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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

For the transition period from              to            

Commission File Number: 0-27644

DG FastChannel, Inc.

(Exact name of registrant as specified in its charter)

750 West John Carpenter Freeway, Suite 700

Irving, Texas 75039

(Address of principal executive offices) (Zip Code)

(972) 581-2000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x No  o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  o No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  o  No  x

As of May 5, 2011, the Registrant had 27,411,446 shares of Common Stock, par value $0.001, outstanding.

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DG FASTCHANNEL, INC.

Cautionary Note Regarding Forward-Looking Statements

The Securities and Exchange Commission (“SEC”) encourages companies to disclose forward-looking information so that investors can better understand a company’s future prospects and make informed investment decisions. Certain statements contained herein may be deemed to constitute “forward-looking statements.”

Words such as “may,” “anticipate,” “estimate,” “expects,” “projects,” “future,” “intends,” “will,” “plans,” “believes” and words and terms of similar substance used in connection with any discussion of future operating or financial performance, identify forward-looking statements. All forward-looking statements are management’s present expectations of future events and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. These risks and uncertainties include, among other things:

·                  our potential inability to further identify, develop and achieve commercial success for new products;

·                  the possibility of delays in product development;

·                  the development of competing distribution products;

·                  our ability to protect our proprietary technologies;

·                  patent-infringement claims;

·                  risks associated with integrating acquisitions with our operations, personnel or technologies;

·                  risks of new, changing and competitive technologies; and

·                  other factors discussed elsewhere herein under the heading “Risk Factors.”

In light of these assumptions, risks and uncertainties, the results and events discussed in the forward-looking statements contained herein might not occur. You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this filing. We are not under any obligation, and we expressly disclaim any obligation, to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required by applicable law. All subsequent forward-looking statements attributable to management or to any person authorized to act on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section.

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PART I— FINANCIAL INFORMATION

Item I.      FINANCIAL STATEMENTS

DG FASTCHANNEL, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except par value amounts)

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

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DG FASTCHANNEL, INC. AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts)

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

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DG FASTCHANNEL, INC. AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(In thousands)

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

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DG FASTCHANNEL, INC. AND SUBSIDIARIES

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

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

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DG FASTCHANNEL, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1.  GENERAL

The Company

DG FastChannel, Inc. and subsidiaries (the “Company,” “we,” “us” or “our”) is a provider of digital technology services that enable the electronic delivery of advertisements, syndicated programs, and video news releases to traditional broadcasters, online publishers and other media outlets. We operate three nationwide digital networks out of our network operation centers (“NOCs”) located in Irving, Texas; Roswell, Georgia and Jersey City, New Jersey, which link more than 5,000 advertisers, advertising agencies and content owners with more than 29,000 television, radio, cable, print and web publishing destinations electronically throughout the United States, Canada, and Europe. We also offer a variety of other ancillary products and services to the advertising industry.

Basis of Presentation

The consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) and include the accounts of our subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

These financial statements have been prepared by us without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  Certain information and disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations.  However, we believe the disclosures are adequate to make the information presented not misleading.  The unaudited consolidated financial statements reflect all adjustments, which are, in the opinion of management, of a normal and recurring nature and necessary for a fair presentation of our financial position as of the balance sheet dates, and the results of operations and cash flows for the periods presented.  These unaudited consolidated financial statements should be read in conjunction with the financial statements and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2010 (“Annual Report”).  Revenues presented in the financial statements are net of sales taxes collected.

Our business is seasonal, as a large portion of our revenues follow the advertising patterns of our customers.  Revenues tend to be lowest in the first quarter, build throughout the year and are generally the highest in the fourth quarter.  Further, our revenues are affected by political advertising, which peaks every other year consistent with the national, state and local election cycles.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we evaluate our estimates, including those related to the allowance for doubtful accounts and credit memo reserves, intangible assets, office closure exit costs, contingent consideration and income taxes. We base our estimates on historical experience and on other relevant assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.

2.  RECENTLY ISSUED ACCOUNTING GUIDANCE

In December 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2010-29 which changes the disclosures of supplementary pro forma information for business combinations. The new standard clarifies that if a public entity completes a business combination and presents comparative financial statements, the entity should disclose revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The amendments also expand the supplemental pro forma disclosures under Accounting Standards Codification (“ASC”) topic 805 to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. ASU 2010-29 is effective for any business combination we complete on or after January 1, 2011. The revised disclosure requirements will not affect our financial position, results of operations or cash flows.

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3.  FAIR VALUE MEASUREMENTS

ASC 820, Fair Value Measurements and Disclosures, defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date.

ASC 820 establishes a three-level fair value hierarchy that prioritizes the inputs used to measure fair value. This hierarchy requires entities to maximize the use of observable inputs and minimize the use of unobservable inputs. The three levels of inputs used to measure fair value are as follows:

·                  Level 1—Quoted prices in active markets for identical assets or liabilities.

·                  Level 2—Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.

·                  Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes certain pricing models, discounted cash flow methodologies and similar techniques that use significant unobservable inputs.

We have classified our assets and liabilities that are measured at fair value on a recurring basis (at least annually) into the most appropriate level within the fair value hierarchy based on the inputs used to determine the fair value at the measurement date.

The tables below set forth by level, assets and liabilities that were accounted for at fair value as of March 31, 2011 and December 31, 2010. The tables do not include cash on hand or assets and liabilities that are measured at historical cost or any basis other than fair value (in thousands):

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Our cash equivalents consist of highly liquid money market funds. Fair values of our cash equivalents and equity securities—restricted stock was determined based upon market prices. The value of the put option, net of a call option, is based upon the Black-Scholes pricing model using observable inputs.

The earnout was determined based upon our estimate of expected future Match Point revenues and the corresponding earnout levels achieved, discounted to their present value. The change in fair value has been recorded in cost of revenues in the accompanying consolidated statement of income.  The earnout liability is recorded net of a $1.0 million escrow deposit made. The following table provides a reconciliation of changes in the fair values of our level 3 liabilities (in thousands):

4.  ACQUISITION RELATED EXIT COSTS

In connection with the acquisition of the Vyvx advertising services business (“Vyvx”) in June 2008 and Enliven Marketing Technologies Corporation (“Enliven”) in October 2008, we recorded exit costs related to discontinuing certain activities and personnel of the acquired operations.  Below is a rollforward of acquisition related exit costs from the acquisition dates to March 31, 2011 (in thousands):

At March 31, 2011, $1.4 million and $0.5 million of such amounts were included in other non-current liabilities and accrued liabilities, respectively, on the accompanying consolidated balance sheet.  At December 31, 2010, $1.6 million and $0.5 million of such amounts were included in other non-current liabilities and accrued liabilities, respectively, on the accompanying consolidated balance sheet.

5.  LONG-TERM DEBT

Prior to April 2010, we had a $185 million credit facility (the “Prior Senior Credit Facility”) that contained term loans, acquisition loans and a $30 million revolving credit facility. Borrowings under the Prior Senior Credit Facility bore interest at the base rate or LIBOR, plus the applicable margin for each that fluctuated with the total leverage ratio.  In April 2010, we issued 3.7 million shares of our common stock in a public equity offering that raised $108 million in net proceeds and used $97 million of the proceeds to retire all of our outstanding debt.

In May 2011, we entered into a $150 million revolving credit facility.  See Note 11.

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6.  SHARE-BASED COMPENSATION

We issued stock options in the amounts and for the periods shown in the following table.  The fair value of each option was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions:

We recognized approximately $1.3 million and $1.0 million in share-based compensation expense related to stock options and restricted stock awards during the three months ended March 31, 2011 and 2010, respectively.  Unrecognized compensation costs related to unvested options and restricted stock was $8.5 million at March 31, 2011.  These costs are expected to be recognized over the weighted-average remaining vesting period of 2.6 years.

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7.  EARNINGS PER SHARE

In calculating earnings per common share, we allocate our earnings between common shareholders and holders of unvested share-based payment awards (e.g. restricted stock) that contain rights to nonforfeitable dividends. This earnings allocation is referred to as the two-class method.

Under the two-class method undistributed earnings are allocated between common stock and participating securities (restricted stock) as if all of the net earnings for the period had been distributed. Basic earnings per common share excludes dilution and is calculated by dividing net earnings allocable to common shares by the weighted average number of common shares outstanding during the period. Diluted earnings per common share is calculated by dividing net earnings allocable to common shares by the weighted average number of common shares outstanding during the period, as adjusted for the potential dilutive effect of non-participating share-based awards such as stock options and warrants. The following table reconciles earnings per common share for the three months ended March 31, 2011 and 2010 (in thousands, except per share data):

8.  COMPREHENSIVE INCOME

The following table summarizes total comprehensive income for the three months ended March 31, 2011 and 2010 (in thousands):

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9.  SEGMENT INFORMATION

Our two segments consist of (i) digital and physical distribution of video and audio content and broadcast business intelligence and (ii) all other. The all other segment includes creative research services (i.e., SourceEcreative) and Internet marketing services (i.e., Springbox). Our reportable segments have been determined based on related products and services. Our reportable segments were as follows (in thousands):

10.  CONTINGENCY

In September 2010, a securities class-action lawsuit captioned Duncan v. Ginsburg, et al, was filed against the Company and certain of its officers and directors in the U.S. District Court for the Southern District of New York (10 Civ. 6523). Subsequently, an identical lawsuit by the same plaintiff, also captioned Duncan v. Ginsburg, et al, was filed in the U.S. District Court for the Northern District of Texas (10 Civ. 1769), and a similar lawsuit, captioned Tours v. DG FastChannel Inc., et al, was filed in the U.S. District Court for the Southern District of New York by a different plaintiff (10 Civ. 6930). The Northern District of Texas lawsuit was voluntarily dismissed by the plaintiff and the other two lawsuits were consolidated before Judge Richard J. Sullivan in the U.S. District Court for the Southern District of New York, captioned In re DG FastChannel, Inc. Securities Litigation (10 Civ. 6523). On November 24, 2010, Judge Sullivan appointed a lead plaintiff and ordered that a consolidated amended complaint be filed. On January 24, 2011, the lead plaintiff filed a consolidated amended complaint on behalf of a purported class of persons who purchased or otherwise acquired DG FastChannel common stock between August 4, 2010 and August 27, 2010, inclusive. The consolidated amended complaint alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder. The lawsuit alleges, among other things, that the defendants made false or misleading statements of material fact, or failed to disclose material facts, about the Company’s financial condition during the class period. The plaintiffs seek unspecified monetary damages and other relief. While the outcome of such lawsuits cannot be predicted with certainty, the Company intends to defend the action vigorously.

We expect our defense costs and any loss that may result from this claim will be covered under our insurance policies.

We are involved in a variety of other legal actions arising from the ordinary course of business. We do not believe the ultimate resolution of these matters will have a material effect on our financial statements.

11.  SUBSEQUENT EVENTS

Acquisition

On April 1, 2011, we acquired substantially all the assets and operations, and assumed certain liabilities, of private-held MIJO Corporation (“MIJO”) for approximately $43.5 million (USD), which includes a $2.5 million working capital payment that is subject to adjustment.  MIJO, established in 1978 and based in Toronto, Canada, provides broadcast and digital media services to the Canadian advertising, entertainment and broadcast industries.

Increase in Share Repurchase Program

On August 30, 2010, our Board of Directors authorized the purchase of up to $30 million of our common stock in the open market or unsolicited negotiated transactions.  The stock repurchase plan has no expiration date.  Through March 31, 2011, we had repurchased 1.1 million shares at a cost of $29.7 million under the share repurchase program.  On April 19, 2011, our Board of Directors authorized an increase to our share repurchase program from $30 million to $80 million.

Revolving Credit Facility

On May 2, 2011, we entered into a five-year, $150 million revolving credit facility with a group of lenders (the “Revolving Credit Facility”). Borrowings under the Revolving Credit Facility bear interest at the alternative base rate or LIBOR, plus the applicable margin for each that fluctuates with the consolidated leverage ratio (as defined).  The Revolving Credit Facility provides for future acquisitions and contains financial covenants pertaining to (i) the maximum consolidated leverage ratio and (ii) the minimum fixed charge coverage ratio. The Revolving Credit Facility also contains a variety of

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restrictive covenants, such as limitations on borrowings and investments, and provides for customary events of default.  There are no restrictions on accumulated deficit or net income other than the declaration or payment of cash dividends. Further, there are no restrictions in our Revolving Credit Facility with respect to transfers of cash or other assets from our subsidiaries to us. The Revolving Credit Facility is guaranteed by substantially all of our subsidiaries and is collateralized by a first priority lien on substantially all of our assets.

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Item 2.     MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following management’s discussion and analysis of financial condition and results of operations (“MD&A”) should be read in conjunction with our unaudited consolidated financial statements and notes thereto contained elsewhere in this report on Form 10-Q.

Critical Accounting Policies and Estimates

The following discussion and analysis of the financial condition and results of operations are based on the unaudited consolidated financial statements and notes to unaudited consolidated financial statements contained in this Report that have been prepared in accordance with the rules and regulations of the SEC and do not include all the disclosures normally required in annual consolidated financial statements prepared in accordance with GAAP.  The preparation of these financial statements requires us to make estimates that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities.  We base these estimates on historical results and various other assumptions believed to be reasonable, all of which form the basis for making estimates concerning the carrying values of our assets and liabilities that are not readily available from other sources.  Actual results may differ from these estimates.

Our significant accounting policies are described in Note 2 to the consolidated financial statements presented in our Annual Report.  Our critical accounting policies are described in MD&A in our Annual Report.  Our significant and critical accounting policies have not changed significantly since the filing of our Annual Report.  See also Recently Issued Accounting Guidance in Note 2 to our unaudited consolidated financial statements contained in this Report.

Overview

We are a leading provider of digital technology services that enable the electronic delivery of advertisements, syndicated programs, and video news releases from advertising agencies and other content providers to traditional broadcasters, online publishers and other media outlets.  Our primary source of revenue is the delivery of television and radio advertisements, or spots, which are typically delivered digitally but sometimes physically.  We offer a digital alternative to the dub and ship delivery of spots.  We generally bill our services on a per transaction basis.  Our business can be impacted by several factors including general economic conditions, the overall advertising market, the financial stability of our customers, new emerging digital technologies, the increasing trend towards delivering high definition (“HD”) data files, and the continued transition from the traditional dub and ship delivery method to digital broadcast signal transmission.

Part of our business strategy is to acquire similar and/or ancillary businesses that will increase our market penetration and, in some cases, result in operating synergies. During the last three fiscal years we purchased three separate businesses involved in the distribution of media content.

Our business is seasonal as a large portion of our revenues follow the advertising patterns of our customers.  Revenues tend to be lowest in the first quarter, build throughout the year and are generally the highest in the fourth quarter.  Further, our revenues are affected by political advertising, which peaks every other year consistent with the national, state and local election cycles.

First Quarter Highlights

·                  Our diluted earnings increased to $0.45 per share, or 41%, compared to $0.32 per share in last year’s first quarter.

·                  Revenues from HD advertising increased $12.7 million, or 64%, from last year’s first quarter.

·                  We repurchased 519,500 shares of our common stock for $16.6 million.

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Results of Operations

Three Months Ended March 31, 2011 vs. Three Months Ended March 31, 2010

The following table sets forth certain historical financial data (dollars in thousands).

(a)     Excludes depreciation and amortization.

NM — Not meaningful

Reconciliation of Income from Operations to Adjusted EBITDA (Non-GAAP financial measure)

Reconciliation of Net Income to Non-GAAP Net Income (Non-GAAP financial measure)

(b)     See discussion on Non-GAAP financial measures on a following page.

Revenues.      For the three months ended March 31, 2011, revenues increased $10.5 million, or 19%, as compared to the same period in the prior year.  The video and audio content distribution segment increased $11.0 million, partially offset by a $0.5 million decrease in the all other segment.  The increase in the video and audio content distribution segment was primarily due to (i) a $12.7 million increase in HD revenue ($32.4 million in 2011 vs. $19.7 million in 2010), (ii) a $0.7 million increase in Unicast revenue, both of which were driven by an increase in deliveries, and (iii) the acquisition of Match Point on

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October 1, 2010 which contributed $5.2 million of revenue, partially offset by a decrease in standard definition (“SD”) revenue ($6.1 million) and Pathfire revenue ($0.9 million).  HD revenue increased due to a continuing trend of delivering more HD advertising content and less SD content.  Both HD and SD revenue per delivery decreased due to volume discounts and the competitive environment.  HD revenue pricing per delivery also decreased in 2011 as a result of a higher percentage of electronic deliveries (electronic deliveries are priced lower than physical deliveries).  The all other segment revenues decreased $0.5 million due to a $0.7 million decline in Springbox revenue ($1.2 million in 2011 vs. $1.9 million in 2010) partially offset by a $0.2 million increase in SourceEcreative revenue.

Cost of Revenues.      For the three months ended March 31, 2011, cost of revenues increased $4.7 million, or 26%, as compared to the same period in the prior year.   As a percentage of revenues, cost of revenues increased to 34.9% in the current period as compared to 33.1% in the same period in the prior year.  Costs of revenues increased due to the inclusion of Match Point, a direct response advertiser, in our operating results ($3.4 million) and higher personnel costs ($1.5 million) associated with an increase in our revenues.  The decrease in our gross margin percentage is due to the acquisition of Match Point which has a lower gross margin percentage than the balance of the Company.

Sales and Marketing.      For the three months ended March 31, 2011, sales and marketing expense decreased $0.4 million, or 13%, as compared to the same period in the prior year.   The decrease was principally attributable to a reduction in personnel costs.

Research and Development.      For the three months ended March 31, 2011, research and development costs increased $0.6 million, or 26%, as compared to the same period in the prior year.  The increase relates primarily to an increase in the number of engineers and related benefit costs associated with the growth in our revenues.

General and Administrative.      For the three months ended March 31, 2011, general and administrative expense increased $0.7 million, or 8%, as compared to the same period in the prior year.  The increase was primarily attributable to higher personnel costs ($1.2 million) partially offset by a reduction of professional fees ($0.6 million).  Personnel costs increased largely due to an increase in incentive compensation associated with our improved operating results and a larger staff principally associated with the acquisition of Match Point.  Professional fees declined as the prior year quarter included higher legal costs associated with a vendor lawsuit which was settled in September 2010.

Depreciation and Amortization.      For the three months ended March 31, 2011, depreciation and amortization expense decreased $0.2 million, or 3%, as compared to the same period in the prior year.  The decrease was primarily attributable to a reduction of depreciation expense ($0.7 million) as a result of fully depreciating certain fixed assets in the prior year, partially offset by an increase in amortization expense ($0.5 million) associated with amortizing certain intangible assets obtained in the October 2010 acquisition of Match Point.

Interest Expense.     For the three months ended March 31, 2011, interest expense decreased $2.0 million, or 98%, as compared to the same period in the prior year.  The decrease was due to retiring all of our outstanding debt in April 2010.

Interest Income and Other Expense, net.     For the three months ended March 31, 2011, interest income and other increased $0.1 million as compared to the same period in the prior year.  The increase was the result of having larger amounts of cash invested in interest bearing accounts and an increase in other income.

Provision for Income Taxes.     For the three months ended March 31, 2011 and 2010, the provision for income taxes was 40.0% and 41.5%, respectively, of income before income taxes.  The provisions for both periods differ from the expected federal statutory rate of 35% as a result of state income taxes and certain non-deductible expenses.  The reduction in our effective tax rate is due to (i) liquidating two US subsidiaries during 2010 and (ii) having a lower level of non deductible expenses on a percentage basis as a result of having higher taxable income.

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Non-GAAP Financial Measures

In addition to providing financial measurements based on GAAP, we have historically provided additional financial measures that are not prepared in accordance with GAAP (“non-GAAP”). Legislative and regulatory changes discourage the use of and emphasis on non-GAAP financial measures and require companies to explain why non-GAAP financial measures are relevant to management and investors. We believe that the inclusion of these non-GAAP financial measures helps investors to gain a meaningful understanding of our past performance and future prospects, consistent with how management measures and forecasts our performance, especially when comparing such results to previous periods or forecasts. Our management uses these non-GAAP financial measures, in addition to GAAP financial measures, as the basis for measuring our core operating performance and comparing such performance to that of prior periods and to the performance of our competitors. These measures are also used by management in its financial and operational decision-making. There are limitations associated with reliance on these non-GAAP financial measures because they are specific to our operations and financial performance, which makes comparisons with other companies’ financial results more challenging. By providing both GAAP and non-GAAP financial measures, we believe that investors are able to compare our GAAP results to those of other companies while also gaining a better understanding of our operating performance as evaluated by management.

We define “Adjusted EBITDA” as net income, before interest, taxes, depreciation and amortization, share-based compensation, restructuring / impairment charges and benefits, and gains and losses on derivative instruments. We consider Adjusted EBITDA to be an important indicator of our operational strength and performance and a good measure of our historical operating trends.

Adjusted EBITDA eliminates items that are either not part of our core operations, such as net interest expense, and gains and losses from derivative instruments, or do not require a cash outlay, such as share-based compensation or impairment charges. Adjusted EBITDA also excludes depreciation and amortization expense, which is based on our estimate of the useful life of tangible and intangible assets. These estimates could vary from actual performance of the asset, are based on historical costs, and may not be indicative of current or future capital expenditures.

We define “non-GAAP net income” as net income before amortization of intangible assets, impairment charges and share-based compensation expense.  All amounts excluded from non-GAAP net income are reported net of the tax benefit these expenses provide.

We consider non-GAAP net income to be another important indicator of our overall performance because it eliminates the effects of events that are non-cash, or are not expected to recur as they are not part of our ongoing operations.

Adjusted EBITDA and non-GAAP net income should be considered in addition to, not as a substitute for, our operating income and net income, as well as other measures of financial performance reported in accordance with GAAP.

Reconciliation of Non-GAAP Financial Measures

In accordance with the requirements of Regulation G issued by the SEC, we are presenting the most directly comparable GAAP financial measures and reconciling the non-GAAP financial measures to the comparable GAAP measures.

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Financial Condition

The following table sets forth certain major balance sheet accounts as of March 31, 2011 and December 31, 2010 (in thousands):

Cash and cash equivalents fluctuate with changes in operating, investing and financing activities. In particular, cash and cash equivalents fluctuate with (i) operating results, (ii) the timing of payments, (iii) capital expenditures, (iv) acquisition and investment activity, (v) borrowings and repayments of debt, and (vi) capital activity. The increase in cash and cash equivalents primarily relates to cash generated from operating activities ($28.5 million) in excess of cash used to purchase treasury stock ($16.6 million).

Accounts receivable generally fluctuate with the level of revenues. As revenues increase, accounts receivable tend to increase. The number of days of revenue included in accounts receivable was 78 days at both March 31, 2011 and December 31, 2010.

Property and equipment tends to increase when we make significant improvements to our equipment, expand our network or initiate capitalized software development projects. It also can increase as a result of acquisition activity. Further, the balance of property and equipment is affected by recording depreciation expense. For the three months ended March 31, 2011 and 2010, purchases of property and equipment were $1.4 million and $2.2 million, respectively. For the three months ended March 31, 2011 and 2010, capitalized costs of developing software were $1.4 million and $1.3 million, respectively.

Goodwill and intangible assets decreased during 2011 as a result of amortization of intangible assets.

Accounts payable and accrued liabilities decreased $2.6 million during 2011. The decrease primarily relates to the timing of payments and payments on capital lease obligations.

Stockholders’ equity decreased $2.3 million during 2011. The decrease primarily relates to the purchase of treasury stock ($16.6 million) in excess of net income ($12.7 million) and share-based compensation expense ($1.3 million).

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