating to the maintenance of our website, proprietary technology platforms and system infrastructure. These costs consist primarily of compensation and benefits for our product development and infrastructure personnel, depreciation of software and equipment and infrastructure costs consisting primarily of facilities, communications and other operating expenses.

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Product development  $3,494   $4,434   $(940)   (21.2)%

 

The decrease in product development expenses for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 was due primarily to decreases in salaries and benefits of $0.7 million attributable to reductions in headcount resulting from our restructuring, technology infrastructure costs of $0.4 million offset by increases in consulting of $0.1 million and amortization of internal-use software of $0.1 million. As a percentage of net revenues, product development expenses decreased by 0.6 percentage points for the six months ended June 30, 2012 compared to the six months ended June 30, 2011.

 

Sales and marketing

 

Sales and marketing expenses consist primarily of compensation and related costs for personnel engaged in sales, sales support and customer service as well as promotional, advertising and client acquisition costs. These expenses have been categorized below between those incurred in our market offices and those expenses which are incurred by the regional and corporate support functions.

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Sales and marketing:                    
Market level  $8,518   $12,844   $(4,326)   (33.7)%
Regional/corporate sales support and marketing   2,340    2,592    (252)   (9.7)%
Total  $10,858   $15,436   $(4,578)   (29.7)%

 

27
 

 

Market level sales and marketing expenses decreased for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 by $4.3 million or 33.7%. The decrease was primarily attributable to decreases in salaries and benefits of $1.1 million, customer acquisition and marketing costs of $2.7 million, facilities and operating expenses of $0.3 million, and travel of $0.1. Approximately $1.8 million of the overall decrease was attributable operations of closed markets. As a percentage of market net revenues, market sales and marketing expenses were 23.4% in the current period compared to 29.6% in the same period last year.

 

Regional/corporate sales support and marketing expenses decreased by approximately $0.3 million and consisted primarily of decreases in salary and benefits of $0.3 million, consulting of $0.1 million and travel of $0.1 million, offset by increases in customer acquisition and marketing costs of $0.2 million. As a percentage of net revenues, regional/corporate sales support and marketing expenses were approximately 6.4% in the six months ended June 30, 2012 compared to 6.0% in the six months ended June 30, 2011.

 

General and administrative

 

General and administrative expenses consist primarily of compensation and related costs for personnel and facilities related to our executive, finance, human resources, facilities and legal organizations, and fees for professional services. Professional services are principally comprised of outside legal, audit and tax services.

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
General and administrative  $4,173   $4,807   $(634)   (13.2)%

 

General and administrative expenses for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 decreased by approximately $0.6 million or 13.2% and were primarily attributable to decreased salaries and benefits of $0.1 million, facilities and other operating expenses of $0.1 million, professional fees of $0.2 million and recruiting fees of $0.1 million. As a percentage of net revenues, general and administrative expenses were 11.5% for the quarter compared to 11.1% in the six months ended June 30, 2011.

 

Restructuring charges, net

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Restructuring charges, net  $1,157   $2,264   $(1,107)   (48.9)%

 

During the six months ended June 30, 2012, we implemented a cost reduction initiative which included reducing our workforce in our corporate sales support and administrative functions. The restructuring charge includes severance pay and related expenses of approximately $1.1 million. Adjustments to non-cash stock-based compensation expense resulting from expense reversals for unvested stock awards that were forfeited were not significant. At June 30, 2012, the aggregate outstanding restructuring liability was approximately $0.4 million which primarily relates to employee severance and related expenses and to non-cancelable lease costs we expect to pay over the remaining term of the leases, which end by the third quarter of 2016.

 

Some expenses required estimates, particularly those related to our ability and the timing of generating sublease income and terminating lease obligations, and may require future adjustments to the amount of the restructuring charge recorded. We expect to incur additional restructuring charges of less than $0.4 million in the remainder of 2012 as we continue to execute our 2012 Restructuring Plan.

 

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Interest income

 

Interest income relates to interest we earn on our money market deposits and short-term investments.

 

   Six Months Ended
June 30,
   Increase   Percent 
   2012   2011   (Decrease)   Change 
   (In thousands) 
Interest income  $13   $43   $(30)   (69.8)%

 

Interest income fluctuates as our cash equivalents and short-term investment balances change and applicable interest rates increase or decrease. The decrease in interest income for the six months ended June 30, 2012 compared to the six months ended June 30, 2011 was due primarily to lower interest rates earned on lower average balances. The lower interest rates were primarily attributable to overall decreases in market interest rates combined with maintaining higher money market account balances yielding lower interest rates as we decreased our short-term investments positions. The lower average balances were primarily attributable to cash used in our operating activities as a result of the losses incurred and our restructuring.

 

 

 

LIQUIDITY AND CAPITAL RESOURCES

 

Our principal sources of liquidity for 2012 are our cash, cash equivalents and short-term investments. As of June 30, 2012, we had cash, cash equivalents and short-term investments at fair value of $19.1 million and no bank debt, line of credit or equipment facilities.

 

Operating activities

 

Our operating activities used cash in the amount of $2.2 million and $7.3 million in the six months ended June 30, 2012 and 2011, respectively. Cash used in the six months ended June 30, 2012 resulted primarily from a net loss of $2.7 million and net changes in operating assets and liabilities of $0.8 million offset by non-cash adjustments. Cash used of $0.8 million from the net change in operating assets and liabilities included a $0.1 million restructuring charge accrual. The non-cash adjustments resulted primarily from $0.9 million of depreciation and amortization and $0.5 million of stock-based compensation expense. The increase in cash used attributable to the net changes in operating assets and liabilities was mainly driven by timing differences in accounts receivable, accounts payable and accrued expenses relating to agent compensation, bonuses, and customer acquisition expenses. Cash used in the six months ended June 30, 2011 resulted primarily from a net loss of $6.9 million and net changes in operating assets and liabilities of $2.5 million offset by non-cash adjustments. Cash used of $2.5 million from the net change in operating assets and liabilities included a $0.7 million restructuring charge accrual. The non-cash adjustments resulted primarily from $1.0 million of depreciation and amortization and $0.8 million of stock-based compensation expense. The increase in cash used attributable to the net changes in operating assets and liabilities was mainly driven by timing differences in accounts receivable, accounts payable and accrued expenses relating to agent compensation, bonuses, and customer acquisition expenses.

 

Our primary source of operating cash flow is the collection of net commission income from escrow companies or similar intermediaries in the real estate transaction closing process, plus marketing and other revenues. These cash collections are offset by cash payments for agent commissions and related costs as well as for product development, sales and marketing and general and administrative costs including employee compensation, benefits, client acquisition costs and other operating expenses. Due to the structure of our commission arrangements, our accounts receivable are settled in cash on a short-term basis and our accounts receivable balances at period end have historically been significantly less than one month’s net revenues.

 

29
 

 

Investing activities

 

Our investing activities provided cash of $2.8 million and $13.4 million in the six months ended June 30, 2012 and 2011, respectively. Cash provided for in the six months ended June 30, 2012 primarily represents the proceeds from the sale and maturity of short-term investments of $3.8 million less the purchase of property and equipment, including amounts for website development and internal use software. Cash provided for the six months ended June 30, 2011 represent the net proceeds from the sales and maturity of short-term investments of $14.2 million less the purchase of property and equipment, including amounts for website development and internal use software. 

 

Currently, we expect our remaining 2012 capital expenditures to be approximately $1.0 million primarily attributable to amounts capitalized for internal-use software and website development costs as well as expenditures for increased server capacity and software. In the future, our ability to make significant capital investments may depend on our ability to generate cash flow from operations and to obtain adequate financing, if necessary and available.

 

Financing activities

 

Our financing activities provided cash of $0.1 million in the six months ended June 30, 2012 and were not significant in the six months ended June 30, 2011. Cash provided for the six months ended June 30, 2012 represents proceeds from stock option exercises.

 

Future needs

 

We believe that our current cash, cash equivalents and short-term investments will be sufficient to fund cash used in our operations, restructurings and capital expenditures for at least the next twelve months. Our future capital requirements will depend on many factors, including our level of investment in technology and online marketing initiatives, our rate of growth in our local markets and in expanding our Powered by Zip broker referral network and possible litigation settlements and legal fees. In addition, if the current macroeconomic environment and depressed state of the residential real estate market continues or worsens, we may have a greater need to fund our business by using our cash, cash equivalent and short-term investment balances, which could not continue indefinitely without raising additional capital.

 

We currently have no bank debt or line of credit facilities. In the event that additional financing is required, we may not be able to raise it on terms acceptable to us or at all. If we are unable to raise additional capital when desired, our business and results of operations will likely suffer.

 

 

CONTRACTUAL OBLIGATIONS AND COMMITMENTS

 

We lease office space under non-cancelable operating leases with various expiration dates through July 2017. The following table provides summary information concerning our future contractual obligations and commitments at June 30, 2012.

 

    Payments due by period  
    Less than
1 year
     1 to 3 years      3 to 5 years     More than
5 years
    Total  
    (In thousands)   
Minimum lease payments   $ 1,901     $ 2,433     $ 1,700     $ 65     $ 6,099  

 

OFF-BALANCE SHEET ARRANGEMENTS AND INDEMNIFICATIONS

 

We do not have any off balance-sheet arrangements, investments in special purpose entities or undisclosed borrowings or debt. Additionally, we are not a party to any derivative contracts or synthetic leases. Our indemnifications agreements are described in note 6, “Commitments and Contingencies” of the unaudited condensed consolidated financial statements.

  

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NON-GAAP MEASURE

 

The table below shows the trend of Adjusted EBITDA as a percentage of revenue for the periods indicated:

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
   (In thousands) 
Net revenues  $20,288   $23,575   $36,361   $43,320 
Adjusted EBITDA  $1,131   $(54)  $(210)  $(2,852)
Adjusted EBITDA margin   5.6%   (0.2)%   (0.6)%   (6.6)%

 

We present Adjusted EBITDA, a non-GAAP financial measure, as a supplemental measure of our performance. We believe Adjusted EBITDA provides useful information regarding the operating results of our core business activity and prospects for the future. We define Adjusted EBITDA as net income (loss) less interest income plus interest expense, provision for income taxes, depreciation and amortization expense, stock-based compensation and further adjusted to eliminate the impact of certain items that we do not consider reflective of our ongoing core operating performance.

 

We present Adjusted EBITDA because we believe it assists investors and analysts in comparing our operating performance across reporting periods on a consistent basis by excluding items that we do not believe are reflective of our core operating performance. In addition, we use Adjusted EBITDA to evaluate our financial results and business strategies, develop budgets, manage expenditures and as a factor in evaluating management’s performance when determining incentive compensation.

 

Our use of Adjusted EBITDA has limitations as an analytical tool. Some of these limitations are:

  Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments;

 

  Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

 

  although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements;

 

  non-cash stock-based compensation is and will remain a key element of our overall long-term incentive compensation package, although we exclude it as an expense when evaluating our ongoing operating performance for a particular period;

 

  Adjusted EBITDA does not reflect the impact of certain cash charges or credits resulting from matters we consider not to be reflective of our core ongoing operations, and

 

  other companies, including companies in our industry, may calculate Adjusted EBITDA differently than we do, which limits its usefulness as a comparative measure.

 

 

Because of these limitations, Adjusted EBITDA should not be considered in isolation or as a substitute for performance measures calculated in accordance with GAAP. When evaluating our performance, Adjusted EBITDA should be considered alongside other financial measures, including net income and our other GAAP results.

 

31
 

 

The following is a reconciliation of Adjusted EBITDA to the most comparable GAAP measure, net income (loss) for the three and six months ended June 30, 2012 and 2011:

 

   Three Months Ended
June 30,
   Six Months Ended
June 30,
 
   2012   2011   2012   2011 
   (In thousands) 
Net income (loss)  $314   $(972)  $(2,743)  $(6,883)
Add back                    
Interest income   (5)   (15)   (13)   (43)
Depreciation and amortization   433    484    870    973 
Stock-based compensation expense   294    449    519    837 
Restructuring charges, net   95        1,157    2,264 
Non-GAAP Adjusted EBITDA  $1,131   $(54)  $(210)  $(2,852)

 

 

  Item 3. Quantitative and Qualitative Disclosures About Market Risk:

 

Interest rate sensitivity

 

Our investment policy requires us to invest funds in excess of current operating requirements. The principal objectives of our investment activities are to preserve principal, provide liquidity and maximize income consistent with minimizing risk of material loss. We believe this investment policy is prudent, and helps to reduce, but does not prevent, loss of principal, and results in minimal interest rate exposure on our investments.

 

As of June 30, 2012 and 2011, our cash and cash equivalents consisted primarily of money market funds and our short-term investments consisted primarily of investment grade, highly liquid interest-bearing securities. The recorded carrying amounts of cash and cash equivalents approximate fair value due to their short maturities and short-term investments are carried at fair value. The amount of credit exposure to any one issue, issuer and type of instrument is limited. Our interest income is sensitive to changes in the general level of interest rates in the United States, particularly since the majority of our investments are fixed income investments. If market interest rates were to increase or decrease immediately and uniformly by 10% from levels at June 30, 2012 and 2011, there would be a negligible increase or decline in fair market value of the portfolio.

 

Exchange rate sensitivity

 

We do not have an exposure to foreign currency exchange rate fluctuations because we do not have any revenues or expenses denominated in foreign currencies. We have not engaged in any hedging or other derivative transactions to date.

 

  Item 4. Controls and Procedures:

 

(a) Disclosure controls and procedures. Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such items are defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures as of the end of the period covered by this Quarterly Report are effective to ensure that information we are required to disclose in reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure, and that such information is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

(b) Changes in internal control over financial reporting. There were no changes in our internal control over financial reporting during the quarter ended June 30, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

32
 

 

 

PART II — OTHER INFORMATION

  Item 1. Legal Proceedings:

 

On March 26, 2010, we were named as one of fourteen defendants in a lawsuit filed in the United States District Court for the District of Delaware, Smarter Agent LLC v. Boopsie, Inc., et al., by plaintiff, Smarter Agent LLC. The complaint alleges that the defendants have each infringed on patents owned by Smarter Agent relating to mobile device application technology and seeks unspecified damages and injunctive relief. After completing our initial investigation of this matter, we do not currently believe that we have infringed on any patent, or that we have any liability for the claims alleged, and, thus, we intend to vigorously defend against this lawsuit.

 

On September 26, 2011, the California State Labor Commissioner filed a lawsuit against us in the Superior Court of California, Alameda County, State Labor Commissioner, etc., v. ZipRealty, Inc. The complaint concerns our compensation practices regarding real estate agents in California, who at the time at issue were classified as employees. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime, and failed to provide itemized wage statements, as required by California laws. In addition to wages and overtime, the complaint seeks liquidated damages, for a total claim in excess of $17 million. On January 18, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with California law. Accordingly, we believe that this claim is without merit and, thus, we intend to vigorously defend against this lawsuit.

 

On February 17, 2012, two real estate sales agents formerly employed by us, on behalf of themselves and all other similarly situated individuals, filed a lawsuit against us in the United States District Court, District of Arizona, Patricia Anderson and James Kwasiborski v. ZipRealty, Inc . The complaint concerns our compensation practices nationwide regarding our real estate agents, who at the time at issue were classified as employees. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime as required by federal law. In addition to the federal law allegations, the complaint also alleges violations of the Arizona Minimum Wage law. The complaint seeks liquidated and treble damages in addition to wages and overtime for an unspecified amount. On April 2, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with federal and state law. Accordingly, we believe that this claim is without merit and, thus, we intend to vigorously defend against this lawsuit.

 

On February 29, 2012, one real estate agent formerly employed by us, on behalf of herself and all other similarly situated individuals, filed a lawsuit against us in the Superior Court of California, Los Angeles County, Tracy Adewunmi v. ZipRealty, Inc. concerning our compensation practices regarding real estate agents in California. Specifically, the complaint alleges that we failed to pay these persons minimum wage and overtime, failed to provide meal and rest periods, failed to reimburse employee expenses and failed to provide itemized wage statements as required by California laws. The complaint seeks unspecified damages including penalties and attorneys’ fees in addition to wages and overtime. We believe that the claims in this case are nearly identical to those in the State Labor Commissioner, etc., v. ZipRealty, Inc. On April 2, 2012, we filed an answer denying these allegations as we believe that our sales agents, whose job duties consisted exclusively of selling residential real estate, were properly classified as “Outside Salespersons” and were compensated accordingly in full compliance with California law. Additionally, we filed a cross complaint against Ms. Adewumni for fraud and breach of contract, in which we alleged that she created false client accounts that resulted in her receiving higher commission payments than she was entitled to receive under her written employment agreement. Accordingly, we believe Ms. Adewumni’s claim is without merit and, thus, we intend to vigorously defend against this lawsuit.

 

We are not currently subject to any other material legal proceedings. From time to time we have been, and we currently are, a party to litigation and subject to claims incident to the ordinary course of the business. The amounts in dispute in these matters are not material to us, and we believe that the resolution of these proceedings will not have a material adverse effect on the business, financial position, results of operations or cash flows.

 

33
 

 

  Item 1A. Risk Factors:

 

Our business is subject to a number of risks and uncertainties. Because of risks and uncertainties affecting our operating results and financial condition, past financial performance may not be a reliable indicator of future performance, and historical trends should not be used to anticipate results or trends in future periods. You should consider carefully the risk factors described under “Risk Factors” in Item 1A of Part I of our annual report on Form 10-K for our fiscal year ended December 31, 2011. At this time, we are not aware of any material changes to the nature of those risk factors. We intend to set forth material changes to the nature of those risk factors in our future reports on Form 10-Q as required by Item 1A of Part II thereof. For business, market and other developments in the quarter ended June 30, 2012, please see Item 2 of Part I of this report, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

 

  Item 5. Other Information:

 

Not applicable.

 

  Item 6. Exhibits:

 

The exhibits listed in the Exhibit Index are filed as a part of this report.

 

34
 

 

SIGNATURE

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

  ZIPREALTY
Date: August 10, 2012 By:

/s/    Eric L. Mersch

 
    Eric L. Mersch
    Chief Financial Officer

 

35
 

 

 

Exhibit Index

 

Exhibit

number

  Description
3.1(1)   Certificate of Correction to Amended and Restated Certificate of Incorporation
     
3.2(a)(2)   Bylaws
     
4.1(2)   Form of Common Stock Certificate
     
10.15(3)*   Offer Letter of Eric L. Mersch effective April 9, 2012
     
10.16(4)*   Offer Letter of Franklin V. (Van) Davis effective May 7, 2012
     
31.1   Certification of Chief Executive Officer, as required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934
     
31.2   Certification of Chief Financial Officer, as required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934
     
32.1   Certification of Chief Executive Officer, as required by Section 1350 of Chapter 63 of Title 18 of the United States Code (18 U.S.C. 1350)
     
32.2   Certification of Chief Financial Officer, as required by Section 1350 of Chapter 63 of Title 18 of the United States Code (18 U.S.C. 1350)

 

  (1) Incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K (File No. 000-51002) filed with the Securities and Exchange Commission on December 16, 2008.

  (2) Incorporated by reference to the exhibit of the same number to the Registrant’s Registration Statement on Form S-1 (File No. 333-115657) filed with the Securities and Exchange Commission on May 20, 2004, as amended.
  (3) Incorporated by reference to the exhibit of the same number to the Registrant’s Quarterly Report on Form 10-Q (File No. 000-51002) filed with the Securities and Exchange Commission on May 11, 2012.
  (4) Incorporated by reference to the exhibit of the same number to the Registrant’s current Report on Form 8-K (File No. 000-51002) filed with the Securities and Exchange Commission on May 8, 2012.
     
  * Identifies a management contract or compensatory plan of arrangement required to be filed as an exhibit to this report.

 

 

36

 

 

XNAS:ZIPR Quarterly Report 10-Q Filling

XNAS:ZIPR Stock - Get Quarterly Report SEC Filing of XNAS:ZIPR stocks, including company profile, shares outstanding, strategy, business segments, operations, officers, consolidated financial statements, financial notes and ownership information.

XNAS:ZIPR Quarterly Report 10-Q Filing - 6/30/2012
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