Quarterly Report (10-q)

Date : 05/08/2018 @ 11:31AM
Source : Edgar (US Regulatory)
Stock : Zix Corp. (ZIXI)
Quote : 4.83  0.0 (0.00%) @ 8:00PM

Quarterly Report (10-q)

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended  March 31, 2018

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number: 0-17995

 

ZIX CORPORATION

(Exact Name of Registrant as Specified in its Charter)

 

 

Texas

 

75-2216818

(State of Incorporation)

 

(I.R.S. Employer Identification Number)

 

2711 North Haskell Avenue

Suite 2200, LB 36

Dallas, Texas 75204-2960

(Address of Principal Executive Offices)

(214) 370-2000

(Registrant’s Telephone Number, Including Area Code)

 

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

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

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

 

Large accelerated filer

 

 

Accelerated filer

 

 

 

 

 

 

 

 

Non-accelerated filer

 

  (Do not check if a smaller reporting company)

 

Smaller reporting company

 

Emerging growth company

 

 

 

 

 

 

If an emerging growth company, indicated by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act            

 

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at May 4, 2018

Common Stock, par value $0.01 per share

 

53,736,408

 

 

 


 

INDEX

 

 

 

 

 

Page

Number

PART I — FINANCIAL INFORMATION

 

 

Item 1.

 

Financial Statements (Unaudited)

 

 

 

 

Condensed Consolidated Balance Sheets at March 31, 2018 (unaudited) and December 31, 2017

 

3

 

 

Condensed Consolidated Statements of Income (unaudited) for the three months ended March 31, 2018  and 2017

 

4

 

 

Condensed Consolidated Statement of Stockholders’ Equity (unaudited) for the three months ended March 31, 2018

 

5

 

 

Condensed Consolidated Statements of Cash Flows (unaudited) for the three months ended March 31, 2018 and 2017

 

6

 

 

Notes to Condensed Consolidated Financial Statements

 

7

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

17

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

 

23

Item 4.

 

Controls and Procedures

 

23

PART II — OTHER INFORMATION

 

 

Item 1.

 

Legal Proceedings

 

23

Item 1A.

 

Risk Factors

 

24

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

24

Item 3.

 

Defaults Upon Senior Securities

 

24

Item 4.

 

Mine Safety Disclosures

 

24

Item 5.

 

Other Information

 

24

Item 6.

 

Exhibits

 

25

 

2


 

ZIX CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS

 

(In thousands, except share and par value data)

 

March 31,

2018

 

 

December 31,

2017

 

 

 

(unaudited)

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

29,269

 

 

$

33,009

 

Receivables, net

 

 

1,114

 

 

 

1,389

 

Prepaid and other current assets

 

 

2,668

 

 

 

3,222

 

Total current assets

 

 

33,051

 

 

 

37,620

 

Property and equipment, net

 

 

3,843

 

 

 

4,048

 

Other assets and deferred costs

 

 

7,094

 

 

 

 

Intangible assets, net

 

 

6,442

 

 

 

5,524

 

Goodwill

 

 

7,568

 

 

 

8,469

 

Deferred tax assets

 

 

23,119

 

 

 

25,647

 

Total assets

 

$

81,117

 

 

$

81,308

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

758

 

 

$

1,053

 

Accrued expenses

 

 

4,378

 

 

 

6,101

 

Deferred revenue

 

 

26,473

 

 

 

28,362

 

Total current liabilities

 

 

31,609

 

 

 

35,516

 

Long-term liabilities:

 

 

 

 

 

 

 

 

Deferred revenue

 

 

1,402

 

 

 

1,087

 

Deferred rent

 

 

1,140

 

 

 

1,185

 

Total long-term liabilities

 

 

2,542

 

 

 

2,272

 

Total liabilities

 

 

34,151

 

 

 

37,788

 

Commitments and contingencies (see Note 7)

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Preferred stock, $1 par value, 10,000,000 shares authorized; none issued and

   outstanding

 

 

 

 

 

 

Common stock, $0.01 par value, 175,000,000 shares authorized; 81,259,654 issued

   and 54,251,627 outstanding in 2018 and 80,709,970 issued and 54,542,612 outstanding in 2017

 

 

778

 

 

 

778

 

Additional paid-in capital

 

 

382,084

 

 

 

381,457

 

Treasury stock, at cost; 27,008,027 common shares in 2018 and 26,167,358 common shares in 2017

 

 

(105,980

)

 

 

(102,343

)

Accumulated deficit

 

 

(229,916

)

 

 

(236,372

)

Total stockholders’ equity

 

 

46,966

 

 

 

43,520

 

Total liabilities and stockholders’ equity

 

$

81,117

 

 

$

81,308

 

 

See notes to condensed consolidated financial statements.

 

3


 

ZIX CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

 

 

Three Months Ended March 31,

 

(In thousands, except share and per share data)

 

2018

 

 

2017

 

Revenues

 

$

16,654

 

 

$

15,893

 

Cost of revenues

 

 

3,514

 

 

 

2,823

 

Gross margin

 

 

13,140

 

 

 

13,070

 

Operating expenses:

 

 

 

 

 

 

 

 

Research and development

 

 

2,977

 

 

 

2,423

 

Selling, general and administrative

 

 

7,554

 

 

 

7,985

 

Total operating expenses

 

 

10,531

 

 

 

10,408

 

Operating income

 

 

2,609

 

 

 

2,662

 

Other income, net

 

 

119

 

 

 

79

 

Income before income taxes

 

 

2,728

 

 

 

2,741

 

Income tax expense

 

 

(836

)

 

 

(966

)

Net income

 

$

1,892

 

 

$

1,775

 

Basic income per common share

 

$

0.04

 

 

$

0.03

 

Diluted income per common share

 

$

0.04

 

 

$

0.03

 

Basic weighted average common shares outstanding

 

 

52,875,428

 

 

 

52,959,185

 

Diluted weighted average common shares outstanding

 

 

53,481,104

 

 

 

53,666,649

 

 

See notes to condensed consolidated financial statements.

 

4


 

ZIX CORPORATION

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY

(Unaudited)

 

 

 

Stockholders’ Equity

 

 

 

Common Stock

 

 

Additional

Paid-In

 

 

Treasury

 

 

Accumulated

 

 

Total

Stockholders’

 

(In thousands, except shares)

 

Shares

 

 

Amount

 

 

Capital

 

 

Stock

 

 

Deficit

 

 

Equity

 

Balances, January 1, 2018, as reported

 

 

80,709,970

 

 

$

778

 

 

$

381,457

 

 

$

(102,343

)

 

$

(236,372

)

 

$

43,520

 

Cumulative effect adjustment from changes in accounting standards, net of taxes (see Note 2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

4,564

 

 

 

4,564

 

Balances, January 1, 2018, as adjusted

 

 

80,709,970

 

 

 

778

 

 

 

381,457

 

 

 

(102,343

)

 

 

(231,808

)

 

 

48,084

 

Net issuance of common stock upon

   vesting of restricted stock units

 

 

50,751

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net issuance of common stock upon vesting of

   performance stock units

 

 

32,665

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net issuance of restricted common stock

 

 

370,322

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net issuance of restricted performance

   common stock

 

 

95,946

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Employee stock-based

   compensation costs

 

 

 

 

 

 

 

 

627

 

 

 

(547

)

 

 

 

 

 

80

 

Treasury repurchase program

 

 

 

 

 

 

 

 

 

 

 

(3,090

)

 

 

 

 

 

(3,090

)

Net income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1,892

 

 

 

1,892

 

Balances, March 31, 2018

 

 

81,259,654

 

 

$

778

 

 

$

382,084

 

 

$

(105,980

)

 

$

(229,916

)

 

$

46,966

 

 

See notes to condensed consolidated financial statements.

 

5


 

ZIX CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

 

Three Months Ended March 31,

 

(In thousands)

 

2018

 

 

2017

 

Operating activities:

 

 

 

 

 

 

 

 

Net income

 

$

1,892

 

 

$

1,775

 

Non-cash items in net income:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

746

 

 

 

575

 

Employee stock-based compensation costs

 

 

627

 

 

 

590

 

Changes in deferred taxes

 

 

912

 

 

 

807

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Receivables

 

 

275

 

 

 

443

 

Prepaid and other current assets

 

 

554

 

 

 

244

 

Other assets and deferred costs

 

 

(914

)

 

 

 

Accounts payable

 

 

(295

)

 

 

12

 

Deferred revenue

 

 

(1,586

)

 

 

654

 

Earn-out payment

 

 

(195

)

 

 

 

Accrued and other liabilities

 

 

(968

)

 

 

(959

)

Net cash provided by operating activities

 

 

1,048

 

 

 

4,141

 

Investing activities:

 

 

 

 

 

 

 

 

Purchases of property and equipment

 

 

(546

)

 

 

(463

)

Acquisition of business, net of cash acquired

 

 

 

 

 

(6,550

)

Net cash used in investing activities

 

 

(546

)

 

 

(7,013

)

Financing activities:

 

 

 

 

 

 

 

 

Proceeds from exercise of stock options

 

 

 

 

 

300

 

Earn-out payment

 

 

(605

)

 

 

 

Purchase of treasury shares

 

 

(3,637

)

 

 

(453

)

Net cash used in financing activities

 

 

(4,242

)

 

 

(153

)

Decrease in cash and cash equivalents

 

 

(3,740

)

 

 

(3,025

)

Cash and cash equivalents, beginning of period

 

 

33,009

 

 

 

26,457

 

Cash and cash equivalents, end of period

 

$

29,269

 

 

$

23,432

 

 

See notes to condensed consolidated financial statements.

 

 

6


 

ZIX CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

1. Basis of Presentation

The accompanying condensed consolidated financial statements of Zix Corporation (“Zix” the “Company,” “we,” “our,” or “us”) should be read in conjunction with the audited consolidated financial statements included in the Company’s 2017 Annual Report on Form 10-K. These financial statements are unaudited, but have been prepared in the ordinary course of business for the purpose of providing information with respect to the covered interim periods.

Effective January 1, 2018, the Company adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (“ASC 606”) using the modified retrospective transition method. The cumulative effect of applying the standard was a $4.6 million increase to shareholder’s equity as of January 1, 2018. The Company’s condensed consolidated statement of income for the three month period ended March 31, 2018, and the Company’s condensed consolidated balance sheet at March 31, 2018, are presented under ASC 606, while the Company’s condensed consolidated statement of income for the three month period ended March 31, 2017, and the Company’s condensed consolidated balance sheet at December 31, 2017, are presented under ASC 605, Revenue Recognition. See note 2 for disclosure of the impact of the adoption of ASC 606 on the Company’s condensed consolidated statement of income for the three month period ended March 31, 2018 and the Company’s condensed consolidated balance sheet at March 31, 2018, and the effect of changes made to the Company’s consolidated balance sheet as of January 1, 2018.

Management of the Company believes that all adjustments necessary for a fair presentation for such periods have been included and are of a normal recurring nature. The results of operations for the three month period ended March 31, 2018, are not necessarily indicative of the results to be expected for any future periods or for the full fiscal year.

 

 

2. Recent Accounting Standards and Pronouncements

Revenue Recognition

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASC 606, which supersedes most prior revenue recognition guidance under U.S. Generally Accepted Accounting Principles (“GAAP”). The core principle of ASC 606 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASC 606 defines a five step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP.

The standard became effective for us beginning 2018. Our Company provides primarily email encryption and advanced threat protection security solutions as subscription services in which we recognize revenue as our services are rendered. We determined our revenue was not materially impacted by the new guidance. However, the guidance did require us to increase the amortization period of our sales commission expense. We applied the guidance to commission earned on all contracts that were not complete as of January 1, 2018. Prior period amounts have not been adjusted and continue to be reported in accordance with the previous guidance. Our Company elected to use a portfolio approach, applying 8 year, 4 year, and 18 month amortization periods to our new, add-on, and renewal sales commission expenses, respectively. Determination of the amortization period and the subsequent assessment for impairment of the deferred cost asset requires significant judgement.

We applied a modified retrospective approach to our implementation of ASC 606 in which we recognized a $4.6 million cumulative effect adjustment to our 2018 retained earnings opening balance related to our increased amortization period. This adjustment includes a $1.6 million impact to our deferred tax asset. The table below presents the cumulative effect of the changes made to our condensed consolidated balance sheet due to the adoption of ASC 606:

 

(In thousands)

 

January 1, 2018

 

 

 

Beginning Balance

 

 

Cumulative Effect Adjustment

 

 

Beginning Balance, as Adjusted

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

Prepaid and other current assets

 

 

3,222

 

 

 

(415

)

 

 

2,807

 

Other assets and deferred costs

 

 

 

 

 

6,595

 

 

 

6,595

 

Deferred tax assets

 

 

25,647

 

 

 

(1,616

)

 

 

24,031

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated deficit

 

 

(236,372

)

 

 

4,564

 

 

 

(231,808

)

 

 

 

 

 

 

 

 

 

 

 

 

 

7


 

 

Financial statement results as reported under the new revenue standard as compared to the previous standard for the three months ended and as of March 31, 2018, are as follows:

 

 

 

Three Months Ended March 31,

 

(In thousands, except per share data)

 

Under ASC 605

 

 

Under ASC 606

 

 

Variance

 

Revenues

 

$

16,654

 

 

$

16,654

 

 

$

 

Cost of revenues

 

 

3,514

 

 

 

3,514

 

 

 

 

Gross margin

 

 

13,140

 

 

 

13,140

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Research and development

 

 

2,977

 

 

 

2,977

 

 

 

 

Selling, general and administrative

 

 

8,092

 

 

 

7,554

 

 

 

(538

)

Total operating expenses

 

 

11,069

 

 

 

10,531

 

 

 

(538

)

Operating income

 

 

2,071

 

 

 

2,609

 

 

 

538

 

Other income, net

 

 

119

 

 

 

119

 

 

 

 

Income before income taxes

 

 

2,190

 

 

 

2,728

 

 

 

538

 

Income tax expense

 

 

(723

)

 

 

(836

)

 

 

(113

)

Net income

 

$

1,467

 

 

$

1,892

 

 

$

425

 

Basic income per common share

 

$

0.03

 

 

$

0.04

 

 

$

0.01

 

Diluted income per common share

 

$

0.03

 

 

$

0.04

 

 

$

0.01

 

 

(In thousands)

 

March 31, 2018

 

 

 

Under ASC 605

 

 

Under ASC 606

 

 

Variance

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

Prepaid and other current assets

 

 

3,043

 

 

 

2,668

 

 

 

(375

)

Other assets and deferred costs

 

 

 

 

 

7,094

 

 

 

7,094

 

Deferred tax assets

 

 

24,735

 

 

 

23,119

 

 

 

(1,616

)

Stockholders’ equity:

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated deficit

 

 

(234,905

)

 

 

(229,916

)

 

 

4,989

 

 

Cash Flow Statement

In August 2016, the FASB issued Accounting Standards Update No. 2016-15, Statement of Cash Flows (Topic 230), which amends ASC 230 to add or clarify guidance on the classification of certain cash receipts and payments in the statement of cash flows. The ASU was issued with the intent to reduce diversity in practice with respect to eight types of cash flows. The new guidance addressed debt prepayment or extinguishment of costs, settlement of zero-coupon bonds, contingent consideration made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate-owned life insurance policies and bank-owned life insurance policies, distributions received from equity method investees, beneficial interests in securitization transactions, and separately identifiable cash flows and application of the predominance principle.

The standard became effective for us beginning 2018. We applied the new guidance within our Condensed Consolidated Statements of Cash Flows classification to an $800 thousand earn-out payment associated with our Greenview Data acquisition. Because this consideration payment was not made soon after the consummation date, as required by the guidance, we classified $605 thousand of the payment as a financing activity. This reflects the portion of the payment recognized a contingent liability as of the acquisition date. The $195 thousand balance of the payment was in excess of the original contingent consideration liability and was classified as an operating activity. The standard had no other impact to our condensed consolidated financial statements.

Leases

In February 2016, the FASB issued Accounting Standards Update No. 2016-02, Leases (Topic 842), which introduces a lessee model that brings most leases on the balance sheet. The new ASU eliminates the requirement in U.S. GAAP that entities use bright-line tests in determining lease classifications and requires lessors to provide additional transparency into their exposure to the changes in value of their residual assets and how they manage that exposure.

8


 

The standard is effective for us beginning 2019. We expect the valuation of right to use assets and lease liabi lities to be the present value of our forecasted future lease commitments and are assessing the discount rate to be applied in these valuations. We are currently evaluating the potential impact of this new guidance on our consolidated financial statements.

 

 

3. Stock- Based Awards and Stock-Based Employee Compensation Expense

Our stock-based awards include (i) stock options, (ii) restricted stock awards, some of which are subject to time-based vesting (“Restricted Stock”) and some of which are subject to performance-based vesting (“Performance Stock”), and (iii) restricted stock units, some of which are subject to time-based vesting (“RSUs”) and some of which are subject to performance-based vesting (“Performance RSUs”). As of March 31, 2018 the Company had 1,014,314 stock options outstanding, 1,162,143 non-vested Restricted Stock awards; 211,182 non-vested Performance Stock awards; 52,168 non-vested RSUs; 12,500 non-vested Performance RSUs and 483,002 shares of common stock available for grant.

Stock Option Activity    

The following is a summary of all stock option transactions during the three months ended March 31, 2018:

 

 

 

Options

 

 

Weighted

Average

Exercise Price

 

 

Weighted Average

Remaining

Contractual Term

(Yrs)

 

Outstanding at December 31, 2017

 

 

1,021,314

 

 

$

3.11

 

 

 

 

 

Granted at market price

 

 

 

 

 

 

 

 

 

 

Cancelled or expired

 

 

(7,000

)

 

 

4.24

 

 

 

 

 

Exercised

 

 

 

 

 

 

 

 

 

 

Outstanding at March 31, 2018

 

 

1,014,314

 

 

$

3.10

 

 

 

5.19

 

Options exercisable at March 31, 2018

 

 

851,814

 

 

$

2.98

 

 

 

4.64

 

 

At March 31, 2018, 983,564 stock options outstanding and 821,064 stock options exercisable had an exercise price lower than the market price of the Company’s common stock on that date. The aggregate intrinsic value of these stock options were $1.2 million and $1.1 million, respectively.        

Restricted Stock Activity

The following is a summary of Restricted Stock activity during the three months ended March 31, 2018:

 

 

 

Restricted

Shares

 

 

Weighted

Average

Fair Value

 

Non-vested restricted stock at December 31, 2017

 

 

1,082,909

 

 

$

4.57

 

Granted at market price

 

 

476,990

 

 

 

4.04

 

Vested

 

 

(291,088

)

 

 

4.56

 

Cancelled

 

 

(106,668

)

 

 

4.80

 

Non-vested restricted stock at March 31, 2018

 

 

1,162,143

 

 

$

4.33

 

 

Restricted Stock Unit Activity

The following is a summary of all RSU activity during the three months ended March 31, 2018:

 

 

 

Restricted

Stock Units

 

 

Weighted

Average

Fair Value

 

Non-vested restricted stock units at December 31, 2017

 

 

86,419

 

 

$

4.36

 

Granted at market price

 

 

16,500

 

 

 

4.04

 

Vested

 

 

(50,751

)

 

 

4.18

 

Cancelled

 

 

 

 

 

 

Non-vested restricted stock units at March 31, 2018

 

 

52,168

 

 

$

4.42

 

 

9


 

Performance RSU Activity

The following is a summary of all Performance RSU activity during the three months ended March 31, 2018:

 

 

 

Performance

RSUs

 

 

Weighted

Average

Fair Value

 

Non-vested performance RSUs at December 31, 2017

 

 

39,664

 

 

$

3.98

 

Granted at market price

 

 

5,501

 

 

 

4.04

 

Vested

 

 

(32,665

)

 

 

3.91

 

Forfeited

 

 

 

 

 

 

Non-vested performance RSUs at March 31, 2018

 

 

12,500

 

 

$

4.20

 

 

Performance Stock Activity

The following is a summary of all Performance Stock activity during the three months ended March 31, 2018:

 

 

 

Performance

Stock

 

 

Weighted

Average

Fair Value

 

Non-vested performance stock at December 31, 2017

 

 

193,110

 

 

$

4.39

 

Granted at market price

 

 

112,612

 

 

 

4.04

 

Vested

 

 

(77,874

)

 

 

4.26

 

Forfeited

 

 

(16,666

)

 

 

4.41

 

Non-vested performance stock at March 31, 2018

 

 

211,182

 

 

$

4.25

 

 

The weighted average grant-date fair value of awards of Restricted Stock, RSUs, Performance RSUs and Performance Stock is based on the quoted market price of the Company’s common stock on the date of grant.

Stock-Based Compensation Expense

For the three month period ended March 31, 2018, the total stock-based employee compensation expense resulting from stock options, Restricted Stock, RSUs, Performance RSUs and Performance Stock was recorded to the following line items of the Company’s condensed consolidated statements of income:

 

(In thousands)

 

Three Months

Ended March 31,

2018

 

Cost of revenues

 

$

68,000

 

Research and development

 

 

90,000

 

Selling, general and administrative

 

 

469,000

 

Stock-based compensation expense

 

$

627,000

 

 

A deferred tax asset totaling $124 thousand and $172 thousand, resulting from stock-based compensation expense associated with awards relating to the Company’s U.S. operations, was recorded for the three month periods ended March 31, 2018 and 2017, respectively. As of March 31, 2018, there was $5.9 million of total unrecognized stock-based compensation expense related to non-vested stock-based compensation awards granted under the incentive plans. This expense is expected to be recognized over a weighted average period of 1.60 years.

For additional information regarding the Company’s Equity Awards and Stock-based Employee Compensation, see Note 3 to the consolidated financial statements contained in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017.

 

 

4. Supplemental Cash Flow Information

Supplemental cash flow information relating to taxes and non-cash activities:

 

 

 

Three Months Ended March 31,

 

(In thousands)

 

2018

 

 

2017

 

Cash income tax payments

 

$

38

 

 

$

40

 

10


 

 

 

5. Receivables, net

 

(In thousands)

 

March 31,

2018

 

 

December 31,

2017

 

Gross accounts receivables

 

$

10,521

 

 

$

9,307

 

Allowance for returns and doubtful accounts

 

 

(257

)

 

 

(270

)

Unpaid portion of deferred revenue

 

 

(9,150

)

 

 

(7,648

)

Note receivable

 

 

458

 

 

 

458

 

Allowance for note receivable

 

 

(458

)

 

 

(458

)

Receivables, net

 

$

1,114

 

 

$

1,389

 

 

The allowance for doubtful accounts includes all specific accounts receivable which we believe are likely not collectible based on known information. In addition, we record 2.5% of all accounts receivable greater than 90 days past due, net of those accounts specifically reserved, as a general allowance against accounts that could potentially become uncollectible.

The reduction for the unpaid portion of deferred revenue represents future customer service or maintenance obligations which have been billed to customers, but remain unpaid as of the respective balance sheet dates. Deferred revenue on our consolidated balance sheets represents future customer service or maintenance obligations which have been billed and collected as of the respective balance sheet dates.

The note receivable represents the remaining outstanding balance of an original note related to the sale of a product line in 2005 in the amount of $540 thousand. This was fully reserved at the time of the sale as the note’s collectability was not assured. The note receivable is fully reserved at March 31, 2018.

 

 

11


 

6. Revenue from Contracts with Customers

Accounting policies

Our Company provides message security solutions as subscription services in which we recognize revenue as our services are rendered. Our contracts are typically one to three year contracts billed annually. We exclude from the measurement of the transaction price all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected by our company from a customer  (e.g., sales, use, value added, and some excise taxes).  

Disaggregation of Revenue

In the three months ended March 31, 2018, we recorded revenue for our services in the following core industry verticals: 50% healthcare, 28% financial services, 7% government sector, and 15% as other.

We operate as a single operating segment. Revenue generated from our email protection services represented 100% of our revenues in the three months ended March 31, 2018 and 2017. Further, we sell our solutions as a bundle, applying significant judgement to allocate transaction prices of our services based on the standalone selling price of our component services.

Contract balances

Our contract assets include our accounts receivables, discussed in Footnote 5 above, and the deferred cost associated with commissions earned by our sales team on securing new, add-on, and renewal contract orders. Upon our adoption of ASU 606 we recorded a cumulative effect adjustment, establishing a $6.6 million noncurrent deferred contract asset in recognition of the lengthened amortization period required by the new guidance, The Company simultaneously released the previously existing current deferred commission asset balance of $415 thousand. During the three months ended March 31, 2018, we increased our noncurrent deferred contract asset $943 thousand resulting from commissions earned by our sales team during the quarter. We also amortized $444 thousand of deferred cost as a selling and marketing expense in the same period. Our deferred cost asset is assessed for impairment on a periodic basis. There were no impairment losses recognized on deferred contract cost assets for the three months ended March 31, 2018.

Our contract liabilities consist of deferred revenue representing future customer services which have been billed and collected. The $1.6 million decrease to our net deferred revenue is related to the timing of orders and payments.  

Performance obligations

As of March 31, 2018, the aggregate amount of the transaction prices allocated to remaining service performance obligations, which represents the transaction price of firm orders less inception to date revenue, is $70.8 million. We expect to recognize approximately $36.1 million of revenue related to this backlog during the remainder of 2018, $20.9 million in 2019, and $13.8 million in periods thereafter.

Approximately $15.1 million of our $16.7 million revenue recognized in the three months ended March 31, 2018, was included in our performance obligation balance at the beginning of the period.

 

 

7. Earnings Per Share and Potential Dilution

Basic earnings per share are computed using the weighted average number of common shares outstanding for the applicable period. The dilutive effect of potential common shares outstanding is included in diluted earnings per share. The computations for basic and diluted earnings per share for the three months ended March 31, 2018 and 2017, are as follows:

 

 

 

Three Months ended March 31,

 

 

 

2018

 

 

2017

 

Basic weighted average common shares

 

 

52,875,428

 

 

 

52,959,185

 

Effect of dilutive securities:

 

 

 

 

 

 

 

 

Employee and director stock options

 

 

263,757

 

 

 

379,225

 

Restricted stock

 

 

238,188

 

 

 

227,562

 

RSUs

 

 

27,184

 

 

 

60,026

 

Performance RSUs

 

 

19,194

 

 

 

15,284

 

Performance Stock

 

 

57,353

 

 

 

25,367

 

Dilutive weighted average common shares

 

 

53,481,104

 

 

 

53,666,649

 

12


 

 

During the three months ended March 31, 2018, weighted average shares related to 193,250 stock options, 451,022 shares of Restricted Stock, 24,334 RSUs, 3,666 Performance RSUs, and 74,145 shares of Performance Stock were excluded from the calculation of diluted earnings per share as anti-dilutive. During the three months ended March 31, 2017, weighted average shares related to 241,058 stock options, 255,712 shares of Restricted Stock, 18,974 RSUs, 6,006 Performance RSUs, and 58,547 shares of Performance Stock were excluded from the calculation of diluted earnings per share because these awards were anti-dilutive.

 

 

8. Commitments and contingencies  

A summary of our fixed contractual obligations and commitments at March 31, 2018, is as follows:

 

 

 

Payments Due by Period

 

(In thousands)

 

Total

 

 

1 Year

 

 

Years 2 & 3

 

 

Years 4 & 5

 

 

Beyond 5 Years

 

Operating leases

 

$

7,921

 

 

$

1,596

 

 

$

2,463

 

 

$

2,162

 

 

$

1,700

 

 

We have not entered into any material, non-cancelable purchase commitments at March 31, 2018.

Claims and Proceedings

We are from time to time involved in legal claims, litigation, and other legal proceedings. Although we may incur significant expenses in those matters, we expect no material adverse effect on our operations or financial results from current or concluded legal proceedings.

 

 

9. Fair Value Measurements

FASB guidance regarding fair value measurement establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets for identical assets or liabilities; Level 2, defined as inputs other than quoted prices for similar assets and liabilities in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs for which little or no market data exists, therefore requiring an entity to develop its own assumptions.

For certain of the Company’s financial instruments, including cash and cash equivalents, trade receivables, and accounts payable, the fair values approximate the carrying values due to the short-term maturities of these instruments. The carrying values of other current assets and accrued expenses are also not recorded at fair value, but approximate fair values primarily due to their short-term nature.

The Company recorded a contingent liability for the estimated fair value of earn-out consideration payments in our Greenview (as defined herein) acquisition. The Company determined the fair value of this earn-out liability based on the probability of attainment of certain sales milestones. Any changes to the variables and assumptions could significantly impact the estimated fair values recorded for the liability, resulting in significant changes to the Condensed Consolidated Statements of Operations. The fair value measurements are based on significant inputs not observable in the market and thus represent Level 3 measurements, which reflect the Company’s own assumptions concerning the achievement of the sales milestones in measuring the fair value of the acquisition-related contingent earn-out liability.

The following table represents a reconciliation of our acquisition-related contingent earn-out liability measured at fair value on a recurring basis, using Level 3 inputs for the three month period ended March 31, 2018:

 

(In thousands)

 

Fair Value

Measurements

Using Significant

Unobservable

Inputs (Level 3)

 

Balance at December 31, 2017

 

$

1,488

 

Payments during the period

 

 

(800

)

Adjustments to fair value during the period recorded in General and Administrative expenses

 

 

378

 

Balance at March 31, 2018

 

$

1,066

 

 

 

13


 

10. Goodwill

The following is a summary of the changes in the carrying amount of goodwill for the three month periods ended March 31, 2018 and 2017:

 

 

 

Three Months ended March 31,

 

(In thousands)

 

2018

 

 

2017

 

Opening balance

 

$

8,469

 

 

$

2,161

 

Additions

 

 

 

 

 

8,581

 

Acquisition adjustments

 

 

(901

)

 

 

 

Goodwill

 

$

7,568

 

 

$

10,742

 

 

Our acquisition adjustments to goodwill in the three month period ended March 31, 2018, reflect the appropriate reallocation of excess purchase price from goodwill to acquired assets and liabilities related to our Greenview and EMS purchases. Our 2017 acquisition of Greenview resulted in the increase to our goodwill in the three months ended March 31, 2017. We evaluate goodwill for impairment annually in the fourth quarter, or when there is a reason to believe that the value has been diminished or impaired. There were no impairments to goodwill during the periods presented above.

 

 

11. Common Stock Repurchase Program

On April 24, 2017, the Company’s board of directors approved a share repurchase program that enables the Company to purchase up to $10 million of its shares of common stock. The share repurchase program will expire May 31, 2018.  During the three month period ended March 31, 2018, the Company repurchased 706,994 shares of our common stock under this program at an aggregate cost of $3.1 million. The Company repurchased 250,000 at an aggregate cost of $1.3 million, and repurchased 500,000 shares at an aggregate cost of $2.5 million, during the three months ended June 30, 2017 and December 31, 2017, respectively, under the same program.

No shares were repurchased during the three months ended March 31, 2017.       

 

 

12. Income Taxes

The operating losses incurred by the Company’s U.S. operations in past years and the resulting net operating losses for U.S. Federal tax purposes are subject to a $30.8 million reserve. Any reduction to this $30.8 million valuation allowance is based on an assessment of future utilization following accounting guidance, which relies largely on historical earnings. Using this methodology, and updating the future taxable earnings estimates based on first quarter 2018 actual earnings, the Company believes the deferred tax asset allowance as of December 31, 2017, will remain unchanged at December 31, 2018. For this reason, the Company has recognized its first quarter 2018 federal deferred tax provision in full. If in prospective periods we conclude our future U.S. federal taxable estimate established at the end of the year will exceed the prior year estimate, the Company will offset its federal deferred tax provision by reducing its valuation allowance by an equal amount, thereby eliminating from its deferred tax provision federal taxes from the Company’s financial statements. The Company will continue to reevaluate the need for its valuation allowance each quarter, following the same assessment methodology described above. Adjusting our valuation allowance could have a significant impact on operating results for each period that it becomes more likely than not that an additional portion of our deferred tax assets will or will not be realized.

 

 

13. Acquisitions

Greenview Data, Inc.

On March 15, 2017, the Company acquired all of the outstanding capital stock of Greenview Data, Inc. (“Greenview”), a provider of antivirus, anti-spam, and archiving products, for a total purchase price of $7.7 million, including cash consideration of $6.7 million, subject to a customary post-closing adjustment for working capital. Our acquisition of Greenview addresses increasing buyer demand for email security bundles by adding these capabilities to our existing portfolio of encryption services. Of the cash consideration paid, $650 thousand was deposited into an escrow account for the satisfaction of certain indemnification claims of the Company, if any, during the two year period following the closing of the acquisition, after which the balance, if any, will be distributed to the selling shareholders. Because sales of Greenview products met certain sales milestones by December 31, 2017, the Company paid contractually required earn-out consideration in cash of $800 thousand in the three month period ended March 31, 2018. The Company may be required to pay a further $800 thousand of earn-out consideration in cash should sales of the Greenview products achieve a separate target by December 31, 2018. Contingent consideration is considered a Level 3 fair value measurement.

14


 

We accounted for the acquisition as the purchase of a business and have initially recorded the excess purchase price as goodwill. The goodwill from this transaction is not deductibl e for tax purposes. The results of operations and the provisional fair values of the acquired assets and liabilities assumed have been included in the accompanying condensed consolidated financial statements since our March 15, 2017, acquisition date. Reve nue from Greenview was $815 thousand for the three months ended March 31, 2018, and due to the continued integration of the combined businesses, it was impracticable to determine the earnings.

The following table summarizes the estimated fair value of acquired assets and liabilities:

 

(In thousands)

 

Estimated Fair

Value

 

Assets:

 

 

 

 

Current assets

 

$

334

 

Property and equipment

 

 

249

 

Trademark /names

 

 

170

 

Technology

 

 

1,990

 

Customer relationships

 

 

2,880

 

Goodwill

 

 

4,343

 

Total assets

 

 

9,966

 

 

 

 

 

 

Liabilities:

 

 

 

 

Deferred revenue

 

$

537

 

Other current liabilities

 

 

124

 

Deferred tax liability

 

 

1,609

 

Total liabilities

 

 

2,270

 

 

 

 

 

 

Net assets recorded

 

$

7,696

 

 

Entelligence Messaging Server

On September 13, 2017, the Company acquired Entelligence Messaging Server (“EMS”) technology, an email encryption solution, and the related business from Entrust Datacard Corporation for a cash purchase price of $1.7 million. Our acquisition of EMS strengthens our email encryption suite by offering enterprise-centric capabilities, such as advanced message tracking, PDF statement delivery, high availability on-premises architecture and standards-based end-to-end encryption.

We accounted for the acquisition as the purchase of a business and have initially recorded the excess purchase price as goodwill. The goodwill from this transaction is deductible for tax purposes. The results of operations and the provisional fair values of the acquired assets and liabilities assumed have been included in the accompanying condensed consolidated financial statements since our September 13, 2017, acquisition date. Revenue from EMS was not material for the three months ended March 31, 2018, and due to the continued integration of the combined businesses, it was impracticable to determine the earnings.

The following table summarizes the provisional fair value of acquired assets and liabilities:

 

(In thousands)

 

Provisional Fair

Value

 

Assets:

 

 

 

 

Trademark/Names

 

$

140

 

Internally Developed Software

 

 

550

 

Customer Relationships

 

 

230

 

Goodwill

 

$

1,063

 

Total assets

 

 

1,983

 

 

 

 

 

 

Liabilities:

 

 

 

 

Deferred revenue

 

$

333

 

Total liabilities

 

 

333

 

 

 

 

 

 

Net assets recorded

 

$

1,650

 

15


 

 

Pro Forma Financial Information (Unaudited)

The following unaudited pro forma financial information presents the combined results of operations for the three month periods ending March 31, 2017, as though the Greenview and EMS acquisitions that occurred during the reporting period had occurred as of the beginning of the period presented, with adjustments to give effect to pro forma events that are directly attributable to the acquisition, such as amortization expense of intangible assets and acquisition-related transaction costs. These unaudited pro forma results are presented for information purposes only and are not necessarily indicative of what the actual results of operations of the combined company would have been if the acquisition had occurred at the beginning of the period presented, nor are they indicative of future results of operations:

 

 

 

Three Months Ended March 31,

 

(In thousands, except per share data)

 

2017

 

Revenues

 

$

16,766

 

Net income

 

 

1,582

 

Basic income per common share

 

$

0.03