NOTE 1—BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

Unaudited Interim Financial Statements

The accompanying interim unaudited condensed consolidated financial statements included in this Quarterly Report on Form 10-Q have been prepared by APX Group Holdings, Inc. and subsidiaries (the “Company” or “APX”) without audit. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted pursuant to such rules and regulations. The information as of December 31, 2013 included in the unaudited condensed consolidated balance sheets was derived from the Company’s audited consolidated financial statements. The unaudited condensed consolidated financial statements included in this Quarterly Report on Form 10-Q were prepared on the same basis as the audited consolidated financial statements and, in the opinion of management, reflect all adjustments (all of which are considered of normal recurring nature) considered necessary to present fairly the Company’s financial position, results of operations and cash flows for the periods and dates presented. The results of operations for the three and nine months ended September 30, 2014 are not necessarily indicative of the results that may be expected for the year ending December 31, 2014.

These unaudited condensed consolidated financial statements and notes should be read in conjunction with the Company’s audited consolidated financial statements and related notes for the years ended December 31, 2013 and 2012 set forth in the Company’s Annual Report on Form 10-K dated March 24, 2014, as filed with the Securities and Exchange Commission (“SEC”), which is available on the SEC’s website at sec.gov.

The direct-to-home component of the sales cycle for the Company is seasonal in nature. The summer sales season generally runs from late April to the end of August each year. The Company makes investments in the recruitment of the sales force and inventory prior to the summer sales season. The Company experiences increases in subscriber acquisition costs, as well as costs to support the sales force around North America, during the summer sales season.

Basis of Presentation—The unaudited condensed consolidated financial statements of the Company are presented for APX Group Holdings, Inc. and its wholly-owned subsidiaries. On April 1, 2013, the Company completed the sale of 2GIG Technologies, Inc. (“2GIG”) and its subsidiary to Nortek, Inc. (the “2GIG Sale”). Therefore, its results of operations are excluded following the sale and the results of operations prior to and subsequent to the 2GIG Sale are not necessarily comparable.

During the three months ended September 30, 2014, the Company recorded certain out-of-period adjustments totaling $3.8 million, primarily associated with equipment recorded as subscriber acquisition costs rather than operating expenses during the three months ended June 30, 2014 due to a reporting error identified during an information technology system implementation and included other immaterial items. As a result of these adjustments, subscriber acquisition costs decreased by $3.4 million and total operating expenses increased by $3.8 million.

Revenue Recognition—The Company recognizes revenue principally on three types of transactions: (i) monitoring, which includes revenues for monitoring and other automation services of the Company’s subscriber contracts and certain subscriber contracts that have been sold, (ii) service and other sales, which includes services provided on contracts, contract fulfillment revenue, sales of products that are not part of the basic equipment package and revenue from 2GIG, and (iii) activation fees on the Company’s contracts, which are amortized over the expected life of the customer.

Monitoring services for the Company’s subscriber contracts are billed in advance, generally monthly, pursuant to the terms of subscriber contracts and recognized ratably over the service period. Revenue from monitoring contracts that have been sold is recognized monthly as services are provided based on rates negotiated as part of the contract sales. Costs of providing ongoing monitoring services are expensed in the period incurred.

 

Service and other sales revenue is recognized as services are provided or when title to the products and equipment sold transfers to the customer. Contract fulfillment revenue, included in service and other sales, is recognized when payment is received from customers who cancel their contract in-term. Revenue from sales of products that are not part of the basic equipment package is recognized upon delivery of products.

Activation fees are generally charged to a customer when a new account is opened. This revenue is deferred and recognized using a 150% declining balance method over 12 years and converts to a straight-line methodology when the resulting revenue recognition is greater than that from the accelerated method for the remaining estimated life.

Through the date of the 2GIG Sale, service and other sales revenue included net recurring services revenue, which was based on back-end services, provided by Alarm.com, for all panels sold to distributors and direct-sell dealers and subsequently placed in service at end-user locations. The Company received a fixed monthly amount from Alarm.com for each system installed with non-Vivint customers that used the Alarm.com platform.

Revenue from the sale of subscriber contracts is recognized when ownership of the contracts has transferred to the purchaser. Any unamortized deferred revenue and costs related to contract sales are recognized at the time of the sale.

Subscriber Contract Costs—A portion of the direct costs of acquiring new subscribers, primarily sales commissions, equipment, and installation costs, are deferred and recognized over a pattern that reflects the estimated life of the subscriber relationships. The Company amortizes these costs over the estimated useful life by using a 150% declining balance method over 12 years and converts to a straight-line methodology when the resulting amortization charge is greater than that from the accelerated method for the remaining estimated life. The Company evaluates subscriber account attrition on a periodic basis, utilizing observed attrition rates for the Company’s subscriber contracts and industry information and, when necessary, makes adjustments to the estimated subscriber relationship period and amortization method.

Cash and Cash Equivalents—Cash and cash equivalents consists of highly liquid investments with remaining maturities when purchased of three months or less.

Restricted Cash and Cash Equivalents—Restricted cash and cash equivalents is restricted for a specific purpose and cannot be included in the general cash account. At September 30, 2014 and December 31, 2013, the restricted cash and cash equivalents was held by a third-party trustee. Restricted cash and cash equivalents consists of highly liquid investments with remaining maturities when purchased of three months or less.

Accounts Receivable—Accounts receivable consists primarily of amounts due from customers for recurring monthly monitoring services. The accounts receivable are recorded at invoiced amounts and are non-interest bearing. The gross amount of accounts receivable has been reduced by an allowance for doubtful accounts of $3.3 million and $1.9 million at September 30, 2014 and December 31, 2013, respectively. The Company estimates this allowance based on historical collection rates, subscriber attrition rates, and contractual obligations underlying the sale of the subscriber contracts to third parties. When the Company determines that there are accounts receivable that are uncollectible, they are charged off against the allowance for doubtful accounts. As of September 30, 2014 and December 31, 2013, no accounts receivable were classified as held for sale. Provision for doubtful accounts is included in general and administrative expenses in the accompanying unaudited condensed consolidated statements of operations.

 

The changes in the Company’s allowance for accounts receivable were as follows for the periods ended (in thousands):

 

		Three Months Ended September 30,								Nine Months Ended September 30,
		2014				2013				2014				2013
Beginning balance		$	4,501			$	2,625			$	1,901			$	2,301
Provision for doubtful accounts			4,017				2,860				11,275				8,299
Write-offs and adjustments			(5,236	)			(2,925	)			(9,894	)			(8,040	)
Balance at end of period		$	3,282			$	2,560			$	3,282			$	2,560

Inventories—Inventories, which comprise home automation and security system equipment and parts, are stated at the lower of cost or market with cost determined under the first-in, first-out (FIFO) method. The Company records an allowance for excess and obsolete inventory based on anticipated obsolescence, usage and historical write-offs.

Long-lived Assets and Intangibles—Property and equipment are stated at cost and depreciated on the straight-line method over the estimated useful lives of the assets or the lease term, whichever is shorter. Intangible assets with definite lives are amortized over the remaining estimated economic life of the underlying technology or relationships, which ranges from 2 to 10 years. Amortization expense associated with leased assets is included with depreciation expense. Routine repairs and maintenance are charged to expense as incurred. Definite-lived intangible assets are amortized on the straight-line method over the estimated useful life of the asset or in a pattern in which the economic benefits of the intangible asset are consumed. The Company periodically assesses potential impairment of its long-lived assets and intangibles and performs an impairment review whenever events or changes in circumstances indicate that the carrying value may not be recoverable. In addition, the Company periodically assesses whether events or changes in circumstance continue to support an indefinite life of certain intangible assets or warrant a revision to the estimated useful life of definite-lived intangible assets.

Deferred Financing Costs—Costs incurred in connection with obtaining debt financing are deferred and amortized utilizing the straight-line method, which approximates the effective-interest method, over the life of the related financing. If such financing is paid off or replaced prior to maturity with debt instruments that have substantially different terms, the unamortized costs are charged to expense. Deferred financing costs included in the accompanying unaudited condensed consolidated balance sheets at September 30, 2014 and December 31, 2013 were $54.6 million and $59.4 million, net of accumulated amortization of $17.4 million and $9.9 million, respectively. Amortization expense on deferred financing costs recognized and included in interest expense in the accompanying unaudited condensed consolidated statements of operations, totaled $2.6 million and $2.3 million for the three months ended September 30, 2014 and 2013, respectively and $7.6 million and $6.5 million for the nine months ended September 30, 2014 and 2013, respectively.

Residual Income Plan—The Company has a program that allows third-party sales channel partners to receive additional compensation based on the performance of the underlying contracts they create. The Company calculates the present value of the expected future payments and recognizes this amount in the period the commissions are earned. Subsequent accretion and adjustments to the estimated liability are recorded as interest and other expense, respectively. The Company monitors actual payments and customer attrition on a periodic basis and, when necessary, makes adjustments to the liability. The amount included in accrued expenses and other current liabilities was $0.4 million and $0.3 million as of September 30, 2014 and December 31, 2013, respectively, and the amount included in other long-term obligations was $2.7 million and $2.4 million at September 30, 2014 and December 31, 2013, respectively, representing the present value of the estimated amounts owed to third-party sales channel partners.

Stock-Based Compensation—The Company measures compensation cost based on the grant-date fair value of the award and recognizes that cost over the requisite service period of the awards (See Note 12).

Income Taxes—The Company accounts for income taxes based on the asset and liability method. Under the asset and liability method, deferred tax assets and deferred tax liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Valuation allowances are established when necessary to reduce deferred tax assets when it is determined that it is more likely than not that some portion of the deferred tax asset will not be realized.

The Company recognizes the effect of an uncertain income tax position on the income tax return at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. The Company’s policy for recording interest and penalties is to record such items as a component of the provision for income taxes.

Liability—Contracts Sold—On March 31, 2014, the Company received approximately $2.3 million in proceeds from the sale of certain subscriber contracts to a third-party. Concurrently, the Company entered into an agreement with the buyer to continue providing billing, monitoring and support services for the contracts that were sold for a period of ten years. As a result of this continuing involvement on the part of the Company in the servicing of the contracts, accounting guidance precluded gain recognition at the time of the sale. Accordingly, the Company has treated this transaction as a secured borrowing and recorded a liability for the proceeds received at the time of the sale. The amount included in accrued expenses and other current liabilities related to this liability was $2.1 million as of September 30, 2014. These amounts are being amortized using the effective interest method over twelve years, the expected term of these subscriber contracts.

Use of Estimates—The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ from those estimates.

Concentrations of Credit Risk—Financial instruments that potentially subject the Company to concentration of credit risk consist principally of receivables and cash. At times during the year, the Company maintains cash balances in excess of insured limits. The Company is not dependent on any single customer or geographic location. The loss of a customer would not adversely impact the Company’s operating results or financial position.

Concentrations of Supply Risk—As of September 30, 2014, approximately 75% of the Company’s installed panels were 2GIG Go!Control panels and 17% were SkyControl panels. On April 1, 2013, the Company completed the 2GIG Sale. In connection with the 2GIG Sale, the Company entered into a five-year supply agreement with 2GIG, pursuant to which they will be the exclusive provider of the Company’s control panel requirements, subject to certain exceptions as provided in the supply agreement. The loss of 2GIG as a supplier could potentially impact the Company’s operating results or financial position.

Fair Value Measurement—Fair value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Assets and liabilities subject to on-going fair value measurement are categorized and disclosed into one of three categories depending on observable or unobservable inputs employed in the measurement. These two types of inputs have created the following fair value hierarchy:

Level 1: Quoted prices in active markets that are accessible at the measurement date for assets and liabilities.

Level 2: Observable prices that are based on inputs not quoted in active markets, but corroborated by market data.

Level 3: Unobservable inputs are used when little or no market data is available.

This hierarchy requires the Company to minimize the use of unobservable inputs and to use observable market data, if available, when determining fair value. The Company recognizes transfers between levels of the hierarchy based on the fair values of the respective financial measurements at the end of the reporting period in which the transfer occurred. There were no transfers between levels of the fair value hierarchy during the nine months ended September 30, 2014 and the fiscal year 2013.

 

The carrying amounts of the Company’s accounts receivable, accounts payable and accrued and other liabilities approximate their fair values due to their short maturities.

Goodwill—The Company conducts a goodwill impairment analysis annually and as necessary if changes in facts and circumstances indicate that the fair value of the Company’s reporting units may be less than its carrying amount. When indicators of impairment do not exist and certain accounting criteria are met, the Company is able to evaluate goodwill impairment using a qualitative approach. When necessary, the Company’s quantitative goodwill impairment test consists of two steps. The first step requires that the Company compare the estimated fair value of its reporting units to the carrying value of the reporting unit’s net assets, including goodwill. If the fair value of the reporting unit is greater than the carrying value of its net assets, goodwill is not considered to be impaired and no further testing is required. If the fair value of the reporting unit is less than the carrying value of its net assets, the Company would be required to complete the second step of the test by analyzing the fair value of its goodwill. If the carrying value of the goodwill exceeds its fair value, an impairment charge is recorded.

Foreign Currency Translation and Other Comprehensive Income—The functional currencies of Vivint Canada, Inc. and Vivint New Zealand, Ltd. are the Canadian and New Zealand dollars, respectively. Accordingly, assets and liabilities are translated from their respective functional currencies into U.S. dollars at period-end rates and revenue and expenses are translated at the weighted-average exchange rates for the period. Adjustments resulting from this translation process are classified as other comprehensive income (loss) and shown as a separate component of equity.

Letters of Credit—As of September 30, 2014 and December 31, 2013, the Company had $3.0 million and $2.2 million, respectively, of letters of credit issued in the ordinary course of business, all of which are undrawn.

New Accounting Pronouncement—In May 2014, the FASB issued authoritative guidance which clarifies the principles used to recognize revenue for all entities. The new guidance requires companies to recognize revenue when it transfers goods or services to a customer in an amount that reflects the consideration to which a company expects to be entitled. The guidance is effective for annual and interim periods beginning after December 15, 2016. The guidance allows for either a “full retrospective” adoption or a “modified retrospective” adoption, however early adoption is not permitted. The Company is currently evaluating the impact the adoption of this guidance will have on our consolidated financial statements.

In February 2013, the FASB issued authoritative guidance which expands the disclosure requirements for amounts reclassified out of accumulated other comprehensive income (“AOCI”). The guidance requires an entity to provide information about the amounts reclassified out of AOCI by component and present, either on the face of the income statement or in the notes to financial statements, significant amounts reclassified out of AOCI by the respective line items of net income but only if the amount reclassified is required under GAAP to be reclassified to net income in its entirety in the same reporting period. For other amounts, an entity is required to cross-reference to other disclosures required under GAAP that provide additional detail about those amounts. This guidance does not change the current requirements for reporting net income or OCI in financial statements. The guidance became effective for us in the first quarter of fiscal year 2014. The adoption of this guidance did not have a material impact on our financial position, results of operations or cash flows.

In July 2013, the FASB issued authoritative guidance which amends the guidance related to the presentation of unrecognized tax benefits and allows for the reduction of a deferred tax asset for a net operating loss carryforward whenever the net operating loss carryforward or tax credit carryforward would be available to reduce the additional taxable income or tax due if the tax position is disallowed. This guidance became effective for us for annual and interim periods beginning in fiscal year 2014. The adoption of this guidance did not have a material impact on our financial position, results of operations or cash flows.

NOTE 2—BUSINESS COMBINATIONS

Space Monkey Acquisition

On September 10, 2014, a wholly-owned subsidiary of the Company merged with Space Monkey, Inc. (“Space Monkey”), a data cloud storage technology company. Pursuant to the terms of the merger the Company paid aggregate cash consideration of $15.0 million, of which $1.5 million is held in escrow for indemnification obligations and is required to be released no later than December 31, 2014. This strategic acquisition was made to support the growth and development of the Company’s smart home platform. The accompanying condensed consolidated financial statements include the financial position and results of operations associated with the Space Monkey assets acquired and liabilities assumed from September 10, 2014. The pro forma impact of Space Monkey on the Company’s financial position and results of operations for the three and nine months ended September 30, 2014 is immaterial.

The determination of the final purchase price is subject to potential adjustments, primarily related to the valuation of certain intangible assets and income taxes. The following table summarizes the preliminary estimated fair value of the assets acquired and liabilities assumed at the time of acquisition (in thousands):

 

Net assets acquired from Space Monkey		$	404
Deferred tax liability			(1,106	)
Intangible assets (See Note 9)			8,300
Goodwill			7,402
Total estimated fair value of the assets acquired and liabilities assumed		$	15,000

During the three and nine months ended September 30, 2014, the Company incurred costs associated with the Space Monkey acquisition, which were not material, consisting of accounting, legal and professional fees and payments to employees directly associated with the acquisition. These costs are included in general and administrative expenses in the accompanying unaudited condensed consolidated statements of operations.

Wildfire Acquisition

On January 31, 2014, a wholly-owned subsidiary of the Company completed the purchase of certain assets, and assumed certain liabilities, of Wildfire Broadband, LLC (“Wildfire”). Pursuant to the terms of the asset purchase agreement the Company paid aggregate cash consideration of $3.5 million, of which $0.4 million is held in escrow for indemnification obligations and is required to be released no later than January 31, 2015. This strategic acquisition was made to provide the Company access to Wildfire’s existing customers, wireless internet infrastructure and know-how. The accompanying condensed consolidated financial statements include the financial position and results of operations associated with the Wildfire assets acquired and liabilities assumed from January 31, 2014. The pro forma impact of Wildfire on the Company’s financial position and results of operations for the three and nine months ended September 30, 2014 is immaterial. The associated goodwill is deductible for income tax purposes.

The following table summarizes the estimated fair value of the assets acquired and liabilities assumed at the time of acquisition (in thousands):

 

Net assets acquired from Wildfire		$	96
Intangible assets (See Note 9)			2,900
Goodwill			504
Total cash consideration			3,500
Estimated net working capital adjustment			(61	)
Total fair value of the assets acquired and liabilities assumed		$	3,439

 

During the nine months ended September 30, 2014, the Company incurred costs associated with the Wildfire acquisition, which were not material, consisting of accounting, legal and professional fees and payments to employees directly associated with the acquisition. These costs are included in general and administrative expenses in the accompanying unaudited condensed consolidated statements of operations.

In addition, during the three months ended September 30, 2014, the Company made a cost-based investment in a privately-held company (the “Investee”). The amount of the investment by the Company in the Investee was $0.3 million as of September 30, 2014. The Company could make up to $2.7 million in additional investments in the Investee, subject to the achievement of certain technology development milestones. These additional investments are expected to occur through July 1, 2016.

NOTE 3—DIVESTITURE OF SUBSIDIARY

On April 1, 2013, the Company completed the 2GIG Sale. Pursuant to the terms of the 2GIG Sale, Nortek, Inc. acquired all of the outstanding common stock of 2GIG for aggregate cash consideration of approximately $148.9 million, including cash, working capital and indebtedness adjustments as provided in the stock purchase agreement. In connection with the 2GIG Sale, the Company entered into a five-year supply agreement with 2GIG, pursuant to which they will be the exclusive provider of the Company’s control panel requirements, subject to certain exceptions as provided in the supply agreement. A portion of the net proceeds from the 2GIG Sale was used to repay $44.0 million of outstanding borrowings under the Company’s revolving credit facility. The terms of the indenture governing the existing senior unsecured notes, the indenture governing the existing senior secured notes and the credit agreement governing the revolving credit facility, permit the Company, subject to certain conditions, to distribute all or a portion of the net proceeds from the 2GIG Sale to the Company’s stockholders. In May 2013, the Company distributed a dividend of $60.0 million from such proceeds to stockholders. Subject to the applicable conditions, the Company may distribute the remaining proceeds in the future. The Company’s financial position and results of operations include 2GIG through March 31, 2013.

The following table summarizes the net gain recognized in connection with this divestiture (in thousands):

 

Adjusted net sale price		$	148,871
2GIG assets (including cash of $3,383), net of liabilities			(109,053	)
2.0 technology, net of amortization			16,903
Other			(9,855	)
Net gain on divestiture		$	46,866

NOTE 4—VARIABLE INTEREST ENTITY

Accounting rules require the primary beneficiary of a variable interest entity (“VIE”) to include the financial position and results of operations of the VIE in its condensed consolidated financial statements. Vivint Solar, Inc. (“Solar”), formed by the Company in April 2011, installs solar panels on the roofs of customers’ homes and enters into agreements for customers to purchase the electricity generated by the panels. Solar also takes advantage of local government and federal incentive programs that offer assistance in generating green power. Solar was consolidated as a VIE by APX Group, Inc. from April 2011 through November 15, 2012. On November 16, 2012, an investor group comprised of certain investment funds affiliated with Blackstone Capital Partners VI L.P., and certain co-investors and management investors (collectively, the “Investors”) purchased Solar for $75.0 million and became its primary beneficiary and, as a result, the Solar financial position and results of operations are not consolidated by the Company subsequent to November 16, 2012. The assets of Solar are restricted in that they are only available to settle the obligations of Solar and not of the Company and similarly, the creditors of Solar have no recourse to the general assets of the Company.

The Company and Solar have entered into an agreement under which the Company subleases corporate office space, and provides certain other administrative services, to Solar. During the three months ended September 30, 2014 and 2013, the Company charged $2.3 million and $0.3 million, respectively, and during the nine months ended September 30, 2014 and 2013, the Company charged $5.9 million and $0.8 million, respectively, of general and administrative expenses to Solar in connection with this agreement. The balance due from Solar in connection with this agreement and other expenses paid on Solar’s behalf was $3.1 million at December 31, 2013 and is included in prepaid expenses and other current assets in the accompanying unaudited condensed consolidated balance sheets. The balance due from Solar in connection with this agreement at September 30, 2014 was immaterial.

On December 27, 2012, the Company executed a Subordinated Note and Loan Agreement with Solar. The terms of the agreement state that Solar may borrow up to $20.0 million, bearing interest on the outstanding balance at an annual rate of 7.5%, which interest is due and payable semi-annually on June 1 and December 1 of each year commencing on June 1, 2013. The balance outstanding on September 30, 2014, representing principal of $20.0 million and payment-in-kind interest of $2.2 million, and on December 31, 2013, representing principal of $20.0 million and payment-in-kind interest of $1.3 million, is included in prepaid and other current assets and long-term investments and other assets, net, respectively, in the accompanying unaudited condensed consolidated balance sheets. In addition, accrued interest of $0.5 million and $0.1 million on September 30, 2014 and December 31, 2013, respectively, is included in prepaid expenses and other current assets in the accompanying unaudited condensed consolidated balance sheets. These variable interests represent the Company’s maximum exposure to loss from direct involvement with Solar.

NOTE 5—LONG-TERM DEBT

On November 16, 2012, APX issued $1.3 billion aggregate principal amount of notes, of which $925.0 million aggregate principal amount of 6.375% senior secured notes due 2019 (the “outstanding 2019 notes”) mature on December 1, 2019 and are secured on a first-priority lien basis by substantially all of the tangible and intangible assets whether now owned or hereafter acquired by the Company, subject to permitted liens and exceptions, and $380.0 million aggregate principal amount of 8.75% senior notes due 2020 (the “outstanding 2020 notes” and together with the outstanding 2019 notes, the “notes”), mature on December 1, 2020.

During 2013, the Company completed two offerings of additional 8.75% senior notes due 2020 under the indenture dated November 16, 2012 (the “2020 notes”). On May 31, 2013, the Company issued $200.0 million of 2020 notes at a price of 101.75% and on December 13, 2013, the Company issued an additional $250.0 million of 2020 notes at a price of 101.50%. Blackstone Advisory Partners L.P. (“Blackstone Partners”) participated as one of the initial purchasers of the 2020 notes in each of the May 31, 2013 and December 31, 2013 offerings and received approximately $0.2 million and $0.2 million in fees, respectively, at the time of closing.

On July 1, 2014, the Company issued an additional $100.0 million of 2020 notes. In connection with the issuance, Blackstone Partners participated as one of the initial purchasers of the 2020 notes and received approximately $0.1 million in fees at the time of closing.

Interest on the notes accrues at the rate of 6.375% per annum for the outstanding 2019 notes and 8.75% per annum for the outstanding 2020 notes. Interest on the notes is payable semiannually in arrears on each June 1 and December 1. The Company may redeem each series of the notes, in whole or part, at any time at a redemption price equal to the principal amount of the notes to be redeemed, plus a make-whole premium and any accrued and unpaid interest at the redemption date. In addition, APX may redeem the notes at the prices and on the terms specified in the applicable indenture.

In connection with each issuance of the notes, the Company entered into Exchange and Registration Rights Agreements (each a “Registration Rights Agreement”) with the initial purchasers of the notes, dated November 16, 2012, May 8, 2013, December 13, 2013 and July 1, 2014, respectively.

In connection with the issuance of the initial notes on November 16, 2012 and the subsequent offering on May 31, 2013, in accordance with the applicable Registration Rights Agreements, the Company filed a registration statement on Form S-4 with the Securities and Exchange Commission with respect to an exchange offer to exchange the notes of each series for an issue of Notes (except the Exchange Notes do not contain transfer restrictions). The exchange offer was completed on October 29, 2013.

In connection with the issuance of the subsequent offering on December 13, 2013, under the applicable Registration Rights Agreement, the Company filed a registration statement on Form S-4 with the Securities and Exchange Commission with respect to an exchange offer to exchange the Notes of each series for an issue of Notes (except the Exchange Notes do not contain transfer restrictions). This exchange offer was completed on March 7, 2014.

Revolving Credit Facility

On November 16, 2012, APX, the Company and the other guarantors entered into a revolving credit facility in the aggregate principal amount of $200.0 million. On June 28, 2013, the Company amended and restated the credit agreement to provide for a new repriced tranche of revolving credit commitments with a lower interest rate. Nearly all of the existing tranches of revolving credit commitments were terminated and converted into the repriced tranche, with the unterminated portion of the existing tranche continuing to accrue interest at the original rate.

Borrowings under the revolving credit facility bear interest at a rate per annum equal to an applicable margin plus, at our option, either (1) the base rate determined by reference to the highest of (a) the Federal Funds rate plus 0.50%, (b) the prime rate of Bank of America, N.A. and (c) the LIBOR rate determined by reference to the costs of funds for U.S. dollar deposits for an interest period of one month, plus 1.00% or (2) the LIBOR rate determined by reference to the London interbank offered rate for dollars for the interest period relevant to such borrowing. The applicable margin for base rate-based borrowings (1)(a) under the repriced tranche is currently 2.0% per annum and (b) under the former tranche is currently 3.0% and (2)(a) the applicable margin for LIBOR rate-based borrowings (a) under the repriced tranche is currently 3.0% per annum and (b) under the former tranche is currently 4.0%. The applicable margin for borrowings under the revolving credit facility is subject to one step-down of 25 basis points based on the Company’s consolidated first lien net leverage ratio at the end of each fiscal quarter, commencing with delivery of its consolidated financial statements for the first full fiscal quarter ending after the closing date.

In addition to paying interest on outstanding principal under the revolving credit facility, the Company is required to pay a quarterly commitment fee of 0.50% (which will be subject to one step-down based on our consolidated first lien net leverage ratio) to the lenders under the revolving credit facility in respect of the unutilized commitments thereunder. The Company also pays customary letter of credit and agency fees. The borrowings are due November 16, 2017, which may be repaid at any time without penalty.

The Company’s outstanding debt at September 30, 2014 had maturity dates of 2019 and beyond and consisted of the following (in thousands):

 

		Outstanding Principal				Unamortized Premium				Net Carrying Amount
Revolving credit facility		$	—			$	—			$	—
6.375% Senior Secured Notes due 2019			925,000				—				925,000
8.75% Senior Notes due 2020			930,000				8,413				938,413
Total Notes payable		$	1,855,000			$	8,413			$	1,863,413

The Company’s outstanding debt at December 31, 2013 consisted of the following (in thousands):

 

		Outstanding Principal				Unamortized Premium				Net Carrying Amount
Revolving credit facility		$	—			$	—			$	—
6.375% Senior Secured Notes due 2019			925,000				—				925,000
8.75% Senior Notes due 2020			830,000				7,049				837,049
Total Notes payable		$	1,755,000			$	7,049			$	1,762,049

 

NOTE 6—BALANCE SHEET COMPONENTS

The following table presents balance sheet component balances (in thousands):

 

		September 30, 2014				December 31, 2013
Subscriber contract costs
Subscriber contract costs		$	593,454			$	310,666
Accumulated amortization			(62,474	)			(22,350	)
Subscriber contract costs, net		$	530,980			$	288,316
Long-term investments and other assets
Notes receivable from related parties, net of allowance (See Notes 4 and 18)		$	296			$	21,323
Security deposit receivable			6,131				6,261
Other			3,447				92
Total long-term investments and other assets, net		$	9,874			$	27,676
Accrued payroll and commissions
Accrued payroll		$	16,866			$	15,475
Accrued commissions			86,669				30,532
Total accrued payroll and commissions		$	103,535			$	46,007
Accrued expenses and other current liabilities
Accrued interest payable		$	46,781			$	10,982
Loss contingencies			7,639				9,263
Other			12,898				12,873
Total accrued expenses and other current liabilities		$	67,318			$	33,118

NOTE 7—PROPERTY AND EQUIPMENT

Property and equipment consisted of the following (in thousands):

 

		September 30, 2014				December 31, 2013				Estimated Useful Lives
Vehicles		$	17,990			$	13,851			3 - 5 years
Computer equipment and software			15,863				6,742			3 - 5 years
Leasehold improvements			11,885				13,345			2 - 15 years
Office furniture, fixtures and equipment			8,472				4,793			7 years
Warehouse equipment			111				1,802			7 years
Buildings			702				702			39 years
Construction in process			10,732				3,119
			65,755				44,354
Accumulated depreciation and amortization			(13,878	)			(8,536	)
Net property and equipment		$	51,877			$	35,818

Property and equipment includes approximately $18.1 million and $13.7 million of assets under capital lease obligations, net of accumulated amortization of $4.3 million and $2.7 million at September 30, 2014 and December 31, 2013, respectively. Depreciation and amortization expense on all property and equipment was $2.8 million and $2.2 million for the three months ended September 30, 2014 and 2013, respectively and $7.9 million and $6.7 million for the nine months ended September 30, 2014 and 2013, respectively. Amortization expense relates to assets under capital leases and is included in depreciation and amortization expense.

NOTE 8—INTANGIBLE ASSETS

The following table presents intangible asset balances (in thousands):

 

		September 30, 2014				December 31, 2013				Estimated Useful Lives
Definite-lived intangible assets:
Customer contracts		$	982,045			$	984,403			10 years
2.0 technology			17,000				17,000			8 years
Acquired technologies			11,140				4,040			3 - 6 years
Patents			6,207				—			5 years
Skypanel technology			3,813				3,814			3 years
Non-compete agreements			2,000				—			2 - 3 years
Other intellectual property			650				650			2 years
CMS technology			337				2,300			1 year
			1,023,192				1,012,207
Accumulated amortization			(283,219	)			(171,493	)
Definite-lived intangible assets, net			739,973				840,714
Indefinite-lived intangible assets:
IP addresses			214				—
Domain names			59				—
Total Indefinite-lived intangible assets			273				—
Total intangible assets, net		$	740,246			$	840,714

Identifiable intangible assets acquired by the Company in connection with the Wildfire acquisition were $2.1 million of customer contracts and $0.8 million associated with non-compete agreements entered into by certain former members of Wildfire management. Identifiable intangible assets acquired by the Company in connection with the Space Monkey acquisition were $7.1 million of Space Monkey technology and $1.2 million associated with non-compete agreements entered into by certain former members of Space Monkey management. In addition, during the nine months ended September 30, 2014, the Company acquired $6.5 million of other intangible assets related to patents, domain names and Internet Protocol (“IP”) addresses.

 

On March 29, 2014, the Company implemented new customer relationship management software (“CRM”). Historically, the Company’s customer management system (“CMS”) technology was used for customer support and inventory tracking. The new CRM software replaced the customer support functionality of the CMS technology. Following the CRM implementation, the CMS technology continued to be used for inventory tracking. Due to the implementation of the new CRM software, as of March 31, 2014, the Company determined there to be a significant change in the extent and manner in which the CMS technology was being used. The Company estimated the fair value of the CMS technology as of March 31, 2014 to be $0.3 million based on management experience, inquiry and assessment of the remaining functionality of this technology as it related to inventory tracking. The associated impairment loss of $1.4 million is included in operating expenses in the accompanying unaudited condensed consolidated statement of operations for the nine months ended September 30, 2014. In addition, the estimated remaining useful life of the CMS technology was evaluated and revised to one year from March 31, 2014, based on the intended use of the asset. The impact on income from continuing operations and net income from the change in the estimated remaining useful life was immaterial.

Amortization expense related to intangible assets was approximately $38.0 million and $40.7 million for the three months ended September 30, 2014 and 2013, respectively. Amortization expense related to intangible assets was approximately $113.3 million and $123.4 million for the nine months ended September 30, 2014 and 2013, respectively.

Estimated future amortization expense of intangible assets, excluding patents currently in process, is as follows as of September 30, 2014 (in thousands):

 

2014—remaining period		$	38,010
2015			136,093
2016			118,480
2017			102,113
2018			90,342
Thereafter			254,767
Future amortization associated with patents currently in process			168
Total estimated amortization expense		$	739,973

NOTE 9—FAIR VALUE MEASUREMENTS

Cash equivalents and restricted cash equivalents are classified as Level 1 as they have readily available market prices in an active market. The preferred stock, as defined below, is classified as Level 3 and is valued using its cost basis, which approximates fair value. The following summarizes the financial instruments of the Company at fair value based on the valuation approach applied to each class of security as of September 30, 2014 and December 31, 2013 (in thousands):

 

		Fair Value Measurement at Reporting Date Using
		Balance at September 30, 2014				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
Assets:
Cash equivalents:
Money market funds		$	10,013			$	10,013			$	—			$	—
Restricted cash equivalents:
Money market funds			14,214				14,214				—				—
Restricted cash equivalents, net of current portion:
Money market funds			14,214				14,214				—				—
Long-term investments and other assets, net
Preferred stock			3,000				—				—				3,000
Total assets		$	41,441			$	38,441			$	—			$	3,000

 

		Fair Value Measurement at Reporting Date Using
		Balance at December 31, 2013				Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
Assets:
Cash equivalents:
Money market funds		$	10,002			$	10,002			$	—			$	—
Restricted cash equivalents:
Money market funds			14,214				14,214				—				—
Restricted cash equivalents, net of current portion:
Money market funds			14,214				14,214				—				—
Total assets		$	38,430			$	38,430			$	—			$	—

The carrying amounts of the Company’s accounts receivable, accounts payable and accrued and other liabilities approximate their fair values due to their short maturities.

On February 19, 2014, the Company invested $3.0 million in a convertible note (“Convertible Note”) of a privately held company (“Investee”) not affiliated with the Company. The Convertible Note had a stated maturity date of February 19, 2015 and bore interest equal to the greater of (a) 0.5% or (b) annual interest rates established for federal income tax purposes by the Internal Revenue Service. The outstanding principal and accrued interest balance of the Convertible Note converted to preferred stock (“preferred stock”) of the Investee on August 29, 2014, under the terms of the agreement. The preferred stock has been classified as available-for-sale and measured at fair value in accordance with ASC 320, Investments—Debt and Equity Securities, with remeasurement occurring at the end of each reporting period and any changes in fair value included in other comprehensive income. As of September 30, 2014, the estimated aggregate fair value of the preferred stock was equal to its cost of $3.0 million and was considered a Level 3 measurement and is included in long-term investments and other assets, net in the accompanying unaudited condensed consolidated balance sheet as of September 30, 2014. There were no gains or losses recognized for the nine months ended September 30, 2014 associated with this investment.

The fair market value of the Company’s Senior Secured Notes was approximately $898.4 million and $941.2 million as of September 30, 2014 and December 31, 2013, respectively. The carrying value of the Company’s Senior Secured Notes was $925.0 million as of September 30, 2014 and December 31, 2013. The Company’s Senior Notes had a fair market value of approximately $846.3 million and $844.5 million as of September 30, 2014 and December 31, 2013, respectively, and a carrying

amount of $930.0 million and $830.0 million as of September 30, 2014 and December 31, 2013, respectively. The fair value of the

Senior Secured Notes and the Senior Notes was considered a Level 2 measurement as the value was determined using observable market inputs, such as current interest rates as well as prices observable from less active markets.

In connection with the Wildfire acquisition, the fair value of intangible assets was considered a Level 3 measurement and was determined using the income and market approach. Key assumptions used in the determination of the fair value include estimated earnings and discount rates between 12% and 20%.

 

In connection with the Space Monkey acquisition, the fair value of intangible assets was considered a Level 3 measurement and was determined using the income approach. Key assumptions used in the determination of the fair value include an internal rate of return and a weighted average cost of capital of 25% and 20%, respectively.

NOTE 10—FACILITY FIRE

On March 18, 2014, a fire occurred at a facility leased by the company in Lindon, Utah. This facility contained the Company’s primary inventory warehouse and call center operations. For the three and nine months ended September 30, 2014, the Company recognized gross expenses of $1.4 million and $7.1 million, less probable insurance recoveries of $3.2 million and $6.2 million, respectively, related to the fire damage. These expenses and probable insurance recoveries are included in general and administrative costs on the unaudited condensed consolidated statements of operations. Of the $6.2 million in probable insurance recoveries, $2.8 million were received by the Company prior to September 30, 2014. The expenses associated with the fire primarily related to impairment of damaged assets and recovery costs to maintain business continuity. The Company is seeking additional insurance recoveries and will recognize those when receipt becomes probable. The $3.5 million of probable insurance recoveries not yet received from the Company’s insurance provider are included in prepaid expenses and other current assets in the accompanying unaudited condensed consolidated balance sheet at September 30, 2014.

NOTE 11—INCOME TAXES

In order to determine the quarterly provision (benefit) for income taxes, the Company uses an estimated annual effective tax rate, which is based on expected annual income and statutory tax rates in the various jurisdictions in which the Company operates. Certain significant or unusual items are separately recognized in the quarter during which they occur and can be a source of variability in the effective tax rates from quarter to quarter.

The Company’s effective income tax rate for the nine months ended September 30, 2014 was approximately 0.19%. In computing income tax expense (benefit), the Company estimates its annual effective income tax rate jurisdiction by jurisdiction and entity by entity for which tax attributes must be separately considered for the calendar year ending December 31, 2014, excluding discrete items. Each jurisdictional or entity estimated annual tax rate is applied to actual year-to-date pre-tax book income (loss) of each jurisdiction or entity. Both the 2014 and 2013 effective tax rates are less than the statutory rate due to the combination of not recognizing benefit for expected pre-tax losses of the US jurisdiction, recognizing current state income tax expense for minimum state taxes and the reduction of the valuation allowance as a result of the Space Monkey acquisition.

For 2014, the Company expects to realize a loss before income taxes and expects to record a full valuation allowance against the net deferred tax assets of the consolidated group within the US, Canadian and New Zealand jurisdictions. The Company has recorded tax expense for state and local taxes. A valuation allowance is required when there is significant uncertainty as to the ability to realize the deferred tax assets. Because the realization of the deferred tax assets related to the Company’s net operating losses (NOLs) is dependent upon future income related to domestic and foreign jurisdictional operations that have historically generated losses, management determined that the Company continues to not meet the “more likely than not” threshold that those NOLs will be realized. Accordingly, a valuation allowance is required. A similar history of losses is present in the Company’s Canadian and New Zealand jurisdictions. However, as of September 30, 2014, the deferred tax assets related to the Company’s Canadian and New Zealand jurisdictions’ NOLs are offset by existing deferred income tax liabilities resulting in a net deferred tax liability position in both jurisdictions.

NOTE 12—STOCK-BASED COMPENSATION

313 Incentive Units

The Company’s indirect parent, 313 Acquisition LLC (“313”), which is wholly owned by the Investors, has authorized the award of profits interests, representing the right to share a portion of the value appreciation on the initial capital contributions to 313 (“Incentive Units”). As of September 30, 2014, a total of 75,181,252 Incentive Units had been awarded to current and former members of senior management and a board member, of which 46,484,562 were issued to the Company’s Chief Executive Officer and President. The Incentive Units are subject to time-based and performance-based vesting conditions, with one-third subject to ratable time-based vesting over a five year period and two-thirds subject to the achievement of certain investment return thresholds by The Blackstone Group, L.P. and its affiliates (“Blackstone”). The Company anticipates making comparable equity incentive grants at 313 to other members of senior management and adopting other equity and cash-based incentive programs for other members of management from time to time. The fair value of stock-based awards is measured at the grant date and is recognized as expense over the employee’s requisite service period. The grant date fair value was determined using a Monte Carlo simulation valuation approach with the following assumptions: expected volatility of 55% to 65%; expected exercise term from 4 to 5 years; and risk-free rate of 0.62% to 1.18%.

Vivint Stock Appreciation Rights

The Company’s subsidiary, Vivint, has awarded Stock Appreciation Rights (“SARs”) to various levels of key employees. The purpose of the SARs is to attract and retain personnel and provide an opportunity to acquire an equity interest of Vivint. The SARs are subject to time-based and performance-based vesting conditions, with one-third subject to ratable time-based vesting over a five year period and two-thirds subject to the achievement of certain investment return thresholds by Blackstone. In connection with this plan, 7,296,250 SARs were outstanding as of September 30, 2014. In addition, 36,065,303 SARs have been set aside for funding incentive compensation pools pursuant to long-term incentive plans established by the Company.

The fair value of the Vivint awards is measured at the grant date and is recognized as expense over the employee’s requisite service period. The fair value is determined using a Black-Scholes option valuation model with the following assumptions: expected volatility varies from 55% to 60%, expected dividends of 0%; expected exercise term between 6.01 and 6.50 years; and risk-free rates between 1.72% and 1.77%. Due to the lack of historical exercise data, the Company used the simplified method in determining the estimated exercise term, for all Vivint awards.

Wireless Stock Appreciation Rights

The Company’s subsidiary, Vivint Wireless, has awarded SARs to various key employees. The purpose of the SARs is to attract and retain personnel and provide an opportunity to acquire an equity interest of Vivint Wireless. The SARs are subject to a five year time-based ratable vesting period. In connection with this plan, 70,000 SARs were outstanding as of September 30, 2014. The Company anticipates making similar grants from time to time.

The fair value of the Vivint Wireless awards is measured at the grant date and is recognized as expense over the employee’s requisite service period. The fair value is determined using a Black-Scholes option valuation model with the following assumptions: expected volatility of 65%, expected dividends of 0%; expected exercise term of 6.50 years; and risk-free rate of 1.51%. Due to the lack of historical exercise data, the Company used the simplified method in determining the estimated exercise term, for all Vivint Wireless awards.

 

Stock-based compensation expense in connection with stock awards is presented by entity as follows (in thousands):

 

		Three Months Ended September 30,								Nine Months Ended September 30,
		2014				2013				2014				2013
Operating expenses		$	16			$	33			$	46			$	33
Selling expenses			32				101				136				101
General and administrative expenses			412				509				1,181				1,183
Total stock-based compensation		$	460			$	643			$	1,363			$	1,317

NOTE 13—COMMITMENTS AND CONTINGENCIES

Indemnification—Subject to certain limitations, the Company is obligated to indemnify its current and former directors, officers and employees with respect to certain litigation matters and investigations that arise in connection with their service to the Company. These obligations arise under the terms of its certificate of incorporation, its bylaws, applicable contracts, and Delaware and California law. The obligation to indemnify generally means that the Company is required to pay or reimburse the individuals’ reasonable legal expenses and possibly damages and other liabilities incurred in connection with these matters.

Legal—The Company is named from time to time as a party to lawsuits arising in the ordinary course of business related to its sales, marketing, the provision of its services and equipment claims. Actions filed against the Company include commercial, intellectual property, customer, and labor and employment related claims, including complaints of alleged wrongful termination and potential class action lawsuits regarding alleged violations of federal and state wage and hour and other laws. In general, litigation can be expensive and disruptive to normal business operations. Moreover, the results of legal proceedings are difficult to predict, and the costs incurred in litigation can be substantial. The Company believes the amounts provided in its financial statements are adequate in light of the probable and estimated liabilities. Factors that the Company considers in the determination of the likelihood of a loss and the estimate of the range of that loss in respect of legal matters include the merits of a particular matter, the nature of the matter, the length of time the matter has been pending, the procedural posture of the matter, how the Company intends to defend the matter, the likelihood of settling the matter and the anticipated range of a possible settlement. Because such matters are subject to many uncertainties, the ultimate outcomes are not predictable and there can be no assurances that the actual amounts required to satisfy alleged liabilities from the matters described above will not exceed the amounts reflected in the Company’s financial statements or that the matters will not have a material adverse effect on the Company’s results of operations, financial condition or cash flows.

The Company regularly reviews outstanding legal claims and actions to determine if reserves for expected negative outcomes of such claims and actions are necessary. The Company had reserves for all such matters of approximately $7.6 million and $9.3 million as of September 30, 2014 and December 31, 2013, respectively. In conjunction with one of the settlements, the Company is obligated to pay certain future royalties, based on sales of future products.

Operating Leases—The Company leases office, warehouse space, certain equipment, software and an aircraft under operating leases with related and unrelated parties expiring in various years through 2028. The leases require the Company to pay additional rent for increases in operating expenses and real estate taxes and contain renewal options. The Company entered into a lease agreement for its corporate headquarters in 2009. In July 2012, the Company entered into a lease for additional office space for an initial lease term of 15 years. In August 2014, the Company entered into a lease for additional office space for an initial lease term of 11 years.

Total rent expense for operating leases was approximately $2.8 million and $1.4 million for the three months ended September 30, 2014 and 2013, respectively, and $7.2 million and $4.1 million for the nine months ended September 30, 2014 and 2013, respectively.

Capital Leases—The Company also leases certain equipment under capital leases with expiration dates through August 2016. On an ongoing basis, the Company enters into vehicle lease agreements under a Fleet Lease Agreement. The lease agreements are typically 36 month leases for each vehicle and the average remaining life for the fleet is 27 months as of September 30, 2014. As of September 30, 2014 and December 31, 2013, the capital lease obligation balance was $13.3 million and $10.5 million, respectively.

NOTE 14—RELATED PARTY TRANSACTIONS

Long-term investments and other assets, includes amounts due for non-interest bearing advances made to employees that are expected to be repaid in excess of one year. Amounts due from related parties as of both September 30, 2014 and December 31, 2013, amounted to approximately $0.3 million. As of September 30, 2014 and December 31, 2013, this amount was fully reserved.

Prepaid expenses and other current assets at September 30, 2014 and December 31, 2013 included a receivable for $25,000 and $0.3 million, respectively, from certain members of management in regards to their personal use of the corporate jet.

The Company incurred additional expenses of $0.5 million and $0.3 million during the three months ended September 30, 2014 and 2013, respectively, and $1.7 million and $0.6 million during the nine months ended September 30, 2014 and 2013, respectively, for other related-party transactions including contributions to the charitable organization Vivint Gives Back, legal fees, and services. Accrued expenses and other current liabilities at September 30, 2014 and December 31, 2013, included a payable to Vivint Gives Back for $0.2 million and $1.1 million, respectively. In addition, transactions with Solar, as described in Note 4, are considered to be related-party transactions.

On November 16, 2012, the Company entered into a support and services agreement with Blackstone Management Partners L.L.C. (“BMP”), an affiliate of Blackstone. Under the support and services agreement, the Company engaged BMP to provide monitoring, advisory and consulting services on an ongoing basis. In consideration for these services, the Company agreed to pay an annual monitoring fee equal to the greater of (i) a minimum base fee of $2.7 million subject to adjustments if the Company engages in a business combination or disposition that is deemed significant and (ii) the amount of the monitoring fee paid in respect of the immediately preceding fiscal year, without regard to any post-fiscal year “true-up” adjustments as determined by the agreement. The Company incurred expenses of approximately $0.8 million and $1.9 million during the three months ended September 30, 2014 and 2013, respectively, and approximately $2.4 million and $3.5 million during the nine months ended September 30, 2014 and 2013, respectively.

Under the support and services agreement, the Company also engaged BMP to arrange for Blackstone’s portfolio operations group to provide support services customarily provided by Blackstone’s portfolio operations group to Blackstone’s private equity portfolio companies of a type and amount determined by such portfolio services group to be warranted and appropriate. BMP will invoice the Company for such services based on the time spent by the relevant personnel providing such services during the applicable period but in no event shall the Company be obligated to pay more than $1.5 million during any calendar year.

On September 3, 2014, APX Group, Inc., a wholly-owned subsidiary of the Company, paid a dividend in the amount of $50.0 million to its stockholders.

Transactions involving related parties cannot be presumed to be carried out at an arm’s-length basis.

NOTE 15—SEGMENT REPORTING

Prior to the 2GIG Sale on April 1, 2013, the Company conducted business through two operating segments, Vivint and 2GIG. These segments were managed and evaluated separately by management due to the differences in their products and services. The primary source of revenue for the Vivint segment is generated through monitoring services provided to subscribers, in accordance with their subscriber contracts. The primary source of revenue for the 2GIG segment was through the sale of electronic security and automation systems to security dealers and distributors, including Vivint. Fees and expenses charged by 2GIG to Vivint, related to intercompany purchases, were eliminated in consolidation.

 

For the three months ended September 30, 2014 and 2013 and the nine months ended September 30, 2014, the Company conducted business through one operating segment, Vivint. The following table presents a summary of revenue, costs and expenses for the nine months ended September 30, 2013 and assets as of September 30, 2013 (in thousands):

 

		Vivint				2GIG				Eliminations				Consolidated Total
Revenues		$	350,690			$	60,220			$	(42,713	)		$	368,197
All other costs and expenses			389,321				52,200				(32,914	)			408,607
(Loss) income from operations		$	(38,631	)		$	8,020			$	(9,799	)		$	(40,410	)
Intangible assets, including goodwill		$	1,720,152			$	—			$	—			$	1,720,152
Total assets		$	2,291,541			$	—			$	—			$	2,291,541

NOTE 16—EMPLOYEE BENEFIT PLANS

Beginning March 1, 2010, Vivint and 2GIG offered eligible employees the opportunity to defer a percentage of their earned income into company-sponsored 401(k) plans. 2GIG made matching contributions to the plan in the amount of $36,000 for the nine months ended September 30, 2013. No matching contributions were made to the plans for the three or nine months ended September 30, 2014 or the three months ended September 30, 2013.

NOTE 17—GUARANTOR AND NON-GUARANTOR SUPPLEMENTAL FINANCIAL INFORMATION

The Senior Secured Notes due 2019 and the Senior Notes due 2020 were issued by APX. The Senior Secured Notes due 2019 and the Senior Notes due 2020 are fully and unconditionally guaranteed, jointly and severally by APX Group Holdings, Inc. (“Parent Guarantor”) and each of APX’s existing and future material wholly-owned U.S. restricted subsidiaries. APX’s existing and future foreign subsidiaries are not expected to guarantee the Notes.

Presented below is the condensed consolidating financial information of APX, subsidiaries of APX that are guarantors (the “Guarantor Subsidiaries”), and APX’s subsidiaries that are not guarantors (the “Non-Guarantor Subsidiaries”) as of September 30, 2014 and December 31, 2013 and for the three and nine months ended September 30, 2014 and 2013. The unaudited condensed consolidating financial information reflects the investments of APX in the Guarantor Subsidiaries and the Non-Guarantor Subsidiaries using the equity method of accounting.

 

Supplemental Condensed Consolidating Balance Sheet

September 30, 2014

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Assets
Current assets		$	—			$	29,821			$	172,094			$	31,551			$	(40,142	)		$	193,324
Property and equipment, net			—				—				51,283				594				—				51,877
Subscriber acquisition costs, net			—				—				483,723				47,257				—				530,980
Deferred financing costs, net			—				54,602				—				—				—				54,602
Investment in subsidiaries			261,597				2,087,261				—				—				(2,348,858	)			—
Intercompany receivable			—				—				59,324				—				(59,324	)			—
Intangible assets, net			—				—				677,141				63,105				—				740,246
Goodwill			—				—				811,947				30,718				—				842,665
Restricted cash			—				—				14,214				—				—				14,214
Long-term investments and other assets			—				—				9,858				16				—				9,874
Total Assets		$	261,597			$	2,171,684			$	2,279,584			$	173,241			$	(2,448,324	)		$	2,437,782
Liabilities and Stockholders’ Equity
Current liabilities		$	—			$	46,781			$	193,642			$	52,231			$	(40,142	)		$	252,512
Intercompany payable			—				—				—				59,324				(59,324	)			—
Notes payable and revolving line of credit, net of current portion			—				1,863,413				—				—				—				1,863,413
Capital lease obligations, net of current portion			—				—				8,950				11				—				8,961
Deferred revenue, net of current portion			—				—				29,149				3,145				—				32,294
Other long-term obligations			—				—				8,742				379				—				9,121
Deferred income tax liability			—				(107	)			1,396				8,595				—				9,884
Total equity			261,597				261,597				2,037,705				49,556				(2,348,858	)			261,597
Total liabilities and stockholders’ equity		$	261,597			$	2,171,684			$	2,279,584			$	173,241			$	(2,448,324	)		$	2,437,782

Supplemental Condensed Consolidating Balance Sheet

December 31, 2013

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Assets
Current assets		$	—			$	249,209			$	89,768			$	7,163			$	(24,137	)		$	322,003
Property and equipment, net			—				—				35,218				600				—				35,818
Subscriber acquisition costs, net			—				—				262,064				26,252				—				288,316
Deferred financing costs, net			—				59,375				—				—				—				59,375
Investment in subsidiaries			490,243				1,953,465				—				—				(2,443,708	)			—
Intercompany receivable			—				—				44,658				—				(44,658	)			—
Intangible assets, net			—				—				764,296				76,418				—				840,714
Goodwill			—				—				804,041				32,277				—				836,318
Restricted cash			—				—				14,214				—				—				14,214
Long-term investments and other assets			—				(302	)			27,954				24				—				27,676
Total Assets		$	490,243			$	2,261,747			$	2,042,213			$	142,734			$	(2,512,503	)		$	2,424,434
Liabilities and Stockholders’ Equity
Current liabilities		$	—			$	9,561			$	117,544			$	31,254			$	(24,137	)		$	134,222
Intercompany payable			—				—				—				44,658				(44,658	)			—
Notes payable and revolving line of credit, net of current portion			—				1,762,049				—				—				—				1,762,049
Capital lease obligations, net of current portion			—				—				6,268				—				—				6,268
Deferred revenue, net of current portion			—				—				16,676				1,857				—				18,533
Other long-term obligations			—				—				3,559				346				—				3,905
Deferred income tax liability			—				(106	)			289				9,031				—				9,214
Total equity			490,243				490,243				1,897,877				55,588				(2,443,708	)			490,243
Total liabilities and stockholders’ equity		$	490,243			$	2,261,747			$	2,042,213			$	142,734			$	(2,512,503	)		$	2,424,434

 

Condensed Consolidating Statements of Operations and Comprehensive Loss

For the Three Months Ended September 30, 2014

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Revenues		$	—			$	—			$	138,497			$	9,165			$	(767	)		$	146,895
Costs and expenses			—				—				159,420				10,640				(767	)			169,293
Loss from operations			—				—				(20,923	)			(1,475	)			—				(22,398	)
Loss from subsidiaries			(59,464	)			(21,829	)			—				—				81,293				—
Other income (expense), net			50,000				(37,635	)			(683	)			(12	)			(50,000	)			(38,330	)
Loss before income tax expenses			(9,464	)			(59,464	)			(21,606	)			(1,487	)			31,293				(60,728	)
Income tax expense			—				—				(849	)			(415	)			—				(1,264	)
Net loss		$	(9,464	)		$	(59,464	)		$	(20,757	)		$	(1,072	)		$	31,293			$	(59,464	)
Other comprehensive loss, net of tax effects:
Net loss		$	(9,464	)		$	(59,464	)		$	(20,757	)		$	(1,072	)		$	31,293			$	(59,464	)
Foreign currency translation adjustment			—				(7,099	)			(4,753	)			(2,346	)			7,099				(7,099	)
Total other comprehensive loss			—				(7,099	)			(4,753	)			(2,346	)			7,099				(7,099	)
Comprehensive loss		$	(9,464	)		$	(66,563	)		$	(25,510	)		$	(3,418	)		$	38,392			$	(66,563	)

Condensed Consolidating Statements of Operations and Comprehensive Loss

For the Three Months Ended September 30, 2013

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Revenues		$	—			$	—			$	123,030			$	7,218			$	(745	)		$	129,503
Costs and expenses			—				—				130,593				8,344				(745	)			138,192
Loss from operations			—				—				(7,563	)			(1,126	)			—				(8,689	)
Loss from subsidiaries			(34,905	)			(5,441	)			—				—				40,346				—
Other (expense) income, net			—				(29,464	)			428				(45	)			—				(29,081	)
Loss before income tax expenses			(34,905	)			(34,905	)			(7,135	)			(1,171	)			40,346				(37,770	)
Income tax benefit			—				—				(2,486	)			(379	)			—				(2,865	)
Net loss		$	(34,905	)		$	(34,905	)		$	(4,649	)		$	(792	)		$	40,346			$	(34,905	)
Other comprehensive loss, net of tax effects:
Net loss		$	(34,905	)		$	(34,905	)		$	(4,649	)		$	(792	)		$	40,346			$	(34,905	)
Foreign currency translation adjustment			—				3,006				1,763				1,243				(3,006	)			3,006
Total other comprehensive loss			—				3,006				1,763				1,243				(3,006	)			3,006
Comprehensive (loss) income		$	(34,905	)		$	(31,899	)		$	(2,886	)		$	451			$	37,340			$	(31,899	)

 

Condensed Consolidating Statements of Operations and Comprehensive Loss

For the Nine Months Ended September 30, 2014

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Revenues		$	—			$	—			$	387,985			$	25,623			$	(2,360	)		$	411,248
Costs and expenses			—				—				450,099				28,582				(2,360	)			476,321
Loss from operations			—				—				(62,114	)			(2,959	)			—				(65,073	)
Loss from subsidiaries			(173,015	)			(64,774	)			—				—				237,789				—
Other income (expense), net			50,000				(108,207	)			(24	)			(30	)			(50,000	)			(108,261	)
Loss before income tax expenses			(123,015	)			(172,981	)			(62,138	)			(2,989	)			187,789				(173,334	)
Income tax expense			—				34				(809	)			456				—				(319	)
Net loss		$	(123,015	)		$	(173,015	)		$	(61,329	)		$	(3,445	)		$	187,789			$	(173,015	)
Other comprehensive income, net of tax effects:
Net loss		$	(123,015	)		$	(173,015	)		$	(61,329	)		$	(3,445	)		$	187,789			$	(173,015	)
Foreign currency translation adjustment			—				(6,994	)			(4,408	)			(2,586	)			6,994				(6,994	)
Total other comprehensive loss			—				(6,994	)			(4,408	)			(2,586	)			6,994				(6,994	)
Comprehensive loss		$	(123,015	)		$	(180,009	)		$	(65,737	)		$	(6,031	)		$	194,783			$	(180,009	)

Condensed Consolidating Statements of Operations and Comprehensive Loss

For the Nine Months Ended September 30, 2013

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Revenues		$	—			$	—			$	350,358			$	20,103			$	(2,264	)		$	368,197
Costs and expenses			—				—				387,796				23,075				(2,264	)			408,607
Loss from operations			—				—				(37,438	)			(2,972	)			—				(40,410	)
Loss from subsidiaries			(87,341	)			(51,671	)			—				—				139,012				—
Other expense, net			60,000				(35,670	)			405				(68	)			(60,000	)			(35,333	)
Loss before income tax expenses			(27,341	)			(87,341	)			(37,033	)			(3,040	)			79,012				(75,743	)
Income tax expense (benefit)			—				—				12,447				(849	)			—				11,598
Net loss		$	(27,341	)		$	(87,341	)		$	(49,480	)		$	(2,191	)		$	79,012			$	(87,341	)
Other comprehensive loss, net of tax effects:
Net loss		$	(27,341	)		$	(87,341	)		$	(49,480	)		$	(2,191	)		$	79,012			$	(87,341	)
Foreign currency translation adjustment			—				(3,981	)			(1,959	)			(2,022	)			3,981				(3,981	)
Total other comprehensive loss			—				(3,981	)			(1,959	)			(2,022	)			3,981				(3,981	)
Comprehensive loss		$	(27,341	)		$	(91,322	)		$	(51,439	)		$	(4,213	)		$	82,993			$	(91,322	)

 

Supplemental Condensed Consolidating Statements of Cash Flows

For the Nine Months Ended September 30, 2014

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Cash flows from operating activities:
Net cash provided by (used in) operating activities		$	50,000			$	(1,725	)		$	56,833			$	36,548			$	(50,000	)		$	91,656
Cash flows from investing activities:
Subscriber contract costs			—				—				(258,407	)			(26,505	)			—				(284,912	)
Capital expenditures			—				—				(19,668	)			(188	)			—				(19,856	)
Investment in subsidiary			—				(266,649	)			—				—				266,649				—
Acquisition of intangible assets			—				—				(6,421	)			—				—				(6,421	)
Net cash used in acquisition			—				—				(18,500	)			—				—				(18,500	)
Investment in marketable securities			—				(60,000	)			—				—				—				(60,000	)
Proceeds from marketable securities			—				60,069				—				—				—				60,069
Investment in convertible note			—				—				(3,000	)			—				—				(3,000	)
Other assets			—				—				(99	)			7				—				(92	)
Net cash used in investing activities			—				(266,580	)			(306,095	)			(26,686	)			266,649				(332,712	)
Cash flows from financing activities:
Proceeds from issuance of notes			—				102,000				—				—				—				102,000
Intercompany receivable			—				—				(14,666	)			—				14,666				—
Intercompany payable			—				—				266,649				14,666				(281,315	)			—
Proceeds from contract sales			—				—				2,261				—				—				2,261
Change in restricted cash			—				—				161				—				—				161
Repayments of capital lease obligations			—				—				(4,526	)			(2	)			—				(4,528	)
Deferred financing costs			—				(2,782	)			—				—				—				(2,782	)
Payment of dividends			(50,000	)			(50,000	)			—				—				50,000				(50,000	)
Net cash (used in) provided by financing activities			(50,000	)			49,218				249,879				14,664				(216,649	)			47,112
Effect of exchange rate changes on cash			—				—				—				(775	)			—				(775	)
Net (decrease) increase in cash			—				(219,087	)			617				23,751				—				(194,719	)
Cash:
Beginning of period			—				248,908				8,291				4,706				—				261,905
End of period		$	—			$	29,821			$	8,908			$	28,457			$	—			$	67,186

Supplemental Condensed Consolidating Statements of Cash Flows

For the Nine Months Ended September 30, 2013

(In thousands)

(unaudited)

 

		Parent				APX Group, Inc.				Guarantor Subsidiaries				Non-Guarantor Subsidiaries				Eliminations				Consolidated
Cash flows from operating activities:
Net cash provided by (used in) operating activities		$	60,000			$	(115	)		$	105,177			$	34,609			$	(60,000	)		$	139,671
Cash flows from investing activities:
Subscriber contract costs			—				—				(240,678	)			(26,554	)			—				(267,232	)
Capital expenditures			—				—				(5,764	)			(24	)			—				(5,788	)
Proceeds from the sale of subsidiary			—				144,750				—				—				—				144,750
Investment in subsidiary			—				(178,077	)			—				—				178,077				—
Proceeds from the sale of capital assets			—				—				9				—				—				9
Net cash used in acquisition			—				—				(4,272	)			—				—				(4,272	)
Other assets			—				—				(8,192	)			3				—				(8,189	)
Net cash used in investing activities			—				(33,327	)			(258,897	)			(26,575	)			178,077				(140,722	)
Cash flows from financing activities:
Proceeds from note payable			—				203,500				—				—				—				203,500
Intercompany receivable			—				—				(9,451	)			—				9,451				—
Intercompany payable			—				—				178,077				9,451				(187,528	)			—
Repayments of revolving line of credit			—				(50,500	)			—				—				—				(50,500	)
Borrowings from revolving line of credit			—				22,500				—				—				—				22,500
Repayments of capital lease obligations			—				—				(5,208	)			—				—				(5,208	)
Deferred financing costs							(5,429	)			—				—				—				(5,429	)
Payment of dividends			(60,000	)			(60,000	)			—				—				60,000				(60,000	)
Net cash (used in) provided by financing activities			(60,000	)			110,071				163,418				9,451				(118,077	)			104,863
Effect of exchange rate changes on cash			—				—				—				(169	)			—				(169	)
Net increase in cash			—				76,629				9,698				17,316				—				103,643
Cash:
Beginning of period			—				399				4,188				3,503				—				8,090
End of period		$	—			$	77,028			$	13,886			$	20,819			$	—			$	111,733