NOTES TO CONDENSED CONSOLIDATED UNAUDITED FINANCIAL STATEMENTS
1. Nature of Business
AppFolio, Inc. (“we,” "us" or "our") provides industry-specific, cloud-based software solutions to the real estate market, which comprises a significant majority of our revenue, as well as to the legal market, and we intend to enter new vertical markets over time. Our mission is to revolutionize vertical industry businesses by providing great software and services. We believe we accomplish this mission by delivering software solutions and services that provide our customers with a system of record to automate essential business processes, a system of engagement to enhance business interactions between our customers and their clients and vendors, and, increasingly, a system of intelligence to anticipate, influence, and optimize customer experiences using data to take action in real time. Our property manager customers directly and indirectly account for more than
90%
of our annual revenue and include third-party property managers and owner operators who manage single- and multi-family residences, commercial properties, community associations and student housing, as well as mixed real estate portfolios. Our legal customers are typically small law firms that directly and indirectly account for less than
10%
of our annual revenue.
Recent Developments
Acquisition of WegoWise, Inc.
On August 31, 2018, we completed the acquisition of substantially all of the assets of WegoWise, Inc. ("WegoWise"), a provider of cloud-based utility analytics software solutions serving the real estate market. The WegoWise platform empowers building owners and third-party property managers to better manage operating and capital expenditures relating to utilities, and we expect that the acquisition will provide enhanced functionality to our real estate customers over time. For additional information regarding this acquisition, refer to Note 3,
Acquisition of WegoWise.
2. Summary of Significant Accounting Policies
Basis of Presentation and Significant Accounting Policies
The accompanying unaudited Condensed Consolidated Financial Statements were prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information. Certain information and disclosures normally included in consolidated financial statements prepared in accordance with GAAP have been condensed or omitted. Accordingly, these Condensed Consolidated Financial Statements should be read in conjunction with our audited consolidated financial statements and the related notes included in our Annual Report filed with the Securities and Exchange Commission ("SEC") on February 26, 2018. The year-end condensed balance sheet was derived from our audited consolidated financial statements. Our unaudited interim Condensed Consolidated Financial Statements include, in the opinion of management, all adjustments, consisting of normal and recurring items, necessary for the fair statement of the Condensed Consolidated Financial Statements. The operating results for the
nine
months ended
September 30, 2018
are not necessarily indicative of the results expected for the full year ending
December 31, 2018
.
Changes in Accounting Policies
On January 1, 2018, we adopted Financial Accounting Standards Board ("FASB") Accounting Standards Update ("ASU") No. 2014-09,
Revenue from Contracts with Customers
(as amended, "ASU 2014-09"), and have revised certain related accounting policies in connection with revenue recognition and deferred costs, as follows:
Revenue Recognition
We generate revenue from our customers primarily for subscriptions to access our core solutions and Value+ services for our cloud-based property management and legal software solutions. Revenue is recognized upon transfer of control of promised services in an amount that reflects the consideration we expect to receive in exchange for those services. We enter into contracts that can include various combinations of services, which are generally capable of being distinct, distinct within the context of the contract, and accounted for as separate performance obligations. Revenue is recognized net of any taxes collected from customers, which are subsequently remitted to governmental authorities. We have applied the practical expedient to recognize revenue in proportion to the amount we have the right to invoice for certain core solutions and Value+ services revenue as that amount corresponds directly with our performance completed to date. Refer to Note 10,
Revenue and Other Information
for the disaggregated breakdown of revenues between core solutions, Value+ services and other revenues.
Core Solutions
We charge our customers on a subscription basis for our core solutions. Our subscription fees are designed to scale to the size of our customers' businesses. Subscription fees for our core solutions are charged on a per-unit per-month basis for our property management software solution and on a per-user per-month basis for our legal software solution. Our customers do not have rights to the underlying software code of our solutions, and, accordingly, we recognize subscription revenue over time on a straight-line basis over the contract term beginning on the date that our service is made available to the customer. The term of our core solutions subscription agreements generally ranges from
one month
to
one year
. We typically invoice our customers for subscription services in monthly or annual installments, in advance of the subscription period.
Value+ Services
We charge our customers for Value+ services based on subscriptions or usage-based fees. Subscription Value+ services include website hosting and contact center services. Usage-based Value+ services include fees for services such as electronic payment processing, applicant screening, legal liability to landlord insurance, renters insurance, collections, and online vacancy advertising services. Usage-based fees are charged on a flat fee per transaction basis with no minimum usage commitments. We recognize revenue for usage-based services in the period the service is rendered. We generally invoice our customers for usage-based services on a monthly basis for services rendered in the preceding month with the exception of fees for electronic payment processing, which are generally paid by the clients of our customers at the time the electronic payment is processed.
We work with third party partners to provide certain of our Value+ services. For these Value+ services, we evaluate whether we are the principal, and report revenues on a gross basis, or the agent, and report revenues on a net basis. In this assessment we consider if we obtain control of the specified services before they are transferred to the customer, as well as other indicators such as whether we are the party primarily responsible for fulfillment, and whether we have discretion in establishing price.
Other Revenues
Other revenues include one-time services related to implementation and data migration of our core solutions, website design services, online vacancy advertising services offered to legacy RentLinx customers, and revenues from subscriptions to our utility tracking software and compliance reporting services, as well as one-time implementation fees for legacy WegoWise customers. The fees for implementation and data migration services are billed upon signing our core subscription contract and are not recognized until the core solution is accessible and fully functional for our customer's use. Our website design services are billed when the website design is completed and delivered to the customer. The online vacancy advertising services revenue includes a combination of monthly subscription revenue, which is billed in advance and deferred over the subscription period, and verified leads and clicks for online rental vacancies, which are billed when the services have been rendered and are recognized upon completion of the services. Revenue from subscriptions to our utility tracking software and compliance reporting services are billed in advance and deferred over the subscription period.
Contracts with Multiple Performance Obligations
Many of our contracts with customers contain multiple performance obligations. For these contracts, the performance obligations include access and use of our core solutions, implementation services, and customer support. We account for individual performance obligations separately if they are distinct. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment.
The transaction price is allocated to each performance obligation on a relative standalone selling price basis. Judgment is required to determine the standalone selling price for each distinct performance obligation. We typically have more than one standalone selling price for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we determine the standalone selling price based on our overall pricing objectives, taking into consideration customer demographics and other factors. Fees are fixed based on rates specified in the subscription agreements, which do not provide for any refunds or adjustments. In determining the transaction price, we have applied the practical expedient which allows us not to adjust the consideration for the effects of the time value of money as the time between when we transfer the promised service to a customer and when a customer pays is
one year
or less. We do not disclose the value of unsatisfied performance obligations for contracts with an original expected term of
one year
or less.
Deferred Revenues
We record deferred revenues when cash payments are received in advance of our performance. During the
nine
months ended
September 30, 2018
we recognized
$6.7 million
of revenues that were included in the deferred revenue balance at the beginning of the period.
Deferred Costs
Deferred costs, which primarily consist of sales commissions, are considered incremental and recoverable costs of obtaining a contract with a customer. These costs are deferred and then amortized on a straight-line basis over a period of benefit that we have determined to be
three years
. We typically do not pay commissions for contract renewals. We determined the period of benefit by taking into consideration our customer contract term, the useful life of our internal-use software, average customer life, and other factors. Amortization expense for the deferred costs is included within cost of revenue and sales and marketing expense in the accompanying Condensed Consolidated Statements of Operations.
Deferred costs were
$5.8 million
as of
September 30, 2018
, of which
$2.5 million
is included in prepaid expenses and other current assets and
$3.3 million
is included in other assets in the accompanying Condensed Consolidated Balance Sheets. Amortization expense for deferred costs was
$0.5 million
and
$1.3 million
for the
three and nine
months ended
September 30, 2018
, respectively. For the
nine
months ended
September 30, 2018
,
no
impairments were identified in relation to the costs capitalized for the period presented.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the dates of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates. On an ongoing basis, management evaluates its estimates based on historical data and experience, as well as various other factors that management believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.
Net Income per Common Share
The net income per common share was the same for shares of our Class A and Class B common stock because they are entitled to the same liquidation and dividend rights and are therefore combined in the table below. The following table presents a reconciliation of our weighted average number of shares of our Class A and Class B common stock used to compute net income per common share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Weighted average common shares outstanding
|
|
34,227
|
|
|
33,923
|
|
|
34,166
|
|
|
33,848
|
|
Less: Weighted average unvested restricted shares subject to repurchase
|
|
8
|
|
|
18
|
|
|
12
|
|
|
31
|
|
Weighted average common shares outstanding; basic
|
|
34,219
|
|
|
33,905
|
|
|
34,154
|
|
|
33,817
|
|
Plus: Weighted average options, restricted stock units and restricted shares used to compute diluted net income per common share
|
|
1,391
|
|
|
1,300
|
|
|
1,370
|
|
|
1,274
|
|
Weighted average common shares outstanding; diluted
|
|
35,610
|
|
|
35,205
|
|
|
35,524
|
|
|
35,091
|
|
For the three and
nine
month periods ended
September 30, 2018
and
2017
, an aggregate of approximately
503,000
and
571,000
shares, respectively, underlying performance based options ("PSOs") and performance based restricted stock units ("PSUs"), are not included in the computations of diluted and anti-dilutive shares as they are considered contingently issuable upon the satisfaction of pre-defined performance measures and their respective performance measures have not been met.
The following table presents the number of anti-dilutive common shares excluded from the calculation of weighted average number of shares used to compute diluted net income per common share for the
three and nine
months ended
September 30, 2018
and
2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Unvested restricted stock units
|
|
3
|
|
|
13
|
|
|
3
|
|
|
13
|
|
Contingent restricted stock units
(1)
|
|
1
|
|
|
6
|
|
|
1
|
|
|
6
|
|
Total shares excluded from diluted net income per common share
|
|
4
|
|
|
19
|
|
|
4
|
|
|
19
|
|
(1)
The reported shares are based on fixed price restricted stock unit (“RSU”) commitments for which the number of shares was not determined at the grant date. For the purposes of this table, the number of shares has been determined by dividing the fixed price commitment to issue shares in the future by the closing price of our common stock as of the applicable reporting period date.
Recently Adopted Accounting Pronouncements
We meet the definition of an emerging growth company under the Jumpstart our Business Startups Act (the “JOBS Act”). We have irrevocably elected to opt out of the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 107(b) of the JOBS Act.
In May 2014, the FASB issued ASU 2014-09, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers (the “New Revenue Standard”). The New Revenue Standard also includes Subtopic 340-40,
Other Assets and Deferred Costs - Contracts with Customers
, which discusses the deferral of incremental costs of obtaining a contract with a customer.
We adopted the New Revenue Standard as of January 1, 2018 using the modified retrospective transition method applied to those contracts which were not completed as of that date. We recognized the cumulative effect of initially applying the New Revenue Standard as an adjustment to the opening balance of retained earnings. The comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods. We updated our accounting policies, processes, internal controls and information systems to conform to the New Revenue Standard's reporting and disclosure requirements.
The adoption of the New Revenue Standard did not have an impact on our revenues. The most significant impact relates to the deferral of incremental costs of obtaining contracts. Prior to the adoption of the New Revenue Standard, our commissions were expensed as incurred.
The cumulative effects of the changes made to our Condensed Consolidated Balance Sheet at January 1, 2018 for the adoption of the New Revenue Standard were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
December 31, 2017
|
|
Adjustments
|
|
Balance at
January 1, 2018
|
Assets
|
|
|
|
|
|
Prepaid expenses and other current assets
|
$
|
4,546
|
|
|
$
|
1,148
|
|
|
$
|
5,694
|
|
Other assets
|
1,238
|
|
|
1,816
|
|
|
3,054
|
|
|
|
|
|
|
|
Equity
|
|
|
|
|
|
Accumulated deficit
|
$
|
(67,247
|
)
|
|
$
|
2,964
|
|
|
$
|
(64,283
|
)
|
The following tables summarize the current period impacts of adopting the New Revenue Standard on our Condensed Consolidated Financial Statements (in thousands):
Condensed Consolidated Balance Sheet:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
As Reported
|
|
Balances Without Adoption of ASU 2014-09
|
|
Effect of Adoption
|
Assets
|
|
|
|
|
|
Prepaid expenses and other current assets
|
$
|
10,916
|
|
|
$
|
8,381
|
|
|
$
|
2,535
|
|
Other assets
|
6,757
|
|
|
3,486
|
|
|
3,271
|
|
|
|
|
|
|
|
Equity
|
|
|
|
|
|
Accumulated deficit
|
$
|
(46,965
|
)
|
|
$
|
(52,772
|
)
|
|
$
|
5,807
|
|
Condensed Consolidated Statements of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, 2018
|
|
Nine Months Ended September 30, 2018
|
|
As Reported
|
|
Balances Without Adoption of ASU 2014-09
|
|
Effect of Adoption
|
|
As Reported
|
|
Balances Without Adoption of ASU 2014-09
|
|
Effect of Adoption
|
Costs and operating expenses:
|
|
|
|
|
|
|
|
|
|
|
|
Cost of revenue (exclusive of depreciation and amortization)
|
$
|
19,282
|
|
|
$
|
19,342
|
|
|
$
|
(60
|
)
|
|
$
|
53,624
|
|
|
$
|
53,806
|
|
|
$
|
(182
|
)
|
Sales and marketing
|
8,681
|
|
|
9,540
|
|
|
(859
|
)
|
|
23,711
|
|
|
26,371
|
|
|
(2,660
|
)
|
Total costs and operating expenses
|
44,649
|
|
|
45,568
|
|
|
(919
|
)
|
|
122,747
|
|
|
125,589
|
|
|
(2,842
|
)
|
Income from operations
|
5,477
|
|
|
4,558
|
|
|
919
|
|
|
16,959
|
|
|
14,117
|
|
|
2,842
|
|
Income before provision for income taxes
|
5,707
|
|
|
4,788
|
|
|
919
|
|
|
17,570
|
|
|
14,728
|
|
|
2,842
|
|
Net income
|
$
|
5,524
|
|
|
$
|
4,605
|
|
|
$
|
919
|
|
|
$
|
17,318
|
|
|
$
|
14,476
|
|
|
$
|
2,842
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income per common share:
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
$
|
0.16
|
|
|
$
|
0.13
|
|
|
$
|
0.03
|
|
|
$
|
0.51
|
|
|
$
|
0.42
|
|
|
$
|
0.09
|
|
Diluted
|
$
|
0.16
|
|
|
$
|
0.13
|
|
|
$
|
0.03
|
|
|
$
|
0.49
|
|
|
$
|
0.41
|
|
|
$
|
0.08
|
|
In August 2016, the FASB issued ASU No. 2016-15,
Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments
("ASU 2016-15"), which provides cash flow statement classification guidance for debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies; distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. We adopted ASU 2016-15 effective January 1, 2018. The adoption of this guidance did not have a material impact on our statements of cash flows.
In October 2016, the FASB issued ASU No. 2016-16,
Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory
("ASU 2016-16"), which changes the timing of when certain intercompany transactions are recognized within the provision for income taxes. We adopted ASU 2016-16 effective January 1, 2018. The adoption of this guidance did not have a material impact on our financial condition, results of operations, cash flows or disclosures.
In November 2016, the FASB issued ASU No. 2016-18,
Statement of Cash Flows (Topic 230): Restricted Cash
("ASU 2016-18"), which provides amendments to current guidance to address the classification and presentation of changes in restricted cash in the statement of cash flows. We adopted ASU 2016-18 effective January 1, 2018. The adoption of this guidance changed the presentation of restricted cash on our statements of cash flows.
In January 2017, the FASB issued ASU No. 2017-04,
Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment
("ASU 2017-04"), which eliminates Step 2 from the goodwill impairment test. The annual, or interim goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. In addition, income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit should be considered when measuring the goodwill impairment loss, if applicable. ASU 2017-04 also eliminates the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. ASU 2017-04 is effective for public entities for fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on dates after January 1, 2017. We early adopted ASU 2017-04 effective January 1, 2018. The adoption of this guidance did not have a material impact on our financial condition, results of operations, cash flows or disclosures.
In May 2017, the FASB issued ASU No. 2017-09,
Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting
("ASU 2017-09")
.
ASU 2017-09 clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. The new guidance will reduce diversity in practice and result in fewer changes to the terms of an award being accounted for as modifications. Under ASU 2017-09, an entity will not apply modification accounting to a share-based payment award if the award’s fair value, vesting conditions and classification as an equity or liability instrument are the same immediately before and after the change. ASU 2017-09 will be applied prospectively to awards modified on or after the adoption date. We adopted ASU 2017-09 effective January 1, 2018. The adoption of this guidance did not have a material impact on our financial condition, results of operations, cash flows or disclosures.
Recent Accounting Pronouncements Not Yet Adopted
In February 2016, the FASB issued ASU No. 2016-02,
Leases
(Topic 842) ("ASU 2016-02"). Under ASU 2016-02, an entity will be required to recognize right-of-use assets and lease liabilities on its balance sheet and disclose key information about leasing arrangements. ASU 2016-02 offers specific accounting guidance for a lessee, a lessor and sale and leaseback transactions. Lessees and lessors are required to disclose qualitative and quantitative information about leasing arrangements to enable a user of the financial statements to assess the amount, timing and uncertainty of cash flows arising from leases. For public companies, ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018, including interim periods within that reporting period. In July 2018, the FASB issued ASU No. 2018-11,
Leases (Topic 842): Targeted Improvement
s
("ASU 2018-11"). Among other things, ASU 2018-11 provides administrative relief by allowing entities to implement the lease standard on a modified retrospective basis, similar to the method that we used to adopt the new revenue standard. Effectively, the modified retrospective basis permits us to adopt the lease standard through a cumulative effect adjustment to our opening balance sheet for the first quarter of fiscal year 2019, with the cumulative effect accounted for as a component of retained earnings, and report under the new lease standard on a post adoption basis. We are currently evaluating the impact these standards will have on our results of operations and cash flows, and we anticipate a material increase in assets and liabilities due to the recording of the required right-of-use asset and corresponding liability for all lease obligations that are currently classified as operating leases.
In June 2016, the FASB issued ASU No. 2016-13,
Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments
("ASU 2016-13"), which amends the current accounting guidance and requires the measurement of all expected losses based on historical experience, current conditions and reasonable and supportable forecasts. This guidance amends the accounting for credit losses for available-for-sale securities and purchased financial assets with credit deterioration. ASU 2016-13 is effective for annual periods beginning after December 15, 2019, and interim periods within those annual periods. Early adoption is permitted for any interim or annual period after December 15, 2018. We do not expect the adoption of this guidance to have a material impact on our financial condition, results of operations, cash flows or disclosures.
In March 2017, the FASB issued ASU No. 2017-08,
Receivables-Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities
(“ASU 2017-08”)
.
ASU 2017-08 shortens the amortization period for certain callable debt securities held at a premium. Specifically, ASU 2017-08 requires the premium to be amortized to the earliest call date. ASU 2017-08 does not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. For public companies, ASU 2017-08 is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Early adoption is permitted, including adoption in an interim period. The amendments should be applied on a modified retrospective basis, with a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. We do not expect the adoption of this guidance to have a material impact on our financial condition, results of operations, cash flows or disclosures since our current accounting policy is consistent with ASU 2017-08.
In June 2018, the FASB issued ASU No. 2018-07,
Compensation - Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting
("ASU 2018-07"). This amendment expands the scope of
Topic 718, Compensation—Stock Compensation
(which currently only includes share-based payments to employees) to include share-based payments issued to nonemployees for goods or services. Consequently, the accounting for share-based payments to nonemployees and employees will be substantially aligned. ASU 2018-07 supersedes Subtopic 505-50, Equity—Equity-Based Payments to Non-Employees and is effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2018. We do not expect the adoption of this guidance to have a material impact on our financial condition, results of operations, cash flows or disclosures.
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
, a series of amendments which align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal use software license). The accounting for the service element of a hosting
arrangement that is a service contract is not affected by these amendments. For public business entities, the amendments are effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2019. We do not expect the adoption of this guidance to have a material impact on our financial condition, results of operations, cash flows or disclosures.
3. Acquisition of WegoWise
On August 31, 2018, we completed the acquisition of substantially all of the assets of WegoWise, a provider of cloud-based utility analytics software solutions serving the real estate market. The WegoWise platform empowers building owners and third-party property managers to better manage operating and capital expenditures relating to utilities, and we expect that the acquisition will provide enhanced functionality to our real estate customers over time.
The consideration paid in cash for the assets was
$14.4 million
, of which
$2.0 million
will be held in escrow for twelve months to satisfy WegoWise’s indemnity obligations. In addition, if during the period beginning immediately after the closing of the transaction (the "Closing") and ending on the six month anniversary of the Closing, we enter into contracts with certain third parties (each, a "Milestone Contract"), we will be obligated to pay to WegoWise the aggregate amount of the recurring revenues billed and collected from the Milestone Contract that results in the highest amount of recurring revenues billed during the twelve month period ("Determination Period") following the date recurring revenue is first billed for such Milestone Contract, but in no event will the Determination Period extend beyond the date which is the 15th month anniversary of the execution of the Milestone Contract (and we will not be obligated to pay WegoWise for any recurring revenues resulting from any other Milestone Contracts). We have determined that the fair value of the contingent consideration is
de minimis
based on facts and circumstances that existed on the Closing. The significant inputs used in the fair value measurement of the contingent consideration were the probability of entering into the Milestone Contracts during the Determination Period and the potential payment amounts for each Milestone Contract. The fair value of the contingent consideration may change over time as we continue to evaluate the likelihood of payment. Changes in the fair value of the contingent consideration would be recognized as an expense within the Condensed Consolidated Statements of Operations.
The transaction was accounted for using the acquisition method, and as a result, assets acquired and liabilities assumed were recorded at their estimated fair values as of the acquisition date. The preliminary fair values were based on management’s analysis as well as work performed by third‑party valuation specialists. We are in the process of finalizing the valuation of the assets. The following table summarizes the purchase price allocation (in thousands) as well as the estimated useful lives of the acquired intangible assets over which they are amortized on a straight-line basis, as this approximates the pattern in which economic benefits are consumed:
|
|
|
|
|
|
|
Amount
|
Estimated Useful Life (in years)
|
Net assets
|
$
|
270
|
|
|
Identified intangible assets:
|
|
|
Customer relationships
|
1,170
|
|
5.0
|
Technology and database
|
3,620
|
|
10.0
|
Trademark and trade name
|
370
|
|
10.0
|
Non-compete agreement
|
60
|
|
5.0
|
Backlog
|
140
|
|
1.0
|
Total intangible assets subject to amortization
|
5,360
|
|
8.6
|
Goodwill
|
8,811
|
|
Indefinite
|
Purchase consideration, paid in cash
|
$
|
14,441
|
|
|
Goodwill is mainly attributable to synergies expected from the acquisition and assembled workforce and is deductible for U.S. federal income tax purposes.
We incurred a total of
$210,000
in transaction costs related to the acquisition and expensed all transaction costs incurred during the period in which such service was received. The results of operations of WegoWise since the acquisition are included in our Condensed Consolidated Statements of Operations for the three and
nine
months ended
September 30, 2018
. Revenue and net income (loss) attributable to WegoWise, in the period from the acquisition date of August 31, 2018 through
September 30, 2018
, were
$79,000
and
$(329,000)
, respectively.
The following unaudited pro forma information has been prepared for illustrative purposes only, and assumes that the acquisition occurred on January 1, 2017 and includes pro forma adjustments related to the amortization of acquired intangible assets, elimination of historical interest expense on WegoWise debt, which was paid off as part of the transaction, and the transaction costs incurred. The unaudited pro forma results have been prepared based on estimates and assumptions, which we believe are reasonable; however, they are not necessarily indicative of the consolidated results of operations had the acquisition occurred on January 1, 2017, or of future results of operations. The unaudited pro forma results are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Revenue
|
|
$
|
50,850
|
|
|
$
|
38,653
|
|
|
$
|
142,158
|
|
|
$
|
108,172
|
|
Net income
|
|
$
|
5,484
|
|
|
$
|
2,423
|
|
|
$
|
15,444
|
|
|
$
|
3,493
|
|
|
|
|
|
|
|
|
|
|
Net income per common share:
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
0.16
|
|
|
$
|
0.07
|
|
|
$
|
0.45
|
|
|
$
|
0.10
|
|
Diluted
|
|
$
|
0.15
|
|
|
$
|
0.07
|
|
|
$
|
0.43
|
|
|
$
|
0.10
|
|
4. Investment Securities and Fair Value Measurements
Investment Securities
Investment securities classified as available-for-sale consisted of the following at
September 30, 2018
and
December 31, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Estimated Fair Value
|
Corporate bonds
|
$
|
33,239
|
|
|
$
|
1
|
|
|
$
|
(180
|
)
|
|
$
|
33,060
|
|
Agency securities
|
10,283
|
|
|
—
|
|
|
(45
|
)
|
|
10,238
|
|
Certificates of deposit
|
492
|
|
|
—
|
|
|
(1
|
)
|
|
491
|
|
Treasury securities
|
7,902
|
|
|
—
|
|
|
(7
|
)
|
|
7,895
|
|
Total available-for-sale investment securities
|
$
|
51,916
|
|
|
$
|
1
|
|
|
$
|
(233
|
)
|
|
$
|
51,684
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
Amortized Cost
|
|
Gross Unrealized Gains
|
|
Gross Unrealized Losses
|
|
Estimated Fair Value
|
Corporate bonds
|
$
|
38,383
|
|
|
$
|
—
|
|
|
$
|
(166
|
)
|
|
$
|
38,217
|
|
Agency securities
|
11,045
|
|
|
—
|
|
|
(42
|
)
|
|
11,003
|
|
Certificates of deposit
|
2,982
|
|
|
1
|
|
|
(2
|
)
|
|
2,981
|
|
Total available-for-sale investment securities
|
$
|
52,410
|
|
|
$
|
1
|
|
|
$
|
(210
|
)
|
|
$
|
52,201
|
|
As of
September 30, 2018
, the unrealized losses on investment securities which have been in a net loss position for twelve months or greater were not material. These unrealized losses are considered temporary and there were no impairments considered to be "other-than-temporary" based on our evaluation of available evidence, which includes our intent to hold these investments to maturity or until a recovery of the cost basis.
At
September 30, 2018
and
December 31, 2017
, the contractual maturities of our investments did not exceed
36 months
. The fair values of available-for-sale investment securities, by remaining contractual maturity, are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
December 31, 2017
|
|
Amortized Cost
|
|
Estimated Fair Value
|
|
Amortized Cost
|
|
Estimated Fair Value
|
Due in one year or less
|
$
|
31,949
|
|
|
$
|
31,823
|
|
|
$
|
29,850
|
|
|
$
|
29,800
|
|
Due after one year through three years
|
19,967
|
|
|
19,861
|
|
|
22,560
|
|
|
22,401
|
|
Total available-for-sale investment securities
|
$
|
51,916
|
|
|
$
|
51,684
|
|
|
$
|
52,410
|
|
|
$
|
52,201
|
|
During the
nine
months ended
September 30, 2018
and
2017
, we had sales and maturities (which includes calls) of investment securities, as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2018
|
|
Gross Realized Gains
|
|
Gross Realized Losses
|
|
Gross Proceeds from Sales
|
|
Gross Proceeds from Maturities
|
Corporate bonds
|
$
|
—
|
|
|
$
|
(1
|
)
|
|
$
|
—
|
|
|
$
|
16,457
|
|
Agency securities
|
—
|
|
|
—
|
|
|
—
|
|
|
6,000
|
|
Certificates of deposit
|
—
|
|
|
—
|
|
|
—
|
|
|
2,490
|
|
Treasury securities
|
—
|
|
|
—
|
|
|
701
|
|
|
3,530
|
|
Total sales and maturities (including calls) of investment securities
|
$
|
—
|
|
|
$
|
(1
|
)
|
|
$
|
701
|
|
|
$
|
28,477
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2017
|
|
Gross Realized Gains
|
|
Gross Realized Losses
|
|
Gross Proceeds from Sales
|
|
Gross Proceeds from Maturities
|
Corporate bonds
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
7,440
|
|
Agency securities
|
1
|
|
|
—
|
|
|
15
|
|
|
1,044
|
|
Certificates of deposit
|
—
|
|
|
—
|
|
|
—
|
|
|
2,490
|
|
Total sales and maturities (including calls) of investment securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
15
|
|
|
$
|
10,974
|
|
Interest income, net of the amortization and accretion of the premium and discount, for the three months ended
September 30, 2018
and
2017
, was
$0.3 million
and
$0.2 million
, respectively and
$0.8 million
and
$0.5 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
Fair Value Measurements
Recurring Fair Value Measurements
Financial assets and financial liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The following tables summarize our financial assets measured at fair value on a recurring basis as of
September 30, 2018
and
December 31, 2017
, by level within the fair value hierarchy (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total Fair
Value
|
Cash equivalents:
|
|
|
|
|
|
|
|
Money market funds
|
$
|
865
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
865
|
|
Available-for-sale investment securities:
|
|
|
|
|
|
|
|
Corporate bonds
|
—
|
|
|
33,060
|
|
|
—
|
|
|
33,060
|
|
Agency securities
|
—
|
|
|
10,238
|
|
|
—
|
|
|
10,238
|
|
Certificates of deposit
|
491
|
|
|
—
|
|
|
—
|
|
|
491
|
|
Treasury securities
|
7,895
|
|
|
—
|
|
|
—
|
|
|
7,895
|
|
Total
|
$
|
9,251
|
|
|
$
|
43,298
|
|
|
$
|
—
|
|
|
$
|
52,549
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total Fair
Value
|
Cash equivalents:
|
|
|
|
|
|
|
|
Money market funds
|
$
|
5,524
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
5,524
|
|
Available-for-sale investment securities:
|
|
|
|
|
|
|
|
Corporate bonds
|
—
|
|
|
38,217
|
|
|
—
|
|
|
38,217
|
|
Agency securities
|
—
|
|
|
11,003
|
|
|
—
|
|
|
11,003
|
|
Certificates of deposit
|
2,981
|
|
|
—
|
|
|
—
|
|
|
2,981
|
|
Total
|
$
|
8,505
|
|
|
$
|
49,220
|
|
|
$
|
—
|
|
|
$
|
57,725
|
|
The carrying amounts of cash equivalents, restricted cash, accounts receivable, accounts payable and accrued liabilities approximate fair value because of the short maturity of these items.
There were no changes to our valuation techniques used to measure financial asset and financial liability fair values on a recurring basis during the
nine
months ended
September 30, 2018
. The valuation techniques for the financial assets in the tables above are as follows:
Cash Equivalents
As of
September 30, 2018
and
December 31, 2017
, cash equivalents include cash invested in money market funds. Fair value is based on market prices for identical assets.
Available-for-Sale Investment Securities
The fair values of our corporate bonds and agency securities are based on pricing determined using inputs other than quoted prices that are observable either directly or indirectly, such as yield curve, volatility factors, credit spreads, default rates, loss severity, current market and contractual prices for the underlying instruments or debt, broker and dealer quotes, as well as other relevant economic measures. The fair values of our certificates of deposit and treasury securities are based on market prices for identical assets.
Contingent Consideration
Contingent consideration payable in connection with acquisitions is measured at fair value each period and is based on significant inputs not observable in the market, which represents a Level 3 measurement within the fair value hierarchy. The valuation of contingent consideration uses assumptions we believe would be made by a market participant. We assess these estimates on an on-going basis as additional data impacting the assumptions become available. We determine the fair value of the contingent consideration using the probability weighted discounted cash flow method.
Non-Recurring Fair Value Measurements
Certain assets, including goodwill, intangible assets and our note receivable with SecureDocs, are also subject to measurement at fair value on a non-recurring basis using Level 3 measurement, but only when they are deemed to be impaired as a result of an impairment test. For the
nine
months ended
September 30, 2018
and
2017
, no impairments were identified on those assets required to be measured at fair value on a non-recurring basis.
5. Internal-Use Software Development Costs
Internal-use software development costs as of
September 30, 2018
and
December 31, 2017
were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
September 30,
2018
|
|
December 31,
2017
|
Internal use software development costs, gross
|
|
$
|
54,067
|
|
|
$
|
44,626
|
|
Less: Accumulated amortization
|
|
(34,895
|
)
|
|
(27,017
|
)
|
Internal use software development costs, net
|
|
$
|
19,172
|
|
|
$
|
17,609
|
|
Capitalized software development costs for the three months ended
September 30, 2018
and
2017
were
$3.6 million
and
$2.9 million
, respectively, and
$9.7 million
and
$8.4 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
Amortization expense with respect to software development costs totaled
$2.8 million
and
$2.3 million
for the three months ended
September 30, 2018
and
2017
, respectively, and
$8.1 million
and
$6.6 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
Future amortization expense with respect to capitalized software development costs as of
September 30, 2018
is estimated as follows (in thousands):
|
|
|
|
|
|
Years Ending December 31,
|
2018
|
|
$
|
2,784
|
|
2019
|
|
9,294
|
|
2020
|
|
5,453
|
|
2021
|
|
1,641
|
|
Total amortization expense
|
|
$
|
19,172
|
|
6. Intangible Assets and Goodwill
Intangible assets consisted of the following as of
September 30, 2018
and
December 31, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2018
|
|
|
Gross Carrying
Value
|
|
Accumulated
Amortization
|
|
Net Carrying
Value
|
|
Weighted
Average Useful
Life in Years
|
Customer relationships
|
|
$
|
1,960
|
|
|
$
|
(641
|
)
|
|
$
|
1,319
|
|
|
5.0
|
Technology and database
|
|
8,431
|
|
|
(4,504
|
)
|
|
3,927
|
|
|
8.0
|
Trademarks & trade names
|
|
1,300
|
|
|
(613
|
)
|
|
687
|
|
|
9.0
|
Partner relationships
|
|
680
|
|
|
(680
|
)
|
|
—
|
|
|
3.0
|
Non-compete agreements
|
|
100
|
|
|
(41
|
)
|
|
59
|
|
|
4.0
|
Domain names
|
|
273
|
|
|
(273
|
)
|
|
—
|
|
|
5.0
|
Patents
|
|
285
|
|
|
(226
|
)
|
|
59
|
|
|
5.0
|
Backlog
|
|
140
|
|
|
(12
|
)
|
|
128
|
|
|
1.0
|
|
|
$
|
13,169
|
|
|
$
|
(6,990
|
)
|
|
$
|
6,179
|
|
|
7.0
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
|
Gross Carrying
Value
|
|
Accumulated
Amortization
|
|
Net Carrying
Value
|
|
Weighted Average Useful Life in Years
|
Customer relationships
|
|
$
|
790
|
|
|
$
|
(538
|
)
|
|
$
|
252
|
|
|
5.0
|
Technology
|
|
4,811
|
|
|
(3,871
|
)
|
|
940
|
|
|
6.0
|
Trademarks & trade names
|
|
930
|
|
|
(539
|
)
|
|
391
|
|
|
9.0
|
Partner relationships
|
|
680
|
|
|
(623
|
)
|
|
57
|
|
|
3.0
|
Non-compete agreements
|
|
40
|
|
|
(37
|
)
|
|
3
|
|
|
3.0
|
Domain names
|
|
273
|
|
|
(273
|
)
|
|
—
|
|
|
5.0
|
Patents
|
|
285
|
|
|
(203
|
)
|
|
82
|
|
|
5.0
|
|
|
$
|
7,809
|
|
|
$
|
(6,084
|
)
|
|
$
|
1,725
|
|
|
5.9
|
Amortization expense with respect to intangible assets for the three months ended
September 30, 2018
and
2017
was
$0.3 million
and
$0.4 million
, respectively, and
$0.9 million
and
$1.1 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
Future amortization expense with respect to intangible assets as of
September 30, 2018
is estimated as follows (in thousands):
|
|
|
|
|
|
Years Ending December 31,
|
2018
|
|
$
|
285
|
|
2019
|
|
1,091
|
|
2020
|
|
904
|
|
2021
|
|
769
|
|
2022
|
|
706
|
|
Thereafter
|
|
2,424
|
|
Total amortization expense
|
|
$
|
6,179
|
|
Our goodwill balance is solely attributable to acquisitions. There have been no impairment charges recorded against goodwill.
The change in the carrying amount of goodwill is as follows (in thousands)
:
|
|
|
|
|
|
Goodwill as of December 31, 2017
|
|
$
|
6,737
|
|
Goodwill from acquisition of WegoWise
|
|
8,811
|
|
Goodwill as of September 30, 2018
|
|
$
|
15,548
|
|
7. Commitments and Contingencies
Lease Obligations
As of
September 30, 2018
, we had operating lease obligations of approximately
$27.8 million
through 2028. We recorded rent expense of
$0.6 million
and
$0.5 million
for the three months ended
September 30, 2018
and
2017
, respectively, and
$1.7 million
and
$1.5 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
On July 27, 2018, we entered into a new lease agreement (the "Lease") with Nassau Land Company, L.P. (the "Landlord"), to lease approximately
86,000
square feet of office space located at 70 Castilian Drive in Santa Barbara, California (the "Premises"), which is directly adjacent to our corporate headquarters.
The term of the Lease is
10
years, beginning on September 1, 2018 (the "Commencement Date"), and ending on the tenth anniversary of the Commencement Date. The term may be extended for
two
additional
five
year terms at our election.
Beginning March 1, 2019, we will pay a base rent of approximately
$80,000
per month for 60% of the Premises. Beginning March 1, 2020, we will pay a base rent of approximately
$107,000
per month for 80% of the Premises. Beginning June 1, 2020, we will pay a base rent of approximately
$134,000
per month for 100% of the Premises. The base rent will increase
3%
annually, with the first such increase effective on March 1, 2020.
On July 27, 2018, we also entered into a lease amendment for 90 Castilian Drive in Santa Barbara, California. This amendment extends the term of the lease from November 2020 to April 2023. The term may be extended for
two
additional
three
year terms at our election. The total commitment under this lease extension is
$1.8 million
. All other terms and conditions from the original lease and previous amendments remain the same.
On September 30, 2018, we entered into a Membership Agreement (the “Membership Agreement”) with WeWork to lease office space located at 7300 Lone Star Drive in Plano, Texas. The term of the Membership Agreement commences on December 1, 2018 and is for a period of 24 months. We will pay a fee of
$61,000
per month for the leased premises.
Line of Credit
We are party to a Credit Agreement with Wells Fargo, as administrative agent, and the lenders that are parties thereto (as amended, the “Credit Agreement”). Under the terms of the Credit Agreement, the lenders made available to us a
$25.0 million
revolving line of credit (the “Revolving Facility”). Borrowings under the Revolving Facility are subject to the satisfaction of customary conditions. The Revolving Facility matures on October 9, 2020; however, we can make payments on the Revolving Facility and cancel it in full at any time without premium or penalty.
As of
September 30, 2018
and
December 31, 2017
, we had
no
outstanding balance and were in compliance with the financial covenants under the Revolving Facility.
Legal Liability to Landlord Insurance
We have a wholly owned subsidiary, Terra Mar Insurance Company, Inc., which was established to provide our customers with the option to purchase legal liability to landlord insurance. If our customers choose to use this insurance service, they are issued an insurance policy underwritten by our third-party service provider. The policy has a limit of
$100,000
per incident for each insured residence. We have entered into a reinsurance agreement with our third-party service provider and, as a result, we assume a
100%
quota share of the legal liability to landlord insurance provided to our customers through our third-party service provider. In cost of revenue, we accrue the expense for reported claims and an estimate of losses incurred but not reported by our property manager customers, as we bear the risk related to all such claims. Our liability for reported claims and incurred but not reported claims as of
September 30, 2018
and
December 31, 2017
was
$0.7 million
and
$0.5 million
, respectively, and is included in
Other current liabilities
on the Condensed Consolidated Balance Sheets.
Included in
Other current assets
as of
September 30, 2018
and
December 31, 2017
, are
$1.1 million
and
$1.8 million
, respectively, of deposits held with a third party related to requirements to maintain collateral for this insurance service.
Litigation
On September 28, 2017, a putative federal class action styled
Leo v. AppFolio, Inc.
(Civ. No. 3:17-cv-05771; W.D. Wash.) was filed naming us as a defendant and alleging certain violations of the Fair Credit Reporting Act in connection with our tenant screening Value+ service (the "Leo Litigation"). The parties recently agreed to settle the Leo Litigation and filed a notice of settlement with the court. Key to the settlement is an agreement that we do not admit any liability whatsoever in connection with the claims and allegations in the Leo Litigation. The final settlement agreement will be subject to court approval.
As a result of the foregoing developments, we have determined that a loss is probable and therefore recorded an expense, net of expected insurance proceeds, of
$1.1 million
during the nine months September 30, 2018, within cost of revenue. We expect that our insurer will pay its portion of the settlement proceeds directly to the settlement fund following final court approval.
From time to time, we are involved in various other legal proceedings arising from or related to claims incident to the ordinary course of our business activities, including actions with respect to intellectual property, employment and contractual matters. Although the results of such legal proceedings and claims cannot be predicted with certainty, we believe that we are not currently a party to any legal proceeding(s) which, if determined adversely to us, would, individually or taken together, have a material adverse effect on our business, operating results, financial condition or cash flows.
Indemnification
In the ordinary course of business, we may provide indemnification of varying scope and terms to customers, investors, directors and officers with respect to certain matters, including, but not limited to, losses arising out of our breach of any applicable agreements, services to be provided by us, or intellectual property infringement claims made by third parties. These indemnification provisions may survive termination of the underlying agreement and the maximum potential amount of future payments we could be required to make under these indemnification provisions may not be subject to maximum loss clauses and is indeterminable. We have never paid a material claim, nor have any legal claims been brought against us in connection with these indemnification arrangements. As of
September 30, 2018
and
December 31, 2017
, we had not accrued a liability for these indemnification arrangements because we determined that the likelihood of incurring any payment obligation, in connection with these indemnification arrangements is not probable or reasonably possible and the amount or range of amounts of any such liability is not reasonably estimable.
8. Stock-Based Compensation
Stock Options
A summary of our stock option activity for the
nine
months ended
September 30, 2018
, is as follows (number of shares in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Shares
|
|
Weighted
Average
Exercise
Price per Share
|
|
Weighted
Average
Remaining
Contractual Life
in Years
|
Options outstanding as of December 31, 2017
|
|
1,692
|
|
|
$
|
10.81
|
|
|
7.3
|
Options granted
|
|
—
|
|
|
—
|
|
|
|
Options exercised
|
|
(143
|
)
|
|
5.00
|
|
|
|
Options cancelled/forfeited
|
|
(9
|
)
|
|
15.12
|
|
|
|
Options outstanding as of September 30, 2018
|
|
1,540
|
|
|
$
|
11.33
|
|
|
6.6
|
Included in the options outstanding as of
September 30, 2018
are
172,000
and
250,000
PSOs granted in 2017 and 2016, respectively. Vesting of these PSOs is based on the achievement of pre-established performance targets for each of the years ending December 31, 2018 and 2019, and continued employment throughout the performance period. Of the PSOs granted during 2017,
132,000
shares vest based on the achievement of a pre-established free cash flow performance target for the year ending December 31, 2019, assuming achievement of the performance metric at the maximum level, which is
150%
of the performance target, resulting in a maximum payout of
100%
of the initial target award. The remaining
40,000
PSOs granted during 2017 have a pre-established adjusted gross margin target for the year ending December 31, 2019. PSOs tied to the gross margin performance target have two levels of vesting, with
50%
vesting based on the achievement of
110%
of the targeted amount and the remaining
50%
vesting based on the achievement of
115%
of the targeted amount. The
250,000
PSOs granted in 2016 vest based on the achievement of a pre-established free cash flow performance target for the year ending December 31, 2018, assuming achievement of the performance metric at the maximum level, which is
150%
of the performance target.
During the
nine
months ended
September 30, 2018
,
250,000
PSOs vested based on the achievement of
150%
of the pre-established free cash flow performance target for the year ended December 31, 2017.
No
expense was recognized as a result of the vesting of PSOs that vested during the
nine
months ended
September 30, 2018
, as all expense was recognized as of December 31, 2017.
We recognize expense for the PSOs based on the grant date fair value of the PSOs that we determine are probable of vesting. Adjustments to compensation expense are made each period based on changes in our estimate of the number of PSOs that are probable of vesting. Our stock-based compensation expense for stock options, including the PSOs, for the three months ended
September 30, 2018
and
2017
, was
$0.6 million
and
$0.7 million
, respectively, and
$1.2 million
and
$2.0 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
The fair value of stock options is estimated on their date of grant using the Black-Scholes option-pricing model.
No
stock options were granted during the three months ended
September 30, 2017
or the three or
nine
months ended
September 30, 2018
.
The following table summarizes information relating to our stock options granted during the
nine
months ended
September 30, 2017
:
|
|
|
|
|
|
|
|
Nine Months Ended September 30, 2017
|
Stock options granted (in thousands)
|
|
172
|
|
Weighted average exercise price per share
|
|
$
|
24.77
|
|
Weighted average grant-date fair value per share
|
|
$
|
9.58
|
|
Weighted average Black-Scholes model assumptions:
|
|
|
Risk-free interest rate
|
|
2.02
|
%
|
Expected term (in years)
|
|
6.4
|
|
Expected volatility
|
|
35
|
%
|
Expected dividend yield
|
|
—
|
|
As of
September 30, 2018
, the total estimated remaining stock-based compensation expense for unvested stock options, including the PSOs, was
$1.0 million
, which is expected to be recognized over a weighted average period of
one
year.
Restricted Stock Units
A summary of activity in connection with our RSUs for the
nine
months ended
September 30, 2018
is as follows (number of shares in thousands):
|
|
|
|
|
|
|
|
|
|
|
Number of Shares
|
|
Weighted Average Grant Date Fair Value per Share
|
Unvested as of December 31, 2017
|
|
598
|
|
|
$
|
19.75
|
|
Granted
|
|
231
|
|
|
44.38
|
|
Vested
|
|
(168
|
)
|
|
17.34
|
|
Forfeited
|
|
(45
|
)
|
|
26.12
|
|
Unvested as of September 30, 2018
|
|
616
|
|
|
$
|
29.18
|
|
During the
nine
months ended
September 30, 2018
, we granted a total of
231,000
RSUs:
157,000
RSUs are subject to time-based vesting in equal annual installments over
four years
;
59,000
PSUs vest based on the achievement of a pre-established consolidated net revenue growth target for each of the years ending December 31, 2018, 2019 and 2020; and
15,000
PSUs were granted and vested as a result of the achievement of a pre-established free cash flow performance target for the year ended December 31, 2017. The number of PSUs granted, as included in the above table, assumes achievement of the performance metric at
100%
of the performance target. The actual number of shares to be issued at the end of the performance period will range from
0%
to
100%
of the initial target awards. Achievement of the performance target between
100%
and
150%
of the performance target will result in a performance based cash bonus payment between
100%
and
165%
of the initial target awards.
During the
nine
months ended
September 30, 2018
,
30,000
of the PSUs vested and an additional
15,000
PSUs were granted and vested based on the achievement of
150%
of the pre-established free cash flow performance target for the year ended December 31, 2017. No expense was recognized related to the PSUs that vested during the
nine
months ended
September 30, 2018
, as all expense was recognized as of December 31, 2017.
Included in the unvested RSUs as of
September 30, 2018
are
91,000
and
26,000
PSUs granted in 2017 and 2016, respectively. Vesting of these PSUs is based on the achievement of pre-established free cash flow performance targets for each of the years ending December 31, 2018 and 2019, and continued employment throughout the performance period. The number of PSUs granted assumes achievement of the performance metric at
100%
of the performance target. For the PSUs granted in 2017, the actual number of shares to be issued at the end of the performance period will range from
0%
to
165%
of the initial target award. For the PSUs granted in 2016, the actual number of shares to be issued at the end of the performance period will range from
0%
to
150%
of the initial target award.
We recognize expense for the PSUs based on the grant date fair value of the PSUs that we determine are probable of vesting. Adjustments to compensation expense are made each period based on changes in our estimate of the number of PSUs that are probable of vesting. Our stock-based compensation expense for the RSUs and PSUs for the three months ended
September 30, 2018
and
2017
, was
$1.3 million
and
$1.0 million
, respectively, and
$3.7 million
and
$2.6 million
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
As of
September 30, 2018
, the total estimated remaining stock-based compensation expense for the RSUs and PSUs was
$12.2 million
, which is expected to be recognized over a weighted average period of
2.3
years.
Restricted Stock Awards
A summary of activity in connection with our restricted stock awards for the
nine
months ended
September 30, 2018
, is as follows (number of shares in thousands):
|
|
|
|
|
|
|
|
|
|
|
Number of
Shares
|
|
Weighted Average
Grant Date
Fair Value per Share
|
Unvested as of December 31, 2017
|
|
16
|
|
|
$
|
20.93
|
|
Granted
|
|
5
|
|
|
61.05
|
|
Vested
|
|
(14
|
)
|
|
23.83
|
|
Forfeited
|
|
—
|
|
|
—
|
|
Unvested as of September 30, 2018
|
|
7
|
|
|
$
|
41.86
|
|
We have the right to repurchase any unvested restricted stock awards subject to certain conditions. Restricted stock awards vest over a
four
-year period for employees and a
one
-year period for non-employee directors. We recognized stock-based compensation expense for restricted stock awards of
$84,000
for each of the three months ended
September 30, 2018
and
2017
, and
$250,000
and
$274,000
for the
nine
months ended
September 30, 2018
and
2017
, respectively.
As of
September 30, 2018
, the total estimated remaining stock-based compensation expense for unvested restricted stock awards with a repurchasing right was
$234,000
which is expected to be recognized over a weighted average period of
0.7 years
.
9. Income Taxes
On December 22, 2017, the United States government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the "Tax Act"). The Tax Act significantly revises the existing tax law by, among other things, lowering the United States corporate income tax rate from
35%
to
21%
beginning in 2018. Our effective tax rate differs from the United States federal statutory rate of
21%
primarily because our previously reported losses have been offset by a valuation allowance due to uncertainty as to the realization of those losses.
For the three and
nine
months ended
September 30, 2018
, we recorded income tax expense of
$183,000
and
$252,000
, respectively, on pre-tax income of
$5.7 million
and
$17.6 million
, respectively, for an effective tax rate of
3.2%
and
1.4%
, respectively. The income tax expense is based on our payments of state minimum and franchise taxes, and the amortization of tax deductible goodwill that is not an available source of income to realize the deferred tax asset.
For the three and
nine
months ended
September 30, 2017
, we recorded income tax expense of
$52,000
and
$93,000
, respectively, on pre-tax income of
$3.7 million
and
$7.2 million
, respectively, for an effective tax rate of
1.4%
and
1.3%
, respectively. The income tax expense is based on our payments of state minimum taxes, alternative minimum tax ("AMT") (net of available AMT credit), and the amortization of tax deductible goodwill that is not an available source of income to realize the deferred tax asset.
We have recorded a full valuation allowance related to our NOLs, credit carryforwards, and other net deferred tax assets due to the uncertainty of the ultimate realization of the future benefits of those assets. To the extent we determine that all, or a portion of, our valuation allowance is no longer necessary, we will reverse the valuation allowance and recognize an income tax benefit in the reported financial statement earnings in that period. Once the valuation allowance is eliminated or reduced, its reversal will no longer be available to offset our current financial statement tax provision in future periods. We believe that there is a possibility that, within the next twelve months, sufficient positive evidence may become available to allow us to reach a conclusion that some or all of the valuation allowance will no longer be needed. Release of the valuation allowance would result in the recognition of certain net deferred tax assets and a decrease to income tax expense for the period the release is recorded. However, the timing and amount of the valuation allowance release are subject to change on the basis of the level of company profitability and other factors.
10. Revenue and Other Information
The following table presents our revenue categories for the
three and nine
months ended
September 30, 2018
and
2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
September 30,
|
|
Nine Months Ended
September 30,
|
|
|
2018
|
|
2017
|
|
2018
|
|
2017
|
Core solutions
|
|
$
|
17,908
|
|
|
$
|
14,670
|
|
|
$
|
51,101
|
|
|
$
|
41,682
|
|
Value+ services
|
|
30,797
|
|
|
21,752
|
|
|
84,189
|
|
|
60,053
|
|
Other
|
|
1,421
|
|
|
1,481
|
|
|
4,416
|
|
|
4,171
|
|
Total revenues
|
|
$
|
50,126
|
|
|
$
|
37,903
|
|
|
$
|
139,706
|
|
|
$
|
105,906
|
|
Our revenue is generated primarily from customers in the United States. All of our property and equipment is located in the United States.