**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-Q**

 
| **(Mark One)**                                              |
|-------------------------------------------------------------|
| **x**                                                       | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE   SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                  | ** ** |
| **For the  quarterly period ended September 30, 2007** |
| ** **                                                  | ** ** |
| **OR**                                                      |
| ** **                                                  | ** ** |
| **o**                                                       | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE   SECURITIES EXCHANGE ACT OF 1934** |

 

**For the transition period         to        **

 

**Commission File Number 0-21123**

 

**SRS LABS, INC.**

(Exact name ofregistrant as specified in its charter)

 
| **Delaware**                                                     |   | **33-0714264**                        |
|------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |

 

**2909Daimler Street, Santa Ana, California 92705**

(Address of principal executive offices) (ZipCode)

 

**(949) 442-1070**

(Registrant’s telephone number, includingarea code)

 

Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days. Yes x No o

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the Exchange Act.(Check one):

 

| Large accelerated  filer  o |   | Accelerated  filer  o |   | Non-accelerated  filer  x |
|---------------------------------------|--------|---------------------------------|--------|-------------------------------------|

 

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

 

As of October 23, 2007, 16,946,377 of the issuer’s common stock, par value $.001per share, were outstanding; of this amount, 674,098 shares of the common stockwere held as treasury shares.

 

 

----

 

**SRS LABS, INC.**

 

**QuarterlyReport on Form 10-Q**

**For theThree and Nine Months Ended September 30, 2007**

**Index**

 
| **PART I-FINANCIAL INFORMATION** |       |                                                                                                                                                    |
|---------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------|
| Item 1.                               |       | Financial Statements                                                                                                                                    |   |   |
|                                  |       | Condensed Consolidated  Balance Sheets as of September 30, 2007 (Unaudited) and December 31,  2006                                            |   |   |
|                                  |       | Condensed Consolidated  Statements of Operations for the three and nine months ended September 30,  2007 and 2006 (Unaudited)                      |   |   |
|                                  |       | Condensed Consolidated  Statements of Stockholders’ Equity and Comprehensive Income for the nine  months ended September 30, 2007 (Unaudited) |   |   |
|                                  |       | Condensed Consolidated  Statements of Cash Flows for the nine months ended September 30, 2007  and 2006 (Unaudited)                                |   |   |
|                                  |       | Notes to the  Condensed Consolidated Financial Statements (Unaudited)                                                                                   |   |   |
| Item 2.                               |       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                                             |   |   |
| Item 3.                               |       | Quantitative  and Qualitative Disclosures About Market Risk                                                                                             |   |   |
| Item 4.                               |       | Controls and  Procedures                                                                                                                                |   |   |
| **PART II-OTHER  INFORMATION**   | ** ** |                                                                                                                                                    |
| Item  6.                              |       | Exhibits                                                                                                                                                |   |   |
|                                  |       |                                                                                                                                                    |   |   |
| SIGNATURES                            |       |                                                                                                                                                    |

 

2

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**FORWARD-LOOKINGINFORMATION**

 

Asused herein, the “Company,” “SRS Labs,” “SRS,” “we,” “us,” or “our” means SRSLabs, Inc., its wholly-owned subsidiary SRSWOWcast.com, Inc. and, forthe applicable periods, its former subsidiary ValenceTech Limited (collectivelywith its direct and indirect wholly-owned subsidiaries, “Valence”) and theformer joint venture with Coming Home Studios LLC, CHS/SRS LLC.

 

Some of the statements in this Quarterly Report on Form 10-Qcontain forward-looking statements regarding our assumptions, projections,expectations, targets, intentions or beliefs about future events, which involverisks and uncertainties. All statements other than statements of historicalfacts included in this Quarterly Report relating to expectation of futurefinancial performance, continued growth, changes in economic conditions orcapital markets and changes in customer usage patterns and preferences, areforward-looking statements. In some cases, you can identify forward-lookingstatements by terms such as may, will, should, expect, plan, intend, forecast,anticipate, believe, estimate, predict, potential, continue or the negative ofthese terms or other comparable terminology. The forward-looking statementscontained in this Quarterly Report involve known and unknown risks,uncertainties and situations that may cause our or our industry’s actualresults, level of activity, performance or achievements to be materiallydifferent from any future results, levels of activity, performance orachievements expressed or implied by these statements. Factors that might causeactual events or results to differ materially from those indicated by theseforward-looking statements may include the matters listed in our mostrecently filed Annual Report on Form 10-K and elsewhere in this QuarterlyReport, including, but not limited to, the loss of any one significantcustomer; the acceptance of new SRS Labs products and technologies; the importof competitive products and pricing; the timely development and release oftechnologies by the Company; general business and economic conditions,especially in Asia; product and customer concentration in our business; ourhigh dependence on the consumer electronics market, which is characterized byshort product life cycles, fluctuations in demand and seasonality; the risk of widespreadillness; our dependence on growth in emerging markets; the length andunpredictable nature of our sales cycle; our ability to protect our productsthrough patents and other intellectual property rights; our dependence on keypersonnel; the volatility of the price of our common stock; provisions thatcould discourage transactions resulting in a change in control contained in ourcertificate of incorporation and bylaws as well as Delaware law; competition weface from companies with greater brand recognition and resources; pricingpressures on the consumer electronics product manufacturers; adverse state,federal or foreign legislation or regulation or adverse determinations byregulators; and other factors identified from time to time in our filings withthe Securities and Exchange Commission.

 

Any forward-looking statement speaks only as of thedate on which such statement is made, and, except as required by law, weundertake no obligation to update any forward-looking statement to reflectevents or circumstances after the date on which such statement is made or toreflect the occurrence of unanticipated events. New factors emerge from time totime, and it is not possible for management to predict all such factors.

 

3

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**PART I — FINANCIAL INFORMATION**

 

**Item 1. Financial Statements**

 

**SRS LABS, INC.AND SUBSIDIARY**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                                                                                                                                                        | ** ** | **September 30, 2007** | ** ** | **December 31, 2006** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                                                                                                                                                                                        | ** ** | **(unaudited)**                  | ** ** | ** **                      | ** ** |
| **ASSETS**                                                                                                                                                                                                                        |       |                             |       |                            |       |
| **Current Assets**                                                                                                                                                                                                                |       |                             |       |                            |       |
| Cash and cash equivalents                                                                                                                                                                                                         |       | $                                | 40,075,552 |                            | $          | 35,011,425 |   |
| Accounts receivable, net                                                                                                                                                                                                          |       | 1,932,893                        |       | 1,180,879                       |       |
| Prepaid expenses and other current assets                                                                                                                                                                                         |       | 655,518                          |       | 808,940                         |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Total Current Assets**                                                                                                                                                                                                          |       | 42,663,963                       |       | 37,001,244                      |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| Investments available for sale                                                                                                                                                                                                    |       | 5,353,920                        |       | 5,226,705                       |       |
| Property and equipment, net                                                                                                                                                                                                       |       | 325,082                          |       | 389,667                         |       |
| Intangible assets, net                                                                                                                                                                                                            |       | 2,250,553                        |       | 2,045,139                       |       |
| Deferred income taxes, net                                                                                                                                                                                                        |       | 1,408,617                        |       | 386,412                         |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Total Assets**                                                                                                                                                                                                                  |       | $                                | 52,002,135 |                            | $          | 45,049,167 |   |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                                                     |       |                             |       |                            |       |
| **Current Liabilities**                                                                                                                                                                                                           |       |                             |       |                            |       |
| Accounts payable                                                                                                                                                                                                                  |       | $                                | 360,455    |                            | $          | 609,899 |   |
| Accrued liabilities                                                                                                                                                                                                               |       | 806,077                          |       | 1,295,236                       |       |
| Deferred revenue                                                                                                                                                                                                                  |       | 457,006                          |       | 399,565                         |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Total Current Liabilities**                                                                                                                                                                                                     |       | 1,623,538                        |       | 2,304,700                       |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Commitments and contingencies (Note 6)**                                                                                                                                                                                        |       |                             |       |                            |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Stockholders’ Equity**                                                                                                                                                                                                     |       |                             |       |                            |       |
| Preferred stock—$.001 par value; 2,000,000 shares  authorized; no shares issued or outstanding                                                                                                                               |       | —                           |       | —                          |       |
| Common stock—$.001 par value; 56,000,000 shares  authorized; 16,946,377 and 16,561,036 shares issued; and 16,272,279 and  15,886,938 shares outstanding at September 30, 2007 and December 31,  2006, respectively |       | 16,947                           |       | 16,562                          |       |
| Additional paid-in capital                                                                                                                                                                                                        |       | 73,705,815                       |       | 70,574,176                      |       |
| Accumulated other comprehensive loss                                                                                                                                                                                              |       | (146,080                         | )          | (273,295                        | )          |
| Accumulated deficit                                                                                                                                                                                                               |       | (20,194,640                      | )          | (24,569,531                     | )          |
| Treasury stock at cost, 674,098 shares at September 30,  2007 and December 31, 2006                                                                                                                                     |       | (3,003,445                       | )          | (3,003,445                      | )          |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Total Stockholders’ Equity**                                                                                                                                                                                               |       | 50,378,597                       |       | 42,744,467                      |       |
|                                                                                                                                                                                                                              |       |                             |       |                            |       |
| **Total Liabilities and Stockholders’ Equity**                                                                                                                                                                               |       | $                                | 52,002,135 |                            | $          | 45,049,167 |   |

 

See accompanying notes to the condensedconsolidated financial statements

 

4

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**SRS LABS, INC. AND SUBSIDIARY**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

 
| ** **                                                                       | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|----------------------------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                                       | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                                                       | ** ** | **2007**                         | ** ** | **2006**                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| ** **                                                                       | ** ** | ** **                       | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenues                                                                         |       | $                                | 4,769,271  |                            | $          | 4,910,203 |   | $ | 14,536,526 |   | $ | 13,505,710 |   |
| Cost of sales                                                                    |       | 36,850                           |       | 43,998                          |       | 115,912 |   | 127,103 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Gross margin                                                                     |       | 4,732,421                        |       | 4,866,205                       |       | 14,420,614 |   | 13,378,607 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Operating expenses:                                                              |       |                             |       |                            |       |   |   |   |   |
| Sales and marketing                                                              |       | 1,460,185                        |       | 1,743,660                       |       | 5,104,195 |   | 5,494,445 |   |
| Research and development                                                         |       | 689,901                          |       | 628,227                         |       | 2,366,121 |   | 1,914,255 |   |
| General and administrative                                                       |       | 1,436,184                        |       | 1,277,601                       |       | 4,105,792 |   | 4,272,598 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Total operating expenses                                                         |       | 3,586,270                        |       | 3,649,488                       |       | 11,576,108 |   | 11,681,298 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Operating income                                                                 |       | 1,146,151                        |       | 1,216,717                       |       | 2,844,506 |   | 1,697,309 |   |
| Other income, net                                                                |       | 508,825                          |       | 291,236                         |       | 1,511,585 |   | 694,954 |   |
| Income from continuing operations before income  taxes                           |       | 1,654,976                        |       | 1,507,953                       |       | 4,356,091 |   | 2,392,263 |   |
| Income taxes                                                                     |       | (18,800                          | )          | 231,620                         |       | (18,800 | ) | 558,788 |   |
| Income from continuing operations                                                |       | 1,673,776                        |       | 1,276,333                       |       | 4,374,891 |   | 1,833,475 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Discontinued operations (Note 7):                                                |       |                             |       |                            |       |   |   |   |   |
| Income from discontinued operations, net of income  taxes                        |       | —                           |       | 853,523                         |       | — |   | 1,017,079 |   |
| Gain on disposal                                                                 |       | —                           |       | 260,763                         |       | — |   | 632,058 |   |
| Income from discontinued operations                                              |       | —                           |       | 1,114,286                       |       | — |   | 1,649,137 |   |
| Net income                                                                       |       | $                                | 1,673,776  |                            | $          | 2,390,619 |   | $ | 4,374,891 |   | $ | 3,482,612 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Income from continuing operations per common share:                              |       |                             |       |                            |       |   |   |   |   |
| Basic                                                                            |       | $                                | 0.10       |                            | $          | 0.09 |   | $ | 0.27 |   | $ | 0.13 |   |
| Diluted                                                                          |       | $                                | 0.10       |                            | $          | 0.08 |   | $ | 0.26 |   | $ | 0.11 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Income from discontinued operations per common  share:                           |       |                             |       |                            |       |   |   |   |   |
| Basic                                                                            |       | $                                | 0.00       |                            | $          | 0.07 |   | $ | 0.00 |   | $ | 0.11 |   |
| Diluted                                                                          |       | $                                | 0.00       |                            | $          | 0.07 |   | $ | 0.00 |   | $ | 0.10 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Net income per common share:                                                     |       |                             |       |                            |       |   |   |   |   |
| Basic                                                                            |       | $                                | 0.10       |                            | $          | 0.16 |   | $ | 0.27 |   | $ | 0.24 |   |
| Diluted                                                                          |       | $                                | 0.10       |                            | $          | 0.15 |   | $ | 0.26 |   | $ | 0.21 |   |
|                                                                             |       |                             |       |                            |       |   |   |   |   |
| Weighted average shares used in the calculation of  net income per common share: |       |                             |       |                            |       |   |   |   |   |
| Basic                                                                            |       | 16,268,524                       |       | 14,939,806                      |       | 16,160,970 |   | 14,663,767 |   |
| Diluted                                                                          |       | 16,978,841                       |       | 16,479,112                      |       | 17,100,334 |   | 16,428,894 |   |

 

See accompanying notes to the condensedconsolidated financial statements

 

5

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**SRS LABS, INC. AND SUBSIDIARY**

**CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’EQUITY AND**

**COMPREHENSIVE INCOME (Unaudited)**

 
| ** **                                                     | ** ** | **Common Stock** | ** ** | **Additional  Paid-In** | ** ** | **Accumulated  Other  Comprehensive** | ** ** | **Accumulated** | ** ** | **Treasury** | ** ** | ** ** | ** ** | **Comprehensive  Income  for the Period** | ** ** |
|----------------------------------------------------------------|------------|-----------------------|------------|-------------------------|------------|---------------------------------------|------------|-----------------|------------|--------------|------------|------------|------------|-----------------------------------------------------|------------|
| ** **                                                     | ** ** | **Shares**            | ** ** | **Amount**              | ** ** | **Capital**                           | ** ** | **Loss**        | ** ** | **Deficit**  | ** ** | **Stock**  | ** ** | **Total**                                           | ** ** | **Ended** | ** ** |
| BALANCE, December 31, 2006                                |       | 15,886,938            |       | $                       | 16,562     |                                  | $          | 70,574,176      |       | $            | (273,295   | )          | $          | (24,569,531                                         | )          | $ | (3,003,445 | ) | $ | 42,744,467 |   |   |   |
| Proceeds from exercise of stock options                        |       | 385,341               |       | 385                     |       | 1,842,579                             |       | —          |       | —       |       | —     |       | 1,842,964                                           |       |   |   |
| Stock based compensation                                       |       | —                |       | —                  |       | 1,289,060                             |       | —          |       | —       |       | —     |       | 1,289,060                                           |       |   |   |
| Unrealized gain on investments available for sale,  net of tax |       | —                |       | —                  |       | —                                |       | 127,215         |       | —       |       | —     |       | 127,215                                             |       | 127,215 |   |
| Net income                                                     |       | —                |       | —                  |       | —                                |       | —          |       | 4,374,891    |       | —     |       | 4,374,891                                           |       | 4,374,891 |   |
|                                                           |       |                  |       |                    |       |                                  |       |            |       |         |       |       |       |                                                |       |   |   |
| BALANCE, September 30, 2007                               |       | 16,272,279            |       | $                       | 16,947     |                                  | $          | 73,705,815      |       | $            | (146,080   | )          | $          | (20,194,640                                         | )          | $ | (3,003,445 | ) | $ | 50,378,597 |   | $ | 4,502,106 |   |
|                                                                |            |                       |            |                         |            |                                       |            |                 |            |              |            |            |            |                                                     |            |  |  |  |  |  |  |  |  |  |

 

See accompanying notes to the condensed consolidated financialstatements

 

6

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**SRS LABS, INC. AND SUBSIDIARY**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(Unaudited)**

 
| ** **                                                                                                | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                                                | ** ** | **2007**                                            | ** ** | **2006** | ** ** |
| **Cash Flows from Operating Activities:**                                                                 |       |                                                |       |   |   |
| Net income                                                                                                |       | $                                                   | 4,374,891  |   | $ | 3,482,612 |   |
| Adjustments to reconcile income from continuing  operations to net cash provided by operating activities: |       |                                                |       |   |   |
| Depreciation and amortization                                                                             |       | 560,777                                             |       | 549,259 |   |
| Provision for doubtful accounts                                                                           |       | 93,993                                              |       | (1,588 | ) |
| Deferred taxes                                                                                            |       | (1,022,205                                          | )          | (6,026 | ) |
| Accretion of discount on investments available for  sale                                                  |       | —                                              |       | (1,565 | ) |
| Stock-based compensation expense                                                                          |       | 1,289,060                                           |       | 1,070,804 |   |
| Loss on disposition of property and equipment                                                             |       | —                                              |       | 1,582 |   |
| Gain on sale of discontinued operations                                                                   |       | —                                              |       | (632,058 | ) |
| Changes in operating assets and liabilities:                                                              |       |                                                |       |   |   |
| Accounts receivable                                                                                       |       | (846,007                                            | )          | (401,462 | ) |
| Prepaid expenses and other current assets                                                                 |       | 153,422                                             |       | (466,308 | ) |
| Accounts payable                                                                                          |       | (249,444                                            | )          | 156,478 |   |
| Accrued liabilities                                                                                       |       | (489,159                                            | )          | 312,031 |   |
| Deferred revenue                                                                                          |       | 57,441                                              |       | (96,775 | ) |
| Net cash used in operating activities of  discontinued operations                                         |       | —                                              |       | (1,922,668 | ) |
| Net cash provided by operating activities                                                                 |       | 3,922,769                                           |       | 2,044,316 |   |
|                                                                                                      |       |                                                |       |   |   |
| **Cash Flows from Investing Activities:**                                                                 |       |                                                |       |   |   |
| Purchase of property and equipment                                                                        |       | (99,343                                             | )          | (204,790 | ) |
| Expenditures related to intangible assets                                                                 |       | (602,263                                            | )          | (443,118 | ) |
| Proceeds from sale of investments available for sale                                                      |       | —                                              |       | 9,993,748 |   |
| Proceeds from the sale of Valence                                                                         |       | —                                              |       | 4,300,000 |   |
| Proceeds from the sale of equity interest in CHS/SRS  LLC                                                 |       | —                                              |       | 371,295 |   |
| Net cash used in investing activities of  discontinued operations                                         |       | —                                              |       | (180,216 | ) |
| Net cash (used in) provided by investing activities                                                       |       | (701,606                                            | )          | 13,836,919 |   |
|                                                                                                      |       |                                                |       |   |   |
| **Cash Flows from Financing Activities:**                                                                 |       |                                                |       |   |   |
| Purchase of treasury stock                                                                                |       | —                                              |       | (2,114,586 | ) |
| Proceeds from exercise of stock options                                                                   |       | 1,842,964                                           |       | 3,607,927 |   |
| Net cash provided by financing activities                                                                 |       | 1,842,964                                           |       | 1,493,341 |   |
|                                                                                                      |       |                                                |       |   |   |
| **Net Increase in Cash and Cash Equivalents**                                                             |       | 5,064,127                                           |       | 17,374,576 |   |
| **Cash and Cash Equivalents, Beginning of Period**                                                        |       | 35,011,425                                          |       | 8,752,339 |   |
| **Cash and Cash Equivalents, End of Period**                                                              |       | $                                                   | 40,075,552 |   | $ | 26,126,915 |   |
|                                                                                                      |       |                                                |       |   |   |
| **Supplemental Disclosure of Cash Flow  Information:**                                                    |       |                                                |       |   |   |
| Cash paid during the period for:                                                                          |       |                                                |       |   |   |
| Income taxes                                                                                              |       | $                                                   | 839,967    |   | $ | 506,010 |   |
| **Supplemental Disclosure of Non-Cash Investing  Activities:**                                            |       |                                                |       |   |   |
| Unrealized gain on investments, net                                                                       |       | $                                                   | 127,215    |   | $ | 33,247 |   |

 

See accompanying notes to the condensedconsolidated financial statements

 

7

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**SRS LABS, INC. AND SUBSIDIARY**

**NOTES TO THE CONDENSED CONSOLIDATED FINANCIALSTATEMENTS (Unaudited)**

 

**1.****                                      Basisof Presentation and Summary of Significant Accounting Policies and Estimates**

 

Asused herein, the “Company,” “SRS Labs,” “SRS,” “we,” “us,” or “our” means SRSLabs, Inc., its wholly-owned subsidiary SRSWOWcast.com, Inc. and, forthe applicable periods, its former subsidiary ValenceTech Limited (collectivelywith its direct and indirect wholly-owned subsidiaries, “Valence”) and theformer joint venture with Coming Home Studios LLC, CHS/SRS LLC. Theaccompanying unaudited condensed consolidated financial statements have beenprepared by the Company in conformity with accounting principles generallyaccepted in the United States of America (“generally accepted accountingprinciples”) for interim financial information and the rules andregulations of the U.S. Securities and Exchange Commission (“SEC”) for interimreporting. In the opinion of management, all adjustments (which include onlynormal recurring adjustments) considered necessary for a fair presentation ofour financial position and results of operations have been included. Certainamounts included in the accompanying prior periods’ consolidated financialstatements have been reclassified to conform to the current periodpresentation. All inter-company accounts and transactions have been eliminated.

 

Certaininformation and footnote disclosures normally included in financial statementsprepared in accordance with generally accepted accounting principles have beencondensed or omitted pursuant to SEC rules and regulations forpresentation of interim financial information. Therefore, the condensed interimconsolidated financial statements should be read in conjunction with theCompany’s Annual Report on Form 10-K for the year ended December 31,2006. Amounts related to disclosure of December 31, 2006 balances withinthese interim consolidated financial statements were derived from the audited2006 consolidated financial statements and notes thereto included in the 2006 Form 10-K.Current and future financial statements may not be directly comparable tothe Company’s historical financial statements. The results of operations forthe interim period are not necessarily indicative of the results to be expectedfor any other interim period or for the full year.

 

On February 23,2006, the Board of Directors of the Company (the “Board of Directors” or the “Board”)approved a plan to sell Valence in order to focus increased managementattention and financial resources on its licensing business. Additionally, on February 23,2006, the Board authorized management to take all reasonable steps to divestthe Company’s entire equity interest in the CHS/SRS LLC joint venture (the “JointVenture”). As a result of the Company’s decisions to sell Valence and itsentire equity interest in CHS/SRS LLC, the Company has accounted for Valenceand CHS/SRS LLC as discontinued operations in the accompanying condensedconsolidated financial statements beginning in the first fiscal quarter of 2006.The Company sold Valence in September 2006 and its entire equity interestin CHS/SRS LLC in June 2006. See Note 7.

 

**Estimates**

 

Thepreparation of financial statements in accordance with generally acceptedaccounting principles requires management to make use of certain estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereported periods. We base our estimates on historical experience and on variousother assumptions that we believe are reasonable under the circumstances, theresults of which form the basis for making judgments about carrying valuesof assets and liabilities that are not readily apparent from other sources.Actual results could differ materially from those estimates. See the auditedconsolidated financial statements and notes thereto included in our AnnualReport on Form 10-K for the year ended December 31, 2006 for anadditional discussion of the significant accounting policies and estimates usedin the preparation of our financial statements.

 

**Cash and Cash Equivalents**

 

Cashand cash equivalents are short-term, highly liquid investments that are readilyconvertible to known amounts of cash and are so near maturity that they presentinsignificant risk of changes in value because of interest rates. Cash and cashequivalents generally consist of cash, money market funds and instruments withoriginal maturities of three months or less.

 

**CustomerConcentrations**

 

For the three months ended September 30, 2007,three customers, Samsung, LG, and New Japan Radio Co., accounted forapproximately 26%, 14% and 11%, respectively, of the licensing revenue. During2007, the Company entered

 

8

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intoa multi-year license agreement with LG for the usage of our existing technologyfor televisions and monitors for the next four years. Beginning in the thirdfiscal quarter of 2007, the Company recognized revenue from LG for televisionsand monitors under the new multi-year license agreement. During the thirdfiscal quarter of 2007, the Company also recognized the final trailing revenuereported by LG for televisions and monitors under the previous licenseagreement. For the same period in the prior year, one customer, Samsung,accounted for approximately 22% of the revenue. For the nine months ended September 30,2007, one customer, Samsung, accounted for approximately 25% of the licensingrevenue. For the same period in the prior year, two customers, Samsung andSony, accounted for approximately 17% and 12%, respectively, of the licensingrevenue.

 

**2.**                                      **Stock-Based Compensation**

 

Weaccount for stock-based compensation under the provisions of Statement ofFinancial Accounting Standards (“SFAS”) No. 123(R), *Share-BasedPayment* (“SFAS 123R”). SFAS 123R requires measurement of allemployee stock-based awards using a fair-value method and recording of relatedcompensation expense in the consolidated financial statements over therequisite service period. Further, as required under SFAS 123R, we estimateforfeitures for share based awards that are not expected to vest. For the threemonths ended September 30, 2007, we recorded stock-based compensationexpense of $438,050 under the fair-value provisions of SFAS 123R, compared to$383,404 in the same period in the prior year. For the nine months ended September 30,2007, we recorded stock-based compensation expense of $1,289,060 under thefair-value provisions of SFAS 123R, compared to $1,070,804 for the same periodin the prior year.

 

Optionawards are granted with an exercise price equal to the market price of theCompany’s stock at the date of grant. Option awards generally have a term of 10years and vest and become exercisable over a four-year service period.

 

Thefair value of each share-based award is estimated on the grant date using theBlack-Scholes-Merton (“BSM”) option-pricing formula and straight-lineamortization of compensation expense over the requisite service period of thegrant. Expected volatilities are based on the historical volatility of theCompany’s stock price. The risk-free rate for periods within the contractuallife of the option is based on the U.S. Treasury interest rates in effect atthe time of grant. The fair value of options granted was estimated using thefollowing weighted-average assumptions:

 
| ** **               | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|--------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **               | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **               | ** ** | **2007**                         | ** ** | **2006***                       | ** ** | **2007** | ** ** | **2006** | ** ** |
| Expected term (in years) |       | 6.25                             |       | —                          |       | 6.25 |   | 6.25 |   |
| Expected volatility      |       | 56                               | %          | —                          | %          | 56 | % | 57 | % |
| Risk-free interest rate  |       | 4.4                              | %          | —                          | %          | 4.8 | % | 4.9 | % |
| Dividend yield           |       | 0.00                             | %          | —                          | %          | 0.00 | % | 0.00 | % |

 

----

*Note: There were nooptions granted in the three months ended September 30, 2006

 

Totalcompensation cost recognized is as follows:

 
| ** **                                                     | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended** | ** ** |
|----------------------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                                     | ** ** | **September 30,**           | ** ** | **September 30,**          | ** ** |
| ** **                                                     | ** ** | **2007**                         | ** ** | **2006**                        | ** ** | **2007** | ** ** | **2006** | ** ** |
| Continuing Operations:                                         |       |                             |       |                            |       |   |   |   |   |
| Sales and marketing                                            |       | $                                | 112,162    |                            | $          | 140,228 |   | $ | 382,655 |   | $ | 438,740 |   |
| Research and development                                       |       | 108,987                          |       | 67,383                          |       | 325,173 |   | 269,544 |   |
| General and administrative                                     |       | 216,901                          |       | 175,793                         |       | 581,232 |   | 362,520 |   |
| Total compensation cost recognized in continuing  operations   |       | 438,050                          |       | 383,404                         |       | 1,289,060 |   | 1,070,804 |   |
| Total compensation cost recognized in discontinued  operations |       | —                           |       | —                          |       | — |   | 101,143 |   |
| Total compensation cost recognized                             |       | $                                | 438,050    |                            | $          | 383,404 |   | $ | 1,289,060 |   | $ | 1,171,947 |   |

 

9

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**3.****                                     ****Intangible Assets**

 

Intangibleassets, net consist of the following:

 
| ** **                                                  | ** ** | **September 30,  2007** | ** ** | **December 31,  2006** | ** ** |
|-------------------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| Patents                                                     |       | $                            | 3,195,304  |                        | $          | 2,715,250 |   |
| Accumulated amortization                                    |       | (1,543,296                   | )          | (1,326,836                  | )          |
| Patents, net                                                |       | 1,652,008                    |       | 1,388,414                   |       |
| Other intangibles:                                          |       |                         |       |                        |       |
| License agreements acquired in purchase of  SRSWOWcast      |       | 640,071                      |       | 640,071                     |       |
| Poly Planar purchased technology for speaker  products      |       | —                       |       | 120,000                     |       |
| Capitalized software and hardware for several  technologies |       | 781,150                      |       | 658,942                     |       |
| Total of other intangibles                                  |       | 1,421,221                    |       | 1,419,013                   |       |
| Accumulated amortization, other intangibles                 |       | (822,676                     | )          | (762,288                    | )          |
| Other intangibles, net                                      |       | 598,545                      |       | 656,725                     |       |
| Intangible assets, net                                      |       | $                            | 2,250,553  |                        | $          | 2,045,139 |   |

 

Amortizationperiods range from three to ten years depending on the estimated useful life ofthe asset. Amortization expense consists of the following:

 
| ** **                                             | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30** | ** ** |
|--------------------------------------------------------|------------|------------------------------------------------------|------------|----------------------------------------------------|------------|
| ** **                                             | ** ** | **2007**                                             | ** ** | **2006**                                           | ** ** | **2007** | ** ** | **2006** | ** ** |
| Patents                                                |       | $                                                    | 76,952     |                                               | $          | 62,655 |   | $ | 216,460 |   | $ | 180,734 |   |
| Other intangibles:                                     |       |                                                 |       |                                               |       |   |   |   |   |
| License agreements acquired in purchase of  SRSWOWcast |       | 16,002                                               |       | 16,002                                             |       | 48,005 |   | 48,005 |   |
| Capitalized software and hardware                      |       | 40,399                                               |       | 48,269                                             |       | 132,383 |   | 133,477 |   |
| Total intangible amortization expense                  |       | $                                                    | 133,353    |                                               | $          | 126,926 |   | $ | 396,848 |   | $ | 362,216 |   |

 

As of September 30,2007, the weighted average useful life of the Company’s intangible assets isapproximately 6.6 years. The following table shows the estimatedamortization expense for those assets for the remaining three months of thecurrent fiscal year and each of the four succeeding fiscal years andthereafter:

 
| **Years Ending December 31,** | ** ** | **Estimated Expense** | ** ** |
|----------------------------------------------|------------|----------------------------|------------|
| 2007                                         |       | $                          | 134,868    |   |
| 2008                                         |       | 407,022                    |       |
| 2009                                         |       | 313,678                    |       |
| 2010                                         |       | 287,509                    |       |
| 2011                                         |       | 268,276                    |       |
| Thereafter                                   |       | 839,200                    |       |
| Total                                        |       | $                          | 2,250,553  |   |

 

**4.**                                      **Investments Available forSale**

 

The Company has classified its investments asavailable for sale in accordance with SFAS No. 115, *Accountingfor Certain Investments in Debt and Equity Securities*. Thefollowing table summarizes the Company’s investment securities available forsale:

 
| ** **           | ** ** | **September 30, 2007** | ** ** | **December 31, 2006** | ** ** |
|----------------------|------------|----------------------------------|------------|---------------------------------|------------|
| Cost                 |       | $                                | 5,500,000  |                            | $          | 5,500,000 |   |
| Unrealized loss      |       | (146,080                         | )          | (273,295                        | )          |
| Estimated fair value |       | $                                | 5,353,920  |                            | $          | 5,226,705 |   |

 

10

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The contractual maturitiesof investments are shown below. Actual maturities may differ fromcontractual maturities.

 
| ** **                                     | ** ** | **September 30, 2007** | ** ** | **December 31, 2006** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|---------------------------------|------------|
| ** **                                     | ** ** | **Cost**                         | ** ** | **Estimated  Fair Value**  | ** ** | **Cost** | ** ** | **Estimated  Fair Value** | ** ** |
| U.S. Government securities available for sale: |       |                             |       |                            |       |   |   |   |   |
| Due in one year or less                        |       | $                                | —     |                            | $          | — |   | $ | — |   | $ | — |   |
| Due in one to five years                       |       | 5,500,000                        |       | 5,353,920                       |       | 5,500,000 |   | 5,226,705 |   |
|                                           |       | $                                | 5,500,000  |                            | $          | 5,353,920 |   | $ | 5,500,000 |   | $ | 5,226,705 |   |

 

**5.**                                      **Net Income Per Common Share**

 

The Company applies SFAS No. 128, *Earnings per Share* (“SFAS 128”), which requires thedisclosure of basic and diluted net income per share for all current and priorperiods. Basic net income per common share is computed by dividing net incomeavailable to common stockholders by the weighted average number of commonshares outstanding during each year. Diluted net income per common sharereflects the maximum dilution, based on the average price of the Company’scommon stock during each period, and is computed similar to basic income pershare except that the denominator is increased to include the number ofadditional shares that would have been outstanding if potentially dilutivestock options had been exercised and were dilutive.

 

Basic and diluted net income per share computed inaccordance with SFAS 128 for the three and nine months ended September 30,are as follows:

 
| ** **                                                  | ** ** | **For the Three Months** | ** ** | **For the Nine Months** | ** ** |
|-------------------------------------------------------------|------------|-----------------------------------------|------------|----------------------------------------|------------|
| ** **                                                  | ** ** | **Ended September 30,**       | ** ** | **Ended September 30,**      | ** ** |
| ** **                                                  | ** ** | **2007**                                | ** ** | **2006**                               | ** ** | **2007** | ** ** | **2006** | ** ** |
| BASIC EPS                                                   |       |                                    |       |                                   |       |   |   |   |   |
| Income from continuing operations                           |       | $                                       | 1,673,776  |                                   | $          | 1,276,333 |   | $ | 4,374,891 |   | $ | 1,833,475 |   |
| Income from discontinued operations                         |       | —                                  |       | 1,114,286                              |       | — |   | 1,649,137 |   |
| Net income                                                  |       | $                                       | 1,673,776  |                                   | $          | 2,390,619 |   | $ | 4,374,891 |   | $ | 3,482,612 |   |
| Denominator: weighted average common shares  outstanding    |       | 16,268,524                              |       | 14,939,806                             |       | 16,160,970 |   | 14,663,767 |   |
| Income per share from continuing operations—basic      |       | $                                       | 0.10       |                                   | $          | 0.09 |   | $ | 0.27 |   | $ | 0.13 |   |
| Income per share from discontinued operations—basic    |       | $                                       | —     |                                   | $          | 0.07 |   | $ | — |   | $ | 0.11 |   |
| Net income per share—basic                             |       | $                                       | 0.10       |                                   | $          | 0.16 |   | $ | 0.27 |   | $ | 0.24 |   |
|                                                        |       |                                    |       |                                   |       |   |   |   |   |
| DILUTED EPS                                                 |       |                                    |       |                                   |       |   |   |   |   |
| Income from continuing operations                           |       | $                                       | 1,673,776  |                                   | $          | 1,276,333 |   | $ | 4,374,891 |   | $ | 1,833,475 |   |
| Income from discontinued operations                         |       | —                                  |       | 1,114,286                              |       | — |   | 1,649,137 |   |
| Net income                                                  |       | $                                       | 1,673,776  |                                   | $          | 2,390,619 |   | $ | 4,374,891 |   | $ | 3,482,612 |   |
| Denominator: weighted average common shares  outstanding    |       | 16,268,524                              |       | 14,939,806                             |       | 16,160,970 |   | 14,663,767 |   |
| Common equivalent shares outstanding:                       |       |                                    |       |                                   |       |   |   |   |   |
| Options                                                     |       | 710,317                                 |       | 1,539,306                              |       | 939,364 |   | 1,765,127 |   |
| Total diluted shares                                        |       | 16,978,841                              |       | 16,479,112                             |       | 17,100,334 |   | 16,428,894 |   |
| Income per share from continuing operations—diluted    |       | $                                       | 0.10       |                                   | $          | 0.08 |   | $ | 0.26 |   | $ | 0.11 |   |
| Income per share from discontinued  operations—diluted |       | $                                       | —     |                                   | $          | 0.07 |   | $ | — |   | $ | 0.10 |   |
| Net income per share—diluted                           |       | $                                       | 0.10       |                                   | $          | 0.15 |   | $ | 0.26 |   | $ | 0.21 |   |

 

There were 557,439 and 1,051,859 potentiallydilutive options outstanding for the three months ending September 30,2007 and 2006, respectively, and there were 542,660 and 677,336 potentiallydilutive options outstanding for the nine months ending September 30, 2007and 2006, respectively, that were not included in the table above because theywould be anti-dilutive.

 

**6.**                                      **Commitments andContingencies**

 

The Company is subject to legal proceedings andclaims that arise in the normal course of business. While the outcome of theseproceedings and claims cannot be presently predicted, management does notbelieve that the outcome of

 

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anyof these matters will have a material adverse effect on the Company’sconsolidated financial position or results of operations.

 

**7.**                                      **Discontinued Operations**

 

On February 23,2006, the Board approved a plan to sell Valence in order to focus increasedmanagement attention and financial resources on its licensing business. On July 14,2006, we entered into a definitive Sale and Purchase Agreement to sell Valenceto Noblehigh Enterprises Inc. (“Noblehigh”). Noblehigh is owned by Willas ArrayElectronics (Holding) Limited as well as certain members of management ofValence. The sale transaction was completed on September 29, 2006.

 

The sale to Noblehigh waseffected through two simultaneous transactions: (1) the repurchase byValence of approximately 74% of the outstanding shares of Valence from SRSusing its existing cash and (2) the purchase by Noblehigh of the remainingoutstanding shares of Valence from SRS for $4.3 million. The sale resulted in again on the disposal of discontinued operations of $260,763 in the Company’sthird fiscal quarter of 2006.

 

Additionally, on February 23,2006, the Board authorized management to take all reasonable steps to divestthe Company’s entire equity interest in the Joint Venture. On June 30,2006, we completed the sale of our interest in the Joint Venture to Coming HomeStudios LLC in exchange for $200,000, the rights to all cash assets of theJoint Venture, and a promissory note in the amount of $175,000. The sale of ourinterest in the Joint Venture resulted in a gain on the sale of $371,295 in theCompany’s second fiscal quarter of 2006. As of September 30, 2007, theoutstanding principal balance due on the note is $159,724 plus accrued interest.Any amounts related to the promissory note and accrued interest thereon will berecorded at the time the cash is received by us.

 

As a result of ourdecision to sell Valence and our entire equity interest in the Joint Venture inFebruary 2006, we accounted for Valence and the Joint Venture asdiscontinued operations beginning in the first fiscal quarter of 2006.

 

Income from discontinuedoperations for the three and nine months ended September 30, 2006consisted of direct revenues and direct expenses of Valence and CHS/SRS LLC.General corporate overhead costs have not been allocated to discontinuedoperations. A summary of the operating results of Valence and the Joint Ventureincluded in discontinued operations in the accompanying condensed consolidatedstatements of operations is as follows:

 
| ** **                                    | ** ** | **Three Months Ended** | ** ** | **Nine Months Ended**  | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|----------------------------------|------------|
| ** **                                    | ** ** | **September 30, 2006** | ** ** | **September 30, 2006** | ** ** |
| **Valence:**                                  | ** ** | ** **                       | ** ** | ** **                       | ** ** |
| Revenues.                                     |       | $                                | 3,312,397  |                             | $          | 7,682,931 |   |
| Cost of sales                                 |       | 1,493,004                        |       | 3,562,750                        |       |
| Gross margin                                  |       | 1,819,393                        |       | 4,120,181                        |       |
| Total operating expenses                      |       | 983,356                          |       | 3,193,519                        |       |
| Income from operations                        |       | 836,037                          |       | 926,662                          |       |
| Other income, net                             |       | 23,806                           |       | 31,669                           |       |
| Income before income tax expense              |       | 859,843                          |       | 958,331                          |       |
| Income tax expense                            |       | 2,936                            |       | 33,632                           |       |
| **Net income from Valence**                   |       | 856,907                          |       | 924,699                          |       |
| **Net (loss) income from CHS/SRS LLC**        |       | (3,384                           | )          | 92,380                           |       |
| **Subtotal**                                  |       | 853,523                          |       | 1,017,079                        |       |
| **Gain on sale of Valence**                   |       | 260,763                          |       | 260,763                          |       |
| **Gain on sale of CHS/SRS LLC**               |       | —                           |       | 371,295                          |       |
| **Total income from discontinued operations** |       | $                                | 1,114,286  |                             | $          | 1,649,137 |   |

 

**8.****                                     ****Segment Information**

 

The Company previouslyoperated in two business segments — semiconductors and licensing. However, as aresult of the Board’s decision on February 23, 2006 to sell Valence, thesemiconductor business, the Company now has continuing operations in only onebusiness segment, licensing. Our revenue from continuing operations is solelyderived from licensing related revenue.

 

12

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The following schedule presents the Company’srevenue from continuing operations by geographic area. Licensing-relatedrevenue is allocated based on the location of the licensee’s corporateheadquarters. The Americas region includes North, Central and South Americas.

 
| ** **                   | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                   | ** ** | **2007**                                             | ** ** | **%**                                               | ** ** | **2006** | ** ** | **%** | ** ** | **2007** | ** ** | **%** | ** ** | **2006** | ** ** | **%** | ** ** |
| **Geographic Area Revenue:** | ** ** | ** **                                           | ** ** | ** **                                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|                         |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Korea                        |       | $                                                    | 2,190,563  |                                                | 46         |   | $ | 1,613,933 |   | 33 |   | $ | 5,748,574 |   | 39 |   | $ | 3,998,542 |   | 28 |   |
| Japan                        |       | 1,631,214                                            |       | 34                                                  |       | 1,824,612 |   | 37 |   | 5,970,028 |   | 41 |   | 5,735,707 |   | 45 |   |
| Americas                     |       | 425,798                                              |       | 9                                                   |       | 528,165 |   | 11 |   | 1,422,278 |   | 10 |   | 1,334,685 |   | 9 |   |
| China                        |       | 426,540                                              |       | 9                                                   |       | 922,229 |   | 19 |   | 1,276,869 |   | 9 |   | 2,348,057 |   | 17 |   |
| Europe                       |       | 95,156                                               |       | 2                                                   |       | 21,264 |   | 0 |   | 118,777 |   | 1 |   | 88,719 |   | 1 |   |
| Total                        |       | $                                                    | 4,769,271  |                                                | 100        |   | $ | 4,910,203 |   | 100 |   | $ | 14,536,526 |   | 100 |   | $ | 13,505,710 |   | 100 |   |

 

**9.**                                      **Recent AccountingPronouncements**

 

In July 2006, theFinancial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48(“FIN 48”), *Accounting for Uncertainty in Income Taxes*.FIN 48 is an interpretation of FASB Statement No. 109, *Accounting for Income Taxes*, and it seeks to reduce thediversity in practice associated with certain aspects of measurement andrecognition in accounting for income taxes. FIN 48 prescribes a recognitionthreshold and measurement attribute for the financial statement recognition andmeasurement of a tax position that an entity takes or expects to take in a taxreturn. Additionally, FIN 48 provides guidance on de-recognition,classification, interest and penalties, accounting in interim periods, disclosure,and transition. Under FIN 48, an entity may only recognize or continue torecognize tax positions that meet a “more likely than not” threshold. Weadopted FIN 48 on January 1, 2007. As a result of adoption of FIN 48, werecognized no liability for unrecognized income tax benefits. Additionally, werecognized no interest and penalties related to uncertain tax positions and asof the three and nine months ended September 30, 2007, we have no accruedinterest related to uncertain tax positions. The tax years 2003-2006 remainopen to examination by the major taxing jurisdictions.

 

In September 2006,the FASB issued Statement of Financial Accounting Standards No. 157, *Fair Value Measurements*(“SFAS No. 157”).The purpose of SFAS No. 157 is to define fair value, establish a frameworkfor measuring fair value and enhance disclosures about fair value measurements.The measurement and disclosure requirements are effective for periods beginningafter November 15, 2007. We do not expect the adoption of SFAS No. 157will have a material effect on our consolidated financial position or resultsof operations.

 

In February 2007,the FASB issued Statement No. 159, *The Fair Value Option forFinancial Assets and Financial Liabilities*(“SFAS 159”). SFAS 159permits entities to choose to measure financial assets and liabilities (exceptfor those that are specifically scoped out of the Statement) at fair value. Theelection to measure a financial asset or liability at fair value can be made onan instrument-by-instrument basis and is irrevocable. The difference betweencarrying value and fair value at the election date is recorded as a transitionadjustment to opening retained earnings. Subsequent changes in fair value arerecognized in earnings. The effective date for this Statement is as of thebeginning of an entity’s first fiscal year that begins after November 15,2007. The Company will adopt SFAS 159, effective January 1, 2008. TheCompany does not expect the adoption of SFAS 159 to have a material impact onour consolidated financial position or consolidated results of operations.

 

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**Item 2. Management’sDiscussion and Analysis of Financial Condition and Results of Operations**

 

This information should be read in conjunction withthe audited consolidated financial statements and notes thereto and Management’sDiscussion and Analysis of Financial Condition and Results of Operationscontained in the Company’s Annual Report on Form 10-K for the year ended December 31,2006, and the unaudited condensed interim consolidated financial statements andnotes thereto included in this Quarterly Report.

 

**Overview**

 

SRS Labs is a leadingdeveloper and provider of audio and voice technology solutions for the homeentertainment, portable media device, personal telecommunications, personalcomputer, automotive, and broadcast markets. Prior to September 29, 2006,the Company was also a developer and provider of application specificintegrated circuits and standard integrated circuits through its formerlywholly-owned subsidiary, Valence Tech Limited.

 

***Licensing***

 

Our operations are conducted through SRS Labs, Inc.,the parent company, and its wholly-owned subsidiary, SRSWOWcast.com, Inc.Our business is focused on developing and licensing audio, voice and surroundsound technology solutions to many of the world’s leading original equipmentmanufacturers, or OEMs, software providers and semiconductor companies, andlicensing and marketing hardware and software products for the Internet andprofessional audio markets.

 

A focus of the Company at this time is protection ofits patents and enforcement of its royalty program. We believe that theproactive enforcement and administration of these programs will help us toidentify improper or unauthorized usage of our intellectual properties, as wellas to ensure the accurate and timely royalty reporting by our licensees. Whilethere could be a short-term negative impact in terms of increased expenses ordecreased revenue, we believe that this strategy will have positive long-termresults and will lead to even stronger relationships with our customers.

 

***DiscontinuedOperations***

*** ***

*Valence:*   Through our formerly wholly-ownedsubsidiary, ValenceTech Limited, we operated a fabless semiconductor businesswhich developed, designed and marketed standard and custom analog integratedcircuits, digital signal processors, and mixed signal integrated circuitsprimarily to OEMs and original design manufacturers in the Asia Pacific region.

 

On February 23,2006, our Board approved a plan to sell Valence in order to focus management’sattention and financial resources on our licensing business. On July 14,2006, we entered into a definitive Sale and Purchase Agreement to sell Valenceto Noblehigh Enterprises Inc. Noblehigh is owned by Willas Array Electronics(Holding) Limited as well as certain members of management of Valence. The saletransaction was completed on September 29, 2006 and accordingly theresults of the operations of Valence are included as discontinued operations inthe accompanying condensed consolidated statement of operations beginning inthe first quarter of 2006.

 

*CHS/SRS LLC:**  *In September 2004,we entered into a strategic alliance with Coming Home Studios LLC, or CHS, touse and promote SRS Labs’ technologies, to promote CHS productions and topromote each company’s respective brands. In connection with the strategicalliance, SRS and CHS established a Joint Venture, CHS/SRS LLC, to produce anddistribute nine concert videos featuring our Circle Surround technology. On February 23,2006, our Board authorized management to take all reasonable steps to divestour entire equity interest in the Joint Venture. On June 30, 2006, wecompleted the sale of our interest in the Joint Venture to CHS. Accordingly,the results of operations of CHS/SRS LLC are included as discontinuedoperations in the accompanying condensed consolidated statement of operationsbeginning in the first quarter of 2006.

 

#### **Critical Accounting Policies**

 

Our discussion and analysis of our resultsof operations and liquidity and capital resources are based on our consolidatedfinancial statements, which have been prepared in accordance with accountingprinciples generally accepted in the United States of America.

 

Thepreparation of these financial statements requires us to make estimates andjudgments that affect the reported

 

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amounts of assets,liabilities, revenues and expenses, and disclosure of contingent assets andliabilities. We base our estimates on historical and anticipated results andtrends and on various other assumptions that we believe are reasonable underthe circumstances, including assumptions as to future events. These estimates form thebasis for making judgments about the carrying value of assets and liabilitiesthat are not readily apparent from other sources. By their nature, estimatesare subject to an inherent degree of uncertainty. Actual results may materiallydiffer from our estimates.

 

**Resultsof Continuing Operations**

 

**Three Months Ended September 30, 2007 Compared toThree Months Ended September 30, 2006**

 

*Revenues*

 

Revenues consist primarily of royalties generatedfrom the license of SRS Labs’ audio and voice technologies. License and royaltyagreements generally provide for the license of technologies for a fee based onthe number of units distributed by the licensee. However, we have entered intoin the past, and may again enter into in the future, a license agreementfor a one-time fee or an annual fixed fee amount. Also included in licensingrevenue are revenues generated from the sale of hardware and softwareapplications into the personal computer (“PC”) and broadcast audio markets.

 

Revenues were $4,769,271 for the three months ended September 30,2007, compared to $4,910,203 for the three months ended September 30,2006, a decrease of $140,932, or 3%. The decrease in revenues was primarilyattributable to the declining use of our technology by two of our customers. Asindicated in our Quarterly Report for the quarter ended March 31, 2007,filed with the SEC in May 2007, during April 2007, we were informedby Sony, one of our largest licensees, it has begun to distribute televisionsthat include internally developed audio technology, rather than technologylicensed from us. Additionally, as indicated in our Quarterly Report for thequarter ended March 31, 2007, filed with the SEC in May 2007, during April 2007,we were informed by Toshiba that they had elected not to utilize our technologyin their personal computers during 2007. These two events negatively impactedour revenues in the third quarter of 2007, and we anticipate these two eventsto continue to negatively affect our revenues in future periods. Included inour third quarter 2006 revenues was approximately $250,000 from Samsungreceived as a result of royalty compliance activities. There were no materialrevenues from such compliance activities during the third quarter of 2007. Offsettinga portion of these noted decreases, we continued to increase flat paneltelevision revenues from our largest customer, Samsung Electronics.

 

During 2007, the Company entered into a multi-year,license agreement with LG Electronics for the usage of our existing technologyfor televisions and monitors through December 2010. Beginning in the thirdfiscal quarter of 2007, the Company recognized revenues from LG for televisionsand monitors under the new multi-year license agreement, as well as recognizedthe final trailing revenue reported by LG for televisions and monitors underthe previous license agreement. The Company also closed all open complianceissues with LG, which did not result in a material impact to our financialresults of the third quarter of 2007.

 

Earlier this year, we elected to modify our salesapproach in our Greater China Region, in that we are no longer requiringcertain of our customers to obtain our technology through bundled arrangementswith our integrated circuit (“IC”) partners, but instead are allowing them tolicense our technology directly from us. We believe that this change willstrengthen our relationship with these customers. During the third quarter of2007, our largest China based television licensee transitioned to this newapproach and signed a new contract with the Company. Accordingly, we noted adecrease in revenues of approximately $140,000 from this customer for the thirdquarter of 2007 as a result of the customer placing into production ICs thathad previously been purchased from the IC partner under the prior method. Additionally,we entered into a new agreement with another large China based televisionmanufacturer under a direct relationship and anticipate that this will begin togenerate revenues for us during 2008.

 

Revenues in our Portable Media Devices decreased$195,233, or 27%, for the three months ended September 30, 2007, comparedto the same period in the prior year, primarily due to the loss of two MP3customers in the third and fourth quarters of 2006. Additionally, during thethird quarter of 2007, we recognized no revenue from our largest China basedcustomer in this segment as their contract with us expired the prior quarter. Wehave entered into a new contact with this customer and will begin to recognizerevenues under the terms of the new agreement during the fourth quarter of thisyear.

 

We continue to recognize increasing revenues fromour automotive segment and anticipate that revenues will continue to grow infuture periods. Our technology usage is being expanded, particularly by Japanbased automotive suppliers and we are continuing to obtain design wins thatwill generate revenues for us through 2010.

 

15

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Thefollowing table presents our revenues by market:

 
| ** **                                                | ** ** | **Three Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| Home Entertainment (TV, Set Top Box, A/V Receiver,  DVD)  |       | 70                                                   | %          | 66 | % |
| Portable Media Devices (Digital Media Player,  Headphone) |       | 11                                                   | %          | 15 | % |
| Automotive                                                |       | 7                                                    | %          | 5 | % |
| PC (Software, Hardware)                                   |       | 6                                                    | %          | 9 | % |
| Personal Telecommunications (Mobile Phone, PDA)           |       | 6                                                    | %          | 5 | % |

 

*Sales andMarketing*

 

Salesand marketing expenses consist primarily of employee salaries, salesconsultants’ fees and related expenses, sales commissions and product promotioncosts. Sales and marketing expenses were $1,460,185 for the three months ended September 30,2007, compared to $1,743,660 for the same prior year period, a decrease of$283,475, or 16%. This decrease is primarily attributable to decreasedmarketing management head count and related expenses. Included in sales andmarketing expenses is stock based compensation expense of $112,162 and $140,228for the three months ended September 30, 2007 and 2006, respectively. As apercentage of total revenues, sales and marketing expenses decreased from 36%for the three months ended September 30, 2006 to 31% for the same period this year.

 

*Researchand Development*

 

Research anddevelopment expenses consist of salaries and related costs of employees engagedin ongoing research, design and development activities and costs forengineering materials and supplies. Research and development expenses were$689,901 for the three months ended September 30, 2007, compared to$628,227 for the same prior year period, an increase of $61,674, or 10%. Thisincrease is attributable to an increase in head count and payroll related costsand an increase in stock based compensation expense due to current year stockoption grants. Included in research and development expenses is stock basedcompensation expense of $108,987 and $67,383 for the three months ended September 30,2007 and 2006, respectively. As a percentage of total revenues, research anddevelopment expenses increased from 13%for the three months ended September 30, 2006 to 14% for the same periodthis year.

 

*Generaland Administrative*

 

Generaland administrative (“G&A”) expenses consist primarily of employee-relatedexpenses, legal costs associated with the administration of intellectualproperty and other professional fees. G&A expenses were $1,436,184 for thethree months ended September 30, 2007, compared to $1,277,601 for the sameprior year period, an increase of $158,583, or 12%. The increase is primarily attributable to increased legal andaccounting fees associated with the protection of SRS’s patents and enforcementof its royalty compliance program. The increase is also attributed to increasedcosts associated with Sarbanes-Oxley compliance and increased stock basedcompensation expense due to 2007 stock option grants. Partially offsetting theincreases is lower bonus expense. Included in general and administrativeexpenses is stock based compensation expense of $216,901 and $175,793 for thethree months ended September 30, 2007 and 2006, respectively. As apercentage of total revenues, G&A expenses increased from 26% for the quarter ended September 30,2006 to 30% for the same periodthis year.

 

*OtherIncome, Net*

 

Otherincome, net, consists principally of interest income. Other income, net, was$508,825 for the three months ended September 30, 2007, compared to $291,236for the same prior year period, an increase of $217,589, or 75%. This increaseis primarily attributable to higher interest rates earned on larger cashbalances invested.

 

*Provisionfor Income Taxes*

 

Theincome tax benefit for the three months ended September 30, 2007 was $18,800, compared to tax expense of $231,620 for thesame prior year period. The prior year provision consists primarily of taxespaid on licensing revenues sourced from countries requiring foreign taxwithholdings, principally Korea. We reduced our current quarter tax provision

 

16

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andour valuation allowance on our deferred tax assets by $450,290 based on ourassessment of the future realizability of certain deferred tax assets. Thecurrent period income tax benefit reflects a tax refund due from the state ofCalifornia.

 

*DiscontinuedOperations*

 

As a result of our February 2006decisions to sell Valence and our entire equity interest in CHS/SRS LLC, wehave accounted for the semiconductor business segment and CHS/SRS LLC asdiscontinued operations in the accompanying condensed consolidated financialstatements beginning in the first fiscal quarter of 2006. The Company soldValence in September 2006 and its entire equity interest in CHS/SRS LLC inJune 2006.

 

Income from discontinuedoperations consists of direct revenues and direct expenses of Valence andCHS/SRS LLC. General corporate overhead costs have not been allocated todiscontinued operations. A summary of the operating results of Valence and theJoint Venture included in discontinued operations in the accompanying condensedconsolidated statements of operation for the three months ended September 30,2006 is as follows:

 
| **Valence:**                                  | ** ** | ** ** | ** ** |
|-----------------------------------------------|------------|------------|------------|
| Revenues.                                     |       | $          | 3,312,397  |   |
| Cost of sales                                 |       | 1,493,004  |       |
| Gross margin                                  |       | 1,819,393  |       |
| Total operating expenses                      |       | 983,356    |       |
| Income from operations                        |       | 836,037    |       |
| Other income, net                             |       | 23,806     |       |
| Income before income benefit                  |       | 859,843    |       |
| Income tax expense                            |       | 2,936      |       |
| **Net income from Valence**                   |       | 856,907    |       |
| **Net loss from CHS/SRS LLC**                 |       | (3,384     | )          |
| **Net income from discontinued operations**   |       | 853,523    |       |
| **Gain on sale of Valence**                   |       | 260,763    |       |
| **Total income from discontinued operations** |       | $          | 1,114,286  |   |

 

**Nine Months Ended September 30, 2007 Compared toNine Months Ended September 30, 2006**

 

*Revenues*

 

Revenues consist primarily of royalties generatedfrom the license of our audio and voice technologies. License and royaltyagreements generally provide for the license of technologies for a fee based onthe number of units distributed by the licensee. However, we have entered intoin the past, and may again enter into in the future, a license agreementfor a one-time fee or an annual fixed fee amount. Also included in licensingrevenue are revenues generated from the sale of hardware and softwareapplications into the PC and broadcast audio markets.

 

Revenues were $14,536,526 for the nine months ended September 30,2007, compared to $13,505,710 for the nine months ended September 30,2006, an increase of $1,030,816, or 8%. The increase in revenues was primarilyattributable to our strong sales in flat panel televisions and monitors in ourHome Entertainment market, which grew by $2,694,834, or 44%. Partiallyoffsetting the increases in Home Entertainment was a decrease in revenue fromSony, which began selling products using its own internally developedtechnology, as well as decreases in the CRT television business. Additionally,we experienced an increase in royalties in the Automotive market of $235,597,or 31%. Offsetting revenue increases in the Home Entertainment and Automotivemarket was a decrease in revenue in our Portable Media Devices of $1,053,621,or 44%, due to decreased MP3 sales and the loss of two MP3 customers in thethird and fourth quarters of 2006.

 

17

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Thefollowing table presents our licensing revenues mix by market:

 
| ** **                                                | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                | ** ** | **2007**                                            | ** ** | **2006** | ** ** |
| Home Entertainment (TV, Set Top Box, A/V Receiver,  DVD)  |       | 68                                                  | %          | 59 | % |
| PC (Software, Hardware)                                   |       | 9                                                   | %          | 10 | % |
| Portable Media Devices (Digital Media Player,  Headphone) |       | 9                                                   | %          | 18 | % |
| Personal Telecommunications (Mobile Phone, PDA)           |       | 7                                                   | %          | 8 | % |
| Automotive                                                |       | 7                                                   | %          | 5 | % |

 

*Sales andMarketing*

 

Salesand marketing expenses consist primarily of employee salaries, salesconsultants’ fees and related expenses, sales commissions and product promotioncosts. Sales and marketing expenses were $5,104,195 for the nine months ended September 30,2007, compared to $5,494,445 for the same prior year period, a decrease of$390,250, or 7%. This decrease is primarily attributable to decreased marketingmanagement head count and related expenses and decreased bonus expense,partially offset by increased headcount in sales. Included in sales andmarketing expenses is stock based compensation expense of $382,655 and $438,740for the nine months ended September 30, 2007 and 2006, respectively. As apercentage of total revenues, sales and marketing expenses decreased from 41%for the nine months ended September 30, 2006 to 35% for the same period this year.

 

*Researchand Development*

 

Research anddevelopment expenses consist of salaries and related costs of employees engagedin ongoing research, design and development activities and costs forengineering materials and supplies. Research and development expenses were$2,366,121 for the nine months ended September 30, 2007, compared to$1,914,255 for the same prior year period, an increase of $451,866, or 24%. Thisincrease is attributable to an increase in head count and payroll related costsand an increase in stock based compensation expense due to current year stockoption grants. Included in research and development expenses is stock basedcompensation expense of $325,173 and $269,544 for the nine months ended September 30,2007 and 2006, respectively. As a percentage of total revenues, research anddevelopment expenses increased from 14%for the nine months ended September 30, 2006 to 16% for the same periodthis year.

 

*Generaland Administrative*

 

Generaland administrative (“G&A”) expenses consist primarily of employee-relatedexpenses, legal costs associated with the administration of intellectualproperty and other professional fees. G&A expenses were $4,105,792 for thenine months ended September 30, 2007, compared to $4,272,598 for the sameprior year period, a decrease of $166,806, or 4%. The decrease is primarily attributable a decrease inconsultants fees and costs associated with the Company’s separation from itsformer Chief Financial Officer in the first quarter of 2006, partially offsetby an increase in stock based compensation expense. Included in general andadministrative expenses is stock based compensation expense of $581,232 and$362,520 for the nine months ended September 30, 2007 and 2006,respectively. As a percentage of total revenues, G&A expenses decreasedfrom 32% for the nine monthsended September 30, 2006 to 28%for the same period this year.

 

*OtherIncome, Net*

 

Otherincome, net, consists principally of interest income. Other income, net, was$1,511,585 for the nine months ended September 30, 2007, compared to$694,954 for the same prior year period, an increase of $816,631, or 118%. Thisincrease is primarily attributable to higher interest rates earned on largercash balances invested.

 

*Provisionfor Income Taxes*

 

Theincome tax benefit for the nine months ended September 30, 2007 was $18,800, compared to tax expense of $558,788 for thesame prior year period. The prior year provision consists primarily of taxespaid on licensing revenues sourced from countries requiring foreign taxwithholdings, principally Korea. We reduced our current quarter tax provisionand our valuation allowance on our deferred tax assets by $1,022,205 based onour assessment of the future realizability of certain deferred tax assets. Thecurrent period income tax benefit reflects a tax refund due from the state ofCalifornia.

 

18

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*DiscontinuedOperations*

 

As a result of our February 2006decisions to sell Valence and our entire equity interest in CHS/SRS LLC, wehave accounted for the semiconductor business segment and CHS/SRS LLC asdiscontinued operations in the accompanying condensed consolidated financialstatements beginning in the first fiscal quarter of 2006. The Company soldValence in September 2006 and its entire equity interest in CHS/SRS LLC inJune 2006.

 

Income from discontinuedoperations consists of direct revenues and direct expenses of Valence andCHS/SRS LLC. General corporate overhead costs have not been allocated todiscontinued operations. A summary of the operating results of Valence and theJoint Venture included in discontinued operations in the accompanying condensedconsolidated statements of operation for the nine months ended September 30,2006 is as follows:

 
| **Valence:**                                  | ** ** | ** ** | ** ** |
|-----------------------------------------------|------------|------------|------------|
| Revenues.                                     |       | $          | 7,682,931  |   |
| Cost of sales                                 |       | 3,562,750  |       |
| Gross margin                                  |       | 4,120,181  |       |
| Total operating expenses                      |       | 3,193,519  |       |
| Income from operations                        |       | 926,662    |       |
| Other income, net                             |       | 31,669     |       |
| Income before income tax expense              |       | 958,331    |       |
| Income tax expense                            |       | 33,632     |       |
| **Net income from Valence**                   |       | 924,699    |       |
| **Net income from CHS/SRS LLC**               |       | 92,380     |       |
| **Net income from discontinued operations**   |       | 1,017,079  |       |
| **Gain on sale of Valence**                   |       | 260,763    |       |
| **Gain on sale of CHS/SRS LLC**               |       | 371,295    |       |
| **Total income from discontinued operations** |       | $          | 1,649,137  |   |

 

**Liquidity and Capital Resources**

 

Our principal source of liquidity to fundongoing operations at September 30, 2007 consisted of cash, cashequivalents and long-term investments of $45,429,472. At September 30,2007, we had cash and cash equivalents of $40,075,552 and long-term investmentsof $5,353,920. Cash and cash equivalents are short-term highly liquidinvestments that are readily convertible to known amounts of cash and are so nearmaturity that they present insignificant risk of changes in value because ofinterest rates. Cash and cash equivalents generally consist of cash, moneymarket funds and instruments with original maturities of three months or less. Investmentsconsist of U.S. government securities rated AAA.

 

Net cash provided byoperating activities was $3,922,769 and $2,044,316 during the nine months endedSeptember 30, 2007 and September 30, 2006, respectively. The$1,878,453 increase in net cash provided by operating activities for the ninemonths ended September 30, 2007, compared to the same period in the prioryear, was primarily a result of the Company not having any cash outflow relatedto discontinued operations during the nine months ended September 30, 2007as the discontinued operations were sold in the second and third fiscalquarters of 2006. Partially offsetting the increase, accounts receivable roseby $846,007 during the nine months ended September 30, 2007 compared to$401,462 in the same period in the prior year, primarily due to a significantcustomer reporting royalties later than in prior periods. Additionally,accounts payable and accrued liabilities decreased $249,444 and $489,159,respectively, during the nine months ended September 30, 2007 as comparedto increasing $156,478 and $312,031, respectively, during the same period inthe prior year. The changes in liability accounts generally relate to thetiming of payments to vendors and changes in accrued commissions and amountsdue to employees under the 2007 Bonus and Profit Sharing Plan.

 

Net cash used in investing activities was $701,606 during the nine months ended September 30,2007, and net cash provided by investing activities during the same period inthe prior year was $13,836,919. The decrease in cash from investing activitiesis primarily due to the Company selling its available-for-sale investments for$9,993,748 in September 2006 and re-investing the proceeds into cashequivalents. In the prior period, the Company also received $4,300,000 and$371,295 for the sale of Valence and its equity interest in CCH/SRS LLC,respectively. There were no cash inflows or outflows from the discontinuedoperations in the current period.

 

19

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Our net cash provided by financing activities from continuing operations was $1,842,964 and $1,493,341 during the nine months ended September 30, 2007 and September 30, 2006, respectively. The increase in net cash provided by financing activities was attributable to the Company not repurchasing any of its common stock in 2007 offset by a decrease in stock option exercises.

 

We expect expenditures related to patents and intangible assets to increase in the future consistent with the growth in our licensing business, as we continue to invest in the development of new technologies.

 

Basedon current plans and business conditions, we expect that our cash, cashequivalents and investments together with any amounts generated from operationswill be sufficient to meet our cash requirements for the next twelve months.However, there can be no assurance that we will not be required to seek otherfinancing sooner or that such financing, if required, will be available onterms satisfactory to us.

 

Ouroperations and financial results are subject to various risks and uncertaintiesthat could adversely affect our business, financial condition, results ofoperations and trading price of our common stock. Please refer to Item 1A, “RiskFactors” in our annual report on Form 10-K for fiscal year 2006 forinformation concerning these and other uncertainties that could negativelyimpact us.

 

**Item 3. Quantitative andQualitative Disclosures about Market Risk**

 

Therehave been no material changes to the information called for by this Item 3 fromthe disclosures set forth in Part II, Item 7A in the Company’s AnnualReport on Form 10-K for the year ended December 31, 2006.

 

**Item 4. Controls and Procedures**

 

*Evaluation of Disclosure Controls and Procedures.**  *Our Chief Executive Officer andPresident and our Chief Financial Officer have evaluated the effectiveness ofour disclosure controls and procedures (as defined in Rules 13a-15 (e) and15d-15 (e) under the Securities Exchange Act of 1934, as amended) as ofthe end of the period covered by this Quarterly Report on Form10-Q and, based on this evaluation, have concluded that our disclosure controlsand procedures are effective.

 

*Changes in Internal Controls.**  *There have been no changes in ourinternal controls over financial reporting that occurred during our thirdquarter ended September 30, 2007 that have materially affected, or arereasonably likely to materially affect, our internal controls over financialreporting.

 

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**PART II:OTHER INFORMATION**

 

**Item 6.Exhibits**

 

Theexhibits listed below are hereby filed with the U.S. Securities and ExchangeCommission (the “SEC”) as part of this Report.

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                                                                                                                                                                                 |
|---------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |   | Certificate of Incorporation of the Company,  previously filed with the SEC as Exhibit 3.1 to the Company’s  Registration Statement on Form SB-2, specifically included in Amendment No. 1  to such Registration Statement filed with the SEC on July 3, 1996 (File No. 333-4974-LA),  which is incorporated herein by reference. |
| 3.2                 |   | Bylaws of the Company, previously filed with the SEC  as Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q for  the quarter ended September 30, 1999, filed with the SEC on November 12,  1999, which is incorporated herein by reference.                                                                                    |
| 31.1                |   | Certification of Chief Executive Officer of SRS Labs, Inc.,  pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                              |
| 31.2                |   | Certification of Chief Financial Officer of SRS Labs, Inc.,  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |
| 32.1                |   | Certification of Chief Executive Officer of SRS Labs, Inc.,  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |
| 32.2                |   | Certification of Chief Financial Officer of SRS Labs, Inc.,  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |

 

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**SIGNATURES**

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 
|                                    | SRS LABS, INC.,  a Delaware corporation       |
|-----------------------------------------|----------------------------------------------------|
|                                    |                                               |   |
| Date:  November 6,  2007 | By:                                                | /S/ THOMAS C.K. YUEN |
|                                    | Thomas C.K. Yuen                                   |
|                                    | Chairman of the  Board and Chief Executive Officer |
|                                    | (Principal  Executive Officer)                     |
|                                    |                                               |   |
|                                    |                                               |   |
| Date:  November 6,  2007 | By:                                                | /S/ ULRICH GOTTSCHLING |
|                                    | Ulrich  Gottschling                                |
|                                    | Chief Financial  Officer                           |
|                                    | (Principal  Financial and Accounting Officer)      |
|                                         |                                                    |  |  |

 

**EXHIBIT INDEX**

 

Theexhibits listed below are hereby filed with the SEC as part of thisReport.

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                                                                                                                                                                                 |
|---------------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |   | Certificate of Incorporation of the Company,  previously filed with the SEC as Exhibit 3.1 to the Company’s  Registration Statement on Form SB-2, specifically included in Amendment No. 1  to such Registration Statement filed with the SEC on July 3, 1996 (File No. 333-4974-LA),  which is incorporated herein by reference. |
| 3.2                 |   | Bylaws of the Company, previously filed with the SEC  as Exhibit 3.1 to the Company’s Quarterly Report on Form 10-Q for  the period ended September 30, 1999, filed with the SEC on November 12,  1999, which is incorporated herein by reference.                                                                                     |
| 31.1                |   | Certification of Chief Executive Officer of SRS Labs, Inc.,  pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                              |
| 31.2                |   | Certification of Chief Financial Officer of SRS Labs, Inc.,  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |
| 32.1                |   | Certification of Chief Executive Officer of SRS Labs, Inc.,  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |
| 32.2                |   | Certification of Chief Financial Officer of SRS Labs, Inc.,  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                               |

 

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