4. Acquisitions

We acquired privately held Generation Digital Solutions, Inc. (“GD”), CRC Information Systems, Inc. (“CRC”) from Reynolds and Reynolds Company (“Reynolds”), and certain assets comprising the FFPS business from Xerox Corporation (“Xerox”), during 2017, which have been included in our Fiery or Productivity Software operating segments. Acquisition-related transaction costs were $0.6 and $1.8 million during the three and nine months ended September 30, 2017, respectively, and $0.4 and $1.7 million during the three and nine months ended September 30, 2016, respectively, related to all acquisitions.

These acquisitions were accounted for as purchase business combinations. We allocated the purchase price to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair value on their acquisition dates. Excess purchase consideration was recorded as goodwill. Factors contributing to a purchase price that results in goodwill include, but are not limited to, the retention of research and development personnel with skills to develop future technology, support personnel to provide maintenance services related to the products, a trained sales force capable of selling current and future products, the opportunity to cross-sell products of the acquired businesses to existing customers, the opportunity to integrate acquired technology into our products, the positive reputation of GD, CRC, and FFPS in the market, integration of the GD digital textile design workflow with our Fiery textile digital front ends (“DFEs”) and Reggiani digital textile printers linking textile design and production, the opportunity to sell Fiery DFEs to FFPS customers, and the opportunity to expand our presence in the DFE market through the synergy of FFPS technology with existing Fiery products.

We engaged a third party valuation firm to aid management in its analyses of the fair value of these acquired businesses. All estimates, key assumptions, and forecasts were either provided by or reviewed by us. While we chose to utilize a third party valuation firm, the fair value analyses and related valuations represent the conclusions of management and not the conclusions or statements of any third party.

The purchase price allocations are preliminary and subject to change within the measurement period as the valuations are finalized. We expect to continue to obtain information to assist us in finalizing the fair value of the net assets acquired during the measurement period, which end at various dates in 2018. Measurement period adjustments will be recognized in the reporting period in which the adjustment amounts are determined, if any.

Fiery Operating Segment

We acquired privately held GD, which is a New York corporation headquartered in New York City on August 14, 2017 for cash consideration of $3.2 million, net of cash acquired, plus an additional potential future cash earnout, which is contingent on achieving certain revenue and operating profit performance targets during a six-month period followed sequentially by a 12-month period. GD provides software to textile and fashion designers for the creation and design of prints and patterns, color matching, and color palette creation and management. GD will be integrated into the Fiery operating segment.

The fair value of the earnout related to the GD acquisition is currently estimated to be $3.6 million at September 30, 2017, by applying the income approach in accordance with ASC 805-30-25-5, Business Combinations. Key assumptions include risk-free discount rate of 2.83% and probability-adjusted revenue and operating profit levels. Probability-adjusted revenue and operating profit are significant inputs that are not observable in the market, which ASC 820-10-35 refers to as a Level 3 inputs. This contingent liability is reflected in our Consolidated Balance Sheet as of September 30, 2017, as a current and noncurrent liability of $1.0 and $2.6 million, respectively, with the first payment due in the third quarter of 2018, if earned. In accordance with ASC 805-30-35-1, changes in the fair value of contingent consideration subsequent to the acquisition date are recognized in general and administrative expenses.

We acquired certain assets comprising the FFPS business from Xerox, a New York corporation headquartered in Norwalk, Connecticut, on January 31, 2017. The FFPS business manufactures and markets the FFPS DFE, which is a DFE that previously competed with our Fiery DFEs and is included in our Fiery operating segment.

We purchased FFPS for cash consideration of $23.9 million consisting of $5.9 million paid at closing, $9.0 million paid in July 2017, and $9.0 million payable in July 2018, which have been discounted at our incremental borrowing rate of 4.98%, resulting in a purchase price of $23.1 million.

Productivity Software Operating Segment

We acquired privately held CRC, which is a Michigan corporation headquartered in Scottsdale, Arizona, from Reynolds, which is an Ohio corporation headquartered in Dayton, Ohio, on May 8, 2017, for cash consideration of $7.6 million. CRC provides business process automation software for label and packaging printers for commercial businesses and is included in the Midmarket Print Suite within our Productivity Software operating segment.

Valuation Methodologies

Intangible assets acquired consist of customer relationships, the Master Purchasing Agreement (the “Purchasing Agreement”) with Xerox, “take-or-pay” contractual penalty, trade names, existing technologies, and in-process research & development (“IPR&D”). The intangible asset valuation methodologies for each acquisition assume a risk-free discount rate of 4.98% or probability-adjusted discount rates between 13% and 23%.

Customer Relationships and Backlog were valued using the excess earnings method, which is an income approach. The value of customer relationships lies in the generation of a consistent and predictable revenue source and the avoidance of costs associated with developing the relationships. Customer relationships were valued by estimating the revenue attributable to existing customer relationships and probability-weighting each forecast year to reflect the uncertainty of maintaining existing relationships based on historical attrition rates.

Trade Names were valued using the relief from royalty method, which is an income approach, with royalty rates based on various factors including an analysis of market data, comparable trade name agreements, and historical advertising dollars spent supporting the trade name.

Existing Technologies were valued using the relief from royalty method based on royalty rates for similar technologies. The values of existing technologies are derived from consistent and predictable revenue, including the opportunity to cross-sell to existing customers, and the avoidance of the costs associated with developing the technologies. Revenue related to existing technologies was adjusted in each forecast year to reflect the evolution of the technology and the cost of sustaining research and development required to maintain the technology.

Purchasing Agreement was valued using the excess earnings method, which is an income approach. The Purchasing Agreement entered into with Xerox states that we will be Xerox’s preferred supplier of DFEs provided that we meet quality, cost, delivery, and services requirements. The value of the Purchasing Agreement lies in the generation of a consistent and predictable revenue source without incurring the costs normally required to acquire the Purchasing Agreement. The Purchasing Agreement was valued by estimating the revenue attributable to the Purchasing Agreement and probability-weighting each forecast year to reflect the uncertainty of maintaining the existing relationship with Xerox beyond the initial five-year term of the agreement.

Take-or-pay Contract was valued using the Monte Carlo method, which is an income approach. If Xerox’s purchases of Fiery and FFPS DFEs during each of four consecutive 12-month periods is less than the minimum level defined for each purchase period, then Xerox shall make a one-time payment in an amount equal to a percentage of such shortfall compared to the minimum level, subject to the maximum payment amount agreed between the parties for each purchase period. Key assumptions include a risk-free discount rate of 4.98%, asset volatility of 27%, and probability-adjusted DFE revenue. If Xerox’s purchases of Fiery and FFPS DFEs exceed the minimum purchase levels defined for each purchase period, then we will pay a percentage of such excess to Xerox.

IPR&D was valued using the relief from royalty method by estimating the cost to develop purchased IPR&D into commercially viable products, estimating the net cash flows resulting from the sale of those products, and discounting the net cash flows back to their present value. FFPS project schedules were 63% complete as of the acquisition date and have been completed as of September 30, 2017, based on management’s estimate that technical and commercial feasibility has been achieved. IPR&D is subject to amortization after product completion over the product life or otherwise assessed for impairment in accordance with acquisition accounting guidance. Additional costs incurred to complete IPR&D after the acquisition were expensed.

The preliminary allocation of the purchase price to the assets acquired and liabilities assumed (in thousands) with respect to these acquisitions at their respective acquisition dates is summarized as follows:


	Fiery										Productivity Software
	FFPS					GD					CRC
	Weighted average useful life		Purchase Price Allocation			Weighted average useful life		Purchase Price Allocation			Weighted average useful life		Purchase Price Allocation
Purchasing agreement		10 years	$	9,330			—	$	—			—	$	—
Take-or-pay contract		4 years		9,000			—		—			—		—
Customer relationships		—		—			8 years		3,030			9 years		3,580
Existing technology		2 years		2,570			5 years		890			4 years		540
Trade names		5 years		1,020			5 years		290			4 years		180
IPR&D		less than one year		70			—		—			—		—
Backlog		—		—			—		—			less than one year		4
Goodwill		—		6,236			—		3,012			—		4,595

				28,226				$	7,222				$	8,899
Net tangible assets (liabilities)				(5,092	)				(298	)				(1,299	)

Total purchase price			$	23,134				$	6,924				$	7,600

Pro forma results of operations have not been presented because they are not material to our Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2017 and 2016. Goodwill, which represents the excess of the purchase price over the net tangible and intangible assets acquired, that was generated by our acquisition of CRC is not deductible for tax purposes. Goodwill that was generated by our acquisitions of GD and FFPS is deductible for tax purposes.