IMMERSION CORP (IMMR) FY 2021 MD&A

Item 7.   Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with the consolidated financial statements and notes thereto.

Critical Accounting Estimates

The preparation of financial statements and related disclosures in conformity with U.S. generally accepted accounting principles (“GAAP”) and our discussion and analysis of its financial condition and operating results require the management to make judgments, assumptions and estimates that affect the amounts reported. Note 1. Significant Accounting Policies of the Notes to Consolidated Financial Statements in Part II, Item 8 of this Form 10-K, which describes the significant accounting policies and methods used in the preparation of our consolidated financial statements. Management bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities.

Revenue Recognition

Fixed fee license revenue

In certain contracts, we grant a fixed fee license to our existing patent portfolio at the inception of the license agreement as well as rights to the portfolio as it evolves throughout the contract term. For such arrangements, we have two separate performance obligations:

•Performance Obligation A - Transfer rights to our patent portfolio as it exists when the contract is executed;

•Performance Obligation B - Transfer rights to our patent portfolio as it evolves over the term of the contract, including access to new patent applications that the licensee can benefit from over the term of the contract.

For fixed fee license agreements that contain both Performance Obligation A and B, we will allocate the transaction price based on the standalone price for each of the two performance obligations. We use a number of factors primarily related to the attributes of our patent portfolio to estimate standalone prices related to Performance Obligation A and B to perform this allocation.

Per-unit Royalty revenue

As we generally do not receive the per-unit licensee royalty reports for sales during a given quarter within the time frame that allows us to adequately review the reports and include the actual amounts in our quarterly results for such quarter, we accrue the related revenue based on estimates of our licensees’ underlying sales, subject to certain constraints on our ability to estimate such amounts. We develop such estimates based on a combination of available data including, but not limited to, approved customer forecasts, a look back at historical royalty reporting for each of our customers, and industry information available for the licensed products.

As a result of accruing per-unit royalty revenue for the quarter based on such estimates, adjustments will be required in the following quarter to true up revenue to the actual amounts reported by our licensees. The true-ups represent the difference between per-unit royalty based on actual sales reported by our licensees in a quarter-lag, and the estimate of per-unit royalty that was reported in the same quarter the underlying sales occurred.

Income Taxes

We are subject to income taxes in the U.S. and foreign jurisdictions. The evaluation of our uncertain tax positions involves significant judgment in the interpretation and application of GAAP and complex domestic and international tax laws, including the Act and matters related to the allocation of international taxation rights between countries. Although management believes our reserves are reasonable, no assurance can be given that the final tax outcome of these matters will not be different from that which is reflected in our reserves. Reserves are adjusted considering changing facts and circumstances, such as the closing of a tax examination or the refinement of an estimate. Resolution of these uncertainties in a manner inconsistent with management’s expectations could have a material impact on our financial condition and operating results.

As disclosed in Note 5. Contingencies of the Notes to the Consolidated Financial Statements, we have made deposit payments to reimburse both Samsung and LGE for withholding taxes and related penalties paid by them as a result of

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assessments they have received from the South Korean tax authorities. These payments are recorded as Long-term deposits on our Consolidated Balance Sheets. We expect to be reimbursed by both Samsung and LGE to the extent we ultimately prevail or prevailed in the appeal in the Korean courts. We regularly assess the likelihood that we will prevail in these cases against the South Korean tax authorities and consequently the likelihood that these deposits will be recoverable. In the event that we do not ultimately prevail in our appeal in the Korean courts, the deposits included in Long-term deposits would be recorded as additional income tax expense on our Consolidated Statements of Income and Comprehensive Income, in the period in which we do not ultimately prevail.

Legal and Other Contingencies

We are subject to various legal proceedings and claims that arise in the ordinary course of business, the outcomes of which are inherently uncertain. We record a liability when it is probable that a loss has been incurred and the amount is reasonably estimable, the determination of which requires significant judgment. Resolution of legal matters in a manner inconsistent with management’s expectations could have a material impact on our financial condition and operating results.

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Results of Operations

Overview

Total revenues for 2021 were $35.1 million, an increase of $4.6 million, or 15%, compared to 2020.

Total cost and operating expenses were $17.3 million, a decrease of $10.9 million, or 39% compared to 2020.

In 2021, we had net income of $12.5 million, an increase of $7.1 million, or 131.1% compared to 2020.

The following table sets forth our consolidated statements of income data as a percentage of total revenues:

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Revenues

Our revenue is primarily derived from fixed fee license agreements and per-unit royalty agreements, along with less significant revenue earned from development, services and other revenue. Royalty and license revenue is composed of per unit royalties earned based on usage or net sales by licensees and fixed payment license fees charged for our IP and software.

A revenue summary for the years ended December 31, 2021 and 2020 are as follows (in thousands, except for percentages):

Royalty and license revenue

Per-unit royalty revenue increased by $4.1 million, or 17%, in 2021 compared to 2020, primarily caused by a $3.0 million increase in royalties from gaming licensees and a $1.8 million increase royalties from automotive licensees partially offset by a $0.4 million decrease in royalties from our mobility licensees.

Fixed fee license revenue increase $0.4 million or 7% in 2021 compared to 2020 primarily due to a $0.2 million increase in mobility license revenue and a $0.2 million increase in automotive license revenue.

We expect royalty and license revenue to continue to be a major component of our future revenue as our technology is included in products and we succeed in our efforts to monetize our IP. Our fixed fee license revenue could fluctuate depending upon the timing of execution of new fixed license fee arrangements. We also anticipate that our royalty revenue will fluctuate relative to our customers’ unit shipments.

Geographically, revenues generated in Asia, North America and Europe for the year ended December 31, 2021 represented 76%, 12%, and 12%, respectively, of our total revenue as compared to 76%, 16%, and 8%, respectively, for the year ended December 31, 2020.

Operating Expenses

A summary of operating expenses for the years ended December 31, 2021 and 2020 are as follows:

Sales and Marketing - Our sales and marketing expenses primarily consisted of employee compensation and benefits, including stock-based compensation; sales commissions; advertising and trade shows; collateral marketing materials; market development funds; travel; and allocated facilities costs.

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Sales and marketing expenses decreased $1.8 million, or 35%, in 2021 as compared to 2020 primarily attributable to a $0.7 million decrease in compensation, benefits, and other related costs, a $0.3 million decrease in facilities expense, a $0.3 million decrease in depreciation expense and a $0.2 million decrease in marketing and advertising costs.

The decrease in compensation, benefits and other personnel related costs primarily attributable to lower headcount in 2021 compared to 2020. The decrease in facilities expenses was largely attributable to lower rent expense following the sublease of the SJ Facility in the second quarter of 2020. The decrease in depreciation expense was largely due to the accelerated depreciation in the first quarter of 2020 resulting from the shortening in estimated useful life of the leasehold improvements of the San Jose, California office ("SJ Facility") to March 31, 2020 following our decision to exit this facility. The decrease in advertising and travel related costs was primarily due to reduced business activities and travel restrictions during COVID 19 pandemic.

Research and Development - Our research and development expenses primarily consisted of employee compensation and benefits, including stock-based compensation; outside services and consulting fees; tooling and supplies; and allocated facilities costs.

Research and development expenses decreased $0.9 million, or 17%, in 2021 compared to 2020 primarily due to a $0.2 million decrease in each of the consulting and outside services costs, facilities related costs and depreciation expense. The decrease in consulting and outside services cost in 2021 compared 2020 was largely due to lower consultant headcount. The decrease facilities and depreciation expenses in 2021 compared to 2020 was driven by factors discussed above.

General and Administrative - Our general and administrative expenses primarily consisted of employee compensation and benefits including stock-based compensation; legal other professional fees; external legal costs for patents; office expense; travel; and allocated facilities costs.

General and administrative expenses decreased $8.2 million, or 46%, in 2021 as compared to 2020 primarily due to a $4.4 million decrease in compensation, benefits and other personnel related costs, a $1.6 million decrease in legal costs, a $1.0 million decrease in consulting and professional services fees, a $0.5 million decrease in depreciation expense and a $0.5 million decrease in facilities costs.

The decrease in compensation, benefits and other personnel related costs was primarily due to reduced headcount and lower salaries driven by the transition of our Accounting, Human Resources, Finance and IT functions from San Jose, California to Montreal, Canada and lower stock-based compensation expense. The decrease in legal expense was primarily attributable to reduced activities, as well as a decrease in patent maintenance and prosecution costs. The decrease in consulting and professional services fees was due to decreases in accounting and audit fees and consulting and other professional fees in 2021 compared to 2020. The decrease in depreciation expense and facilities costs were primarily driven by the factors discussed above.

While we currently expect our general and administrative expenses to decrease in the near future as we achieve targeted reductions in consulting and professional services, headcount, and other costs, we may be required to engage in litigation to protect our IP, in which case our general and administrative expenses could substantially increase to reflect such litigation costs.

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Interest and Other Income, Other Expense

A summary of interest and other income, other expense for the years ended December 31, 2021 and 2020 are as follows (in thousands):

Interest and Other Income - Interest and other income consists primarily of interest income from cash and cash equivalents and short-term investments.

Interest and other income increased $1.0 million during 2021 compared to 2020 primarily driven by higher in interest and dividend income from investments in marketable securities in 2021 compared to 2020.

Other Income (Expense), Net - Other income (expense), net consists primarily of realized and unrealized gains (losses) on marketable equity securities, foreign currency transactions and translation gains (losses).

Other income (expense), net decreased $2.4 million in 2021 compared to 2020 primarily due to a $1.2 million increase in unrealized foreign currency translation loss and $0.9 million in loss on marketable equity securities. The increase in unrealized foreign currency translation loss was attributable to the depreciation of South Korean Won against the U.S. Dollar. The loss on marketable securities primarily consisted of $1.6 million net unrealized loss on marketable equity securities and a $0.7 million realized gain on marketable equity securities. The increases in unrealized losses and realized gains on marketable equity securities was largely attributable to the commencement of investment activities in the second half of 2021.

Benefit From (Provision For) Income Taxes

A summary of benefit from (provision for) income taxes and effective tax rates for the years ended December 31, 2021 and 2020 are as follows (in thousands):

In 2021, we recorded a $4.8 million provision for income taxes yielding an effective tax rate of 27.8%. The 2021 provision reflects estimated U.S. taxes, adjustments to uncertain tax positions withholding tax reserve, foreign taxes and foreign withholding taxes. Based on our assessment of the developments in the Samsung case (South Korea withholding taxes) in October of 2021, we provided for an additional income tax expense of $3.3 million in the fourth quarter of 2021. Of this amount, $2.2 million was recorded as an impairment to the Long-term deposit and $1.1 million was accrued as an Other current liability on our Consolidated Statements Balance Sheet at December 31, 2021.

Based upon our assessment as of December 31, 2021 of the realizability of our deferred tax assets, we continue to maintain a full valuation allowance against all of our federal and state deferred tax assets in the United States as well as federal tax assets in Canada. As of December 31, 2021, the aggregating balance of our deferred tax assets totaled $29.0 million with a valuation allowance of $27.2 million, resulting in a net deferred tax asset balance of $1.8 million.

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was passed into law. The

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CARES Act includes several significant business tax provisions including modification to the taxable income limitation for utilization of net operating losses (“NOLs”) incurred in 2019 and 2020 and the ability to carry back NOLs from those years for a period of up to five years, an increase to the limitation on deductibility of certain business interest expense, bonus depreciation for purchases of qualified improvement property and special deductions on certain corporate charitable contributions. We analyzed the provisions of the CARES Act and determined there was no net effect on our provision for the year ended December 31, 2020.

In 2020, we recorded a $2.2 million benefit from income taxes yielding an effective tax rate of (71.0)%. The 2020 provision reflects estimated foreign taxes and foreign withholding tax expense and a one-time deferred tax benefit from the release of valuation allowance from one of our foreign entities. Based upon our assessment as of December 31, 2020 of the realizability of our deferred tax assets in the United States, we reported a full valuation allowance against all of our federal and state and certain of our foreign net deferred tax assets. As of December 31, 2020, the aggregating balance of our deferred tax assets totaled $30.8 million with a valuation allowance of $28.5 million, resulting in a net deferred tax asset balance of $2.6 million.

As described above, we continue to maintain a valuation allowance of $27.2 million against certain of our deferred tax assets, including all federal, state and certain foreign deferred tax assets in the United States and Canada as a result of uncertainties regarding the realization of the asset balance due to historical losses, the variability of operating results, and uncertainty regarding near term projected results. In the event that we determine the deferred tax assets are realizable based on an assessment of relevant factors, an adjustment to the valuation allowance may increase income in the period such determination is made. The valuation allowance does not impact our ability to utilize the underlying net operating loss carryforwards.

We also maintain liabilities for uncertain tax positions. As of December 31, 2021, we had unrecognized tax benefits under ASC 740 of approximately $7.6 million and applicable interest of $0. The total amount of unrecognized tax benefits that would affect our effective tax rate, if recognized, is $0. We account for interest and penalties related to uncertain tax positions as a component of income tax provision. We do not expect to have any significant changes to unrecognized tax benefits during the next twelve months.

Liquidity and Capital Resources

Our cash equivalents and short-term investments consist primarily of market funds, investment in equity marketable securities (including mutual funds). All investments are stated at market value. Realized gains and losses on marketable equity and debt securities are recorded in Other income (expense), net on the Consolidated Statements of Income and Other Comprehensive Income (Loss). Unrealized gains and losses on marketable equity securities (including mutual funds) are reported as Other income (expense), net on our Consolidated Statement of Income and Other Comprehensive Income (Loss). Unrealized gains and losses on marketable debt securities reported as a component of Accumulated other comprehensive income on our Consolidated Balance Sheets.

Cash, cash equivalents and short-term investments

As of December 31, 2021, our cash, cash equivalents, and short-term investments totaled $137.9 million, an increase of $78.4 million from $59.5 million on December 31, 2020.

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A summary of select cash flow information for the years ended December 31, 2021 and 2020 (in thousands):

Cash provided by operating activities - Our operating activities primarily consists of net income adjusted for certain non-cash items including depreciation and amortization; stock-based compensation expense, deferred income taxes and the effect of changes in operating assets and liabilities.

Net cash provided by operating activities was $17.4 million during 2021, a $17.4 million increase in 2021 compared to 2020. The increase in net cash provided by operating activities was primarily attributable to a $7.1 million increase in net income, a $0.4 million increase resulted from changes in non cash items and a $7.2 million increase resulted from the change in net operating assets and liabilities.

Cash provided by (used in) investing activities - Our investing activities primarily consist of purchases of marketable securities and other investments and proceeds from disposal of marketable securities and other investments; proceeds from issuance of derivative instruments; payments made to settle derivative instruments and purchases of computer equipment, furniture and leasehold improvements.

Net cash used in investing activities during 2021 was $87.7 million primarily consisting of $112.2 million in purchases of marketable securities partially offset by $20.4 million in proceeds from selling marketable securities.

Net cash provided by investing activities during 2020 was $3.0 million primarily consisting of proceeds from maturities of short-term investments.

Cash provided by (used in) financing activities — Our financing activities primarily consist of cash proceeds from issuance of common stock, proceeds from stock option exercises and stock purchases under our employee stock purchase plan and cash paid for repurchases of our common stock.

Net cash provided by financing activities during 2021 was $62.2 million primarily consisting of $59.2 million net proceeds from common stock issuances and $2.9 million proceeds from stock option exercises.

Net cash used in financing activities during 2020 was $29.9 million primarily consisting of $30.6 million in cash paid for stock repurchases partially offset by $0.71 cash proceeds from stock option exercises and stock purchases under our employee stock purchase plan.

Total cash, cash equivalents, and short-term investments were $137.9 million as of December 31, 2021 of which approximately 38% ($19.7 million) was held by our foreign subsidiaries and subject to repatriation tax effects. Our intent is to permanently reinvest a majority of our earnings from foreign operations, and current plans do not anticipate that we will need funds generated from foreign operations to fund our domestic operations.

We may continue to invest in, protect, and defend our extensive IP portfolio, which can result in the use of cash in the event of litigation.

On February 3, 2021, we filed a shelf registration statement on Form S-3 with the Securities and Exchange Commission which provided us with the flexibility to raise up to $250 million of capital. We intend to use the net proceeds from the sale of the securities offered by this prospectus for working capital and other general corporate purposes, and we may use a portion of any net proceeds for investment in complementary businesses or alternative currencies.

On February 11, 2021, we entered into an equity distribution agreement (the "February 2021 Distribution Agreement") with Craig-Hallum Capital Group LLC (“Craig-Hallum”), as sales agent to issue and sell shares of our common stock having an

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aggregated offering price of up to $50 million. Under the terms of the February 2021 Distribution Agreement, we were obligated to pay a 2.25% commission on the gross sales proceeds from common stock sold and customary indemnification rights and the reimbursement of legal fees and disbursements.

During the first quarter of 2021, we sold 3.3 million shares of our common stock pursuant to the February 2021 Distribution Agreement and we received net proceeds of $35.9 million from the offering net of $1.2 million of commissions and other offering costs. We terminated the February 2021 Distribution Agreement on March 5, 2021.

On July 6, 2021, we entered into an equity distribution agreement (the "July 2021 Distribution Agreement") with Craig-Hallum Capital Group LLC (“Craig-Hallum”), as sales agent to issue and sell shares of our common stock having an aggregated offering price of up to $60 million. Under the July 2021 Distribution Agreement, we will set the parameters for the sale of shares, including the number of shares to be issued, the time period during which sales are requested to be made, limitations on the number of shares that may be sold in any one trading day and any minimum price below which sales may not be made. Subject to the terms and conditions of the July 2021 Distribution Agreement, the investment banker may sell the shares by methods deemed to be an “at the market offering” as defined in Rule 415(a)(4) promulgated under the Securities Act of 1933, as amended, including sales made through the Nasdaq Global Select Market or on any other existing trading market for the common stock. We are obligated to pay 2.25% commission on the gross sales proceeds from common stock sold and customary indemnification rights and the reimbursement of legal fees and disbursements. The July 2021 Distribution Agreement may be terminated by either party upon prior written notice to the other party, or at any time under certain circumstances, including but not limited to the occurrence of a material adverse change in Immersion. We are not obligated to sell any shares under the July 2021 Distribution Agreement.

During 2021, we sold 3.2 million shares of our common stock pursuant to the July 2021 Distribution Agreement and we received net proceeds of approximately $23.3 million from the offering after deducting $0.8 million commissions and other estimated offering expense.

Cash from operations could also be affected by various risks and uncertainties, including, but not limited to the risks detailed in Part I, Item 1A, Risk Factors of this Annual Report on Form 10-K.

Our principal commitments as of December 31, 2021 consisted of $1.7 million in obligations under operating leases partially offset by $1.4 million rental payments we expect to received for the sublease of our SJ Facility.

On January 26, 2022, we entered into an agreement to lease for 1,390 square feet of office space in Aventura, Florida (“Aventura Lease”). We plan to use this facility for administrative functions. This lease commenced in the first quarter of 2022 and expires in the first quarter of 2024. We expect to pay approximately $0.1 million in lease payments under the terms of the Aventura Lease.

On February 14, 2022, we entered into a Common Stock Repurchase Agreement (the “Agreement”) with Invenomic Capital Management LP (“Invenomic”). Pursuant to the Agreement, we purchased 904,499 shares of our common stock from Invenomic at $4.725 per share, or an aggregate purchase price of $4.3 million. The closing price of our common stock on February 14, 2022 was $4.80 per share.

On February 23, 2022, our Board of Directors approved a stock repurchase program of up to $30 million of our common stock for a period of up to twelve months. See Note 13. Subsequent Events of the Notes to Consolidated Financial Statements in Part II Item 8. Financial Statements and Supplementary Data of this annual report on Form 10-K for more information.

At December 31, 2021, we had a liability for unrecognized tax benefits totaling $7.6 million, none of which could be payable in cash.

We did not have any other significant non-cancellable purchase commitments as of December 31, 2021.

We anticipate that capital expenditures for property and equipment in 2022 will be less than $1.0 million.

While the unprecedented public health and governmental efforts to contain the spread of COVID-19 have created significant uncertainty as to general economic and capital market conditions in 2021 and beyond, as of February 25, 2022, the date of this Annual Report on Form 10-K, we believe we have sufficient capital resources to meet our working capital needs for the next twelve months and beyond.

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Recent Accounting Pronouncements

See Note 1 Significant Accounting Policies of the Notes to Consolidated Financial Statements for information regarding the effect of new accounting pronouncements on our financial statements.