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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 September 30, 2020

or
☐ 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 001-38434

Dropbox, Inc.
(Exact name of Registrant as specified in its charter)
Delaware 26-0138832
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification Number)
Dropbox, Inc.
1800 Owens Street
San Francisco, California 94158
(415) 857-6800
(Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)

Securities registered pursuant to Section 12(b) of the Act:
Title of each class Trading Symbol(s) Name of exchange on which registered
Class A Common Stock, par value $0.00001 per share DBX The NASDAQ Stock Market LLC
(Nasdaq Global Select Market)

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 every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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 ☐
    Smaller reporting company
☐
Emerging growth company
☐

If an emerging growth company, indicate 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 7(a)(2)(B) of the Securities Act.    ☐

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

As of November 2, 2020, there were 315,878,882 shares of the registrants’ Class A common stock outstanding (which excludes 10,333,333 shares of Class A common stock subject to restricted stock awards that were granted pursuant to the Co-Founder Grants, and vest upon the satisfaction of a service condition and achievement of certain stock price goals and 4,265,194 shares of Class A common stock subject to restricted stock awards that were granted to other Dropbox executives and vest upon the satisfaction of a service condition), 97,738,356 shares of the registrant’s Class B common stock outstanding, and no shares of the registrant’s Class C common stock outstanding.



FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which statements involve substantial risk and uncertainties. Forward-looking statements generally relate to future events or our future financial or operating performance. In some cases, you can identify forward-looking statements because they contain words such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential,” or “continue” or the negative of these words or other similar terms or expressions that concern our expectations, strategy, plans, or intentions. Forward-looking statements contained in this Quarterly Report on Form 10-Q include, but are not limited to, statements about:

•our ability to retain and upgrade paying users;

•our ability to attract new users or convert registered users to paying users;

•our future financial performance, including trends in revenue, costs of revenue, gross profit or gross margin, operating expenses, paying users, and free cash flow;

•our expectations regarding the challenges and anticipated benefits to our business from our shift to a Virtual First work model as well as the impact to our financial results and business operations as a result of this shift;

•our expectations regarding the potential impacts of the outbreak of the COVID-19 pandemic and related public health measures, as well as the potential for a more permanent global shift to remote work, on our business, the business of our customers, suppliers and partners, and the economy;

•our ability to compete successfully in competitive markets;

•the demand for our platform or for content collaboration solutions in general;

•possible harm caused by significant disruption of service or loss or unauthorized access to users’ content;

•our ability to effectively integrate our platform with others;

•our ability to respond to rapid technological changes, including our ability to take advantage of potential market opportunities arising from what we believe to be a more permanent shift towards remote work;

•our ability to achieve or maintain profitability;

•our expectations and management of future growth;

•our ability to grow due to our lack of a significant outbound sales force;

•our ability to attract large organizations as users;

•our ability to offer high-quality customer support;

•our ability to manage our international expansion;

•our ability to attract, retain, integrate, and manage key and other highly qualified personnel, including as we transition to a Virtual First model with an increasingly distributed workforce;

•our capital allocation plans, including expected allocations of cash and timing for our share repurchases and other investments;

•our ability to protect our brand;

•our ability to prevent serious errors or defects in our platform;

2
•our ability to maintain, protect, and enhance our intellectual property; and

•our ability to successfully identify, acquire, and integrate companies and assets.


We caution you that the foregoing list may not contain all of the forward-looking statements made in this Quarterly Report on Form 10-Q.
You should not rely upon forward-looking statements as predictions of future events. We have based the forward-looking statements contained in this Quarterly Report on Form 10-Q primarily on our current expectations and projections about future events and trends that we believe may affect our business, financial condition, results of operations, and prospects. The outcome of the events described in these forward-looking statements is subject to risks, uncertainties, and other factors described in the section titled “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q. Moreover, we operate in a very competitive and rapidly changing environment. New risks and uncertainties emerge from time to time, and it is not possible for us to predict all risks and uncertainties that could have an impact on the forward-looking statements contained in this Quarterly Report on Form 10-Q. We cannot assure you that the results, events, and circumstances reflected in the forward-looking statements will be achieved or occur, and actual results, events, or circumstances could differ materially from those described in the forward-looking statements.
The forward-looking statements made in this Quarterly Report on Form 10-Q relate only to events as of the date on which the statements are made. We undertake no obligation to update any forward-looking statements made in this Quarterly Report on Form 10-Q to reflect events or circumstances after the date of this Quarterly Report on Form 10-Q or to reflect new information or the occurrence of unanticipated events, except as required by law. We may not actually achieve the plans, intentions, or expectations disclosed in our forward-looking statements, and you should not place undue reliance on our forward-looking statements. Our forward-looking statements do not reflect the potential impact of any future acquisitions, mergers, dispositions, joint ventures, or investments we may make.
3
TABLE OF CONTENTS
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Item 2.
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Item 4.
Item 1.
Item 1A.
Item 2.
Item 6.
4
PART I. FINANCIAL INFORMATION


ITEM 1. FINANCIAL STATEMENTS

DROPBOX, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In millions)
(Unaudited)
As of
September 30, 2020 December 31, 2019
Assets
Current assets:
Cash and cash equivalents $ 452.7  $ 551.3 
Short-term investments 773.8  607.7 
Trade and other receivables, net 49.6  36.7 
Prepaid expenses and other current assets 54.1  47.5 
Total current assets 1,330.2  1,243.2 
Property and equipment, net 488.4  445.3 
Operating lease right-of-use asset 705.9  657.9 
Intangible assets, net 37.0  47.4 
Goodwill 234.3  234.5 
Other assets 66.5  70.9 
Total assets $ 2,862.3  $ 2,699.2 
Liabilities and stockholders’ equity
Current liabilities:
Accounts payable $ 29.5  $ 40.7 
Accrued and other current liabilities 129.4  161.9 
Accrued compensation and benefits 93.3  101.4 
Operating lease liability 89.7  79.9 
Finance lease obligation 86.4  76.7 
Deferred revenue 598.6  554.2 
Total current liabilities 1,026.9  1,014.8 
Operating lease liability, non-current 777.3  711.9 
Finance lease obligation, non-current 169.4  138.2 
Other non-current liabilities 37.4  25.9 
Total liabilities 2,011.0  1,890.8 
Commitments and contingencies (Note 10)
Stockholders’ equity:
Additional paid-in capital 2,608.8  2,531.3 
Accumulated deficit (1,764.3) (1,726.2)
Accumulated other comprehensive income 6.8  3.3 
Total stockholders’ equity 851.3  808.4 
Total liabilities and stockholders’ equity $ 2,862.3  $ 2,699.2 

See accompanying Notes to Condensed Consolidated Financial Statements.
5
DROPBOX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In millions, except per share data)
(Unaudited)
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
Revenue $ 487.4  $ 428.2  $ 1,409.8  $ 1,215.3 
Cost of revenue(1)
 103.2  104.8  308.8  306.1 
Gross profit 384.2  323.4  1,101.0  909.2 
Operating expenses(1)
Research and development 183.3  172.8  550.9  485.2 
Sales and marketing 105.8  108.2  312.9  317.0 
General and administrative 65.1  61.0  167.6  180.9 
Total operating expenses 354.2  342.0  1,031.4  983.1 
Income (loss) from operations 30.0  (18.6) 69.6  (73.9)
Interest income, net 0.1  3.0  2.6  9.9 
Other income, net 3.5  0.2  23.1  14.4 
Income (loss) before income taxes 33.6  (15.4) 95.3  (49.6)
Benefit from (provision for) income taxes (0.9) (1.6) (5.8) 3.5 
Net income (loss) $ 32.7  $ (17.0) $ 89.5  $ (46.1)
Net income (loss) per share-basic and diluted:
Basic net income (loss) per share
 $ 0.08  $ (0.04) $ 0.22  $ (0.11)
Diluted net income (loss) per share
 $ 0.08  $ (0.04) $ 0.21  $ (0.11)
Weighted-average shares used in computing net income (loss) per share attributable to common stockholders, basic
 414.2  414.4  415.2  412.4 
Weighted-average shares used in computing net income (loss) per share attributable to common stockholders, diluted
 419.9  414.4  419.9  412.4 
(1) Includes stock-based compensation as follows (in millions):
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
Cost of revenue $ 4.6  $ 4.1  $ 12.6  $ 11.8 
Research and development 46.9  38.9  131.1  107.1 
Sales and marketing 8.9  7.7  25.1  23.6 
General and administrative(2)
 15.3  17.5  23.3  49.4 

(2) On March 19, 2020, one of the Company's co-founders resigned as a member of the board and as an officer of the Company, resulting in the reversal of $23.8 million in stock-based compensation expense. Of the total amount reversed, $21.5 million related to expense recognized prior to December 31, 2019. See Note 12 "Stockholders' Equity" for further information.

See accompanying Notes to Condensed Consolidated Financial Statements.
6
DROPBOX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(In millions)
(Unaudited)
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
Net income (loss) $ 32.7  $ (17.0) $ 89.5  $ (46.1)
Other comprehensive income (loss), net of tax:
Change in foreign currency translation adjustments —  —  —  1.6 
Change in net unrealized gains (losses) on short-term investments (0.6) 0.2  3.5  1.7 
Total other comprehensive income (loss), net of tax $ (0.6) $ 0.2  $ 3.5  $ 3.3 
Comprehensive income (loss) $ 32.1  $ (16.8) $ 93.0  $ (42.8)

See accompanying Notes to Condensed Consolidated Financial Statements.
7
DROPBOX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In millions)
(Unaudited)


Three Months Ended September 30, 2020 Three Months Ended September 30, 2019
  Class A and Class B Common Stock Additional paid in capital Accumulated
deficit		 Accumulated other comprehensive income (loss) Total stockholders' equity Class A and Class B common stock Additional
paid-in
capital		 Accumulated
deficit		 Accumulated
other
comprehensive
income (loss)		 Total
stockholders’
equity
  Shares Amount Shares Amount
Balances at beginning of period 413.8  $ —  $ 2,560.4  $ (1,764.4) $ 7.4  $ 803.4  413.4  $ —  $ 2,428.4  $ (1,700.1) $ 1.9  $ 730.2 
Release of restricted stock units and awards 3.3  —  —  —  —  —  3.0  —  —  —  —  — 
Shares repurchased for tax withholdings on release of restricted stock units and awards (1.1) —  (10.6) (11.9) —  (22.5) (1.1) —  (18.0) (1.0) —  (19.0)
Repurchases of common stock (1.8) —  (16.8) (20.7) —  (37.5) —  —  —  —  —  — 
Exercise of stock options and awards 0.1  —  0.1  —  —  0.1  —  —  —  —  —  — 
Stock-based compensation —  —  75.7  —  —  75.7  —  —  68.2  —  —  68.2 
Other comprehensive income (loss) —  —  —  —  (0.6) (0.6) —  —  —  —  0.2  0.2 
Net income (loss) —  —  —  32.7  —  32.7  —  —  —  (17.0) —  (17.0)
Balances at end of period 414.3  $ —  $ 2,608.8  $ (1,764.3) $ 6.8  $ 851.3  415.3  $ —  $ 2,478.6  $ (1,718.1) $ 2.1  $ 762.6 





8
Nine Months Ended September 30, 2020 Nine Months Ended September 30, 2019
  Class A and Class B Common Stock Additional paid in capital Accumulated
deficit		 Accumulated other comprehensive income (loss) Total stockholders' equity Class A and Class B common stock Additional
paid-in
capital		 Accumulated
deficit		 Accumulated
other
comprehensive
income (loss)		 Total
stockholders’
equity
  Shares Amount Shares Amount
Balances at beginning of period 417.0  $ —  $ 2,531.3  $ (1,726.2) $ 3.3  $ 808.4  409.6  $ —  $ 2,337.5  $ (1,659.5) $ (1.2) $ 676.8 
Cumulative-effect adjustment from adoption of ASC 842 —  —  —  —  —  —  —  —  —  1.0  —  1.0 
Release of restricted stock units and awards 9.4  —  —  —  —  —  8.5  —  —  —  —  — 
Shares repurchased for tax withholdings on release of restricted stock units and awards (3.3) —  (31.0) (35.5) —  (66.5) (3.1) —  (53.6) (13.5) —  (67.1)
Repurchases of common stock (9.2) —  (85.2) (92.1) —  (177.3) —  —  —  —  —  — 
Exercise of stock options and awards 0.4  —  1.6  —  —  1.6  0.3  —  2.0  —  —  2.0 
Assumed stock options in connection with acquisition —  —  —  —  —  —  —  —  0.8  —  —  0.8 
Stock-based compensation —  —  192.1  —  —  192.1  —  —  191.9  —  —  191.9 
Other comprehensive income (loss) —  —  —  —  3.5  3.5  —  —  —  —  3.3  3.3 
Net income (loss) —  —  —  89.5  —  89.5  —  —  —  (46.1) —  (46.1)
Balances at end of period 414.3  $ —  $ 2,608.8  $ (1,764.3) $ 6.8  $ 851.3  415.3  $ —  $ 2,478.6  $ (1,718.1) $ 2.1  $ 762.6 



See accompanying Notes to Condensed Consolidated Financial Statements.

9
DROPBOX, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In millions)
(Unaudited)
Nine Months Ended September 30,
2020 2019
Cash flow from operating activities
Net income (loss) $ 89.5  $ (46.1)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization 120.5  132.5 
Stock-based compensation 192.1  191.9 
Net gains on equity investments (17.5) (5.7)
Amortization of deferred commissions 17.5  12.7 
Other (0.9) (8.3)
Changes in operating assets and liabilities:
Trade and other receivables, net (12.9) (9.5)
Prepaid expenses and other current assets (24.0) (26.1)
Other assets 55.4  41.8 
Accounts payable (8.9) (2.4)
Accrued and other current liabilities (22.7) 9.5 
Accrued compensation and benefits (8.1) (3.1)
Deferred revenue 43.4  54.7 
Other non-current liabilities (42.6) (45.6)
Tenant improvement allowance reimbursement 19.3  45.4 
Net cash provided by operating activities 400.1  341.7 
Cash flow from investing activities
Capital expenditures (67.8) (110.6)
Business combinations, net of cash acquired —  (171.6)
Purchases of short-term investments (541.1) (582.7)
Proceeds from sales of short-term investments 183.0  341.0 
Proceeds from maturities of short-term investments 221.9  236.7 
Other 12.4  8.4 
Net cash used in investing activities (191.6) (278.8)
Cash flow from financing activities
Shares repurchased for tax withholdings on release of restricted stock units and awards (66.5) (67.1)
Proceeds from issuance of common stock, net of repurchases 1.6  2.0 
Principal payments on finance lease obligations (64.9) (71.8)
Common stock repurchases (177.3) — 
Other (0.8) (0.4)
Net cash used in financing activities (307.9) (137.3)
Effect of exchange rate changes on cash and cash equivalents 0.8  (1.7)
Change in cash and cash equivalents (98.6) (76.1)
Cash and cash equivalents - beginning of period 551.3  519.3 
Cash and cash equivalents - end of period $ 452.7  $ 443.2 
Supplemental cash flow data:
Property and equipment acquired under finance leases
 $ 105.9  $ 107.0 

See accompanying Notes to Condensed Consolidated Financial Statements.
10
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)


Note 1. Description of the Business and Summary of Significant Accounting Policies

Business
Dropbox, Inc. (the “Company” or “Dropbox”) is the world's first smart workspace. Dropbox was incorporated in May 2007 as Evenflow, Inc., a Delaware corporation, and changed its name to Dropbox, Inc. in October 2009. The Company is headquartered in San Francisco, California.

Basis of presentation and consolidation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the United States of America generally accepted accounting principles (“GAAP”) and applicable rules and regulations of the Securities and Exchange Commission ("SEC") regarding interim financial reporting. The accompanying unaudited condensed consolidated financial statements include the accounts of Dropbox and its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

The condensed consolidated balance sheet as of December 31, 2019 included herein was derived from the audited financial statements as of that date. The unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the balance sheets, statements of operations, statements of comprehensive income (loss), statements of stockholders' equity and the statements of cash flows for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year ended December 31, 2020 or any future period.

The unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and the related notes thereto as of and for the year ended December 31, 2019, included in the Company's Annual Report on Form 10-K on file with the SEC ("Annual Report").

Use of estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported and disclosed in the Company’s condensed consolidated financial statements and accompanying notes. These estimates are based on information available as of the date of the condensed consolidated financial statements. Management evaluates these estimates and assumptions on a regular basis. Actual results may differ materially from these estimates.

The Company’s most significant estimates and judgments involves the valuation of acquired intangible assets and goodwill from business combinations.

Financial information about segments and geographic areas
The Company manages its operations and allocates resources as a single operating segment. Further, the Company manages, monitors, and reports its financials as a single reporting segment. The Company’s chief operating decision-maker is its Chief Executive Officer, who reviews financial information presented on a consolidated basis for purposes of making operating decisions, assessing financial performance, and allocating resources. See Note 15, "Geographic Areas" for information regarding the Company’s long-lived assets and revenue by geography.

Foreign currency transactions
The assets and liabilities of the Company’s foreign subsidiaries are translated from their respective functional currencies into U.S. dollars at the exchange rates in effect at the balance sheet date. Revenue and expense amounts are translated at the average exchange rate for the period. Foreign currency translation gains and losses are recorded in other comprehensive income (loss).




11
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Gains and losses realized from foreign currency transactions (those transactions denominated in currencies other than the foreign subsidiaries’ functional currency) are included in other income, net. Monetary assets and liabilities are remeasured using foreign currency exchange rates at the end of the period, and non-monetary assets are remeasured based on historical exchange rates. The Company recorded net foreign currency transaction gains of $2.1 million during the three and nine months ended September 30, 2020, respectively, and net foreign currency transaction losses of $0.6 million and $1.1 million during the three and nine months ended September 30, 2019, respectively.

Revenue recognition
The Company derives its revenue from subscription fees from customers for access to its platform. The Company’s policy is to exclude sales and other indirect taxes when measuring the transaction price of its subscription agreements. The Company accounts for revenue contracts with customers through the following steps:
•Identification of the contract, or contracts, with a customer
•Identification of the performance obligations in the contract
•Determination of the transaction price
•Allocation of the transaction price to the performance obligations in the contract
•Recognition of revenue when, or as, the Company satisfies a performance obligation

The Company’s subscription agreements generally have monthly or annual contractual terms and a small percentage have multi-year contractual terms. Revenue is recognized ratably over the related contractual term beginning on the date that the platform is made available to a customer. Access to the platform represents a series of distinct services as the Company continually provides access to, and fulfills its obligation to the end customer over the subscription term. The series of distinct services represents a single performance obligation that is satisfied over time. The Company recognizes revenue ratably because the customer receives and consumes the benefits of the platform throughout the contract period. The Company’s contracts are generally non-cancelable.

The Company bills in advance for monthly contracts and typically bills annually in advance for contracts with terms of one year or longer. The Company also recognizes an immaterial amount of contract assets, or unbilled receivables, primarily relating to consideration for services completed but not billed at the reporting date. Unbilled receivables are classified as receivables when the Company has the right to invoice the customer.

The Company records contract liabilities when cash payments are received or due in advance of performance to deferred revenue. Deferred revenue primarily relates to the advance consideration received from the customer.

The price of subscriptions is generally fixed at contract inception and therefore, the Company’s contracts do not contain a significant amount of variable consideration. As a result, the amount of revenue recognized in the periods presented from performance obligations satisfied (or partially satisfied) in previous periods was not material.

The Company recognized $277.0 million and $522.7 million of revenue during the three and nine months ended September 30, 2020, respectively, and recognized $241.3 million and $452.9 million of revenue during the three and nine months ended September 30, 2019, respectively, that was included in the deferred revenue balances at the beginning of their respective periods.

As of September 30, 2020, future estimated revenue related to performance obligations that were unsatisfied or partially unsatisfied was $658.5 million. The substantial majority of the unsatisfied performance obligations will be satisfied over the next twelve months.

Stock-based compensation
The Company has granted RSUs to its employees and members of the Board of Directors under the 2008 Equity Incentive Plan (“2008 Plan”), the 2017 Equity Incentive Plan (“2017 Plan”), and the 2018 Equity Incentive Plan ("2018 Plan" and together with the 2008 Plan and 2017 Plan, the "Dropbox Equity Incentive Plans"). The Company has granted the following types of RSUs under the Dropbox Equity Incentive Plans:

12
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

•One-tier RSUs, which have a service-based vesting condition over a four-year period. These awards typically have a cliff vesting period of one year and continue to vest quarterly thereafter. The Company began granting one-tier RSUs under its 2008 Plan in August 2015, and it continues to grant one-tier RSUs under its 2018 Plan. The Company recognizes compensation expense associated with one-tier RSUs ratably on a straight-line basis over the requisite service period and accounts for forfeitures in the period in which they occur.

•Two-tier RSUs, which had both a service-based vesting condition and a Performance Vesting Condition. The Performance Vesting Condition was satisfied on the effectiveness of the registration statement related to the Company's IPO. Prior to August 2015, the Company granted two-tier RSUs under the 2008 Plan. The last grant date for two-tier RSUs was in May 2015. The Company recognized compensation expense associated with two-tier RSUs using the accelerated attribution method over the requisite service period.

As of September 30, 2020, the Company only had one-tier RSUs outstanding under the Dropbox Equity Incentive Plans.

Since August 2015, the Company has granted one-tier RSUs as the only stock-based payment awards to its employees, with the exception of awards granted to its co-founders and certain executives, and has not granted any stock options to employees since then. The fair values of the common stock underlying the RSUs granted in periods prior to the date of the Company's IPO were determined by the Board of Directors, with input from management and contemporaneous third-party valuations, which were performed at least quarterly. For valuations after the Company's IPO, the Board of Directors determines the fair value of each share of underlying common stock based on the closing price of the Company's Class A common stock as reported on the Nasdaq Global Select Market on the date of the grant.

In connection with the acquisition of JN Projects, Inc. (d/b/a HelloSign) ("HelloSign"), the Company assumed unvested stock options that had been granted under the HelloSign's 2011 Equity Incentive Plan. The fair value of options assumed were based upon the Black-Scholes option-pricing model, see Note 12, "Stockholders' Equity" for further information.

In December 2017, the Board of Directors approved a grant to the Company’s co-founders of restricted stock awards (“RSAs”) with respect to 14.7 million shares of Class A Common Stock in the aggregate (collectively, the “Co-Founder Grants”), of which 10.3 million RSAs were granted to Mr. Houston, the Company’s co-founder and Chief Executive Officer, and 4.4 million RSAs were granted to Mr. Ferdowsi, the Company's co-founder and a former director. These Co-Founder Grants have service-based, market-based, and performance-based vesting conditions. The Company estimated the grant date fair value of the Co-Founder Grants using a model based on multiple stock price paths developed through the use of a Monte Carlo simulation that incorporates into the valuation the possibility that the Stock Price Targets may not be satisfied. Effective March 19, 2020, Mr. Ferdowsi resigned as a member of the Board of Directors and as an officer of the Company. As of the date of Mr. Ferdowsi's resignation, none of the Stock Price Targets had been met, resulting in the forfeiture of his 4.4 million RSAs. See Note 12, "Stockholders' Equity" for further information.

Cost of revenue
Cost of revenue consists primarily of expenses associated with the storage, delivery, and distribution of the Company’s platform for both paying users and free users, also known as Basic users. These costs, which are referred to as infrastructure costs, include depreciation of servers located in co-location facilities that the Company leases and operates, rent and facilities expense for those datacenters, network and bandwidth costs, support and maintenance costs for infrastructure equipment, and payments to third-party datacenter service providers. Cost of revenue also includes costs, such as salaries, bonuses, benefits, travel-related expenses, and stock-based compensation, which are referred to as employee-related costs, for employees whose primary responsibilities relate to supporting the Company’s infrastructure and delivering user support. Other non-employee costs included in cost of revenue include credit card fees related to processing customer transactions and allocated overhead, such as facilities, including rent, utilities, depreciation on leasehold improvements and other equipment shared by all departments, and shared information technology costs. In addition, cost of revenue includes amortization of developed technologies, professional fees related to user support initiatives, and property taxes related to the datacenters.

Cash and cash equivalents
Cash consists primarily of cash on deposit with banks and includes amounts in transit from payment processors for credit and debit card transactions, which typically settle within five business days. Cash equivalents include highly liquid investments purchased with an original maturity date of 90 days or less from the date of purchase.
13
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

The Company monitors its credit risk by considering factors such as historical experience, credit ratings, current economic conditions, and reasonable and supportable forecasts.

Short-term investments
The Company’s short-term investments are primarily comprised of corporate notes and obligations, U.S. Treasury securities, certificates of deposit, asset-backed securities, commercial paper, U.S. agency obligations, foreign government securities, and municipal securities. The Company determines the appropriate classification of its short-term investments at the time of purchase and reevaluates such designation at each balance sheet date. The Company has classified and accounted for its short-term investments as available-for-sale securities as the Company may sell these securities at any time for use in its current operations or for other purposes, even prior to maturity. As a result, the Company classifies its short-term investments, including securities with stated maturities beyond twelve months, within current assets in the condensed consolidated balance sheets.

The Company's short-term investments are recorded at fair value each reporting period. Unrealized gains and losses on these short-term investments are reported as a separate component of accumulated other comprehensive income (loss) in the condensed consolidated balance sheets until realized. Unrealized gains and losses for any short-term investments that management intends to sell or it is more likely than not that management will be required to sell prior to their anticipated recovery are recorded in other income, net. The Company segments its portfolio based on the underlying risk profiles of the securities and has a zero-loss expectation for U.S. treasury and U.S. government agency securities. The Company regularly reviews the securities in an unrealized loss position and evaluates the current expected credit loss by considering factors such as credit ratings, issuer-specific factors, current economic conditions, and reasonable and supportable forecasts. The Company did not record any material credit losses during the three and nine months ended September 30, 2020.

Concentrations of credit risk
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash, cash equivalents, accounts receivable, and short-term investments. The Company places its cash and cash equivalents and short-term investments with well-established financial institutions.

One distribution partner accounted for 44% of total trade and other receivables, net as of September 30, 2020. Two distribution partners accounted for 10% and 27% of total trade and other receivables, net as of December 31, 2019. No customer accounted for more than 10% of the Company’s revenue in the periods presented.

Deferred commissions, net
Deferred commissions, net is stated as gross deferred commissions less accumulated amortization. Sales commissions earned by the Company’s sales force and third-party resellers, as well as related payroll taxes, are considered to be incremental and recoverable costs of obtaining a contract with a customer. These amounts have been capitalized as deferred commissions within prepaid and other current assets and other assets on the condensed consolidated balance sheets. The Company deferred incremental costs of obtaining a contract of $8.6 and $27.6 million during the three and nine months ended September 30, 2020, respectively, and $7.4 million and $21.1 million during the three and nine months ended September 30, 2019, respectively.

Deferred commissions, net included in prepaid and other current assets were $25.3 million and $19.9 million as of September 30, 2020 and December 31, 2019, respectively. Deferred commissions, net included in other assets were $48.2 million and $43.5 million as of September 30, 2020 and December 31, 2019, respectively.

Deferred commissions are typically amortized over a period of benefit of five years. The period of benefit was estimated by considering factors such as historical customer attrition rates, the useful life of the Company’s technology, and the impact of competition in its industry. Amortized costs were $6.7 million and $17.5 million for the three and nine months ended September 30, 2020, respectively, and $4.6 million and $12.7 million for the three and nine months ended September 30, 2019, respectively. Amortized costs are included in sales and marketing expense in the accompanying condensed consolidated statements of operations. There was no impairment loss in relation to the deferred costs for any period presented.



14
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Property and equipment, net
Equipment is stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful life of the related asset, which is generally three to seven years. Leasehold improvements are amortized on a straight-line basis over the shorter of their estimated useful lives or the term of the related lease.

The following table presents the estimated useful lives of property and equipment:
Property and equipment Useful life
Buildings
20 to 30 years
Datacenter and other computer equipment
3 to 5 years
Office equipment and other
3 to 7 years
Leasehold improvements Lesser of estimated useful life or remaining lease term


Lease obligations
The Company leases office space, datacenters, and equipment under non-cancelable finance and operating leases with various expiration dates through 2036. The Company determines if an arrangement contains a lease at inception.

Operating lease right-of-use assets and lease liabilities are recognized at the present value of the future lease payments at commencement date. The interest rate implicit in the Company’s operating leases is not readily determinable, and therefore an incremental borrowing rate is estimated to determine the present value of future payments. The estimated incremental borrowing rate factors in a hypothetical interest rate on a collateralized basis with similar terms, payments, and economic environments. Operating lease right-of-use assets also include any prepaid lease payments and lease incentives.

Certain of the operating lease agreements contain rent concession, rent escalation, and option to renew provisions. Rent concession and rent escalation provisions are considered in determining the single lease cost to be recorded over the lease term. Single lease cost is recognized on a straight-line basis over the lease term commencing on the date the Company has the right to use the leased property. The lease terms may include options to extend or terminate the lease. The Company generally uses the base, non-cancelable, lease term when recognizing the lease assets and liabilities, unless it is reasonably certain that the option will be exercised.

In addition, certain operating lease agreements contain tenant improvement allowances from its landlords. These allowances are accounted for as lease incentives and decrease the Company's right-of-use asset and reduce single lease cost over the lease term.

The Company leases certain equipment from various third parties, through equipment finance leases. These leases either include a bargain purchase option, a full transfer of ownership at the completion of the lease term, or the terms of the leases are at least 75 percent of the useful lives of the assets and are therefore classified as finance leases. These leases are capitalized in property and equipment, net and the related amortization of assets under finance leases is included in depreciation and amortization expense in the Company’s condensed consolidated statements of operations. Initial asset values and finance lease obligations are based on the present value of future minimum lease payments.

The Company’s finance lease agreements may contain lease and non-lease components. The non-lease components include payments for support on infrastructure equipment obtained via finance leases, which when not significant in relation to the overall agreement, are combined with the lease components and accounted for together as a single lease component.
Business combinations
The Company uses best estimates and assumptions, including but not limited to, future expected cash flows, expected asset lives, and discount rates, to assign a fair value to the tangible and intangible assets acquired and liabilities assumed in business combinations as of the acquisition date. These estimates are inherently uncertain and subject to refinement. During the measurement period, which may be up to one year from the acquisition date, adjustments to the fair value of these tangible and intangible assets acquired and liabilities assumed may be recorded, with the corresponding offset to goodwill.
15
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Upon the conclusion of the measurement period or final determination of the fair value of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to the Company’s condensed consolidated statements of operations.

Long-lived assets, including goodwill and other acquired intangible assets, net
The Company evaluates the recoverability of its property and equipment and finite-lived intangible assets for possible impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. The evaluation is performed at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities. Recoverability of these assets is measured by a comparison of the carrying amounts to the future undiscounted cash flows the assets are expected to generate. If such review determines that the carrying amount of specific property and equipment or intangible assets is not recoverable, the carrying amount of such assets is reduced to its fair value.

The Company reviews goodwill for impairment at least annually in the fourth quarter, or more frequently if events or changes in circumstances would more likely than not reduce the fair value of its single reporting unit below its carrying value.

The Company has not recorded impairment charges on property and equipment, goodwill, or intangible assets for the periods presented in these condensed consolidated financial statements.

Acquired property and equipment and finite-lived intangible assets are amortized over their useful lives. The Company evaluates the estimated remaining useful life of these assets when events or changes in circumstances warrant a revision to the remaining period of amortization. If the Company revises the estimated useful life assumption for any asset, the remaining unamortized balance is amortized or depreciated over the revised estimated useful life on a prospective basis.

Income taxes
Deferred income tax balances reflect the effects of temporary differences between the financial reporting and tax bases of the Company’s assets and liabilities using enacted tax rates expected to apply when taxes are actually paid or recovered. In addition, deferred tax assets are recorded for net operating loss and credit carryforwards.

A valuation allowance is provided against deferred tax assets unless it is more likely than not that they will be realized based on all available positive and negative evidence. Such evidence includes, but is not limited to, recent cumulative earnings or losses, expectations of future taxable income by taxing jurisdiction, and the carry-forward periods available for the utilization of deferred tax assets.

The Company uses a two-step approach to recognizing and measuring uncertain income tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates it is more likely than not that the position will be sustained on audit. The second step is to measure the tax benefit as the largest amount which is more than 50% likely of being realized upon ultimate settlement. The Company recognizes interest and penalties related to unrecognized tax benefits as income tax expense.

Although the Company believes that it has adequately reserved for its uncertain tax positions, it can provide no assurance that the final tax outcome of these matters will not be materially different. The Company evaluates its uncertain tax positions on a regular basis and evaluations are based on a number of factors, including changes in facts and circumstances, changes in tax law, such as the 2017 Tax Cuts and Jobs Act ("2017 Tax Reform Act"), the 2020 Coronavirus Aid, Relief, and Economic Security Act ("2020 CARES Act"), and the California 2020 Budget Act, correspondence with tax authorities during the course of an audit, and effective settlement of audit issues.

To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will affect the provision for income taxes in the period in which such determination is made and could have a material impact on the Company’s financial condition and results of operations.

Fair value measurement
The Company applies fair value accounting for all financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a recurring basis. The Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market
16
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

participants at the measurement date. When determining fair value measurements for assets and liabilities, the Company considers the principal or most advantageous market in which it would transact and the market-based risk measurements or assumptions that market participants would use in pricing the asset or liability, such as risks inherent in valuation techniques, transfer restrictions, and credit risk. Fair value is estimated by applying the following hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:

Level 1—Quoted prices in active markets for identical assets or liabilities.
Level 2—Observable inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3—Inputs that are generally unobservable and typically reflect management’s estimate of assumptions that market participants would use in pricing the asset or liability.

Recently adopted accounting pronouncements
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires the measurement and recognition of expected credit losses for financial assets held at amortized cost. It also eliminates the concept of other-than-temporary impairment and requires credit losses related to available-for-sale debt securities to be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. The Company adopted ASU No. 2016-13 on January 1, 2020 using the modified retrospective approach. The cumulative impact of transition to retained earnings, recorded as of the adoption date, was not material to the Company's consolidated financial statements. The Company did not record any material credit losses during the three and nine months ended September 30, 2020.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820), which amends disclosure requirements for fair value measurements by requiring new disclosures, modifying existing requirements, and eliminating others. The amendments are the result of a broader disclosure project, which aims to improve the effectiveness of disclosures. The Company adopted ASU No. 2018-13 on January 1, 2020. The adoption of the standard did not have a material impact on the Company's consolidated financial statements. 

In August 2018, the FASB issued ASU No. 2018-15, Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40), Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. The amendments in ASU No. 2018-15 amend the definition of a hosting arrangement and requires a customer in a hosting arrangement that is a service contract to capitalize certain costs as if the arrangement were an internal-use software project. The Company adopted ASU No. 2018-15 on January 1, 2020. The adoption of the standard did not have a material impact on the Company's consolidated financial statements. 

In December 2019, the FASB issued ASU No. 2019-12, Simplifying the Accounting for Income Taxes. This ASU simplifies accounting for income taxes by removing the exception to the incremental approach for intraperiod tax allocation when there is a loss from continuing operations and income or gain for other items, the exception to the requirement to recognize a deferred tax liability for equity method investments when a foreign subsidiary becomes an equity method investment, the exception to the ability not to recognize a deferred tax liability for a foreign subsidiary when a foreign equity method investment becomes a subsidiary, and the exception to the general methodology for calculating income taxes in an interim period when a year-to-date loss exceeds the anticipated loss for the year. This ASU also includes other requirements related to franchise tax, goodwill as part of a business combination, consolidations, changes in tax laws, and affordable housing projects. The Company adopted ASU No. 2019-12 on January 1, 2020. The adoption of the standard did not have a material impact on the Company's consolidated financial statements. 


Note 2.Cash, Cash Equivalents and Short-Term Investments

The amortized cost, unrealized gains and losses and estimated fair value of the Company's cash, cash equivalents and short-term investments as of September 30, 2020 and December 31, 2019 consisted of the following:
17
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

As of September 30, 2020
Amortized Cost Unrealized Gain Unrealized Loss Estimated Fair Value
Cash $ 71.6  $ —  $ —  $ 71.6 
Cash equivalents
Money market funds 371.2  —  —  371.2 
Commercial paper 6.0  —  —  6.0 
Corporate notes and obligations 2.9  —  —  2.9 
Certificates of deposit 1.0 —  —  1.0 
Total cash and cash equivalents $ 452.7  $ —  $ —  $ 452.7 
Short-term investments
Corporate notes and obligations 389.3  3.0  (0.1) 392.2 
U.S. Treasury securities 205.3  1.3  —  206.6 
Asset backed securities 84.0  0.7  —  84.7 
U.S. agency obligations 37.0 0.1 —  37.1
Commercial paper 24.5 —  —  24.5
Certificates of deposit 16.5  —  —  16.5 
Foreign government obligations 9.3 —  —  9.3
Municipal securities 2.9 —  —  2.9
Total short-term investments 768.8  5.1  (0.1) 773.8 
Total $ 1,221.5  $ 5.1  $ (0.1) $ 1,226.5 
As of December 31, 2019
Amortized cost Unrealized gain Unrealized loss Estimated fair value
Cash $ 105.0  $ —  $ —  $ 105.0 
Cash equivalents:
Money market funds 444.3  —  —  444.3 
Commercial paper 2.0  —  —  2.0 
Total cash and cash equivalents $ 551.3  $ —  $ —  $ 551.3 
Short-term investments — 
Corporate notes and obligations 285.5  1.2  (0.1) 286.6 
U.S. Treasury securities 171.0  0.3  —  171.3 
Asset backed securities 53.8  —  —  53.8 
Certificates of deposit 38.2  —  —  38.2 
U.S. agency obligations 27.2  —  —  27.2 
Commercial paper 24.2  —  —  24.2 
Supranational securities 4.0  —  —  4.0 
Municipal securities 2.4  —  —  2.4 
Total short-term investments 606.3  1.5  (0.1) 607.7 
Total $ 1,157.6  $ 1.5  $ (0.1) $ 1,159.0 


Included in cash and cash equivalents is cash in transit from payment processors for credit and debit card transactions of $12.2 million and $11.5 million as of September 30, 2020 and December 31, 2019, respectively.
18
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)


All short-term investments were designated as available-for-sale securities as of September 30, 2020 and December 31, 2019.

The following table presents the contractual maturities of the Company’s short-term investments as of September 30, 2020:
As of September 30, 2020
Amortized cost Estimated fair value
Due within one year 348.3  349.2 
Due between one to three years 347.3  350.9 
Due after three years 73.2  73.7 
Total $ 768.8  $ 773.8 

The Company had 55 short-term investments in unrealized loss positions as of September 30, 2020. There were no material unrealized losses from available-for-sale securities and no material realized gains or losses from available-for-sale securities that were reclassified out of accumulated other comprehensive income (loss) for the three and nine months ended September 30, 2020.

As of September 30, 2020, the Company’s short-term investments portfolio consisted of eight security types, one of which was in an unrealized loss position. The Company’s corporate notes and obligations had unrealized losses of approximately $0.1 million as of September 30, 2020. Unrealized losses on corporate notes and obligations have not been recorded into income because management does not intend to sell nor will be required to sell these securities prior to their anticipated recovery, and for which the decline in fair value is largely due to changes in credit spreads. The credit ratings associated with the corporate notes and obligations are mostly unchanged, are highly rated and the issuers continue to make timely principal and interest payments.

The Company recorded interest income from its cash, cash equivalents, and short-term investments of $2.6 million and $10.4 million during the three and nine months ended September 30, 2020, respectively, and $5.7 million and $17.5 million during the three and nine months ended September 30, 2019, respectively.

Note 3.Fair Value Measurements

The Company measures its financial instruments at fair value each reporting period using a fair value hierarchy that prioritizes the use of observable inputs and minimizes the use of unobservable inputs when measuring fair value. A financial instrument’s classification within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

The following table presents information about the Company’s financial instruments that are measured at fair value on a recurring basis using the input categories discussed in Note 1:   
19
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

As of September 30, 2020
Level 1 Level 2 Level 3 Total
Cash equivalents
Money market funds $ 371.2  $ —  $ —  $ 371.2 
Commercial paper —  6.0  —  6.0 
Corporate notes and obligations —  2.9  —  2.9 
Certificates of deposit —  1.0  —  1.0 
Total cash equivalents $ 371.2  $ 9.9  $ —  $ 381.1 
Short-term investments
Corporate notes and obligations —  392.2  —  392.2 
U.S. Treasury securities —  206.6  —  206.6 
Asset backed securities —  84.7  —  84.7 
U.S. agency obligations —  37.1  —  37.1 
Commercial paper —  24.5  —  24.5 
Certificates of deposit —  16.5  —  16.5 
Foreign government obligations —  9.3  —  9.3 
Municipal securities —  2.9  —  2.9 
Total short-term investments —  773.8  —  773.8 
Total $ 371.2  $ 783.7  $ —  $ 1,154.9 

The Company has an investment in a non-marketable equity security in a privately held company without a readily determinable market value. The investment has a carrying value of $5.6 million and is categorized as Level 3.
As of December 31, 2019
Level 1 Level 2 Level 3 Total
Cash equivalents
Money market funds $ 444.3  $ —  $ —  $ 444.3 
Commercial paper —  2.0  —  2.0 
Total Cash Equivalents $ 444.3  $ 2.0  $ —  $ 446.3 
Short-term investments
Corporate notes and obligations —  286.6  —  286.6 
U.S. Treasury securities —  171.3  —  171.3 
Asset-backed securities —  53.8  —  53.8 
Certificates of deposit —  38.2  —  38.2 
U.S. agency obligations —  27.2  —  27.2 
Commercial paper —  24.2  —  24.2 
Supranational securities —  4.0  —  4.0 
Municipal securities —  2.4  —  2.4 
Total short-term investments —  607.7  —  607.7 
Equity investments 9.8  —  —  9.8 
Total $ 454.1  $ 609.7  $ —  $ 1,063.8 

The Company had no transfers between levels of the fair value hierarchy.

20
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

The carrying amounts of certain financial instruments, including cash held in banks, accounts receivable and accounts payable approximate fair value due to their short-term maturities and are excluded from the fair value table above.

Note 4.Property and Equipment, Net

Property and equipment, net consisted of the following:
As of
September 30, 2020 December 31, 2019
Datacenter and other computer equipment $ 737.1  $ 749.3 
Furniture and fixtures 39.3  35.5 
Leasehold improvements 243.6  211.4 
Construction in progress 52.0  36.3 
Total property and equipment 1,072.0  1,032.5 
Accumulated depreciation and amortization (583.6) (587.2)
Property and equipment, net $ 488.4  $ 445.3 

During the third quarter of 2020 the Company retired $110.2 million of fully depreciated datacenter assets that are no longer in use.

The Company leases certain infrastructure from various third parties, through equipment finance leases. Infrastructure assets as of September 30, 2020 and December 31, 2019, respectively included a total of $371.2 million and $321.8 million acquired under finance lease agreements. These leases are capitalized in property and equipment, and the related amortization of assets under finance leases is included in depreciation and amortization expense. The accumulated depreciation of the infrastructure under finance leases totaled $142.4 million and $124.6 million as of September 30, 2020 and December 31, 2019, respectively.

Construction in progress includes costs primarily related to construction of leasehold improvements for office buildings and datacenters.

Depreciation expense related to property and equipment was $37.4 million and $109.9 million for the three and nine months ended September 30, 2020, respectively, and $37.1 and $122.5 million for the three and nine months ended September 30, 2019, respectively.

Note 5.Business Combinations

On February 8, 2019, the Company acquired all outstanding stock of JN Projects, Inc. (d/b/a HelloSign) ("HelloSign"), which provides an e-signature and document workflow platform. The acquisition of HelloSign expands the Company's content collaboration capabilities to include additional business-critical workflows. The results of HelloSign operations have been included in the Company’s consolidated results of operations since the date of acquisition.

The purchase consideration transferred consisted of the following:
Purchase consideration
Cash paid to common and preferred stockholders and vested option holders $ 175.2 
Transaction costs paid by Dropbox on behalf of HelloSign 2.4 
Fair value of assumed HelloSign options attributable to pre-combination services(1)
 0.8 
Purchase price adjustments (0.5)
Total purchase consideration $ 177.9 

21
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

(1) The fair value of options assumed were based upon the Black-Scholes option-pricing model.

In addition to the total purchase consideration above, the Company has employee holdback agreements with key HelloSign personnel consisting of $48.5 million in cash payments subject to on-going employee service. The related expenses are recognized within research and development expenses over the required service period of three years. The payments began in the first quarter of 2020, with $4.0 million and $24.2 million paid during the three and nine months ended September 30, 2020. The remaining balance of $24.3 million will be paid evenly in quarterly installments over the remaining required service period.

The purchase consideration was allocated to the tangible and intangible assets and liabilities acquired as of the acquisition date, with the excess recorded to goodwill as shown below.
Assets acquired:
Cash and cash equivalents $ 5.5 
Short-term investments 7.8 
Acquisition-related intangible assets 44.6 
Accounts receivable, prepaid and other assets 5.0 
Total assets acquired $ 62.9 
Liabilities assumed:
Accounts payable, accrued and other liabilities $ 6.3 
Deferred revenue 4.8 
Deferred tax liability 6.9 
Total liabilities assumed 18.0 
Net assets acquired, excluding goodwill 44.9 
Total purchase consideration 177.9 
Goodwill(2)
 $ 133.0 

(2) The goodwill recognized was primarily attributable to the opportunity to expand the user base of the Company's platform. The goodwill is not deductible for U.S. federal income tax purposes.

The fair value of the separately identifiable finite-lived intangible assets acquired and estimated weighted average useful lives are as follows:
Estimated fair values Estimated weighted average useful lives
(In years)
Customer relationships $ 20.5  4.9
Developed technology 19.6  5.0
Trade name 4.5  5.0
Total acquisition-related intangible assets $ 44.6 

The fair values of the acquisition-related intangibles were determined using the following methodologies: the multi-period excess earnings method, replacement cost method, and the relief from royalty method, for customer relationships, developed technology, and the trade name, respectively. The valuation model inputs required the application of significant judgment by management. At the time of acquisition, the acquired intangible assets had a total weighted average amortization period of 4.9 years.

One-time acquisition-related diligence costs of $1.0 million were expensed within general and administrative expenses as incurred during the nine months ended September 30, 2019.

22
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Note 6.Intangible Assets
Intangible assets consisted of the following:
  As of September 30, As of December 31,
Weighted-
average
remaining
useful life
 (In years)
  2020 2019
Developed technology $ 25.8  $ 25.8  3.3
Customer relationships 20.5  20.5  3.5
Software 20.2  20.0  1.3
Patents 13.0  13.0  7.3
Assembled workforce in asset acquisitions 12.6  12.6  0.3
Trademarks and trade names 5.2  5.2  3.4
Licenses 4.6  4.6  0.8
Other 3.3  3.3  4.9
Total intangibles 105.2  105.0 
Accumulated amortization (68.2) (57.6)
Intangible assets, net $ 37.0  $ 47.4 
Amortization expense was $3.6 million and $10.6 million for the three and nine months ended September 30, 2020, respectively, and $3.6 million and $10.1 million for the three and nine months ended September 30, 2019, respectively.

Expected future amortization expense for intangible assets as of September 30, 2020 is as follows:
Remaining three months of Fiscal 2020 $ 3.5 
2021 11.6 
2022 8.3 
2023 7.6 
2024 3.4 
Thereafter 2.6 
Total $ 37.0 


Note 7.Goodwill

Goodwill represents the excess of the purchase price in a business combination over the fair value of net tangible and intangible assets acquired. The changes in the carrying amounts of goodwill were as follows:
Balance at December 31, 2019 $ 234.5 
Effect of foreign currency translation (0.2)
Balance at September 30, 2020 $ 234.3 

Goodwill amounts are not amortized, but tested for impairment on an annual basis. There was no impairment of goodwill as of September 30, 2020 and December 31, 2019.

23
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Note 8.Revolving Credit Facility

In April 2017, the Company entered into an amended and restated credit and guaranty agreement which provided for a $600.0 million revolving loan facility (as amended from time to time, the “revolving credit facility”). In conjunction with the revolving credit facility, the Company paid upfront issuance fees of $2.6 million, which are being amortized over the five-year term of the agreement.

In February 2018, the Company amended the revolving credit facility to, among other things, permit the Company to make certain investments, enter into an unsecured standby letter of credit facility and increase its standby letter of credit sublimit to $187.5 million. The Company increased its borrowing capacity under the revolving credit facility from $600.0 million to $725.0 million. The Company may from time to time request increases in its borrowing capacity under the revolving credit facility of up to $275.0 million, provided no event of default has occurred or is continuing or would result from such increase. In conjunction with the amendment, the Company paid upfront issuance fees of $0.4 million, which are being amortized over the remaining term of the agreement.

Pursuant to the terms of the revolving credit facility, the Company may issue letters of credit under the revolving credit facility, which reduce the total amount available for borrowing. Pursuant to the terms of the revolving credit facility, the Company is required to pay an annual commitment fee that accrues at a rate of 0.20% per annum on the unused portion of the borrowing commitments under the revolving credit facility. In addition, the Company is required to pay a fee in connection with letters of credit issued under the revolving credit facility, which accrues at a rate of 1.5% per annum on the amount of such letters of credit outstanding. There is an additional fronting fee of 0.125% per annum multiplied by the average aggregate daily maximum amount available under all letters of credit. Borrowings under the revolving credit facility bear interest, at the Company’s option, at an annual rate based on LIBOR plus a spread of 1.50% or at an alternative base rate plus a spread of 0.50%.

The revolving credit facility contains customary conditions to borrowing, events of default and covenants, including covenants that restrict the Company’s ability to incur indebtedness, grant liens, make distributions to holders of the Company or its subsidiaries’ equity interests, make investments, or engage in transactions with its affiliates. In addition, the revolving credit facility contains financial covenants, including a consolidated leverage ratio covenant and a minimum liquidity balance of $100.0 million, which includes any available borrowing capacity. The Company was in compliance with the covenants of the revolving credit facility as of September 30, 2020 and December 31, 2019, respectively.

The Company had an aggregate of $45.7 million of letters of credit outstanding under the revolving credit facility as of September 30, 2020, and the Company’s total available borrowing capacity under the revolving credit facility was $679.3 million as of September 30, 2020. The Company’s letters of credit have final expiration dates through 2032.
Note 9.Leases

The Company has operating leases for corporate offices and datacenters, and finance leases for infrastructure equipment. The Company’s leases have remaining lease terms of 1 year to 16 years, some of which include options to extend the leases for up to 5 years.

The Company also has subleases of former corporate offices. Subleases have remaining lease terms of 2 years to 3 years. Sublease income, which is recorded as a reduction of rental expense, was $1.7 million and $5.2 million for the three and nine months ended September 30, 2020, respectively, and $1.8 million and $5.3 million for the three and nine months ended September 30, 2019, respectively.

In 2017, the Company entered into a lease agreement for office space in San Francisco, California, to serve as its corporate headquarters. The Company took initial possession of the first phase of its corporate headquarters in June 2018, and began to recognize single lease cost related to the first phase. In that same period, the Company recorded a lease incentive obligation related to tenant improvement reimbursements associated with the first phase. In April 2019, the Company took possession of the second phase, and began to recognize additional lease costs and recorded an additional lease obligation, net of tenant improvement reimbursements related to the second phase. In December 2019, the Company took possession of the final phase, and began to recognize lease costs and lease obligation, net of tenant improvement reimbursements related to the third phase. The Company's total expected minimum obligations for all three phases of the lease are $842.7 million, which exclude expected tenant improvement reimbursements from the landlord of approximately $75.0 million and variable operating expenses. As of
24
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

September 30, 2020, the remaining total expected minimum obligations are $803.4 million. The Company’s obligations under the lease are supported by a $34.2 million letter of credit, which reduced the borrowing capacity under the revolving credit facility. In the nine months ended September 30, 2020, the Company collected tenant improvement reimbursements from the landlord totaling $15.7 million.

Future minimum lease payments under non-cancellable leases as of September 30, 2020 were as follows:
Year ending December 31,
Operating leases(1)
 Finance leases
2020 (excluding the nine months ended September 30, 2020) $ 31.7  $ 26.1 
2021 124.1  96.6 
2022 117.9  82.5 
2023 101.4  48.8 
2024 90.5  13.9 
Thereafter 650.0  — 
Total future minimum lease payments 1,115.6  267.9 
Less imputed interest (236.6) (12.1)
Less tenant improvement receivables (12.0) — 
Total liability $ 867.0  $ 255.8 
(1) Consists of future non-cancelable minimum rental payments under operating leases for the Company’s corporate offices and datacenters where the Company has possession, excluding rent payments from the Company’s sub-tenants and variable operating expenses.

As of September 30, 2020, the Company is entitled to non-cancelable rent payments from its sub-tenants of $24.8 million, which will be collected over the next 2 to 3 years.

As of September 30, 2020, the Company had commitments of $107.3 million for operating leases that have not yet commenced, and therefore are not included in the right-of-use asset or operating lease liability. These operating leases will commence in 2021 with lease terms of 5 years to 15 years.

Note 10. Commitments and Contingencies

Legal matters
From time to time, the Company is a party to a variety of claims, lawsuits, and proceedings which arise in the ordinary course of business, including claims of alleged infringement of intellectual property rights. The Company records a liability when it believes that it is probable that a loss will be incurred and the amount of loss or range of loss can be reasonably estimated. In its opinion, resolution of pending matters is not likely to have a material adverse impact on its condensed consolidated results of operations, cash flows, or its financial position. Given the unpredictable nature of legal proceedings, the Company bases its estimate on the information available at the time of the assessment. As additional information becomes available, the Company reassesses the potential liability and may revise the estimate.

The Company is currently involved in four putative class action lawsuits alleging violations of the federal securities laws that were filed on August 30, 2019, September 5, 2019, September 13, 2019, and October 3, 2019, in the Superior Court of the State of California, San Mateo County, against the Company, certain of its officers and directors, underwriters of its IPO, and Sequoia Capital XII, L.P. and certain of its affiliated entities (collectively, the "Dropbox Defendants"). On October 4, 2019, two putative class action lawsuits alleging violations of the federal securities laws were filed against the Dropbox Defendants in the U.S. District Court for the Northern District of California (the "Federal Plaintiffs"). The six lawsuits each make the same or similar allegations of violations of federal securities laws, for allegedly making materially false and misleading statements in, or omitting material information from, the Company's IPO registration statement. The plaintiffs seek unspecified monetary damages and other relief. On March 2, 2020, the Federal Plaintiffs filed a consolidated class action complaint. On April 16, 2020, the Dropbox Defendants filed a motion to dismiss the federal consolidated class action complaint. On May 11, 2020, the Dropbox Defendants filed a motion to dismiss the consolidated state court case based on the exclusive federal forum provisions contained in the Company's amended and restated bylaws. On October 21, 2020, the court issued an order granting the Company's motion to dismiss the Federal Plaintiffs’ complaint with leave to amend. The Company believes the cases are
25
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

without merit and intends to vigorously defend them. The Company does not currently believe that this matter is likely to have a material adverse impact on its consolidated results of operations, cash flows, or financial position.

Indemnification
The Company’s arrangements generally include certain provisions for indemnifying customers against liabilities if its products or services infringe a third party’s intellectual property rights. It is not possible to determine the maximum potential amount under these indemnification obligations due to the limited history of prior indemnification claims.

Other commitments
Other commitments include payments to third-party vendors for services related to the Company’s infrastructure, infrastructure warranty contracts, and asset retirement obligations for office modifications. There have been no material changes in the Company's other commitments, as disclosed in the Annual Report.

Note 11. Accrued and Other Current Liabilities
Accrued and other current liabilities consisted of the following:
As of
September 30, 2020 December 31, 2019
Non-income taxes payable $ 89.3  $ 92.2 
Accrued legal and other external fees 18.0  29.2 
Other accrued and current liabilities 22.1  40.5 
Total accrued and other current liabilities $ 129.4  $ 161.9 

Note 12.Stockholders’ Equity

Common stock
The Company’s amended and restated certificate of incorporation authorizes the issuance of Class A common stock, Class B common stock, and Class C common stock. Holders of Class A common stock, Class B common stock, and Class C common stock are entitled to dividends on a pro rata basis, when, as, and if declared by the Company’s Board of Directors, subject to the rights of the holders of the Company’s preferred stock. Holders of Class A common stock are entitled to one vote per share, holders of Class B common stock are entitled to 10 votes per share, and holders of Class C common stock are entitled to zero votes per share. Holders of Class B common stock voluntarily converted 0.1 million and 63.5 million shares into an equivalent number of shares of Class A common stock during the three and nine months ended September 30, 2020, respectively, and 0.7 million and 38.4 million during the three and nine months ended September 30, 2019, respectively.

As of September 30, 2020, the Company had authorized 2,400.0 million shares of Class A common stock, 475.0 million shares of Class B common stock, and 800.0 million shares of Class C common stock, each at par value of $0.00001. As of September 30, 2020, 316.6 million shares of Class A common stock, 97.7 million shares of Class B common stock, and no shares of Class C common stock were issued and outstanding. As of December 31, 2019, 255.8 million shares of Class A common stock, 161.2 million shares of Class B common stock, and no shares of Class C common stock were issued and outstanding. Class A shares issued and outstanding as of September 30, 2020 and December 31, 2019 exclude unvested restricted stock awards granted to certain executives during the year. Class A shares issued and outstanding also excludes 10.3 million and 14.7 million unvested restricted stock awards granted to the Company's co-founders as of September 30, 2020 and December 31, 2019, respectively. See "Co-Founder Grants" section below for further details.





26
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Preferred stock

The Company's Board of Directors will have the authority, without further action by the Company's stockholders, to issue up to 240.0 million shares of undesignated preferred stock with rights and preferences, including voting rights, designated from time to time by the Board of Directors.

Stock repurchase program

In February 2020, the Company's Board of Directors approved a stock repurchase program for the repurchase of up to $600 million of the Company’s outstanding shares of Class A common stock. Share repurchases will be made from time to time in private transactions or open market purchases, as permitted by securities laws and other legal requirements and will be subject to a review of the circumstances in place at that time, including prevailing market prices. The program does not obligate the Company to repurchase any specific number of shares and may be discontinued at any time.

During the three and nine months ended September 30, 2020, the Company repurchased and subsequently retired 1.8 million and 9.2 million shares respectively of its Class A common stock for an aggregate amount of $37.5 million and $177.3 million, respectively.


Equity incentive plans
Under the 2018 Plan, the Company may grant stock-based awards to purchase or directly issue shares of common stock to employees, directors, and consultants. Options are granted at a price per share equal to the fair market value of the Company's common stock at the date of grant. Options granted are exercisable over a maximum term of 10 years from the date of grant and generally vest over a period of four years. RSUs and RSAs are also granted under the 2018 Plan. The 2018 Plan will terminate 10 years after the later of (i) its adoption or (ii) the most recent stockholder-approved increase in the number of shares reserved under the 2018 Plan, unless terminated earlier by the Company's Board of Directors. The 2018 Plan was adopted on March 22, 2018.

In connection with the acquisition of HelloSign, the Company assumed unvested stock options that had been granted under HelloSign's 2011 Equity Incentive Plan.

As of September 30, 2020, there were 37.6 million stock-based awards issued and outstanding and 76.5 million shares available for issuance under the Dropbox Equity Incentive Plans and HelloSign's 2011 Equity Incentive Plan (collectively, the "Plans").

27
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Stock option and restricted stock activity for the Plans was as follows for the nine months ended September 30, 2020:
Options outstanding Restricted stock
outstanding
Number of
shares
available for
issuance
under the
Plans		 Number of
shares
outstanding
under the
Plans		 Weighted-
average
exercise
price
per share		 Weighted-
average
remaining
contractual
term
(In years)		 Aggregate intrinsic value Number of
shares
outstanding under the Plans		 Weighted-
average
grant date
fair value
per share
Balance at December 31, 2019 66.2  2.0  $ 12.28  6.5 $ 16.40  30.7  $ 20.48 
Additional shares authorized 21.7  —  —  —  —  —  — 
Options exercised and restricted stock units and awards released —  (0.4) 4.74  —  —  (9.4) 19.75 
Options and restricted stock units and awards canceled 7.8  (0.2) 17.52  —  —  (7.6) 20.14 
Shares repurchased for tax withholdings on release of restricted stock units and awards 3.3  —  —  —  —  —  19.74 
Options and restricted stock units and awards granted (22.5) —  —  —  —  22.5  18.85 
Balance at September 30, 2020 76.5  1.4  $ 13.55  5.9 $ 10.29  36.2  $ 19.73 
Vested at September 30, 2020 1.0  $ 16.19  5.3 $ 5.57  —  $ — 
Unvested at September 30, 2020 0.4  $ 5.69  $ 4.72  36.2  $ 19.73 

The following table summarizes information about the pre-tax intrinsic value of options exercised during the three and nine months ended September 30, 2020 and 2019:
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
Intrinsic value of options exercised $ 0.5  $ 0.3  $ 5.3  $ 4.8 

As of September 30, 2020, unamortized stock-based compensation related to unvested stock options, restricted stock awards (excluding the Co-Founder Grants), and RSUs was $671.1 million. The weighted-average period over which such compensation expense will be recognized if the requisite service is provided is approximately 2.9 years as of September 30, 2020.

Assumed stock options
In connection with the acquisition of HelloSign the Company assumed 0.9 million unvested stock options which were valued using the Black-Scholes option-pricing model. The fair value of stock options assumed were estimated using the following assumptions:
28
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Expected volatility 51.6  %
Expected term (in years)
3.4 - 7.0
Risk-free interest rate
2.42% - 2.51%
Dividend yield —  %

Expected volatility. The expected volatility is based on the Company's historical volatility. Management believes this is the best estimate of the expected volatility over the expected life of its stock options.
Expected term. The Company determines the expected term based on the average period the stock options are expected to remain outstanding, generally calculated as the midpoint of the stock options’ remaining vesting term and contractual expiration period, as the Company does not have sufficient historical information to develop reasonable expectations about future exercise patterns and post-vesting employment termination behavior.

Risk-free interest rate. The risk-free interest rate is based on the U.S. Treasury security in effect at the time the options were assumed for maturities corresponding with the expected term of the option.

Expected dividend yield. The Company has not paid and does not expect to pay dividends. Consequently, the Company uses an expected dividend yield of zero.

The estimated weighted-average grant date fair value for stock options assumed was $21.60 per share and total fair value of $19.4 million, of which, $18.6 million will be recognized as post-combination stock-based compensation expense.

Co-Founder Grants
In December 2017, the Board of Directors approved a grant to the Company’s co-founders of non-Plan RSAs with respect to 14.7 million shares of Class A Common Stock in the aggregate (collectively, the “Co-Founder Grants”), of which 10.3 million RSAs were granted to Mr. Houston, the Company’s co-founder and Chief Executive Officer, and 4.4 million RSAs were granted to Mr. Ferdowsi, the Company's co-founder and a former director. These Co-Founder Grants have service-based, market-based, and performance-based vesting conditions. The Co-Founder Grants are excluded from Class A common stock issued and outstanding until the satisfaction of these vesting conditions. The Co-Founder Grants also provide the holders with certain stockholder rights, such as the right to vote the shares with the other holders of Class A common stock and a right to cumulative declared dividends. However, the Co-Founder Grants are not considered a participating security for purposes of calculating net income (loss) per share attributable to common stockholders in Note 13, "Net Income (Loss) Per Share", as the right to the cumulative declared dividends is forfeitable if the service condition is not met.

The Co-Founder Grants are eligible to vest over the ten-year period following the date the Company’s shares of Class A common stock commenced trading on the Nasdaq Global Select Market in connection with the Company’s IPO. The Co-Founder Grants comprise nine tranches that are eligible to vest based on the achievement of stock price goals, each of which are referred to as a Stock Price Target, measured over a consecutive thirty-day trading period during the Performance Period. The Performance Period began on January 1, 2019.

During the first four years of the Performance Period, no more than 20% of the shares subject to each Co-Founder Grant would be eligible to vest in any calendar year. After the first four years, all shares are eligible to vest based on the achievement of the Stock Price Targets.

The Company calculated the grant date fair value of the Co-Founder Grants based on multiple stock price paths developed through the use of a Monte Carlo simulation. A Monte Carlo simulation also calculates a derived service period for each of the nine vesting tranches, which is the measure of the expected time to achieve each Stock Price Target. A Monte Carlo simulation requires the use of various assumptions, including the underlying stock price, volatility, and the risk-free interest rate as of the valuation date, corresponding to the length of time remaining in the performance period, and expected dividend yield. The weighted-average grant date fair value of each Co-Founder Grant was estimated to be $10.60 per share. The weighted-average derived service period of each Co-Founder Grant was estimated to be 5.2 years, and ranged from 2.9 - 6.9 years. As of the valuation date, the Company expected to recognize an aggregate stock-based compensation expense of $156.2 million over the derived service period of each tranche using the accelerated attribution method as long as the co-founders satisfy their service-based vesting conditions. If the Stock Price Targets are met sooner than the derived service period, the Company will
29
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

adjust its stock-based compensation to reflect the cumulative expense associated with the vested awards. The Company will recognize expense if the requisite service is provided, regardless of whether the market conditions are achieved.

The Performance Vesting Condition for the Co-Founder Grants was satisfied on the date the Company’s shares of Class A common stock commenced trading on the Nasdaq Global Select Market in connection with the Company’s IPO, which was March 23, 2018.

In March 2020, one of the Company's co-founders, Mr. Ferdowsi, resigned as a member of the Board of Directors and as an officer of the Company. As of the date of Mr. Ferdowsi’s resignation, none of the Stock Price Targets had been met, resulting in the forfeiture of his 4.4 million RSAs. As he did not provide the requisite service associated with the Co-Founder Grants, the Company reversed all stock-based compensation expense that had been recognized from the grant date through March 19, 2020, which totaled $23.8 million, of which $21.5 million related to expense recognized prior to December 31, 2019, and ceased recognizing further expense related to the award.

The Company recognized stock-based compensation expense related to the Co-Founder Grant of $6.2 million and $18.4 million during the three and nine months ended September 30, 2020, respectively, and $8.8 million and $26.1 million during the three and nine months ended September 30, 2019, respectively. As of September 30, 2020, unamortized stock-based compensation expense related to the Co-Founder Grants was $40.6 million.

30
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Note 13. Net Income (Loss) Per Share

The Company computes net income (loss) per share using the two-class method required for multiple classes of common stock and participating securities. The rights, including the liquidation and dividend rights, of the Class A common stock and Class B common stock are substantially identical, other than voting rights. Accordingly, the Class A common stock and Class B common stock share equally in the Company’s net income and losses.

Basic net income (loss) per share is computed by dividing net income attributable to common stockholders by the weighted-average number of shares of the Class A and Class B common stock outstanding.

Diluted net income (loss) per share is computed by dividing net income attributable to common stockholders by the weighted-average number of diluted common shares outstanding. The computation of the diluted net income (loss) per share of Class A common stock assumes the conversion of our Class B common stock to Class A common stock, while the diluted net income (loss per share) of Class B common stock does not assume the conversion of those shares to Class A common stock. Diluted loss per share for the three and nine months ended September 30, 2019 is the same as basic loss per share as there was a net loss for the period and inclusion of potentially issuable shares is anti-dilutive.

The numerators and denominators of the basic and diluted EPS computations for our common stock are calculated as follows (in millions, except for per share amounts
Three Months Ended
September 30,		 Three Months Ended September 30,
2020 2019
Class A Class B Class A Class B
Basic net income (loss) per share:
Numerator
Net income (loss) attributable to common stockholders $ 25.0  $ 7.7  $ (10.4) $ (6.6)
Denominator
Weighted-average number of common shares outstanding used in computing basic net income (loss) per share 316.3  97.8  252.7  161.7 
Net income (loss) per common share, basic $ 0.08  $ 0.08  $ (0.04) $ (0.04)
Diluted net income (loss) per share:
Numerator
Net income (loss) attributable to common stockholders $ 25.0  $ 7.7  $ (10.4) $ (6.6)
Reallocation of net income as a result of conversion of Class B to Class A common stock $ 7.7  —  —  — 
Reallocation of net income to Class B common stock —  $ (0.1) —  — 
Net income (loss) attributable to common stockholders for diluted EPS $ 32.7  $ 7.6  $ (10.4) $ (6.6)
Denominator
Weighted-average number of common shares outstanding used in computing basic net income (loss) per share 316.3  97.8  252.7  161.7
Weighted-average effect of dilutive RSUs and employee stock options 5.5 0.2  —  — 
Conversion of Class B to Class A common stock 97.8  —  —  — 
Weighted-average number of common shares outstanding used in computed diluted net income (loss) per share 419.7  98.0  252.7  161.7 
Net income (loss) per common share, diluted $ 0.08  $ 0.08  $ (0.04) $ (0.04)

31
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Nine Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019
Class A Class B Class A Class B
Basic net income (loss) per share:
Numerator
Net income (loss) attributable to common stockholders $ 61.7  $ 27.8  $ (26.1) $ (20.0)
Denominator
Weighted-average number of common shares outstanding used in computing basic net income (loss) per share 286.1  129.1  233.1  179.3 
Net income (loss) per common share, basic $ 0.22  $ 0.22  $ (0.11) $ (0.11)
Diluted net income (loss) per share:
Numerator
Net income (loss) attributable to common stockholders $ 61.7  $ 27.8  $ (26.1) $ (20.0)
Reallocation of net income as a result of conversion of Class B to Class A common stock $ 27.8  —  —  — 
Reallocation of net income to Class B common stock —  $ (0.2) —  — 
Net income (loss) attributable to common stockholders for diluted EPS $ 89.5  $ 27.6  $ (26.1) $ (20.0)
Denominator
Weighted-average number of common shares outstanding used in computing basic net income (loss) per share 286.1  129.1  233.1  179.3
Weighted-average effect of dilutive RSUs and employee stock options 4.4 0.3  —  — 
Conversion of Class B to Class A common stock 129.1  —  —  — 
Weighted-average number of common shares outstanding used in computed diluted net income (loss) per share 419.6  129.4  233.1  179.3 
Net income (loss) per common share, diluted $ 0.21  $ 0.21  $ (0.11) $ (0.11)


The weighted-average impact of potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive was as follows:
Three Months Ended
September 30,		 Nine Months Ended September 30,
2020 2019 2020 2019
Restricted stock units and awards 9.9  30.1  10.2  28.7 
Options to purchase shares of common stock 0.8  1.9  0.8  1.9 
Co-Founder Grants 10.3  14.7  11.6  14.7 
Total 21.0  46.7  22.6  45.3 

Note 14. Income Taxes

The Company computed the year-to-date income tax provision by applying the estimated annual effective tax rate to the year-to-date pre-tax income and adjusted for discrete tax items in the period. The Company's income tax was an expense of $0.9 million and $5.8 million for the three and nine months ended September 30, 2020. The Company's income tax was an expense of $1.6 million and a benefit of $3.5 million for the three and nine months ended September 30, 2019.

32
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

The income tax expense for the three and nine months ended September 30, 2020 was primarily attributable to foreign and state income taxes.

For the periods presented, the difference between the U.S. statutory rate and the Company's effective tax rate is primarily due to the full valuation allowance on its U.S. and Irish deferred tax assets. The effective tax rate is also impacted by earnings realized in foreign jurisdictions with statutory tax rates lower than the federal statutory tax rate.

The Company periodically evaluates the realizability of its net deferred tax assets based on all available evidence, both positive and negative. The realization of net deferred tax assets is dependent on the Company's ability to generate sufficient future taxable income during periods prior to the expiration of tax attributes to fully utilize these assets. As of September 30, 2020, the Company continues to maintain a full valuation allowance on its deferred tax assets in the U.S. and Ireland. However, the Company has partially benefited from its deferred tax assets due to the recognition of forecasted future income which is more likely than not to be earned in one of its foreign jurisdictions.

The Company is subject to income tax audits in the U.S. and foreign jurisdictions. The Company records liabilities related to uncertain tax positions and believes that it has provided adequate reserves for income tax uncertainties in all open tax years.

Unrecognized tax benefits increased by approximately $4.7 million and $12.3 million for the three and nine months ended September 30, 2020, respectively, of which $2.2 million, if recognized, would affect the Company's effective tax rate. Additionally, unrecognized tax benefits decreased by approximately $0.8 million and $1.0 million for the three and nine months ended September 30, 2020, respectively, for the settlement of an audit and statute of limitation lapses related to prior period tax positions.

On June 29, 2020, California Governor Newsom signed Assembly Bill No. 85 as part of the California 2020 Budget Act which temporarily suspends the use of California net operating losses and imposes a cap on the amount of business incentive tax credits companies can utilize against their net income. This guidance does not have a material impact on the Company's provision for income taxes in its consolidated financial statements as of September 30, 2020.

On June 7, 2019, a judicial panel of the Ninth Circuit Court of Appeals issued an opinion in Altera Corp. v. Commissioner that would require related parties in an intercompany cost-sharing arrangement to share expenses related to stock-based compensation. On July 22, 2019, the taxpayer requested an en banc rehearing before the full Ninth Circuit Court of Appeals and the request was denied on November 12, 2019. On February 10, 2020, the taxpayer filed a petition for writ of certiorari to the U.S. Supreme Court, which was denied on June 22, 2020. Accordingly, the Company has included stock-based compensation in its cost-sharing agreements and as a result, the Company recognized additional state tax expenses in some jurisdictions which do not have sufficient net operating losses to offset the state income. There was no material impact on the Company's income tax provision for the U.S. and Ireland due to its full valuation allowance.







33
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)

Note 15. Geographic Areas

Long-lived assets
The following table sets forth long-lived assets by geographic area:
As of
September 30, 2020 December 31, 2019
United States $ 478.9  $ 431.9 
International(1)
 9.5  13.4 
Total property and equipment, net $ 488.4  $ 445.3 

(1) No single country other than the United States had a property and equipment balance greater than 10% of total property and equipment, net, as of September 30, 2020 and December 31, 2019.

Revenue
Revenue by geography is generally based on the address of the customer as defined in the Company’s subscription agreement. The following table sets forth revenue by geographic area for the three and nine months ended September 30, 2020 and 2019.
Three Months Ended September 30, Nine Months Ended September 30,
2020 2019 2020 2019
United States $ 255.5  $ 220.8  $ 735.7  $ 623.4 
International(1)
 231.9  207.4  674.1  591.9 
Total revenue $ 487.4  $ 428.2  $ 1,409.8  $ 1,215.3 

(1) No single country outside of the United States accounted for more than 10% of total revenue during the three and nine months ended September 30, 2020 and 2019.
34
DROPBOX, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Amounts in tables are in millions except per share data, or as otherwise noted)



Note 16. Subsequent Events

In October 2020, the Company announced a new Virtual First work model pursuant to which remote work will become the primary experience for all of its employees. As a result, the Company intends for its workforce to become more distributed over time, and will reduce its existing real-estate footprint while maintaining a scaled down presence in its current locations. Accordingly, the Company plans to sublease space in certain office locations.

As a result of the Company's announcement to move towards a Virtual First work model, it is reassessing its asset groupings and evaluating the recoverability of the individual asset groups. Based on its preliminary assessment, the Company anticipates recording an impairment charge related to the right of use and other lease related assets in the range of $400 to $450 million. A substantial majority of the charge is expected to be incurred in the fourth quarter of 2020 but a portion of this amount may be incurred through the first half of 2021.

35
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K. As discussed in the section titled “Note About Forward-Looking Statements,” the following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to these differences include, but are not limited to, those identified below and those discussed in the section titled “Risk Factors” under Part II, Item 1A in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K. Our fiscal year ends December 31.

Overview
Our modern economy runs on knowledge. Today, knowledge lives in the cloud as digital content, and Dropbox is building the world’s first smart workspace where businesses and individuals can create, access, and share this content globally. We serve more than 600 million registered users across 180 countries.

Since our founding in 2007, our market opportunity has grown as we’ve expanded from keeping files in sync to keeping teams in sync. Our smart workspace is a digital environment that brings all of a team’s content together with the tools they love, helping users cut through the clutter and surfacing what matters most. In a world where using technology at work can be fragmented and distracting, the smart workspace makes it easy to focus on the work that matters.

By solving these universal problems, we’ve become invaluable to our users. The popularity of our platform drives viral growth, which has allowed us to scale rapidly and efficiently. We’ve built a thriving global business with 15.25 million paying users.

Our Subscription Plans
We generate revenue from individuals, families, teams, and organizations by selling subscriptions to our platform, which serve the varying needs of our diverse customer base. Subscribers can purchase individual licenses through our Plus and Professional plans, or purchase multiple licenses through our Family plan or our Standard, Advanced, and Enterprise team plans. Each team or family represents a separately billed deployment that is managed through a single administrative dashboard. Teams must have a minimum of three users, but can also have more than tens of thousands of users. Families can have up to six users. Customers can choose between an annual or monthly plan, with a small number of large organizations on multi-year plans. A majority of our customers opt for our annual plans, although we have seen and may continue to see an increase in customers opting for our monthly plans. We typically bill our customers at the beginning of their respective terms and recognize revenue ratably over the term of the subscription period. International customers can pay in U.S. dollars or a select number of foreign currencies.

Our premium subscription plans, such as Professional and Advanced, provide more functionality than other subscription plans and have higher per user prices. Our Standard and Advanced subscription plans offer robust capabilities for businesses, and the vast majority of Dropbox Business teams purchase our Standard or Advanced subscription plans. While our Enterprise subscription plan offers more opportunities for customization, companies can subscribe to any of these team plans for their business needs.

In the first quarter of fiscal 2019, we acquired HelloSign, an e-signature and document workflow platform. The acquisition of HelloSign expands our content collaboration capabilities to include additional business-critical workflows. HelloSign has several product lines, and the pricing and revenue generated from each product line varies, with some product lines priced based on the number of licenses purchased (similar to Dropbox plans), while others are priced based on a customer’s transaction volume. Depending on the product purchased, teams must have a minimum of a certain number of licenses, but can also have hundreds of users. Customers can choose between an annual or monthly plan, with a small number of large organizations on multi-year plans. We typically bill HelloSign customers at the beginning of their respective terms and recognizes revenue ratably over the subscription period. We sell HelloSign products globally and sell primarily in U.S. dollars. 

Our Customers
Our customer base is highly diversified, and in the period presented, no customer accounted for more than 1% of our revenue. Our customers include individuals, families, teams, and organizations of all sizes, from freelancers and small businesses to Fortune 100 companies. They work across a wide range of industries, including professional services, technology,
36
media, education, industrials, consumer and retail, and financial services. Within companies, our platform is used by all types of teams and functions, including sales, marketing, product, design, engineering, finance, legal, and human resources.

37
Our Business Model

Drive new signups

We acquire users efficiently and at relatively low costs through word-of-mouth referrals, direct in-product referrals, and sharing of content. Anyone can create a Dropbox account for free through our website or app and be up and running in minutes. These users often share and collaborate with other non-registered users, attracting new signups into our network.

Increase conversion of registered users to our paid subscription plans

We generate over 90% of our revenue from self-serve channels — users who purchase a subscription through our app or website. To grow our recurring revenue base, we actively encourage our registered users to convert to one of our paid plans based on the functionality that best suits their needs. We do this via in-product prompts and notifications, time-limited free trials of paid subscription plans, email campaigns, and lifecycle marketing. Together, these enable us to generate increased recurring revenues from our existing user base.

Upgrade and expand existing customers

We offer a range of paid subscription plans, from Plus, Professional, and Family for individuals to Standard, Advanced, and Enterprise for teams. We analyze usage patterns within our network and run hundreds of targeted marketing campaigns to encourage paying users to upgrade their plans. We prompt individual subscribers who collaborate with others on Dropbox to purchase our Standard or Advanced plans for a better team experience, and we also encourage existing Dropbox Business teams to purchase additional licenses or to upgrade to premium subscription plans.

COVID-19 update

Although we have seen and may continue to see an impact to our financial condition or results of operations, as described below, the full extent of the impact of the COVID-19 pandemic on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak, the pace of reopening, impact on our customers and our sales cycles, impact on our business operations, impact on our customer, employee or industry events, and effect on our vendors, all of which are uncertain and cannot be predicted. The extent to which the COVID-19 pandemic may impact our business, financial condition or results of operations is uncertain, but may include, without limitation, impacts to our paying user growth as well as disruptions to our business operations as a result of travel restrictions, shutdown of workplaces and potential impacts to our vendors.

Additionally, our results of operations and cash flows are subject to fluctuations due to changes in foreign currency exchange rates relative to U.S. dollars, our reporting currency, as well as changes in interest rates. Volatile market conditions arising from the COVID-19 pandemic have and may continue to negatively impact our results of operations and cash flows, due to (i) a weakening of foreign currencies relative to the U.S. dollar, which may cause our revenues to decline relative to our costs, and (ii) government-initiated reductions in interest rates, which may reduce our interest income. In certain cases, we have provided relief to our customers in the form of extending net payment terms and changing invoice frequency, which may negatively impact our accounts receivable. Conversely, we have seen and may continue to see cost savings from the shift to remote work for all of our employees in areas including events, travel, utilities, and other benefits. Due to our subscription based business model, the effect of the COVID-19 pandemic may not be fully reflected in our results of operations until future periods, if at all.

Furthermore, the effects of the COVID-19 pandemic have led us to reimagine the way we work, resulting in our announcement in October 2020 to shift to a new Virtual First work model pursuant to which remote work will become the primary experience for all of our employees. As a result, we intend for our workforce to become more distributed over time, although we will continue to offer our employees opportunities for in-person collaboration, either through our existing real-estate, or new on-demand, flexible spaces. We will reduce our existing real-estate footprint while maintaining a scaled down presence in our current locations and as a result, we plan to sublease space at certain office locations. While the actual amount and timing of the benefits of subleases will depend on the outcome of negotiations with potential subtenants, we estimate that this strategy will generate additional cash flows over the course of our lease agreements. In connection with our subleasing plans, we anticipate recording an impairment charge related to right of use and other lease related assets in the range of $400 to $450 million. A substantial majority of the charge is expected to be incurred in the fourth quarter of 2020 but a portion of this amount may be incurred through the first half of 2021. While we seek to manage the implementation of this new work model carefully and we believe this model will help us reap the benefits of remote work, while maintaining a meaningful in-person experience, there is no guarantee that we will realize any anticipated benefits to our business, including any cost savings,
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operational efficiencies, increased employee satisfaction or increased productivity. In addition, given that we have a limited history of operating with a Virtual First workforce, the long-term impact on our financial results and business operations is uncertain. Please see Item 1A. “Risk Factors” in this Quarterly Report on Form 10-Q for a complete description of the material risks we currently face, including risks related to the COVID-19 pandemic and our shift to a Virtual First work model.



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Key Business Metrics

We review a number of operating and financial metrics, including the following key metrics to evaluate our business, measure our performance, identify trends affecting our business, formulate business plans, and make strategic decisions.

Total annual recurring revenue
We primarily focus on total annual recurring revenue (“Total ARR”) as the key indicator of the trajectory of our business performance. Total ARR represents the amount of revenue that we expect to recur annually, enables measurement of the progress of our business initiatives, and serves as an indicator of future growth. In addition, Total ARR is less subject to variations in short-term trends that may not appropriately reflect the health of our business. Total ARR is a performance metric and should be viewed independently of revenue and deferred revenue, and is not intended to be a substitute for, or combined with, any of these items.

Total ARR consists of contributions from all of our revenue streams, including subscriptions and add-ons. We calculate Total ARR as the number of users who have active paid licenses for access to our platform as of the end of the period, multiplied by their annualized subscription price to our platform. We adjust the exchange rates used to calculate Total ARR on an annual basis at the beginning of each fiscal year.

The below tables set forth our Total ARR using the exchange rates set at the beginning of each year, as well as on a constant currency basis relative to the exchange rates used in 2020.
As of
September 30, 2020 December 31, 2019 September 30, 2019
(In millions)
Total ARR $1,981 $1,820 $1,766
As of
Constant Currency September 30, 2020 December 31, 2019 September 30, 2019
(In millions)
Total ARR $1,981 $1,811 $1,757

Paying users
We define paying users as the number of users who have active paid licenses for access to our platform as of the end of the period. One person would count as multiple paying users if the person had more than one active license. For example, a 50-person Dropbox Business team would count as 50 paying users, and an individual Dropbox Plus user would count as one paying user. If that individual Dropbox Plus user was also part of the 50-person Dropbox Business team, we would count the individual as two paying users.

We have experienced growth in the number of paying users across our products, with the majority of paying users for the periods presented coming from our self-serve channels.

We acquired HelloSign in the first quarter of fiscal 2019. HelloSign has several product lines and the pricing and revenue generated from each product line varies, with some product lines priced based on the number of licenses purchased (similar to Dropbox plans), while others are priced based on a customer’s transaction volume. For purposes of HelloSign results, we include as paying users either (i) the number of users who have active paid licenses for access to the HelloSign platform as of the period end for those products that are priced based on the number of licenses purchased (which is the same method we use to evaluate existing Dropbox plans) or (ii) the number of customers for those products that are priced based on transaction volumes. 

The below table sets forth the number of paying users as of September 30, 2020, December 31, 2019, and September 30, 2019.
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As of
September 30, 2020 December 31, 2019 September 30, 2019
(In millions)
Paying users 15.25  14.31  14.00 

Average revenue per paying user
We define average revenue per paying user, or ARPU, as our revenue for the period presented divided by the average paying users during the same period. For interim periods, we use annualized revenue, which is calculated by dividing the revenue for the particular period by the number of days in that period and multiplying this value by 365 days. Average paying users are calculated based on adding the number of paying users as of the beginning of the period to the number of paying users as of the end of the period, and then dividing by two.

In the second quarter of 2019, we repackaged our existing Dropbox Plus plans to include additional features and, as a result, increased the price for new and existing users on this plan. For certain existing users, the increase in price is effective on their next renewal date. As a result of the price increase, and combined with an increased mix of sales towards our higher-priced subscription plans, we experienced an increase in our average revenue per paying user for the three and nine months ended September 30, 2020, compared to the three and nine months ended September 30, 2019.

The below table sets forth our ARPU for the three and nine months ended September 30, 2020 and 2019.
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
ARPU $ 128.03  $ 123.15  $ 127.06  $ 121.75 
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Non-GAAP Financial Measure

In addition to our results determined in accordance with U.S. generally accepted accounting principles, or GAAP, we believe that free cash flow, or FCF, a non-GAAP financial measure, is useful in evaluating our liquidity.

Free cash flow
We define FCF as GAAP net cash provided by operating activities less capital expenditures. We believe that FCF is a liquidity measure and that it provides useful information regarding cash provided by operating activities and cash used for investments in property and equipment required to maintain and grow our business. FCF is presented for supplemental informational purposes only and should not be considered a substitute for financial information presented in accordance with GAAP. FCF has limitations as an analytical tool, and it should not be considered in isolation or as a substitute for analysis of other GAAP financial measures, such as net cash provided by operating activities. Some of the limitations of FCF are that FCF does not reflect our future contractual commitments, excludes investments made to acquire assets under finance leases, and may be calculated differently by other companies in our industry, limiting its usefulness as a comparative measure.

Our FCF increased for the nine months ended September 30, 2020, compared to the nine months ended September 30, 2019, primarily due to an increase in cash provided by operating activities, which was driven by increased subscription sales, as a majority of our paying users are invoiced in advance, and a decrease in capital expenditures, due to decreased spend on office build-outs.

We expect our FCF to fluctuate in future periods as we purchase infrastructure equipment to support our user base and as we sublease space at certain office locations. This, along with certain increased operating expenses as described below, may result in FCF to vary from period to period as a percentage of revenue.

The following is a reconciliation of FCF to the most comparable GAAP measure, net cash provided by operating activities:
Nine Months Ended
September 30,
2020 2019
(In millions)
Net cash provided by operating activities 400.1  341.7 
Capital expenditures (67.8) (110.6)
Free cash flow $ 332.3  $ 231.1 
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Components of Our Results of Operations

Revenue
We generate revenue from sales of subscriptions to our platform.

Revenue is recognized ratably over the related contractual term generally beginning on the date that our platform is made available to a customer. Our subscription agreements typically have monthly or annual contractual terms, although a small percentage have multi-year contractual terms. Our agreements are generally non-cancelable. We typically bill in advance for monthly contracts and annually in advance for contracts with terms of one year or longer. Amounts that have been billed are initially recorded as deferred revenue until the revenue is recognized.

Our revenue is driven primarily by conversions and upsells to our paid plans. We also generate revenue from transaction-based products and fees from the referral of users to our partners. We generate over 90% of our revenue from self-serve channels. No customer represented more than 1% of our revenue in the periods presented.

Cost of revenue and gross margin
Cost of revenue. Our cost of revenue consists primarily of expenses associated with the storage, delivery, and distribution of our platform for both paying users and free users, also known as Basic users. These costs, which we refer to as infrastructure costs, include depreciation of our servers located in co-location facilities that we lease and operate, rent and facilities expense for those datacenters, network and bandwidth costs, support and maintenance costs for our infrastructure equipment, and payments to third-party datacenter service providers. Cost of revenue also includes costs, such as salaries, bonuses, employer payroll taxes and benefits, travel-related expenses, and stock-based compensation, which we refer to as employee-related costs, for employees whose primary responsibilities relate to supporting our infrastructure and delivering user support. Other non-employee costs included in cost of revenue include credit card fees related to processing customer transactions, and allocated overhead, such as facilities, including rent, utilities, depreciation on leasehold improvements and other equipment shared by all departments, and shared information technology costs. In addition, cost of revenue includes amortization of developed technologies, professional fees related to user support initiatives, and property taxes related to the datacenters.

We plan to continue increasing the capacity and enhancing the capability and reliability of our infrastructure to support user growth and increased use of our platform. We expect that cost of revenue will increase in absolute dollars in future periods.

Gross margin. Gross margin is gross profit expressed as a percentage of revenue. Our gross margin may fluctuate from period to period based on the timing of additional capital expenditures and the related depreciation expense, or other increases in our infrastructure costs, as well as revenue fluctuations. As we continue to utilize our internal infrastructure, we generally expect our gross margin to remain relatively constant in the near term and to increase modestly in the long term.

Operating expenses
Research and development. Our research and development expenses consist primarily of employee-related costs for our engineering, product, and design teams, compensation expenses related to key personnel from acquisitions and allocated overhead. Additionally, research and development expenses include internal development-related third-party hosting fees. We have expensed almost all of our research and development costs as they were incurred.

We plan to continue hiring employees for our engineering, product, and design teams to support our research and development efforts. We expect that research and development costs will increase in absolute dollars in future periods and vary from period to period as a percentage of revenue.

Sales and marketing. Our sales and marketing expenses relate to both self-serve and outbound sales activities, and consist primarily of employee-related costs, brand marketing costs, lead generation costs, sponsorships and allocated overhead. Sales commissions earned by our outbound sales team and the related payroll taxes, as well as commissions earned by third-party resellers that we consider to be incremental and recoverable costs of obtaining a contract with a customer, are deferred and are typically amortized over an estimated period of benefit of five years. Additionally, sales and marketing expenses include non-employee costs related to app store fees, fees payable to third-party sales representatives and amortization of acquired customer relationships.

We plan to continue to invest in sales and marketing to grow our user base and increase our brand awareness, including marketing efforts to continue to drive our self-serve business model. We expect that sales and marketing expenses will increase
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in absolute dollars in future periods and vary from period to period as a percentage of revenue. The trend and timing of sales and marketing expenses will depend in part on the timing of marketing campaigns.

General and administrative. Our general and administrative expenses consist primarily of employee-related costs for our legal, finance, human resources, and other administrative teams, as well as certain executives. In addition, general and administrative expenses include allocated overhead, outside legal, accounting and other professional fees, and non-income based taxes.

We expect to incur additional general and administrative expenses to support the growth of the Company. General and administrative expenses include the recognition of stock-based compensation expense related to the grant of restricted stock made to our co-founder. We expect that general and administrative expenses will increase in absolute dollars in future periods and vary from period to period as a percentage of revenue.

Interest income (expense), net
Interest income (expense), net consists primarily of interest income earned on our money market funds classified as cash and cash equivalents and short-term investments, partially offset by interest expense related to our finance lease obligations for infrastructure.

Other income, net
Other income, net consists of other non-operating gains or losses, including those related to equity investments, lease arrangements, which include sublease income, foreign currency transaction gains and losses, and realized gains and losses related to our short-term investments.

Benefit from (provision for) income taxes
Provision for income taxes consists primarily of U.S. federal and state income taxes and income taxes in certain foreign jurisdictions in which we conduct business. For the periods presented, the difference between the U.S. statutory rate and our effective tax rate is primarily due to the valuation allowance on deferred tax assets. Our effective tax rate is also impacted by earnings realized in foreign jurisdictions with statutory tax rates lower than the federal statutory tax rate. We maintain a full valuation allowance on our net deferred tax assets for federal, state, and certain foreign jurisdictions as we have concluded that it is not more likely than not that the deferred assets will be realized.

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Results of Operations

The following tables set forth our results of operations for the periods presented:
Three Months Ended
September 30,		 Nine Months Ended
September 30,
2020 2019 2020 2019
(In millions)
Revenue $ 487.4  $ 428.2  $ 1,409.8  $ 1,215.3 
Cost of revenue(1)
 103.2  104.8  308.8  306.1 
Gross profit 384.2  323.4  1,101.0  909.2 
Operating expenses(1):
Research and development 183.3  172.8  550.9  485.2 
Sales and marketing 105.8  108.2  312.9  317.0 
General and administrative 65.1  61.0  167.6  180.9 
Total operating expenses 354.2  342.0  1,031.4  983.1 
Income (loss) from operations 30.0  (18.6) 69.6  (73.9)
Interest income, net 0.1