VOLUME 3, ISSUE 1
KROST QUARTERLY M A G A Z I N E
THE TECH ISSUE
Greg Kniss & Paren Knadjian Lead the Technology Industry Group at KROST
STREAMING WARS: TECH TRENDS IN MEDIA & ENTERTAINMENT
UNRAVELING THE MYSTERY OF THE 83(B) ELECTION
CCPA
NEW PRIVACY LAW IMPACTING AREA BUSINESSES
QUANTUM COMPUTING: DEVELOPMENTS
Client Spotlight: AUDIENCEX Talks Tech WWW.KROSTCPAS.COM KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
1
ROST
CERTIFIED PUBLIC ACCOUNTANTS & CONSULTANTS SINCE 1939
KROSTCPAs.com
Volume 3, Issue 1 / March 2020
CONTENTS
Offices Pasadena Headquarters Valencia West LA Woodland Hills Phone: (626) 449-4225 Fax: (626) 449-4471 Principals Gregory A. Kniss, CPA Managing Principal Lou Guerrero, CPA, MBT Jason C. Melillo, CPA Jean Hagan So Sum Lee, CPA Douglas Venturelli, Esq. Richard Umanoff, CPA, MBA Christopher H. Gaynor, CPA, MS Bob Price, CPA Martin Belak-Berger, CPA Philip D’Amico, CPA Scott Eisner, CPA Scott Gilmore, CPA Jane Plant, CPA Jerry Block, CPA Production, Copy, and Design Bethany Wolfe, Editor-in-Chief Anna Chen, Editor Jackie Do, Assistant Editor Diana Vu, Assistant Editor Mayra Silva, Assistant Editor Inquiries may be sent to: admin@KROSTCPAs.com
4 8
Streaming Wars: Technology Trends in Media & Entertainment By Paren Knadjian
Tech Company Compensation: Unraveling the Mystery of the 83(b) Election By Robert Gosart, CPA
10
CCPA: California Enforces New Privacy Laws Impacting all Businesses Collecting Data
12
Client Spotlight: AUDIENCEX on Expansive Growth & the Evolution of AdTech
By Steve Chhuor, CPA and Keith Hamasaki, CPA
with Ryan Carhart, CFO & Brian Ko, CCO
15
R&D Tax Credits for Software Development Advancements in 2020 & Beyond
18
“Solving the Unsolvable” Quantum Computing Developments & Constraints
By Guest Contributors Tetyana Guguchkina and Tiffany Solymon
By Paren Knadjian
Stock Photography Adobe Stock - Used with permission
Copyright © 2020 by KROSTCPAs.com
All rights reserved. No part of this publication may be reproduced, distributed, or transmitted in any form or by any means, including photocopying, recording, or other electronic or mechanical methods, without the prior written permission of the publisher, except in the case of brief quotations embodied in critical reviews and certain other noncommercial
T H E T EC H NO LO GY IS S U E KROST Quarterly is a digital publication released by KROST CPAs & Consultants headquartered in Pasadena, California. Established in 1939, this full-service Certified Public Accounting and Consulting firm serves clients across a variety of industries. With a focus on recognizing opportunities and creating value, KROST equips clients with tools to make better business and financial decisions for the future.
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
1
INTRODUCING KROST’S TECHNOLOGY TEAM Together, Gregory Kniss, Managing Principal, and Paren Knadjian, M&A and Capital Markets Practice Leader, lead the technology industry group at KROST. As a former CEO and COO of two SaaS companies and with over 15 years of experience in technology, Paren knows what it means to have trusted advisors when trying to navigate a complex and fast-evolving landscape of innovation, disruption, and opportunity. With that in mind, Paren and Greg have crafted a team of dedicated experts to guide and serve so that tech businesses can improve competitiveness and maximize economic value. Each member of the team has unique experience to bring to the table to serve clients across a multitude of technology verticals. From adtech to artificial intelligence and fintech to virtual reality, our seasoned professionals have the pleasure of assisting incredibly innovative companies in reaching their financial goals.
Our team produces regular KROST Insights posted to our website. This issue will highlight some of the hot topics in the technology industry, including technology trends in media entertainment, privacy laws, 83(b) elections, R&D tax credits for software development, quantum
SUBSCRIBE
computing, and more.
2
Receive KROST news right to your inbox! To subscribe, click here.
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
Greg Kniss, CPA Managing Principal
TECHNOLOGY Team at KROST 360° Service Model
Paren Knadjian Practice Leader M&A and Capital Markets
•
Mergers & Acquisitions
•
Raising Capital & Debt Financing
•
Transaction Support & Due Diligence
•
R&D Tax Credits
•
Tax Planning & Compliance
•
Accounting Support & Acting CFO
•
Financial Modeling & Reporting
•
Internal and External Audits
Experience You Can Trust Our Sector Expertise
Robert Gosart, CPA
•
AdTech & Marketing Tech
Director - Tax
•
Application & Productivity Software
•
Artificial Intelligence & Machine Learning
•
Big Data
•
Cryptocurrency/Blockchain
•
Cybersecurity
•
E-Commerce
•
EdTech
•
FinTech
•
HealthTech
•
Internet of Things
•
IT Consulting and Outsourcing
•
Mobile
•
SaaS
•
Social & New Media
•
Virtual Reality & Augmented Reality
Steve Chhuor, CPA Manager Assurance & Advisory
Sossi Bekarian, CPA Manager Accounting
“The experienced, multi-disciplined teams at KROST can provide tax, accounting, and consulting services for technology industry-specific needs, as well as a holistic approach to tackling multiple challenges as a true partner in the development of your business.”
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
3
THE STREAMING WARS:
TECHNOLOGY TRENDS IN MEDIA AND ENTERTAINMENT By Paren Knadjian Practice Leader - M&A and Capital Markets
T
he U.S. media and entertainment (M&E) industry is the largest in the world. At $717 billion, it represents a third of the global M&E industry. It includes motion pictures, television programming and commercials, streaming content, music and audio recordings, broadcast, radio, book publishing, video games, and ancillary services and products. The U.S. M&E industry is expected to reach more than $825 billion by 2023.
What direction will this behemoth industry take in the 2020s and beyond? How will customers consume entertainment content? This is the question vexing every M&E company in the world plus the providers of broadband services, social networking, e-commerce, and consumer technology companies. BUY MARKET SHARE One way to be a major player in the industry is to buy other key businesses in the market. The most 360-degree player in this industry is now AT&T. With its $85 billion acquisition of Time Warner (which included Warner Brothers, TBS, TNT, HBO and CNN), it instantly became a key player in the M&E industry. It had previously acquired DirectTV for $67.1 billion in 2014. It is also investing heavily in 5G wireless, spending $982.5 million to buy 831 24GHz spectrum licenses from the FCC, excluding the costs of installing 5G equipment and infrastructure. Finally, it is a significant player in the wired broadband industry (fiber optics and copper) to home and business users. As for streaming, in October of 2019, it announced the launch of its principal Subscription Video on Demand (SVOD) service, called HBO Max, that will begin streaming in Q1 2020. It already has SVOD services such as HBO Go and HBO Now, but HBO Max will contain all WarnerMedia content (as opposed to just HBO). Another industry behemoth that is focusing on content and distribution (but not broadband) is The Walt Disney Company (WDC). In 2019, the company acquired the motion picture and TV content businesses of 21st Century Fox for $71.3 billion and bought the majority stake in Over-the-Top (OTT) service, Hulu, for $7.23 billion. Previously WDC acquired key branded content providers Lucasfilm ($4 billion), A&E Television (2.5 billion, co-owned with Hearst Media), Marvel ($4.3 billion), and Pixar ($7.4 billion). It launched its SVOD service Disney+ in the fourth quarter of 2019 and offered a bundled package with Hulu and ESPN+. Early indications are that Disney+ already has 40 million subscribers, although that number is possibly exaggerated by the 10 million or so Verizon Wireless subscribers, who received a year of free service. Another significant M&A play in the industry was the recombination of Viacom and CBS to form ViacomCBS, a media conglomerate that includes CBS Television, Showtime, Nickelodeon, MTV, BET, Comedy Central, VH1, CMT, Paramount Pictures and the publisher Simon & Schuster. The all-stock deal was structured as an acquisition of Viacom by CBS. They 4
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
had previously split in 2006. ViacomCBS also acquired Pluto, a vMVPD provider for $324 million in March, 2019.1 Another significant player is Comcast, which spent $38.8 billion acquiring Sky, Europe’s largest satellite TV provider in late 2018, and had previously acquired NBCUniversal from GE for $23.2 billion in 2013. NBCUniversal plans to launch an Ad-Supported Video on Demand (AVOD) service, called Peacock, in Q1 2020. BORROW MONEY TO GROW For all the attempts by the large players in the M&E vertical to be in the OTT/VOD/Streaming service business, one company dominates that space and was the first to market: Netflix. Netflix has not made significant inroads buying other businesses but has certainly invested in creating original content and subscription expansion. In terms of users, Netflix is a leader apart. The company wrapped up 2019 with an impressive 167 million worldwide subscribers—up 20% from the number of subscribers in 2018. But this impressive
“THE U.S. MEDIA & ENTERTAINMENT INDUSTRY IS EXPECTED TO REACH MORE THAN $825 BILLION BY 2023.”
growth does not come cheap. Already with $12.4 billion of long-term debt, the company announced a further $1 million and € 1.1 billion bond offering in October 2019, bringing its aggregate debt to over $14 billion. USE YOUR TECHNOLOGY MARKET DOMINATION TO ENTER THE MARKET Old Hollywood may only now be catching up with Netflix and modern entertainment delivery, but the technology heavyweights have not been standing on the sideline. In 2006, Amazon launched Prime Video its SVOD and TVOD service.2 Prime Video now includes a selection of Amazon Studios original content and licensed acquisitions and is offered as part of Amazon’s Prime subscription service. It recently moved into the live sports arena with live streaming of the NFL, MLB, and, most recently, the English Premier KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
5
League, the most popular soccer league in the world. In 2019, Apple, which also launched its TVOD business in 2006, and has a successful music streaming subscription business, launched its own SVOD service Apple TV+.
the emerging communication technologies. SpaceX, OneWeb, and others are developing small, low Earth orbit satellites that will be able to deliver high-performance broadband anywhere on earth, including rural or isolated communities.
THE OUTLOOK – 2020 AND BEYOND Google, through its YouTube subsidiary, is without question, the largest provider of video content, and has moved into The development of video streaming services is dominating the vMVPD service through the launch of YouTube TV and the headlines and driving many of the innovations, but VR/ offers TVOD service through its Google Play store. AR, 5G targeted advertising, cybersecurity and privacy will also be key technology developments of the M&E industry Finally, social media giant Facebook has recently launched in 2020 and beyond. original content through its Facebook Watch service. The infographic to the right shows the WHAT ARE THE KEY TECHNOLOGY DRIVERS? current media and entertainment landscape organized by media type and major corporate players.
As the M&E companies vie for market share, underlying technologies are evolving at a fast pace. A significant part of the M&E industry is video gaming, and it is in this arena that Virtual Reality and Augmented Reality (VR/AR) has moved in leaps and bounds in the last few years. A recent report from eMarketer reported that AR technology is currently enabled on 1 billion mobile devices worldwide and is expected to grow to more than 3.4 million devices in 2020. Don’t believe all the advertising hype, but 2020 will also be the year that 5G wireless will be available, on a limited basis, nationwide. Lack of competition in wired broadband has held back innovation in the M&E industry. But as the speed and reliability of 5G increases, more consumers will choose it over wired broadband, increasing competition in the market. But telco wireless operators will not be the only players in
MVPD stands for multichannel video programming distributor – a service that provides multiple television channels. Traditionally, this has meant cable or satellite television services such as Comcast, DirecTV, DISH, TImeWarner, etc. They are also known as MultiService Providers (MSOs). A virtual MVPD (vMVPD) is a service that provides multiple television channels through IP TV without supplying its own data transport infrastructure (i.e., coaxial cable, fiber, or satellite technology). These services are also sometimes called “skinny bundles” as they often contain fewer channels than a traditional cable or satellite subscription. Examples of vMVPDs include Sling TV, DirecTV Now, Fubo, Philo, YouTube TV, and Hulu Live. 1
2
TVOD – Transaction Video on Demand – where the consumer pays on transactional, oneoff, fee per content bought or rented – as opposed to an unlimited-use SVOD service. tanaonte - stock.adobe.com
CONTACT PAREN
6
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
7
TECH COMPANY COMPENSATION: UNRAVELING THE MYSTERY OF THE
83(B) ELECTION By Robert Gosart, CPA | Director - Tax
M
ost technology companies offer stock-based compensation. If you are an employee that can benefit from a company that does, you probably have heard of the 83(b) election.
The basic premise of Internal Revenue Code Section 83 is simple. It states that if you receive property in exchange for services, the difference between the value of the property received (stock), and what you paid for it, if anything, is taxable income (generally wages). However, if you receive the stock subject to a restriction (like a vesting schedule), then the taxable event occurs later when the restriction lapses (when the stock becomes vested). Any change in the stock’s value during this time will either increase or decrease the taxable event when the restriction lapses. This is when Section 83(b) can be utilized to your benefit or detriment. If you think the value of the stock will increase while you wait, which most people do, then 83(b) allows you to accelerate the taxable event and include the income on the earlier exercise date, before the date of restriction lapses. When the restriction lapses, there is no taxable event, and any appreciation in the stock from the exercise date is a capital gain. If held for more than a year, it is taxed at the lower long-term capital gains rate when sold. The detriment is if the stock goes down, then you have a capital loss that can be deducted only to the extent of capital gains. The employee gets no refund of taxes paid on the earlier exercise date. The 83(b) election is made by mailing the IRS a signed statement within 30 days of the date the restricted property is received. A copy should also be attached to the employee’s tax return for the tax year when the election is made. The most common forms of stock-based compensation are restricted stock awards (RSAs), restricted stock units (RSUs), nonqualified stock options (NSOs), and incentive stock options (ISOs). THIS IS HOW SECTION 83(B) APPLIES TO EACH ONE:
RSAs: These are shares of stock that an employer transfers to an employee (the grant date), usually at no cost, subject
to a vesting schedule. The default taxable event is the value of the shares on the later vesting date when the vesting
8
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
“THE MOST COMMON FORMS OF STOCK-
BASED COMPENSATION ARE RESTRICTED STOCK AWARDS (RSAS), RESTRICTED STOCK UNITS (RSUs), NONQUALIFIED STOCK OPTIONS (NSOs), AND INCENTIVE STOCK OPTIONS (ISOs).”
restriction lapses. The employee can make an 83(b) election and accelerate the taxable event to the grant date if he or she thinks the stock will substantially appreciate.
RSUs: These are a promise from the employer to deliver stock or cash to the employee in the future, based on the stock's performance. RSUs are not considered property and therefore are not governed by Section 83. Thus, there are no tax implications when employers grant RSUs and no Section 83(b) election is available.
NSOs: These are stock options awarded to employees, not according to a plan
that meets specific requirements laid out in the Internal Revenue Code. Because most compensatory NSOs do not have a readily ascertainable fair market value (FMV), they are not eligible for an 83(b) election. The taxable event does not occur on the grant date, but on the later exercise date, where 100% of the income is wages. However, if the stock acquired upon exercise of the option is restricted, then it would be eligible for an 83(b) election at that time.
ISOs: These are stock options awarded to employees according to a plan that
meets specific requirements laid out in the Internal Revenue Code. There is no taxable compensation when ISO shares are transferred to an employee, and 100% of the stock's appreciation is taxed to the employee as a capital gain when the stock is sold. Thus, no section 83(b) election is available. New Section 83(i), enacted as part of the 2017 Tax Cuts & Jobs Act, allows employees of certain privately held companies to elect to defer the payment of income taxes on certain equity compensation for up to five years. An 83(b) election is not applicable to this type of stock compensation. Finally, with the exception of ISOs, all of the above-mentioned equity awards and 83(b) elections are available to independent contractors. CONTACT ROBERT 1 Edwards, Vlada, CPA (2019, May 1). Stock-based compensation: Back to basics. Tax Advisor. https://www.thetaxadviser.com/ issues/2019/may/stock-based-compensation-basics.html 2 Internal Revenue Service (2018, December 7). Guidance on the Application of Section 83(i). https://www.irs.gov/pub/irsdrop/n-18-97.pdf 3 Davis Polk (2018, December 12). First Guidance on the Application of Section 83(i) – Tax Deferral for Private Corporation Equity Compensation Awards. Memo. https://www.davispolk.com/publications/ first-guidance-application-section-83i-tax-deferral-private-corporation-equity
CCPA: CALIFORNIA ENFORCES NEW PRIVACY LAWS IMPACTING ALL BUSINESSES COLLECTING DATA By Steve Chhuor, CPA | Manager - Assurance & Advisory
By Keith Hamasaki, CPA | Director - Assurance & Advisory
In recent years, the security of consumer data has been under significant scrutiny by all types of security organizations and governmental bodies around the world. Endless amounts of personal data are gathered by businesses daily. The European Union took the first step toward changing the data security landscape by implementing the General Data Protection Regulation (GDPR). The GDPR framework established new standards on data protection and privacy for all citizens of the European Union countries.1 It didn’t take long for California to follow suit with the California Consumer Privacy Act (CCPA). CALIFORNIA CONSUMER PRIVACY ACT California is home to approximately 40 million residents and has one of the largest economies in the world, with a gross domestic product of approximately $3 trillion. By enacting the CCPA, effective January 1, 2020, California became the first state to establish a statewide consumer privacy law. The CCPA is a comprehensive framework to protect California residents (consumers). Before the CCPA, consumers had minimal control over their personal information. Under the CCPA, consumers now have the right to:2 1. Know what personal information is collected, used, shared, or sold, both as to the categories and specific pieces of personal information; 2. Delete or move personal information held by businesses and by extension, a business’s service provider; 3. Opt-out of the sale of personal information; minors under the age of 16 must provide opt-in consent, and a parent or guardian must consent for minors under the age of 13; 4. Non-discrimination in terms of price or service when a consumer exercises privacy rights under the CCPA; and 5. Hold businesses accountable for failing to take reasonable precautions to protect consumer personal information. 10
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
Compliance includes implementing processes for consumer data management and maintaining reasonable security controls. One of the major hurdles organizations face with the CCPA framework is implementing processes relating to consumer data management, including separating data collected based on the consumers’ privacy choices, providing consumers with two or more methods for submitting data requests, and delivering the requested information to the consumer within 45 days. The other major hurdle organizations face is maintaining reasonable security controls. Implementing and maintaining security controls are considered best practices in all industries and can be a monumental project for organizations of all sizes. All businesses, even those located outside of California, are required to comply with the CCPA if they meet specific business criteria and collect personal information from any California resident. Businesses that meet one of the following criteria will be subject to CCPA:2 1. Has gross annual revenue in excess of $25 million 2. Buys, receives, or sells the personal information of 50,000 or more consumers, households, or devices 3. Derives 50% or more of annual revenue from selling or sharing consumers’ personal information. The State of California Department of Justice will assess violations ($7,500 per intentional violation and $2,500 per unintentional violation, data breaches of up to $750 per consumer incident) for non-compliance with the CCPA beginning July 1, 2020, and violations will result in significant consequences. Businesses are held accountable for any breach of Consumer privacy rights, and the penalties are higher when the violation affects children. In addition to monetary penalties, businesses that fail to protect Consumer personal information reasonably could suffer brand damages.
“BY ENACTING THE CCPA, EFFECTIVE JANUARY 1, 2020, CALIFORNIA BECAME THE FIRST STATE TO ESTABLISH A STATEWIDE CONSUMER PRIVACY LAW.”
COMPLIANCE GUIDANCE The assessment, development, and implementation of processes to comply with the CCPA can be a daunting task. So, where do companies begin? KROST’s cybersecurity experts have developed a dedicated CCPA framework and cybersecurity risk assessment to take out the guesswork. This process helps the business to meet the standard that it has implemented good faith efforts to comply with CCPA. Additionally, it includes a thorough review of privacy policies and internal controls to ensure compliance, complete with a checklist of requirements that need to be addressed by July 2020. Have questions about CCPA? We’re here to help. Contact us today. This has been prepared for information purposes and general guidance only and does not constitute legal or professional advice. Neither KROST or its personnel provide legal advice to third parties. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and KROST, its members, employees, and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.
1 2
https://gdpr.eu/what-is-gdpr/ https://oag.ca.gov/system/files/attachments/press_releases/CCPA%20Fact%20Sheet%20%2800000002%29.pdf
CONTACT STEVE
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
11
CLIENT SPOTLIGHT: ON EXPANSIVE GROWTH & THE EVOLUTION OF ADTECH
R
ecently, we had the opportunity to sit down and talk to one of our incredibly successful and cutting-edge tech clients, AUDIENCEX. They are disrupting AdTech, having created their own proprietary media decisioning tool named “PAT” to offer clients a customized approach to digital advertising. With ten offices throughout the US and another in Canada, they are in a phase of expansive growth, and we had a great time learning about all they have in store for this next chapter. Let us introduce you to Ryan Carhart, CFO, and Brian Ko, CCO, of AUDIENCEX. KROST: Ryan and Brian, thank you for joining us today! To get started, can you give us an introduction to AUDIENCEX (aX)? How did it start and what is the company like today? Ryan: aX is the product of founders Jason Wulfsohn (creative & strategy) and Reeve Benaron (tech). Today, aX is a techenabled media services company that has deep roots in both the creative world and algorithmic-based technology to enable effective and targeted delivery of media. This hybrid DNA helps define who aX is as a brand and informs how we operate within the adtech landscape. At aX, we’re leveraging enterprise-level, best-in-class technology combined with an understanding of the power of creative and dynamic ad content. We bring the two together with a superior omnichannel campaign strategy and fullservice campaign management. We are hyper-focused on delivering exceptional performance, built around the highest quality tech, creative, strategy, and services to the largely underserved middle market, which differentiates us and provides a broad canvas for continued growth. KROST: Digital Advertising is driven by technology. How does AUDIENCEX differentiate itself from its competitors in terms of technology?
12
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
Brian: From my point of view, “ad technology” is a commodity. The differentiator for us is the people behind the tech stack. While other platforms may push a static package, our tech is focused on the marketer’s goals and is highly customized. We do not rely on single-source technology. Our proprietary technology solution, at the heart of our trading desk, ingests over 250-point diagnostic questionnaires via 25+ filters to recommend advertising platforms (Demand Side) that match each marketer’s goals (i.e., brand awareness, driving leads, customer acquisition, etc). This enables us to adapt, change, and move quicker as tech evolves. KROST: Since this is our Technology issue, we’d be remiss not to ask, do you develop your technology, use 3rd parties, or both? Ryan: aX has strategically positioned itself to offer both to our customers. The AdTech landscape has an incredibly intricate infrastructure, and the history of the industry is littered with point solutions that were quickly consolidated or left behind. We have deep roots in technology solutions, but our founders quickly recognized the trends in the industry and elected to focus on providing best-in-market solutions and platforms to an underserved category, rather than having a build-only mentality. In this sense, aX strategically uses third-party technology to provide enterprise tools to a market subset that wouldn’t otherwise have access. aX prioritizes building proprietary technology solutions that augment the individual capabilities of solutions already in the market. We have built the largest independent trading desk platform, which incorporates an omnichannel, agnostic solution that evaluates which technology best suits the specific needs/parameters of each of our clients’ campaigns. This proprietary diagnostic decisioning tool is named PATRICIA, whom we lovingly refer to as “PAT.” “PAT” is a great example of how aX both leverages and iterates upon premium technology available to marketers by overlaying our tech solutions, and providing an unparalleled level of access, strategy, and services to our customers. KROST: How do you feel technology has changed the Digital Media business landscape in general? What niche has AUDIENCEX carved out in this landscape? Brian: Technology has equalized the playing field for advertisers managing campaigns for companies of all sizes. One of aX’s core value propositions is bringing enterpriselevel AdTech access to mid-market companies and challenger brands. Through our platform, mid-marketers now have the
“OUR PROPRIETARY TECHNOLOGY SOLUTION, AT THE HEART OF OUR TRADING DESK, INGESTS OVER 250-POINT DIAGNOSTIC QUESTIONNAIRES VIA 25+ FILTERS TO RECOMMEND ADVERTISING PLATFORMS”
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
13
ability to reach and grow their consumers on par with their goliath competitors, efficiently and effectively, yielding campaigns that deliver sustainable and scalable growth for our agency and brand direct customers. KROST: How do you see the future of digital advertising developing in the next few years, in terms of the use of technology?
“KROST HAS BEEN A CRITICAL, TRUSTED PARTNER THROUGHOUT VARIOUS STAGES IN THE DEVELOPMENT OF AX. THROUGH OUR NEXT GROWTH PHASE, WE EXPECT TO FURTHER RELY ON KROST’S EXPERTISE...”
Brian: It’s a great question, but also a really tough question to answer. One of the reasons I love our business and industry is its evolution. Due to its ever-changing nature, every six months feels like we’re in a new business. But my other love for this industry is the art of advertising. Art is subjective and interpretive. For the last several years, we’ve started realizing the power of combining both creative and tech (e.g., Dynamic Creative Optimization). I think this particular focus, if properly expanded upon, will continue to positively impact the “advertising” experience for consumers. Beautifully executed digital advertising should be all about the right and relevant user experience. KROST: Before we wrap up, would you mind sharing a bit about your experience with KROST? Ryan: aX has a long history of its founders working with KROST. Paren Knadjian served as aX’s part-time CFO for several years and provided business and organizational guidance through a rapid growth phase of the company. Additionally, KROST helped facilitate introductions for various fundraising processes throughout the years as well (including our recent round of financing), provided compilations to allow us to meet reporting requirements, and assisted with tax needs. KROST has been a critical, trusted partner throughout various stages in the development of aX. Through our next growth phase, we expect to further rely on KROST’s expertise to enable aX to achieve its vision of being the premier digital media partner to the middle market. AUDIENCEX is a leading digital advertising partner for brands and agencies, offering strategic, unbiased, omnichannel performance solutions. The company creates value for their clients by delivering a combination of high-impact creative, innovative technology, targeted media buying, and data-driven analysis to help them effectively target and acquire customers throughout the entire purchase funnel. Named one of the Fastest Growing and Most Successful Companies in America by both Deloitte and Inc. 5000 in 2019. For more information, visit www.audiencex.com.
LEARN MORE 14
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
R&D TAX CREDITS
FOR SOFTWARE DEVELOPMENT ADVANCEMENTS IN 2020 & BEYOND By Guest Contributors Tetyana Guguchkina & Tiffany Solymon KBKG Tax Credits, Incentives, & Cost Recovery
T
hroughout the years, software has found itself in every facet of our lives, from smartphones to smart televisions; even homes nowadays are labeled “smart.” As the software industry has grown, so too has its piece of the pie as it relates to the Section §41 credit for increasing research activities (the “R&D Credit”). Companies engaged in the development of brand-new software or the improvement of existing software can recognize a dollar-for-dollar reduction in the federal and, potentially, state tax liabilities. The past decade has seen remarkable advancements in the software industry, which will continue to dominate the mainstream in 2020. HERE ARE A FEW OF THE MOST SIGNIFICANT INNOVATIVE SOFTWARE DEVELOPMENT ADVANCEMENTS OF 2020: • Blockchain • Cybersecurity • Progressive Web Apps (PWAs) • Internet of Things (IoT) • Artificial Intelligence (AI) • Connected Cloud Software • Immersive Technologies (AR/VR/MR) • Fifth Generation Wireless Technology (5G) 2020 will continue to be a gold rush for developers who devote themselves to the software development trends mentioned above. Along with the reduction of corporate and individual tax rates introduced by the Tax Cuts and Jobs Act, experts expected to see growth in R&D expenditures for existing software companies as well as a significant increase in the number of newly formed start-ups. The anticipation that these companies would take advantage of R&D tax credits due to the law changes did not disappoint. MAJOR PATH ACT CHANGES TO THE R&D TAX CREDIT The Federal R&D Tax Credit has provided taxpayers conducting qualified research a significant tax benefit since it was first signed into law by President Reagan in KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
15
1981. Although billions of dollars worth of R&D credits were claimed every year since its inception, there were still a few hurdles many taxpayers faced that influenced their decision to claim the credit. The major obstacles were: 1. 2. 3.
The temporary nature of the credit; Companies that were in a loss position could not monetize the credit; and The credit could only offset regular tax liability
Due to its temporary nature, taxpayers had to sweat it out each year to see whether Congress was going to renew the credit. Since its inception, it has expired 16 times with one period where the credit did not exist. This made it difficult for companies to conduct proper tax planning, budget for resources, make financial and hiring decisions, raise proper capital, or secure debt financing. The uncertainty surrounding their taxable position made running their businesses challenging. Then came the Protecting Americans from Tax Hikes Act (PATH Act). The Act, passed by Congress and signed by President Barrack Obama in December 2015, attempted to remove some of these barriers to claiming the R&D credit.
One of the more important achievements of the PATH Act was the permanent extension of the research credit, allowing taxpayers to plan and budget for its existence. The PATH Act also made it possible for qualified start-up companies to receive a tax break. Traditionally, start-up companies remained in losses during early years, while developing new products and software, which prevented them from pursuing the R&D credit. The PATH Act changes now allow eligible small businesses to use up to $250,000 of research credits annually against their payroll tax liability. A qualified start-up is defined as a company with less than $5 million in gross receipts (for the current tax year) and no gross receipts for any tax year preceding the five-tax-year period ending with the tax year. For example, if a company’s first year of election is 2019, the company must not have had gross receipts in tax years preceding 2015. The election cannot be made for more than five years.
INSIGHT: The payroll tax offset offers a significant opportunity for taxpayers engaged in software development. Industries with long lead times to market that employ highly compensated employees, tend to operate at a loss, at least in the first few years. The payroll tax offset offers these taxpayers another avenue for the monetization of the credit.
16
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
Lastly, eligible small businesses can now use the R&D credit to offset Alternative Minimum Tax (AMT). An eligible small business is defined as a non-publicly traded company having an average of $50 million or less in gross receipts for the prior three tax years. Before the PATH Act, taxpayers in AMT could not utilize the R&D credit. These companies had to carry forward their tax credits and use them only when they came out of AMT. With the passage of the PATH Act, eligible small businesses can now use the credit to offset AMT.
INSIGHT: This is particularly useful for pass-through entities. Although the R&D credit is claimed at the entity level, credits flow through to the individual shareholders or partners in pass-through entities on the Schedule K-1. Before the PATH Act, individual partners or shareholders of companies could not use the credit if they were in AMT. After the PATH Act, these same taxpayers can now use the R&D credit to drop their tax liabilities below AMT levels.
WHAT SOFTWARE DEVELOPMENT ACTIVITIES AND EXPENDITURES CAN BE INCLUDED IN AN R&D TAX CREDIT CLAIM FOR SOFTWARE PROJECTS? Companies performing qualified research, such as creating or improving software, may qualify for federal and state R&D tax credits for the software development activities they are already conducting. These credits are a dollar-for-dollar reduction in federal and state tax liability and could range from 6.5 percent to 15 percent of total research expenses. For example, a company employing ten software engineers with qualified wages of $1 million could see federal and state R&D credits exceeding $100,000 for a single tax year.
LEARN MORE
1 H.R. 1/P.L. 115-97, “An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018. 2 P.L. 114-113 Protecting Americans from Tax Hikes (PATH) Act of 2015.
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
17
“SOLVING THE UNSOLVABLE” QUANTUM COMPUTING DEVELOPMENTS AND CONSTRAINTS
By Paren Knadjian Practice Leader - M&A and Capital Markets
T
he computing ecosystem has had deep influences on society and changed lives in a myriad of ways. Despite decades of impressive Moore’s Law performance scaling, there are still important potential applications of computing that remain out of reach of current conventional computer systems.1 Specifically, there are computational applications whose complexity is so immense that conventional computers, even supercomputers, do not have the computational power or memory capacity to solve them. Some of these seemingly unsolvable problems may be addressed by quantum computers, including molecular dynamics simulations (to better understand chemical reactions), drug discovery, and developing compounds for better solar cells, more efficient batteries, and new kinds of power lines that can transmit energy losslessly. Quantum computing will also better address weather forecasting and climate modeling. Conventional computers are restricted by their use of bits, represented by 1s or 0s. Quantum computers tap into the counterintuitive world of quantum mechanics by using quantum bits or qubits. Qubits can encode information as 1s and 0s, or both at the same time, using a quantum mechanics phenomenon known as superimposition. Think of the analogy of a coin. If you throw it in the air and let it fall, it will either land on heads or tails. But if you spin it fast enough, it can be both values at the same time. But that’s not all—quantum computers use other quantum mechanics phenomena such as entanglement and tunneling to manipulate enormous combinations of states at once. This is what makes them so much more powerful than conventional computers. Both Microsoft and Amazon have recently announced that they are using quantum computers in their cloud infrastructure to allow enterprise customers to test out experimental algorithms. In October of last year, Google also announced that its researchers had achieved quantum supremacy—a term that refers to quantum
18
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
computers beating conventional computers’ ability to solve problems by orders of magnitude. The researchers performed the task with a chip consisting of only 53 qubits—compare that to a typical computer chip that holds about 20x109 bits. The calculation performed was not a particularly useful one. But that was not the point. It was designed to play to a quantum computer’s strengths while being difficult for a non-quantum, or conventional computer. One area that quantum computing is expected to be a leader of is the ability to crack codes quickly. That poses a threat to many of the encryption protocols that underpin modern communication. Does that mean a quantum computer will be able to hack into consumer’s or business’s data, threatening e-commerce purchases, the security of stored information, blockchain technologies, and more? As it happens, the cause of the problem may also be the cure, as quantum technology will create highly secure quantum cryptography.
CONSTRAINTS & LIMITATIONS But what are the constraints? Quantum computers are exceedingly difficult to engineer, build, and program and are therefore subject to errors in the form of noise, faults, and loss of quantum coherence. This loss of coherence (called decoherence) caused by vibrations, temperature fluctuations, electromagnetic waves, and other interactions with the outside environment is one of the main hurdles to quantum computers becoming commercially viable. The good news is that quantum error correction and fault-tolerant computation is now a large field, and many techniques have been developed to implement error correction for large scale quantum algorithms. In addition, there is an increasingly well-defined technology stack that is emerging. At the base of the stack is quantum hardware, where the arrays of qubits that perform the calculations are built. The next layer is sophisticated control systems, whose core role is to regulate the status of the entire apparatus and to enable the calculations. These two layers continue to be the most technologically challenging. Next comes a software layer to implement algorithms and to execute applications. This layer includes a quantum-to-conventional computer interface that compiles source code into executable programs. At the top of the stack are a wider variety of services dedicated to enabling companies to use quantum computing. They help assess and translate real-life problems into a format that quantum computers can address. INVESTMENTS IN QUANTUM COMPUTING But quantum computing will not develop without investments. Since 2011, $1.9 billion has been invested in companies in the field of quantum computing. That’s 238 transactions involving 120 companies from 345 investors and excludes the internal R&D budgets of companies such as Intel, IBM, and Google. Lesser known, but important players in the space include, Rigetti a developer of quantum computing integrated circuits ($95 million external capital raised to date), D-Wave, a developer of chipset and annealing algorithms ($191 million raised), ionQ, whose hardware is based on a trapped ion architecture ($77 million raised), and PsiQ, who raised $229.7 million of Series C venture funding led by Microsoft, and Redpoint Ventures in September 2019. As researchers at universities and private companies continue to develop quantum computers with more qubits and fewer errors, the power of quantum computing will finally be applied to actual rather than hypothetical problems.
In 1965, Gordon E. Moore—co-founder of Intel postulated that the number of transistors that can be packed into a silicon chip will double every two years, resulting in the exponential growth in the power of computing. 1
CONTACT PAREN
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
19
CLICK BELOW TO READ OUR OTHER ISSUES
ENJOYED THIS ISSUE?
LET US KNOW YOUR FEEDBACK! IS THERE ANYTHING YOU WOULD LIKE TO SEE IN AN UPCOMING EDITION?
KROST QUARTERLY M A G A Z I N E
Beyond the Assembly Line: Benefits of Tech Trends in Manufacturing
M A G A Z I N E
The Impact of TCJA on
COST SEGREGATION & LIKE-KIND EXCHANGE
Southern California M&A in Manufacturing Report
SECTION 45L TAX CREDITS Keith Hamasaki
leads the Manufacturing Industry group at KROST
TRADE WARS: A WHOLE NEW WORLD IC-DISC Tax Savings on Export Goods or Services
KROST QUARTERLY THE REAL ESTATE ISSUE
THE MANUFACTURING ISSUE
Manufacturers Beware: The Continued Threat of Cybersecurity Breaches, Hacking & Malware
VOLUME 2, ISSUE 1
VOLUME 1, ISSUE 2
Flip through our collection of this interactive publication for detailed information, charts, and tools covering the latest news in technology, manufacturing, real estate, hospitality, and financial services.
WWW.KROSTCPAS.COM
UPDATES TO QUALIFIED IMPROVEMENT PROPERTY
So Sum Lee, CPA
leads the Real Estate industry group at KROST WWW.KROSTCPAS.COM
REAL ESTATE Read Now »
VOLUME 2, ISSUE 4
MANUFACTURING Read Now »
Accounting for Qualified Opportunity Zone Funds
KROST QUARTERLY M A G A Z I N E
THE SPORTS & ENTERTAINMENT ISSUE GAME-CHANGING
TAX MATTERS FOR ATHLETES
5
TIPS FOR CHOOSING THE RIGHT BUSINESS MANAGER
M&A Trends
in the Media, Entertainment, and Gaming Industries
QUALIFIED BUSINESS INCOME DEDUCTION
Loan-Out Corporations:
Stacey R. Korman, CPA, MST, Brad Pauley, CPA, and Douglas A. Venturelli, Esq. lead the Sports & Entertainment Industry group at KROST
To Be or Not To Be? WWW.KROSTCPAS.COM
TECHNOLOGY Read Now »
20
KROST QUARTERLY VOL. 3 ISSUE 1 - THE TECHNOLOGY ISSUE
FINANCIAL SERVICES Read Now »
SPORTS & ENTERTAINMENT Read Now »
K R O S T C PA S . C O M
KROST QUARTERLY MAGAZINE
With 80 years of experience, KROST has assisted businesses and individuals to reach their financial goals through their in-depth knowledge of Tax, Accounting, Assurance and Advisory, M&A, and Wealth Management Services. KROST also provides specialty tax services such as Cost Segregation Studies, R&D Tax Credits, Transfer Pricing, Green Building Tax Incentives, Repair vs. Capitalization, Fixed Asset, IC-DISC, and more.
Pasadena • Woodland Hills Valencia • West Los Angeles Phone: (626) 449-4225 Fax: (626) 449-4471 KROSTCPAs.com
