DivX was incorporated in Delaware in May 2000 with the purpose of making media better through the use of technology. We believe that media is undergoing a profound transformation that will change how individuals and entities obtain information, communicate and express ideas. We believe that there are opportunities within this transformation—opportunities to generate tremendous value by meeting the needs of users of the new media and, more importantly, opportunities to influence its evolution and development. Our successes to date have been the result of creating value with and for a broad community of constituents including software vendors, consumer hardware device manufacturers, content creators and consumers. Like the evolving markets in which we operate, DivX is open and dynamic.
We create products and services designed to improve the experience of media. Our long-term goal is to allow creators to have the ability to capture their content in the DivX format using any device or software of their choosing and to allow consumers of such content to playback and interact with the content on any device or platform.
The first step towards this goal was to build and release a high-quality video compression-decompression software library, or codec, to enable distribution of content across the Internet and through recordable media. As a result, we created the DivX codec, which has been actively sought out and downloaded by consumers hundreds of millions of times. These downloads include those for which we receive revenue as well as free downloads, such as limited-time trial versions, and downloads provided as upgrades or support to existing end users of our products. After the significant grass-roots adoption of our codec, the next step towards our goal was to license similar technology to consumer hardware device manufacturers and certify their products to ensure the interoperable support of DivX-encoded content. In January 2009, we took another step forward by releasing to consumers and licensing to hardware device manufacturers a version of our technology built around a new codec, the DivX Plus codec. DivX Plus technology offers enhancements over prior versions of our codecs for certain implementations, including for high definition and mobile content. DivX Certified hardware devices have been shipped worldwide by our customers who include major consumer video hardware original equipment manufacturers. We are entitled to receive a royalty and/or license fee for DivX Certified devices our customers ship. In addition to technology licensing to consumer hardware device manufacturers, we generate revenue from software licensing, advertising and content distribution.
Complementing our organic growth, in November 2007, we acquired MainConcept GmbH, or MainConcept, a leading provider of H.264 and a wide range of other high-quality video codecs and technologies for the broadcast, film, consumer electronics and computer software markets. MainConcept solutions are optimized for various platforms including PCs, set-top boxes, portable media players and mobile phones. Through integration, we expect to realize additional opportunities both in our core markets and in related emerging markets that will help advance our long-term goals.
Our next steps, which we have begun working toward, are to bring together the millions of DivX consumers with content creators both large and small to build communities around media, including through the development and licensing of media distribution platforms and services for Internet and consumer electronics devices. We are optimistic about the future and believe our opportunities are only beginning to be realized.
The DivX solution
We have developed a solution to address the opportunity created by the transformation of content. Specifically, we have built the technological platform and galvanized the community necessary to enable a digital media ecosystem of consumers, content creators, software vendors, hardware device manufacturers and advertisers, allowing each participant in this ecosystem to benefit from the participation of the other participants.
The following illustration depicts how DivX provides the foundation and connection for the participants in the digital media ecosystem, all of whom ultimately work to benefit the consumer:
Specifically, our ecosystem offers the following benefits to these various participants in the content industry:
To content consumers, the DivX ecosystem provides a high-quality, interoperable digital media format supported by dozens of software products and thousands of models of consumer hardware devices. This allows consumers to access a diverse range of content from large and small content creators and to play back this content when, where and how they want. Moreover, the widespread availability of consumer hardware devices, software and services within the DivX ecosystem makes creating and sharing content easier and more fun for a growing community of DivX users.
To content creators, the DivX ecosystem provides the ability to cost-effectively and securely create and distribute high-quality content to a large market of consumers, and to deliver that content when, where and how consumers want it. The DivX ecosystem gives content creators access to DivX Certified consumer hardware devices as well as millions of digital video savvy consumers who have demonstrated their willingness and ability to seek out high-quality content distributed via the Internet.
To digital media software vendors, the DivX ecosystem allows software vendors to provide easy-to-use products for the creation and playback of content that is interoperable with all other DivX Certified devices. By doing so, software vendors can differentiate their products by adding DivX media creation and playback functionality, and thus providing useful products that compete with generic operating system bundles.
To consumer hardware device manufacturers, the DivX ecosystem provides the ability to offer recording and playback devices that are interoperable with millions of other DivX Certified devices in a high-quality, secure digital media format that consumers want and use. Manufacturers can thus avoid the cost of supporting many different incompatible formats, allowing them to remain competitive in the face of significant price pressures. Use of DivX technologies and association with the DivX brand enables manufacturers to participate in new content business models from content services provided by others in the DivX ecosystem.
To advertisers, the DivX ecosystem provides access to a large and engaged group of DivX users. This may enable advertisers to communicate with such a group to inform potential customers about products and services of theirs.
Our strategy is to make media better by supporting the digital media ecosystem. Key elements of our strategy include:
Grow our core licensing business. We believe that our software and consumer hardware partners are integral to our success. In hardware, we will focus on increasing the penetration of DivX technologies into the current and next-generation DVD player market, while simultaneously building on the initial success of DivX technologies in new categories of consumer hardware devices such as set-top boxes, digital televisions, high definition recording and playback devices, mobile phones, portable media players and other mobile devices. We also plan to advance our new DivX platform technologies into the consumer hardware device market that will, for example, allow consumers to encode and play back high definition video and access content on connected networks directly. In software, we plan to enhance the value of the DivX technologies to our existing software partners by adding new features to the DivX media format and to increase partnerships across the software market.
Provide content platforms and content-related services that are valued by DivX users. There are millions of DivX users around the world, and we intend to work independently, and with other parties focused on media to develop products and services that enhance the media experience for these users.
Expand the DivX ecosystem through partnerships with the community of diverse content creators. We believe the active engagement of content creators in the DivX ecosystem is essential to realizing the full potential of the digital media transformation. We plan to continue to develop relationships with premium, mid-tier and individual content creators. We intend to partner with creators based not only on the economic potential of their content, but also on the potential for DivX to enhance the value of their content through the power of our platform and community. We also plan to support our content partners in their plans to distribute their content in the DivX format through their own various digital distribution channels.
Strengthen the DivX brand. We intend to continue building upon the strength of the DivX brand. We plan to ensure that in the future the DivX brand continues to be associated only with those products and services that offer high-quality media experiences. We may also invest in activities beyond our products that are consistent with the DivX vision of better media.
Pursue selected complementary acquisitions, investments and strategic alliances. When the opportunity presents itself, we intend to pursue selected acquisitions, investments or alliances that complement and further our mission to make media better and improve the media experience for consumers. Our primary objectives in these transactions would be to acquire complementary technologies and platforms and expand the consumer and content portions of our ecosystem. Once we have accomplished such acquisitions, we will spend time and resources integrating them into our businesses.
We believe that the following key strengths uniquely position DivX to continue to enhance and enrich the digital media content experience:
Our demonstrated history of success, innovation and ecosystem creation. We have a history of technology leadership on which we will continue to build. The success of DivX has been driven by the grassroots adoption of our technologies by millions of consumers, due in large part to the strength of our technology. We also have a demonstrated ability to build technologies that support an ecosystem of diverse participants that gain value from their participation.
Our large installed base. DivX technologies and products have been adopted by millions of users who have sought them out and chosen to download them. This success encouraged consumer hardware device manufacturers to build support for DivX technologies into their products. Today hundreds of consumer hardware device manufacturers and dozens of integrated circuit manufacturers support DivX technologies in thousands of models of consumer hardware devices. We believe our large user and consumer hardware installed base places us in a strong position to benefit from the transformation of the content industry and growing digital content distribution. The DivX media platform installed base represents a large addressable market for content creators interested in commercial digital distribution of their content.
The DivX brand. The DivX logo appears on products that incorporate DivX technology and indicates to consumers that the product meets our strict standards of interoperability and delivers a high-quality DivX media experience. We believe that consumers recognize the value of the DivX logo, and that this increases the value of the DivX brand to all other participants in the DivX ecosystem.
Our neutral media technology platform for software, hardware and content. Our technology platform for the creation, distribution and consumption of media content is not tied exclusively to any specific consumer hardware device manufacturer, software vendor or content provider. We license our encoding and decoding technologies to a wide array of companies. We believe our neutral platform allows us to bring a diverse set of powerful interests together in the DivX ecosystem.
Our ability to understand and partner with various constituents of the digital media industry. We have a demonstrated ability to work with industries that have very different goals. We are as comfortable working within the explosiveness of the Internet industry as we are within the planned and deliberate environment of the consumer hardware industry. We believe this ability will serve us well as we work to add even more diverse participants and industries to the DivX ecosystem.
How we derive revenue
We have four revenue streams. Three of these revenue streams emanate from our technologies, including technology licensing to manufacturers of consumer hardware devices, licenses to independent software vendors and consumers, and services we provide related to digital content distribution over the Internet. Additionally, we derive revenues from advertising and distributing third-party products.
Consumer hardware technology licensing. Our technology licensing revenues from consumer hardware device manufacturers comprise the majority of our total revenues and are derived primarily from royalties and/or license fees received from original equipment manufacturers, although related revenues are derived from other members of the consumer hardware device supply chain. We license our technologies to original equipment manufacturers, allowing them to build support of DivX technologies into their consumer hardware devices. A majority of our original equipment manufacturer licensees pay us a per unit fee for each DivX Certified device they sell. Our license agreements with original equipment manufacturers typically range from one to two years, and may include the payment of initial fees, volume-based royalties and minimum guaranteed volume levels. To ensure high-quality support of the DivX media format in finished consumer products, we also license our technologies to those companies who create the major components in those products. These include the integrated circuit manufacturers who supply the integrated circuits, and the original design manufacturers who create the reference designs, for DVD players, digital televisions, mobile phones and the other consumer hardware devices distributed by original equipment manufacturers. One of our original equipment manufacturer customers, LG Electronics, Inc. accounted for approximately 10% of our total net revenue in the years 2008 and 2007.
To ensure that our licensees’ products conform to our quality standards, we employ a rigorous certification program. Integrated circuit manufacturers, original design manufacturers and original equipment manufacturers are required to have their devices tested and certified prior to distribution. Only DivX Certified devices are permitted to include our logo as evidence that they conform to our standards of high quality.
In the years 2008, 2007 and 2006, we derived 66%, 70% and 72% respectively, of our total net revenues from licensing our technology to original equipment manufacturers, original design manufacturers and integrated circuit manufacturers.
Software licensing. We license our technologies to independent software vendors that incorporate our technologies into software applications for computers and other consumer hardware devices. An independent software vendor typically pays us an initial license fee, in addition to per-unit royalties based on the number of products sold that include our technology. We also license our technologies directly to consumers through several software bundles. We make certain software bundles available free of charge from our website. These bundles incorporate a version of our codec technology, and allow consumers to play and create content in the DivX format. We also make available from our website an enhanced version of the free software bundle, including additional features that increase the quality and control of DivX media playback and creation. This enhanced version is available free of charge for a limited trial period, which is generally 15 days. At the end of the trial period, our users are invited to purchase a license to one or more components of the enhanced bundle by making a one time payment to us. If they choose not to do so, they still enjoy playback and creation functionality equivalent to our free software bundle.
Since our acquisition of MainConcept in November 2007, we also have generated revenues associated with MainConcept’s licensing agreements in areas complementary to our existing revenue streams, including through MainConcept’s focus on the professional video sector.
In the years 2008, 2007 and 2006 we derived 14%, 8% and 8% respectively, of our total net revenues from licensing our technology to independent software vendors and licensing our software directly to consumers.
Advertising and third-party product distribution. We derive revenue from advertisements or third party software applications that we embed in or include with the software bundles we offer to consumers. For example, from November 2007 through November 2008, we included and distributed the Yahoo! Toolbar software product with our software products. Yahoo! paid us fees based on the number of downloads or activations of the included software by consumers. In November 2008, Yahoo! notified us that they intended to breach the two-year advertising services agreement and would discontinue making payments required under the agreement. As a result, we have filed a lawsuit in California Superior Court seeking damages from Yahoo! and specific performance under the agreement. Revenues earned under this agreement accounted for approximately 19% of our total net revenues in 2008. During 2006 and through December 2007, we had agreed with Google to include and distribute the Mozilla Firefox Browser and certain Google software products with our software products. Google paid us fees based on the number of downloads or activations of the included software by consumers. This agreement expired on November 30, 2007. Payments earned under the Google agreement accounted for approximately 17% and 18% of our total net revenues in years 2007 and 2006, respectively. In addition, in March 2009, we signed a multi-year agreement with Google Inc. to offer Google products to consumers who download DivX video software tools. The offering, starting with the Google Chrome Browser, is expected to launch in the first or second quarter of 2009 and replaces third party software previously distributed by DivX.
In the years 2008, 2007 and 2006, we derived 19%, 21% and 18% respectively, of our total net revenues from the inclusion of advertisements and third party software applications in our software products.
Digital media distribution. We derive revenue by acting as an application service provider for third party owners of digital video content. We provide encoding, content storage and distribution services to these third parties in exchange for a percentage of the revenue they receive from sales of digital content to consumers.
In the years 2008, 2007 and 2006 we derived 1%, 1% and 2% respectively, of our total net revenues from providing content distribution services to third parties.
We are a global company with a broad, geographically diverse market presence. For the years 2008, 2007 and 2006, our revenues outside North America comprised 74%, 77% and 76% respectively, of our total net revenues.
A large number of our consumer hardware device manufacturers are located in Asia. Fees received pursuant to licenses to these consumer hardware device manufacturers accounted for 62%, 59% and 63% of our total net revenues for 2008, 2007 and 2006 respectively. Revenues from customers located in Japan, Korea and Singapore comprised approximately 25%, 15% and 11%, respectively, of our total net revenues in 2008, 23%,19%, and 8% respectively, of our total net revenues in 2007, and 18%, 20% and 10%, respectively, of our total net revenues in 2006.
Domestic revenues comprised approximately 25%, 22% and 24% of our total net revenues in 2008, 2007, and 2006, respectively.
Our digital media ecosystem utilizes a series of technologies designed for commercial and consumer users. These technologies enable users to compress, secure and distribute digital video and otherwise participate in our digital media ecosystem. The following is a description of the core technologies that form the basis for our digital media ecosystem.
DivX media format. Our DivX media format comprises our DivX video compression technology, and the DivX file containers with their advanced media features and digital rights management, or DRM.
DivX video compression technology. Our DivX video compression technology reduces the size of high-quality video to a level that can be efficiently distributed over broadband networks. In addition, the newest version of our video compression technology, the DivX Plus Codec, was designed to offer even more efficient compression for certain source files. Both technologies utilize a mixture of video compression tools, including some from the MPEG-4 standard, and are capable of producing high-quality video using only a fraction of the amount of data required by a standard-length DVD. As a result, DivX technology enables a user to store approximately two hours of high-quality video on a standard CD-R. DivX technology is designed to offer a balance of compression, complexity and speed. Our technology offers superior visual quality at a high level of compression. The computational efficiencies of our technology make it suitable for integration into low-cost consumer hardware devices and its speed makes it useful in both consumer and professional content creation and editing environments. DivX video technology can be used on video sources with sizes ranging from high definition quality video to video resolutions suitable for a mobile environment.
DivX file containers. Our DivX file containers are designed to hold multimedia data and metadata. The original version of our containter is based on the Resource Interchange File Format, which by design gives it some compatibility with other Resource Interchange File Format based file formats such as the Audio Video Interleave file container. Our newest file container is a proprietary implementation built on MKV standards, which by design gives it some compatibility with other MKV-based files.
DivX advanced media features. DivX advanced media features enable DivX users to create enhanced digital media files, including features in the files themselves that are normally associated with the physical media or playback device used, such as DVD-like menus, user-selected multiple-language audio tracks, subtitles, and metadata that allow the content creator to add descriptive information such as title, author and video specifications.
Digital rights management. We have developed a digital rights management, or DRM that encrypts and manages the playback of protected DivX content on personal computers and consumer hardware devices. When implemented, it ensures that digital video is delivered in a secure manner and used in accordance with rules defined by its publisher. Our digital rights management technology is designed to require minimal system resources, allowing it to be implemented on low-cost consumer hardware devices.
Products and services
Our technologies are incorporated into several software product bundles that we offer directly to consumers, as well as software development kits that we license to hardware and software companies. We also offer certification services to software and hardware companies, and operate a digital media distribution system in which we act as an application service provider to third party content owners.
In addition to the third-party consumer software products that our technologies power, we offer several programs to consumers directly. These programs include the following:
DivX for Windows bundle. Our DivX for Windows bundle includes our DivX community codecs, DivX Player and DivX Web Player. The bundle also includes free trial versions of the Windows versions of the DivX Converter and the DivX Pro video codecs.
DivX Pro for Windows bundle. Like our DivX for Windows bundle, the DivX Pro for Windows bundle includes our DivX Player, and DivX Web Player. However, instead of our DivX community codecs, this bundle includes our DivX Pro video codecs and additionally includes the DivX Converter application.
DivX for Mac bundle. Our DivX for Mac bundle includes Mac OS versions of our DivX community codec, DivX Player and DivX Web Player. The bundle also includes free trial versions of the Mac OS versions of the DivX Converter and the DivX Pro video codec. The DivX for Mac software bundle does not yet support the advanced media features of the DivX format.
DivX Pro for Mac bundle. Our DivX Pro for Mac bundle includes all of the components of the DivX for Mac bundle as well as Mac OS versions of the DivX Converter application and the DivX Pro video codec.
DivX Mobile Player. Our DivX Mobile Player is available for certain mobile handsets, and allows users to playback DivX videos on their handsets from a variety of sources, including side-loading from memory cards or downloading from the Internet, including DivX’s own mobile portal.
DivX Author. Our DivX Author application is available for the Windows OS and allows users to combine and edit multiple videos into a single DivX video, add the advanced features of the DivX format to enhance digital media files, and create slideshows with videos, photos and music.
Technology licensing for independent software vendors and consumer hardware device manufacturers
Software development kits. We typically make our technologies available to partners via software development kits. For hardware licensees, we have “decode” and “encode” software development kits that enable hardware partners to build DivX playback and recording support, respectively, into their products. For software licensees, we offer several software development kits that allow software vendors to build DivX playback and creation support into their products.
Certification Programs. Integrated circuit manufacturers, original design manufacturers, original equipment manufacturers and software vendors are required to have their products certified prior to being marketed as DivX Certified products. For example, integrated circuit manufacturers typically receive a software development kit and certification kit from us, which they use to design a DivX Certified integrated circuit. Manufacturers may distribute those integrated circuits to DivX-licensed original equipment manufacturers and original design manufacturers for inclusion in DivX Certified devices only after those integrated circuits are certified. Similarly, original design manufacturers, original equipment manufacturers and software vendors must have their products certified prior to being marketed as DivX Certified products. We currently offer the following certification programs:
The DivX Certified Program certifies hardware devices and software applications for the creation and playback of DivX video. DivX Certified hardware devices support playback of DivX video, while DivX Certified software applications support the conversion of digital video into the high-quality, highly-compressed DivX media format.
Devices certified pursuant to the DivX Plus profiles ensure device compatibility with files generated using the DivX Plus codec. DivX Plus technology offers enhancements over prior versions of our codecs for certain implementations, including for high definition and mobile content. While files generated using the DivX Plus codec will not play back on DivX Certified devices, devices certified under the DivX Plus profiles will play DivX video generated with existing DivX codecs as well as the newer DivX Plus technology.
DivX Ultra Certified
The DivX Ultra Certified Program is a premium certification level that additionally certifies hardware devices and software applications for the creation and playback of high-quality DivX video with advanced features such as motion menus, subtitles, chapter points and alternate audio tracks. DivX Ultra Certified software applications support the conversion of digital video into the high-quality, highly-compressed DivX media format as well as the creation of video with advanced features.
DivX Certified Recorder/Encoder
The DivX Certified Recorder/Encoder Program certifies hardware devices to record video directly in the DivX media format. DivX Certified Recorder/Encoder devices create DivX video that is compatible with all DivX Certified, DivX Plus, and DivX Ultra Certified products.
Open Video System
Our Open Video System is a complete hosted service that allows content creators to deliver high-quality DivX video content over the Internet. We use our Open Video System to provide content and service providers with encoding services, content storage and distribution services, and use of our DivX media format and digital rights management technology. Using the Open Video System, a content service provider can launch its own web store and sell content online.
DivX Mobile Media
DivX Mobile Media is a beta-version mobile media platform service that allows users to discover video content in the DivX format from a variety of sources. We are still in the process of evaluating this offering and what business opportunities, if any, we may choose to pursue with respect to this technology.
In February 2008, we shut down Stage6, our online service that allowed users to publish and download video content.
Sales and marketing
Our sales and marketing team markets our technologies to a wide range of integrated circuit manufacturers, original design manufacturers, original equipment manufacturers and software developers on a worldwide basis. In addition, members of this team market our products to various consumer segments at industry tradeshows such as CES and CeBIT, and engage in partner and retailer training, product marketing, sales support and partner co-marketing programs. Members of our sales and marketing team also focus on content and distribution partnerships, co-marketing transactions, advertising partnerships, brand and product marketing, electronic software distribution, business operations and marketing programs. As of December 31, 2008, our sales and marketing team included 109 full-time employees based in 10 countries.
We incurred product development costs of approximately $20.2 million, $18.7 million, and $15.4 million, in years 2008, 2007 and 2006 respectively, representing 21%, 22% and 26% respectively, of total net revenue. Our product development team is based out of our headquarters in San Diego, California, and with the acquisition of MainConcept in November 2007 has team members in Germany and Russia. As of December 31, 2008, this team consisted of 150 full-time employees dedicated to product development and product management, 116 of which were engineers and 16 of which were product managers (with the other 18 filling other related roles).
Our product development team focuses on building our technologies into products that meet the needs of our consumers. This team identifies, investigates and analyzes new long-term opportunities, shapes our technology strategy and provides support for internally developed and externally acquired technologies. Our product development team builds the platform technologies upon which our products are based and conducts our applied research in developing and improving technologies to compress, secure and distribute digital video.