Notes to the
Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
1.
|
DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
|
Description of Business
Paycom Software, Inc. (“Software”) and its wholly owned subsidiaries (collectively, the “Company”) is a leading provider of comprehensive, cloud-based human capital management (“HCM”) software delivered as Software-as-a-Service. Unless we state otherwise or the context otherwise requires, the terms “we”, “our”, “us” and the “Company” refer to Software and its consolidated subsidiaries.
We provide functionality and data analytics that businesses need to manage the complete employment lifecycle, from recruitment to retirement. Our solution requires virtually no customization and is based on a core system of record maintained in a single database for all HCM functions, including talent acquisition, time and labor management, payroll, talent management and human resources management applications.
Basis of Presentation
The accompanying unaudited interim consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and applicable rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial statements that permit reduced disclosure for interim periods. In the opinion of management, the accompanying unaudited consolidated financial statements include all adjustments necessary for the fair presentation of our consolidated balance sheets as of June 30, 2017 and December 31, 2016, our consolidated statements of income for the three and six months ended June 30, 2017 and 2016 and our consolidated statements of cash flows for the six months ended June 30, 2017 and 2016. Such adjustments are of a normal recurring nature. The information in this Quarterly Report on Form 10-Q should be read in conjunction with our Annual Report on Form 10-K that was filed with the SEC on February 21, 2017. The results of operations for the three and six months ended June 30, 2017 are not necessarily indicative of the results expected for the full year.
2.
|
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
|
Our significant accounting policies are discussed in “Note 2. Summary of Significant Accounting Policies” in our audited consolidated financial statements for the year ended December 31, 2016, included in the Annual Report on Form 10-K that was filed with the SEC on February 21, 2017.
Adoption of New Accounting Pronouncement
In January 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2017-04, “Simplifying the Test for Goodwill Impairment (Topic 350)” to simplify the subsequent measurement of goodwill. Under this new guidance, Step 2 of the goodwill impairment test is eliminated, including elimination of the requirement to perform Step 2 for any reporting unit with a zero or negative carrying amount that failed a qualitative assessment. This standard should be applied on a prospective basis with the nature of and reason for the change in accounting principle disclosed upon transition. The standard is effective for us in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We adopted this guidance for the annual goodwill impairment test we performed as of June 30, 2017.
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Significant estimates include income taxes, contingencies, the useful life of property and equipment and intangible assets, the life of our client relationships, the fair value of our stock-based awards and the fair value of our financial instruments, intangible assets and goodwill. These estimates are based on historical experience where applicable and other assumptions that management believes are reasonable under the circumstances. As such, actual results could materially differ from these estimates.
Employee Stock Purchase Plan
An award issued under the Paycom Software, Inc. Employee Stock Purchase Plan (the “ESPP”) is classified as a share-based liability and recorded at the fair value of the award. Expense is recognized, net of estimated forfeitures, on a straight-line basis over the requisite service period.
6
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
Funds Held for Clients and Client Funds Obligation
As part of our payroll and tax filing application, we (i) collect client funds to satisfy their respective federal, state and local employment tax obligations, (ii) remit such funds to the appropriate taxing authorities and accounts designated by our clients, and (iii) manage client tax filings and any related correspondence with taxing authorities. During the interval between receipt and disbursement, we invest and earn interest on the amounts that we collect from clients for their federal, state and local employment taxes.
As of June 30, 2017 and December 31, 2016, the funds held for clients were invested in money market funds, demand deposit accounts, commercial paper and certificates of deposit. These investments are shown in the consolidated balance sheets as funds held for clients and are classified as a current asset because the funds are held solely to satisfy the client funds obligation.
The offsetting liability for the tax filings is shown as client funds obligation. The liability is recorded in the accompanying balance sheets at the time we obtain the funds from clients. The client funds obligation represents liabilities that will be repaid within one year of the balance sheet date. As of April 1, 2016, the interest income earned on funds held for clients is recorded in recurring revenues. Prior to April 1, 2016, the interest income earned on these funds was recorded in other income, net in the unaudited consolidated statements of income.
Recently Issued Accounting Pronouncements
In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606)”. This authoritative guidance includes a comprehensive new revenue recognition model that requires revenue to be recognized in a manner to depict the transfer of goods or services to a customer at an amount that reflects the consideration expected to be received in exchange for those goods or services. The FASB has since issued several additional amendments to this guidance. In April 2015, the FASB proposed a one year deferral of the effective date of the new revenue recognition standard for public and non-public entities reporting under U.S. GAAP and on July 9, 2015, the FASB approved the one year deferral. The effective date of the amended standard will begin in periods beginning after December 15, 2017 and early adoption is permitted but no earlier than for reporting periods beginning after December 31, 2016. The Company has an ongoing project to assess the impact of the standard that has been conducted with the assistance of an international accounting firm. The Company has made significant progress in the assessment phase of this project but has not yet fully determined the impact of the new revenue recognition standard on its systems, processes and consolidated financial statements; however, we expect the new standard will have a material impact on the manner in which we account for certain costs to acquire new contracts (i.e., selling and commission costs) and costs to fulfill contracts (i.e., costs related to implementation services performed). Generally, as it relates to these types of costs, the provisions of the new standard will result in the deferral of these costs on the consolidated balance sheets and subsequently the amortizing of these costs to the consolidated statements of income over the expected life of our client relationships, which we have determined to be an average of 10 years. The Company is still evaluating whether implementation services contain an implied performance obligation in the form of a material right to the customer and if so, what impact that would have on the recognition of implementation revenues. We expect to complete our assessment process, including selecting a transition method for adoption, by the end of the third quarter of 2017 and will complete our implementation process prior to the adoption of this ASU on January 1, 2018.
In February 2016, the FASB issued ASU No. 2016-02 “Leases (Topic 842).” The purpose of the guidance is to increase the transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet as well as providing additional disclosure requirements related to leasing arrangements. The new guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018, though early adoption is permitted. Full retrospective application is prohibited. We are in the preliminary stages of gathering data and assessing the impact of the new lease standard, however, we anticipate that the adoption of this accounting standard will materially affect our consolidated balance sheets and may require changes to the system and processes that we use to account for leases. We have not yet made any decision on the timing of adoption or method of adoption with respect to the optional practical expedients.
7
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
3.
|
PROPERTY AND EQUIPMENT, NET
|
Property and equipment and accumulated depreciation and amortization were as follows:
|
|
June 30,
|
|
|
December 31,
|
|
|
|
2017
|
|
|
2016
|
|
Property and equipment
|
|
|
|
|
|
|
|
|
Buildings
|
|
$
|
60,095
|
|
|
$
|
48,250
|
|
Software and capitalized software costs
|
|
|
30,771
|
|
|
|
23,879
|
|
Computer equipment
|
|
|
23,073
|
|
|
|
18,987
|
|
Rental clocks
|
|
|
11,723
|
|
|
|
10,669
|
|
Furniture, fixtures and equipment
|
|
|
7,052
|
|
|
|
6,695
|
|
Leasehold improvements
|
|
|
715
|
|
|
|
680
|
|
|
|
|
133,429
|
|
|
|
109,160
|
|
Less: accumulated depreciation and amortization
|
|
|
(43,706
|
)
|
|
|
(35,833
|
)
|
|
|
|
89,723
|
|
|
|
73,327
|
|
Construction in progress
|
|
|
18,241
|
|
|
|
14,528
|
|
Land
|
|
|
8,993
|
|
|
|
8,993
|
|
Property and equipment, net
|
|
$
|
116,957
|
|
|
$
|
96,848
|
|
We capitalize computer software development costs related to software developed for internal use in accordance with Accounting Standards Codification (“ASC”) Topic 350-40. For the three and six months ended June 30, 2017, we capitalized $3.5 million and $6.4 million, respectively, of computer software development costs related to software developed for internal use. For the three and six months ended June 30, 2016, we capitalized $2.0 million and $3.7 million, respectively, of computer software development costs related to software developed for internal use.
Rental clocks included in property and equipment, net represent time clocks issued to clients under month-to-month operating leases. As such, these items are transferred from inventory to property and equipment and depreciated over their useful estimated lives.
Included in the construction in progress balance at June 30, 2017 and December 31, 2016 is $1.2 million and $1.1 million in retainage, respectively.
We capitalize interest incurred for indebtedness related to construction of our principal executive offices. For the three and six months ended June 30, 2017, we incurred interest costs of $0.4 million and $0.8 million, respectively, of which we capitalized $0.1 million and $0.2 million, respectively. For the three and six months ended June 30, 2016, we incurred interest costs of $0.2 million and $0.5 million, respectively, of which we capitalized $0.2 million and $0.2 million, respectively.
Depreciation and amortization expense for property and equipment, net was $4.3 million and $8.2 million, respectively, for the three and six months ended June 30, 2017. Depreciation and amortization expense for property and equipment, net was $2.8 million and $5.3 million, respectively, for the three and six months ended June 30, 2016.
4.
|
GOODWILL AND INTANGIBLE ASSETS, NET
|
Goodwill represents the excess of cost over our net tangible and identified intangible assets. As of June 30, 2017 and December 31, 2016, we had goodwill of $51.9 million. We have selected June 30 as our annual goodwill impairment testing date and determined there was no impairment as of June 30, 2017. For the year ended December 31, 2016, there were no indicators of impairment.
8
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
All of our intangible assets other than goodwill are considered to have finite lives and, as such, are subject to amortization. The following tables provide the components of intangible assets:
|
|
June 30, 2017
|
|
|
|
Weighted Average Remaining
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
Useful Life
|
|
|
Gross
|
|
|
Amortization
|
|
|
Net
|
|
|
|
(Years)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Intangibles:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer relationships
|
|
|
—
|
|
|
$
|
13,997
|
|
|
$
|
(13,997
|
)
|
|
$
|
—
|
|
Trade name
|
|
|
5.0
|
|
|
|
3,194
|
|
|
|
(2,129
|
)
|
|
|
1,065
|
|
Total
|
|
|
|
|
|
$
|
17,191
|
|
|
$
|
(16,126
|
)
|
|
$
|
1,065
|
|
|
|
December 31, 2016
|
|
|
|
Weighted Average Remaining
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
Useful Life
|
|
Gross
|
|
|
Amortization
|
|
|
Net
|
|
|
|
(Years)
|
|
|
|
|
|
|
|
|
|
|
|
|
Intangibles:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer relationships
|
|
0.5
|
|
$
|
13,997
|
|
|
$
|
(13,297
|
)
|
|
$
|
700
|
|
Trade name
|
|
5.5
|
|
|
3,194
|
|
|
|
(2,023
|
)
|
|
|
1,171
|
|
Total
|
|
|
|
$
|
17,191
|
|
|
$
|
(15,320
|
)
|
|
$
|
1,871
|
|
The weighted average remaining useful life of our intangible assets was 5.0 years as of June 30, 2017. Amortization of intangible assets for each of the three-month periods ended June 30, 2017 and 2016 was $0.4 million and for the six-month periods ended June 30, 2017 and 2016 was $0.8 million.
As of the dates indicated, our long-term debt consisted of the following:
|
|
June 30, 2017
|
|
|
December 31, 2016
|
|
Net term note to bank due May 30, 2021
|
|
$
|
24,482
|
|
|
$
|
24,950
|
|
Net term note to bank due August 31, 2023
|
|
|
4,814
|
|
|
|
4,874
|
|
Construction loan
|
|
|
5,322
|
|
|
|
—
|
|
Total long-term debt (including current portion)
|
|
|
34,618
|
|
|
|
29,824
|
|
Less: Current portion
|
|
|
(1,139
|
)
|
|
|
(1,113
|
)
|
Total long-term debt, net
|
|
$
|
33,479
|
|
|
$
|
28,711
|
|
As of June 30, 2017, our indebtedness consisted of (i) a term note under the 2021 Consolidated Loan due to Kirkpatrick Bank (the “2021 Consolidated Loan”), (ii) an 84-month term loan from Kirkpatrick Bank (the “2023 Term Loan”), which we obtained by converting the $5.0 million outstanding principal balance of a construction loan that was used to partially finance the construction of our third headquarters building (the “2015 Construction Loan”), and (iii) a construction loan from Kirkpatrick Bank, which is available to finance the ongoing construction of a fourth headquarters building and a new parking garage (the “2016 Construction Loan”).
The 2021 Consolidated Loan matures on May 30, 2021. Under the 2021 Consolidated Loan, interest is payable monthly and accrues at a fixed rate of 4.75% per annum. The 2021 Consolidated Loan is secured by a mortgage covering our headquarters and certain personal property relating to our headquarters. The 2021 Consolidated Loan includes certain financial covenants, including maintaining a fixed charge coverage ratio of EBITDA to fixed charges (defined as current maturities of long-term debt, interest expense, rent expense and distributions) of greater than 1.2 to 1.0, which is measured on a quarterly basis. We were in compliance with all of these covenants as of June 30, 2017.
We entered into the 2015 Construction Loan with Kirkpatrick Bank on May 13, 2015 and converted the outstanding principal balance into the 2023 Term Loan on August 1, 2016. The 2015 Construction Loan allowed us to borrow a maximum aggregate
9
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
principal amount equal to the lesser of (i) $11.0 million or (ii) 80% of the appraised value of the constructed property. The 20
23 Term Loan matures on August 31, 2023 and is secured by a mortgage covering our headquarters and certain personal property relating to our headquarters. Interest on the 2023 Term Loan is payable monthly and accrues at a fixed rate of 3.4% per annum. Th
e 2023 Term Loan includes the same covenants as those disclosed above with respect to the 2021 Consolidated Loan. We were in compliance with all of these covenants as of June 30, 2017.
We entered into the 2016 Construction Loan with Kirkpatrick Bank on August 2, 2016. As of June 30, 2017, there was $5.3 million outstanding under the 2016 Construction Loan. The 2016 Construction Loan allows us to borrow a maximum aggregate principal amount equal to the lesser of (i) $28.6 million or (ii) 80% of the appraised value of the constructed properties. The 2016 Construction Loan matures on the earlier of the completion of construction or February 2, 2019, with interest accruing at the greater of (i) the prime rate, plus 50 basis points or (ii) 4.0%. At maturity, the outstanding principal balance of the 2016 Construction Loan, if any, will be automatically converted into an 84-month term loan that will accrue fixed interest at the prevailing 7/20 London Interbank Offered Rate swap interest rate in effect as of the commencement date, plus 225 basis points.
As of June 30, 2017 and December 31, 2016, the carrying value of our total long-term debt, including current portion, was $34.6 million and $29.8 million, respectively, which approximated its fair value as of both dates. The fair value of our long-term debt is estimated based on the borrowing rates currently available to us for bank loans with similar terms and maturities.
6.
|
EMPLOYEE SAVINGS PLAN AND EMPLOYEE STOCK PURCHASE PLAN
|
Our employees that are over the age of 21 and have completed ninety (90) days of service are eligible to participate in our 401(k) plan. We have made a Qualified Automatic Contribution Arrangement (“QACA”) election, whereby we make a matching contribution for our employees equal to 100% of the first 1% of salary deferrals and 50% of salary deferrals between 2% and 6%, up to a maximum matching contribution of 3.5% of an employee’s salary each plan year. We are allowed to make additional discretionary matching contributions and discretionary profit sharing contributions. Employees are 100% vested in amounts attributable to salary deferrals and rollover contributions. The QACA matching contributions as well as the discretionary matching and profit sharing contributions vest 100% after two years of employment from the date of hire. Matching contributions amounted to $0.9 million and $2.1 million for the three and six months ended June 30, 2017, respectively. Matching contributions amounted to $0.6 million and $1.6 million for the three and six months ended June 30, 2016, respectively.
The ESPP has overlapping offering periods, with each offering period lasting approximately 24 months. At the beginning of each offering period, eligible employees may elect to contribute, through payroll deductions, up to 10% of their compensation, subject to an annual per employee maximum. Eligible employees purchase shares of the Company’s common stock at a price equal to 85% of the fair market value of the shares on the exercise date. The maximum number of shares that may be purchased by a participant during each offering period is 2,000 shares, subject to IRS limits. The shares reserved for purposes of the ESPP are shares we purchase in the open market. The maximum aggregate number of shares of the Company’s common stock that may be purchased by all participants under the ESPP is 2,000,000 shares. Eligible employees purchased 42,937 and 72,665 shares of the Company’s common stock under the ESPP during the six months ended June 30, 2017 and 2016, respectively. Compensation expense related to the ESPP is recognized on a straight-line basis over the requisite service period. Our compensation expense related to the ESPP was $0.2 million and $0.3 million for the three and six months ended June 30, 2017, respectively. Our compensation expense related to the ESPP was $0.2 million and $0.3 million for the three and six months ended June 30, 2016.
7.
|
FAIR VALUE OF FINANCIAL INSTRUMENTS
|
Our financial instruments consist primarily of cash and cash equivalents, accounts receivable, accounts payable, funds held for clients, client funds obligation and long-term debt. The carrying amount of cash and cash equivalents, accounts receivable, accounts payable, funds held for clients and client funds obligation approximates fair value because of the short-term nature of the instruments. See Note 5 for information on the fair value of debt.
We did not have any financial instruments that were measured on a recurring basis at either June 30, 2017 or December 31, 2016.
Basic earnings per share is based on the weighted average number of shares of common stock outstanding for the period. Diluted earnings per share is computed in a similar manner to basic earnings per share after assuming the issuance of shares of common stock for all potentially dilutive shares of restricted stock whether or not they are vested.
10
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
In accordance with ASC Topic 260 “Earnings Per Share”, the two-class method determines earnings for each class of common stock and participati
ng securities according to an earnings allocation formula that adjusts the income available to common stockholders for dividends or dividend equivalents and participation rights in undistributed earnings. Certain unvested share-based payment awards that c
ontain non-forfeitable rights to dividends or dividend equivalents are participating securities and, therefore, are included in computing earnings per share pursuant to the two-class method. The outstanding shares of restricted stock granted in 2015 are c
onsidered participating securities, while all other outstanding shares of restricted stock are not considered participating securities.
The following is a reconciliation of net income and the number of shares of common stock used in the computation of basic and diluted earnings per share:
|
|
Three Months Ended
|
|
|
Six Months Ended
|
|
|
|
June 30, 2017
|
|
|
June 30, 2016
|
|
|
June 30, 2017
|
|
|
June 30, 2016
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
14,221
|
|
|
$
|
10,421
|
|
|
$
|
39,835
|
|
|
$
|
29,009
|
|
Less: income allocable to participating securities
|
|
|
(49
|
)
|
|
|
(129
|
)
|
|
|
(138
|
)
|
|
|
(360
|
)
|
Income allocable to common shares
|
|
$
|
14,172
|
|
|
$
|
10,292
|
|
|
$
|
39,697
|
|
|
$
|
28,649
|
|
Add back: undistributed earnings allocable to participating securities
|
|
$
|
49
|
|
|
$
|
129
|
|
|
$
|
138
|
|
|
$
|
360
|
|
Less: undistributed earnings reallocated to participating securities
|
|
|
(48
|
)
|
|
|
(126
|
)
|
|
|
(136
|
)
|
|
|
(360
|
)
|
Numerator for diluted earnings per share
|
|
$
|
14,173
|
|
|
$
|
10,295
|
|
|
$
|
39,699
|
|
|
$
|
28,649
|
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding
|
|
|
50,315,455
|
|
|
|
50,315,455
|
|
|
|
50,315,455
|
|
|
|
50,315,455
|
|
Weighted average common shares repurchased
|
|
|
(1,277,102
|
)
|
|
|
(19,969
|
)
|
|
|
(1,200,109
|
)
|
|
|
(9,985
|
)
|
Adjustment for vested restricted stock
|
|
|
8,860,561
|
|
|
|
7,296,070
|
|
|
|
8,507,761
|
|
|
|
7,056,762
|
|
Shares for calculating basic earnings per share
|
|
|
57,898,914
|
|
|
|
57,591,556
|
|
|
|
57,623,107
|
|
|
|
57,362,232
|
|
Dilutive effect of unvested restricted stock
|
|
|
917,528
|
|
|
|
1,105,673
|
|
|
|
1,194,074
|
|
|
|
1,344,981
|
|
Shares for calculating diluted earnings per share
|
|
|
58,816,442
|
|
|
|
58,697,229
|
|
|
|
58,817,181
|
|
|
|
58,707,213
|
|
Earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.24
|
|
|
$
|
0.18
|
|
|
$
|
0.69
|
|
|
$
|
0.50
|
|
Diluted
|
|
$
|
0.24
|
|
|
$
|
0.18
|
|
|
$
|
0.67
|
|
|
$
|
0.49
|
|
9.
|
STOCKHOLDERS’ EQUITY AND STOCK-BASED COMPENSATION
|
See the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 for a detailed description of the Company’s stock-based compensation awards, including information related to vesting terms and service and performance conditions.
11
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
The following table summarizes restricted stock awards activity for the six months ended June 30, 2017:
|
Time-Based
|
|
|
Market-Based
|
|
|
Restricted Stock Awards
|
|
|
Restricted Stock Awards
|
|
|
Shares
|
|
|
Weighted Average Grant Date Fair Value
|
|
|
Shares
|
|
|
Weighted Average Grant Date Fair Value
|
|
Unvested shares of restricted stock
outstanding at December 31, 2016
|
|
1,429,514
|
|
|
$
|
18.38
|
|
|
|
738,425
|
|
|
$
|
28.68
|
|
Granted
|
|
309,526
|
|
|
$
|
60.00
|
|
|
|
314,021
|
|
|
$
|
48.62
|
|
Vested
|
|
(590,029
|
)
|
|
$
|
5.29
|
|
|
|
(477,325
|
)
|
|
$
|
27.93
|
|
Forfeited
|
|
(51,111
|
)
|
|
$
|
36.24
|
|
|
|
(16,166
|
)
|
|
$
|
33.47
|
|
Unvested shares of restricted stock
outstanding at June 30, 2017
|
|
1,097,900
|
|
|
$
|
36.32
|
|
|
|
558,955
|
|
|
$
|
40.39
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
On April 26, 2017, we issued an aggregate of 613,677 shares of restricted stock under the Paycom Software Inc. 2014 Long-Term Incentive Plan (the “LTIP”) to our executive officers and certain other employees. Certain shares of restricted stock are subject to market-based vesting conditions and certain shares of restricted stock are subject to time-based vesting conditions. Shares subject to market-based vesting conditions will vest 50% if the Company’s Total Enterprise Value (as defined in the applicable restricted stock award agreement) equals or exceeds $4.15 billion and 50% if the Company’s Total Enterprise Value equals or exceeds $4.45 billion. Shares subject to market-based vesting conditions will be forfeited if they do not vest within six years of the date of grant. Shares subject to time-based vesting conditions will vest over periods ranging from 2 to 5 years.
On May 1, 2017, we issued an aggregate of 9,870 shares of restricted stock under the LTIP to members of our board of directors. Such shares of restricted stock will cliff-vest on the seventh (7
th
) day following the first (1
st
) anniversary of the grant date, provided that the director is providing services to the Company through the applicable vesting date.
On May 13, 2017, the Company’s Total Enterprise Value reached $3.5 billion, triggering the vesting of 229,075 shares of restricted stock. The Company recognized $2.9 million of compensation cost in connection with the vesting of these shares. On June 20, 2017, the Company’s Total Enterprise Value reached $3.9 billion, triggering the vesting of 248,250 shares of restricted stock. The Company recognized $5.2 million of compensation cost in connection with the vesting of these shares. To satisfy tax withholding obligations with respect to the delivery of vested shares to certain employees, the Company withheld 91,274 shares that vested on May 13, 2017 and 103,907 shares that vested on June 20, 2017. The Company also withheld 29,948 of the 84,920 shares of restricted stock with time-based vesting conditions that vested on April 15, 2017. All shares withheld to satisfy tax withholding obligations are held as treasury stock.
For the three and six months ended June 30, 2017, our total compensation expense related to restricted stock was $13.8 million and $17.5 million, respectively. For the three and six months ended June 30, 2016, our total compensation expense related to restricted stock was $3.3 million and $4.6 million, respectively. There was $53.5 million of unrecognized compensation cost, net of estimated forfeitures, related to unvested shares of restricted stock outstanding as of June 30, 2017. The unrecognized compensation cost for the restricted shares is expected to be recognized over a weighted average period of 1.8 years as of June 30, 2017.
We capitalized stock-based compensation costs related to software developed for internal use of $1.0 million and $1.3 million for the three and six months ended June 30, 2017, respectively. We capitalized stock-based compensation costs related to software developed for internal use of $0.3 million and $0.4 million for the three and six months ended June 30, 2016, respectively.
10.
|
RELATED-PARTY TRANSACTIONS
|
Our Chief Sales Officer owned a .01% general partnership interest and a 10.49% limited partnership interest in 417 Oakbend, LP, a Texas limited partnership, until April 2016. For the three and six months ended June 30, 2016, we paid rent on our Dallas office space to 417 Oakbend, LP in the amount of $0.1 million and $0.2 million, respectively.
12
Paycom Software, Inc.
Notes to the Consolidated Financial Statements
(in thousands, except share and per share amounts)
(unaudited)
11.
|
COMMITMENTS AND CONTINGENCIES
|
Employment Agreements
We have employment agreements with certain of our executive officers. The agreements allow for annual compensation, participation in executive benefit plans, and performance-based cash bonuses.
Legal Proceedings
We are involved in various legal proceedings in the ordinary course of business. Although we cannot predict the outcome of these proceedings, legal matters are subject to inherent uncertainties and there exists the possibility that the ultimate resolution of these matters could have a material adverse effect on our business, financial condition, results of operations and cash flows.
Operating Leases and Deferred Rent
We lease office space under several noncancellable operating leases with contractual terms expiring from 2018 to 2024. Minimum rent expenses are recognized over the lease term. The lease term is defined as the fixed noncancellable term of the lease plus all periods, if any, for which failure to renew the lease imposes a penalty on us in an amount that a renewal appears, at the inception of the lease, to be reasonably assured. When a lease contains a predetermined fixed escalation of the minimum rent, we recognize the related rent expense on a straight-line basis and record the difference between the recognized rent expense and the amount payable under the lease as a liability. We had $1.1 million and $1.1 million, as of June 30, 2017 and December 31, 2016, respectively, recorded as a liability for deferred rent.
Rent expense under operating leases for the three and six months ended June 30, 2017 was $1.4 million and $2.9 million, respectively. Rent expense under operating leases for the three and six months ended June 30, 2016 was $1.4 million and $2.7 million, respectively.
The provision for income taxes is based on a current estimate of the annual effective income tax rate adjusted to reflect the impact of discrete items. Significant management judgment is required in estimating operating income in order to determine our effective income tax rate. We recognized an income tax benefit of $5.3 million for the three months ended June 30, 2017, as compared to a $5.5 million tax expense for the three months ended June 30, 2016. Income tax expense decreased to $7.6 million for the six months ended June 30, 2017 from $15.4 million for the six months ended June 30, 2016. Our effective income tax rate was 16.1% and 34.6% for the six months ended June 30, 2017 and 2016, respectively. The lower effective income tax rate for the six months ended June 30, 2017 and the income tax benefit for the three months ended June 30, 2017 are primarily a result of the recognition of excess tax benefits from share-based payment awards vesting in the second quarter. We recognized a discrete adjustment to income tax expense for the three and six months ended June 30, 2017 in the amount of $8.2 million related to excess tax benefits.
13