Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
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þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 2019
OR
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o | 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 001-33508
Limelight Networks, Inc.
(Exact name of registrant as specified in its charter)
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Delaware | | 20-1677033 |
(State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
222 South Mill Avenue, 8th Floor
Tempe, AZ 85281
(Address of principal executive offices, including Zip Code)
(602) 850-5000
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
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 þ No o
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.
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Large accelerated filer o | Accelerated filer þ |
Non-accelerated filer o | Smaller Reporting Company o |
| Emerging Growth Company o |
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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 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
The number of shares outstanding of the registrant’s Common Stock, par value $0.001 per share, as of April 12, 2019: 114,885,188 shares.
LIMELIGHT NETWORKS, INC.
FORM 10-Q
Quarterly Period Ended March 31, 2019
TABLE OF CONTENTS
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PART I. FINANCIAL INFORMATION | |
Item 1. | FINANCIAL STATEMENTS | |
| Consolidated Balance Sheets as of March 31, 2019 (Unaudited) and December 31, 2018 | |
| Unaudited Consolidated Statements of Operations for the Three Months Ended March 31, 2019 and 2018 | |
| Unaudited Consolidated Statements of Comprehensive Income (Loss) for the Three Months Ended March 31, 2019 and 2018 | |
| Unaudited Consolidated Statements of Stockholders' Equity for the Three Months Ended March 31, 2019 and 2018 | |
| Unaudited Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2019 and 2018 | |
| Notes to Unaudited Consolidated Financial Statements | |
Item 2. | MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS | |
Item 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK | |
Item 4. | CONTROLS AND PROCEDURES | |
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PART II. OTHER INFORMATION | |
Item 1. | LEGAL PROCEEDINGS | |
Item 1A. | RISK FACTORS | |
Item 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS | |
Item 3. | DEFAULTS UPON SENIOR SECURITIES | |
Item 4. | MINE SAFETY DISCLOSURES | |
Item 5. | OTHER INFORMATION | |
Item 6. | EXHIBITS | |
| SIGNATURES | |
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Special Note Regarding Forward-Looking Statement
This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements contained in this Quarterly Report on Form 10-Q, other than statements of historical fact, are forward-looking statements. Forward-looking statements generally can be identified by the words “may,” “will,” “expect,” “believe,” “anticipate,” “intend,” “could,” “estimate,” or “continue,” and similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events, as well as trends that we believe may affect our financial condition, results of operations, business strategy, short-term and long-term business operations and objectives, and financial needs. These statements include, among other things:
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• | our beliefs regarding delivery traffic growth trends and demand for digital content and edge services; |
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• | our expectations regarding revenue, costs, expenses, gross margin, non-GAAP earnings per share, Adjusted EBITDA and capital expenditures; |
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• | our plans regarding investing in our content delivery network, as well as other products and technologies; |
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• | our beliefs regarding the growth of, and competition within, the content delivery industry; |
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• | our beliefs regarding the growth of our business and how that impacts our liquidity and capital resources requirements; |
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• | our expectations regarding headcount; |
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• | the impact of certain new accounting standards and guidance as well as the time and cost of continued compliance with existing rules and standards; |
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• | our plans with respect to investments in marketable securities; |
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• | our expectations and strategies regarding acquisitions; |
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• | our estimations regarding taxes and belief regarding our tax reserves; |
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• | our beliefs regarding the use of Non-GAAP financial measures; |
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• | our approach to identifying, attracting and keeping new and existing customers, as well as our expectations regarding customer turnover; |
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• | the sufficiency of our sources of funding; |
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• | our beliefs regarding our interest rate risk; |
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• | our beliefs regarding inflation risks; |
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• | our beliefs regarding expense and productivity of and competition for our sales force; and |
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• | our beliefs regarding the significance of our large customers. |
These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described under the caption “Risk Factors” in Part II, Item 1A in this Quarterly Report on Form 10-Q and those discussed in other documents we file with the Securities and Exchange Commission (SEC).
In addition, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and trends discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.
The forward-looking statements contained herein are based on our current expectations and assumptions and on information available as of the date of the filing of this Quarterly Report on Form 10-Q. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements, except as required by law. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.
Unless expressly indicated or the context requires otherwise, the terms "Limelight," "we," "us," and "our" in this document refer to Limelight Networks, Inc., a Delaware corporation, and, where appropriate, its wholly owned subsidiaries. All information is presented in thousands, except per share amounts, customer count, headcount and where specifically noted.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Limelight Networks, Inc.
Consolidated Balance Sheets
(In thousands, except per share data)
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| March 31, 2019 | | December 31, 2018 |
| (Unaudited) | | |
ASSETS | | | |
Current assets: | | | |
Cash and cash equivalents | $ | 16,499 |
| | $ | 25,383 |
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Marketable securities | 22,142 |
| | 25,083 |
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Accounts receivable, net | 29,505 |
| | 26,041 |
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Income taxes receivable | 124 |
| | 122 |
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Prepaid expenses and other current assets | 12,276 |
| | 14,789 |
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Total current assets | 80,546 |
| | 91,418 |
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Property and equipment, net | 32,996 |
| | 27,378 |
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Operating lease right of use assets | 3,012 |
| | — |
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Marketable securities, less current portion | 40 |
| | 40 |
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Deferred income taxes | 1,508 |
| | 1,462 |
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Goodwill | 76,707 |
| | 76,407 |
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Other assets | 4,199 |
| | 2,220 |
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Total assets | $ | 199,008 |
| | $ | 198,925 |
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LIABILITIES AND STOCKHOLDERS’ EQUITY | | | |
Current liabilities: | | | |
Accounts payable | $ | 17,858 |
| | $ | 9,216 |
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Deferred revenue | 1,524 |
| | 1,883 |
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Operating lease liability obligations | 1,620 |
| | — |
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Income taxes payable | 186 |
| | 124 |
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Provision for litigation | 4,500 |
| | 9,000 |
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Other current liabilities | 11,656 |
| | 12,922 |
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Total current liabilities | 37,344 |
| | 33,145 |
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Operating lease liability obligations, less current portion | 1,630 |
| | — |
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Deferred income taxes | 128 |
| | 152 |
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Deferred revenue, less current portion | 105 |
| | 42 |
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Other long-term liabilities | 263 |
| | 435 |
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Total liabilities | 39,470 |
| | 33,774 |
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Commitments and contingencies |
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Stockholders’ equity: | | | |
Convertible preferred stock, $0.001 par value; 7,500 shares authorized; no shares issued and outstanding | — |
| | — |
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Common stock, $0.001 par value; 300,000 shares authorized; 114,874 and 114,246 shares issued and outstanding at March 31, 2019 and December 31, 2018, respectively | 115 |
| | 114 |
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Additional paid-in capital | 516,251 |
| | 513,682 |
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Accumulated other comprehensive loss | (9,657 | ) | | (10,033 | ) |
Accumulated deficit | (347,171 | ) | | (338,612 | ) |
Total stockholders’ equity | 159,538 |
| | 165,151 |
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Total liabilities and stockholders’ equity | $ | 199,008 |
| | $ | 198,925 |
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The accompanying notes are an integral part of the unaudited consolidated financial statements.
Limelight Networks, Inc.
Unaudited Consolidated Statements of Operations
(In thousands, except per share data)
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| Three Months Ended March 31, |
| 2019 | | 2018 |
Revenue | $ | 43,280 |
| | $ | 52,114 |
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Cost of revenue: | | |
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Cost of services | 22,941 |
| | 21,054 |
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Depreciation — network | 4,317 |
| | 4,380 |
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Total cost of revenue | 27,258 |
| | 25,434 |
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Gross profit | 16,022 |
| | 26,680 |
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Operating expenses: | | |
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General and administrative | 7,535 |
| | 9,522 |
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Sales and marketing | 10,972 |
| | 10,280 |
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Research and development | 5,901 |
| | 6,339 |
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Depreciation and amortization | 245 |
| | 588 |
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Total operating expenses | 24,653 |
| | 26,729 |
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Operating loss | (8,631 | ) | | (49 | ) |
Other income (expense): | | |
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Interest expense | (10 | ) | | (59 | ) |
Interest income | 212 |
| | 130 |
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Other, net | (6 | ) | | 112 |
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Total other income | 196 |
| | 183 |
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(Loss) income before income taxes | (8,435 | ) | | 134 |
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Income tax expense (benefit) | 124 |
| | (15 | ) |
Net (loss) income | (8,559 | ) | | 149 |
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Net income (loss) per share: | | | |
Basic | $ | (0.07 | ) | | $ | — |
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Diluted | $ | (0.07 | ) | | $ | — |
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Weighted average shares used in per share calculation: | | | |
Basic | 114,410 |
| | 110,761 |
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Diluted | 114,410 |
| | 118,909 |
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The accompanying notes are an integral part of the unaudited consolidated financial statements.
Limelight Networks, Inc.
Unaudited Consolidated Statements of Comprehensive Income (Loss)
(In thousands)
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| Three Months Ended March 31, |
| 2019 | | 2018 |
Net (loss) income | $ | (8,559 | ) | | $ | 149 |
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Other comprehensive income (loss), net of tax: | | | |
Unrealized gain (loss) on investments | 29 |
| | (24 | ) |
Foreign exchange translation gain | 347 |
| | 491 |
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Other comprehensive income | 376 |
| | 467 |
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Comprehensive (loss) income | $ | (8,183 | ) | | $ | 616 |
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The accompanying notes are an integral part of the unaudited consolidated financial statements.
Limelight Networks, Inc.
Unaudited Consolidated Statements of Stockholders' Equity
(In thousands)
For the Three Months Ended March 31, 2019
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| Common Stock | | | | | | | | |
| Shares | | Amount | | Additional Paid-In Capital | | Accumulated Other Comprehensive Loss | | Accumulated Deficit | | Total |
Balance December 31, 2018 | 114,246 |
| | $ | 114 |
| | $ | 513,682 |
| | $ | (10,033 | ) | | $ | (338,612 | ) | | $ | 165,151 |
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Net loss | — |
| | — |
| | — |
| | — |
| | (8,559 | ) | | (8,559 | ) |
Change in unrealized loss on available-for-sale investments, net of taxes | — |
| | — |
| | — |
| | 29 |
| | — |
| | 29 |
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Foreign currency translation adjustment, net of taxes | — |
| | — |
| | — |
| | 347 |
| | — |
| | 347 |
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Exercise of common stock options | 5 |
| | — |
| | 8 |
| | — |
| | — |
| | 8 |
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Vesting of restricted stock units | 928 |
| | 1 |
| | (1 | ) | | — |
| | — |
| | — |
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Restricted stock units surrendered in lieu of withholding taxes | (305 | ) | | — |
| | (894 | ) | | — |
| | — |
| | (894 | ) |
Share-based compensation | — |
| | — |
| | 3,456 |
| | — |
| | — |
| | 3,456 |
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Balance March 31, 2019 | 114,874 |
| | $ | 115 |
| | $ | 516,251 |
| | $ | (9,657 | ) | | $ | (347,171 | ) | | $ | 159,538 |
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For the Three Months Ended March 31, 2018 |
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| Common Stock | | | | | | | | |
| Shares | | Amount | | Additional Paid-In Capital | | Accumulated Other Comprehensive Loss | | Accumulated Deficit | | Total |
Balance December 31, 2017 | 110,824 |
| | $ | 111 |
| | $ | 502,314 |
| | $ | (8,328 | ) | | $ | (349,952 | ) | | $ | 144,145 |
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Cumulative effect of accounting change | — |
| | — |
| | — |
| | — |
| | 1,496 |
| | 1,496 |
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Net income | — |
| | — |
| | — |
| | — |
| | 149 |
| | 149 |
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Change in unrealized loss on available-for-sale investments, net of taxes | — |
| | — |
| | — |
| | (24 | ) | | — |
| | (24 | ) |
Foreign currency translation adjustment, net of taxes | — |
| | — |
| | — |
| | 491 |
| | — |
| | 491 |
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Exercise of common stock options | 10 |
| | — |
| | 30 |
| | — |
| | — |
| | 30 |
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Vesting of restricted stock units | 1,228 |
| | 1 |
| | (1 | ) | | — |
| | — |
| | — |
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Restricted stock units surrendered in lieu of withholding taxes | (405 | ) | | — |
| | (1,606 | ) | | — |
| | — |
| | (1,606 | ) |
Purchases of common stock | (1,000 | ) | | (1 | ) | | (3,799 | ) | | — |
| | — |
| | (3,800 | ) |
Share-based compensation | — |
| | — |
| | 3,367 |
| | — |
| | — |
| | 3,367 |
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Balance March 31, 2018 | 110,657 |
| | $ | 111 |
| | $ | 500,305 |
| | $ | (7,861 | ) | | $ | (348,307 | ) | | $ | 144,248 |
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The accompanying notes are an integral part of the unaudited consolidated financial statements.
Limelight Networks, Inc.
Unaudited Consolidated Statements of Cash Flows
(In thousands)
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| Three Months Ended March 31, |
| 2019 | | 2018 |
Operating activities | | | |
Net (loss) income | $ | (8,559 | ) | | $ | 149 |
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Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: | | | |
Depreciation and amortization | 4,562 |
| | 4,968 |
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Share-based compensation | 3,456 |
| | 3,367 |
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Foreign currency remeasurement loss | 10 |
| | 110 |
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Deferred income taxes | (51 | ) | | 41 |
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Gain on sale of property and equipment | (30 | ) | | (16 | ) |
Accounts receivable charges | 257 |
| | 218 |
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Amortization of premium on marketable securities | 12 |
| | 33 |
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Changes in operating assets and liabilities: | | | |
Accounts receivable | (3,720 | ) | | (270 | ) |
Prepaid expenses and other current assets | (474 | ) | | 882 |
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Income taxes receivable | (2 | ) | | (124 | ) |
Other assets | (1,737 | ) | | (495 | ) |
Accounts payable and other current liabilities | 2,243 |
| | (2,286 | ) |
Deferred revenue | (297 | ) | | 130 |
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Income taxes payable | 62 |
| | (397 | ) |
Payments related to litigation, net | (1,520 | ) | | (4,500 | ) |
Other long term liabilities | (175 | ) | | (151 | ) |
Net cash (used in) provided by operating activities | (5,963 | ) | | 1,659 |
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Investing activities | | | |
Purchases of marketable securities | (9,266 | ) | | — |
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Sale and maturities of marketable securities | 12,224 |
| | 4,515 |
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Purchases of property and equipment | (5,018 | ) | | (1,990 | ) |
Proceeds from sale of property and equipment | 29 |
| | 16 |
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Net cash (used in) provided by investing activities | (2,031 | ) | | 2,541 |
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Financing activities | | | |
Payments of employee tax withholdings related to restricted stock vesting | (894 | ) | | (1,606 | ) |
Cash paid for purchase of common stock | — |
| | (3,800 | ) |
Proceeds from employee stock plans | 8 |
| | 30 |
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Net cash used in financing activities | (886 | ) | | (5,376 | ) |
Effect of exchange rate changes on cash and cash equivalents | (4 | ) | | 127 |
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Net decrease in cash and cash equivalents | (8,884 | ) | | (1,049 | ) |
Cash and cash equivalents, beginning of period | 25,383 |
| | 20,912 |
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Cash and cash equivalents, end of period | $ | 16,499 |
| | $ | 19,863 |
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Supplemental disclosure of cash flow information | | | |
Cash paid during the period for interest | $ | 10 |
| | $ | 59 |
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Cash paid during the period for income taxes, net of refunds | $ | 116 |
| | $ | 451 |
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The accompanying notes are an integral part of the unaudited consolidated financial statements.
Limelight Networks, Inc.
Notes to Unaudited Consolidated Financial Statements
March 31, 2019
1. Nature of Business
Limelight Networks Inc., a provider of digital content delivery, online video delivery, cloud security, edge computing and cloud storage services, empowers customers to provide exceptional digital experiences. Limelight’s edge services platform includes a globally distributed, high performance private network, intelligent software, and expert support services that enable current and future workflows.
We were incorporated in Delaware in 2003, and have operated in the Phoenix metropolitan area since 2001 and elsewhere throughout the United States since 2003. We began international operations in 2004.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying unaudited interim consolidated financial statements have been prepared pursuant to the rules and regulations of the SEC. They do not include all of the information and footnotes required by U.S. generally accepted accounting principles (U.S. GAAP) for complete financial statements. Such interim financial information is unaudited but reflects all adjustments that are, in the opinion of management, necessary for the fair presentation of the interim periods presented and of a normal recurring nature. This quarterly report on Form 10-Q should be read in conjunction with our audited financial statements and footnotes included in our annual report on Form 10-K for the fiscal year ended December 31, 2018. All information is presented in thousands, except per share amounts and where specifically noted.
The consolidated financial statements include accounts of Limelight and our wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated. In addition, certain other reclassifications have been made to prior year amounts to conform to the current year presentation.
Use of Estimates
The preparation of the consolidated financial statements and related disclosures in conformity with U.S. GAAP requires management to make judgments, assumptions, and estimates that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results and outcomes may differ from those estimates. The results of operations presented in this quarterly report on Form 10-Q are not necessarily indicative of the results that may be expected for the year ending December 31, 2019, or for any future periods.
Recent Accounting Standards
Adopted Accounting Standards
In February 2016, the FASB issued ASU No. 2016-02, which establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for most leases. In July 2018, the FASB issued ASU No. 2018-11, which amends the guidance to add a method of adoption whereby the issuer may elect to recognize a cumulative effect adjustment at the beginning of the period of adoption. ASU No. 2018-11 does not require comparative period financial information to be adjusted. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. ASU 2016-02 defines a lease as a contract, or part of a contract, that conveys the right to control the use of identified property, plant or equipment for a period of time in exchange for consideration. To determine whether a contract conveys the right to control the use of the identified asset for a period of time, the customer has to have both (1) the right to obtain substantially all of the economic benefits from the use of the identified asset and (2) the right to direct the use of the identified asset, a contract does not contain an identified asset if the supplier has a substantive right to substitute such asset ("the leasing criteria"). Upon review of our co-location and bandwidth arrangements, we have determined that such arrangements did not meet the leasing criteria, and therefore, were not included in our ROU asset and lease liability obligations on our balance sheet. We have determined that our real estate leases with terms in excess of one year and which do not include an option to purchase the underlying asset, do meet the leasing criteria. On January 1, 2019, we adopted ASU No. 2016-02, applying the package of practical expedients to leases that commenced before the effective date whereby we elected to not reassess the following: (i) whether any expired or existing contracts contain leases; (ii) the lease classification for any expired or existing leases; and (iii) initial direct costs for any existing leases. We elected to apply the transition provisions as of January 1, 2019, the date of adoption, and we recorded lease ROU assets and related liabilities on our balance sheet of $3.6 million related to our operating leases. We have no financing leases. There was no change to our consolidated statements of operations or cash flows.
In June 2018, the FASB issued ASU 2018-07, which simplifies several aspects of the accounting for nonemployee share-based payment transactions resulting from expanding the scope of Topic 718, Compensation-Stock Compensation, to include share-based payment transactions for acquiring goods and services from nonemployees. The amendments specify that Topic 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The amendments also clarify that Topic 718 does not apply to share-based payments used to effectively provide (1) financing to the issuer or (2) awards granted in conjunction with selling goods or services to customers as part of a contract accounted for under Topic 606, Revenue from Contracts with Customers. We adopted this guidance effective January 1, 2019. The adoption of this guidance did not have a material impact on our consolidated financial statements and related disclosures.
Recently Issued Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13, which requires measurement and recognition of expected credit losses for financial assets held. This guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The standard is to be applied through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. We do not plan to early adopt this ASU. We are in the process of evaluating the potential impact of adopting this new accounting standard on our consolidated financial statements and related disclosures.
In January 2017, the FASB issued ASU 2017-04, which simplifies the accounting for goodwill impairment. The updated guidance eliminates Step 2 of the impairment test, which requires entities to calculate the implied fair value of goodwill to measure a goodwill impairment charge. Instead, entities will record an impairment charge based on the excess of a reporting unit’s carrying amount over its fair value, determined in Step 1. This guidance will become effective for us in fiscal years beginning after December 15, 2019, including interim periods within that reporting period. We will adopt this guidance using a prospective approach. Earlier adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We do not plan to early adopt this accounting standard, and we are currently evaluating the impact of this guidance on our consolidated financial statements.
In August 2018, the FASB issued ASU 2018-13, which removes, modifies and adds to the disclosure requirements on fair value measurements in Topic 820. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. This guidance will become effective for us in fiscal years beginning after December 15, 2019, including interim periods within that reporting period. Early adoption is permitted upon issuance of this updated guidance. An entity is permitted to early adopt any removed or modified disclosures upon issuance of this updated guidance and delay adoption of the additional disclosures until their effective date. We do not plan to early adopt this accounting standard, and we are currently evaluating the impact of this guidance on our consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, to help entities evaluate the accounting for fees paid by a customer in a cloud computing arrangement (hosting arrangement) by providing guidance for determining when the arrangement includes a software license. The amendments 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 the amendments. This guidance will become effective for us in fiscal years beginning after December 15, 2019. Early adoption is permitted, including adoption in any interim period. We do not plan to early adopt this accounting standard, and we are currently evaluating the impact of this guidance on our consolidated financial statements.
Revenue Recognition
Revenues are recognized when control of the promised goods or services is transferred to our customers, in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services.
Our customers generally execute contracts with terms of one year or longer, which are referred to as recurring revenue contracts or long-term contracts. These contracts generally allow the customer access to our network and commit the customer to a minimum monthly level of usage with additional charges applicable for actual usage above the monthly minimum commitment, or are entirely usage based. We define usage as customer data sent or received using our content delivery service, or content that is hosted or cached by us at the request or direction of our customers. For contracts that contain minimum monthly commitments, we recognize revenue equal to the greater of the minimum monthly committed amount or actual usage,
if actual usage exceeds the monthly committed amount, using the right to invoice practical expedient allowable under Topic 606.
For contracts that contain minimum commitments over the contractual term, we estimate an amount of variable consideration by using either the expected value method or the most likely amount method. We include estimates of variable consideration in revenue only when we have a high degree of confidence that revenue will not be reversed in a subsequent reporting period. We believe that the expected value method is the most appropriate estimate of the amount of variable consideration. These customers have entered into contracts with contract terms generally from one to four years. As of March 31, 2019, we have approximately $7,800 of remaining unsatisfied performance obligations. We recognized revenue of approximately $2,700 and $1,000, respectively, during the three months ended March 31, 2019 and 2018, related to these types of contracts with our customers. We expect to recognize approximately 75% of the remaining unsatisfied performance obligations in 2019, approximately 20% in 2020 and the remaining in 2021.
We may charge the customer an installation fee when services are first activated. We do not charge installation fees for contract renewals. Installation fees are not distinct within the context of the overall contractual commitment with the customer to perform our content delivery service and are therefore recognized initially as deferred revenue and recognized as revenue ratably over the estimated life of the customer arrangement.
We also derive revenue from services and events sold as discrete, non-recurring events or based solely on usage. For these services, we recognize revenue when control of promised goods or services is transferred to customers at an amount that reflects the consideration to which we expect to be entitled to in exchange for those goods or services.
At the inception of a customer contract for service, we make an assessment as to that customer’s ability to pay for the services provided. If we subsequently determine that collection from the customer is not probable, we record an allowance for doubtful accounts and bad debt expense or deferred revenue for that customer’s unpaid invoices and cease recognizing revenue for continued services provided until it is probable that revenue will not be reversed in a subsequent reporting period. Our standard payment terms vary by the type and location of our customer.
Leases
We determine if an arrangement is a lease at inception. Operating leases are included in ROU assets, and lease liability obligations in our consolidated balance sheets. ROU assets represent our right to use an underlying asset for the lease term and lease liability obligations represent our obligation to make lease payments arising from the lease. ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. We have lease agreements with lease and non-lease components and account for such components as a single lease component. As most of our leases do not provide an implicit rate, we estimated our incremental borrowing rate based on the information available at commencement date in determining the present value of lease payments. We use the implicit rate when readily determinable. The ROU asset also includes any lease payments made and excludes lease incentives and lease direct costs. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense is recognized on a straight-line basis over the lease term. Please refer to Note 16 for additional information.
Share-Based Compensation
We account for our share-based compensation awards using the fair-value method. The grant date fair value was determined using the Black-Scholes-Merton pricing model. The Black-Scholes-Merton valuation calculation requires us to make key assumptions such as future stock price volatility, expected terms, risk-free rates, and dividend yield. Our expected volatility is derived from our volatility rate as a publicly traded company. The expected term is based on our historical experience. The risk-free interest factor is based on the United States Treasury yield curve in effect at the time of the grant for zero coupon United States Treasury notes with maturities of approximately equal to each grant’s expected term. We have never paid cash dividends and do not currently intend to pay cash dividends, and therefore, we have assumed a 0% dividend yield.
We develop an estimate of the number of share-based awards that will be forfeited due to employee turnover. We will continue to use judgment in evaluating the expected term, volatility, and forfeiture rate related to our own share-based awards on a prospective basis, and in incorporating these factors into the model. If our actual experience differs significantly from the assumptions used to compute our share-based compensation cost, or if different assumptions had been used, we may have recorded too much or too little share-based compensation cost.
We apply the straight-line attribution method to recognize compensation costs associated with awards that are not subject to graded vesting. For awards that are subject to graded vesting and performance based awards, we recognize compensation costs separately for each vesting tranche. We also estimate when and if performance-based awards will be earned. If an award is not considered probable of being earned, no amount of share-based compensation is recognized. If the
award is deemed probable of being earned, related compensation expense is recorded over the estimated service period. To the extent our estimates of awards considered probable of being earned changes, the amount of share-based compensation recognized will also change.
3. Investments in Marketable Securities
The following is a summary of marketable securities (designated as available-for-sale) at March 31, 2019: |
| | | | | | | | | | | | | | | |
| Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
Certificate of deposit | $ | 40 |
| | $ | — |
| | $ | — |
| | $ | 40 |
|
Corporate notes and bonds | 22,146 |
| | — |
| | 4 |
| | 22,142 |
|
Total marketable securities | $ | 22,186 |
| | $ | — |
| | $ | 4 |
| | $ | 22,182 |
|
The amortized cost and estimated fair value of marketable securities at March 31, 2019, by maturity, are shown below: |
| | | | | | | | | | | | | | | |
| Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
Available-for-sale securities | | | | | | | |
Due in one year or less | $ | 20,244 |
| | $ | — |
| | $ | 3 |
| | $ | 20,241 |
|
Due after one year and through five years | 1,942 |
| | — |
| | 1 |
| | 1,941 |
|
| $ | 22,186 |
| | $ | — |
| | $ | 4 |
| | $ | 22,182 |
|
The following is a summary of marketable securities (designated as available-for-sale) at December 31, 2018: |
| | | | | | | | | | | | | | | |
| Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
Certificate of deposit | $ | 40 |
| | $ | — |
| | $ | — |
| | $ | 40 |
|
Corporate notes and bonds | 25,115 |
| | — |
| | 32 |
| | 25,083 |
|
Total marketable securities | $ | 25,155 |
| | $ | — |
| | $ | 32 |
| | $ | 25,123 |
|
The amortized cost and estimated fair value of marketable securities at December 31, 2018, by maturity, are shown below: |
| | | | | | | | | | | | | | | |
| Amortized Cost | | Gross Unrealized Gains | | Gross Unrealized Losses | | Estimated Fair Value |
Available-for-sale securities | | | | | | | |
Due in one year or less | $ | 25,115 |
| | $ | — |
| | $ | 32 |
| | $ | 25,083 |
|
Due after one year and through five years | 40 |
| | — |
| | — |
| | 40 |
|
| $ | 25,155 |
| | $ | — |
| | $ | 32 |
| | $ | 25,123 |
|
4. Accounts Receivable, net
Accounts receivable, net include: |
| | | | | | | |
| March 31, | | December 31, |
| 2019 | | 2018 |
Accounts receivable | $ | 30,576 |
| | $ | 27,040 |
|
Less: credit allowance | (190 | ) | | (250 | ) |
Less: allowance for doubtful accounts | (881 | ) | | (749 | ) |
Total accounts receivable, net | $ | 29,505 |
| | $ | 26,041 |
|
5. Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets include: |
| | | | | | | |
| March 31, | | December 31, |
| 2019 | | 2018 |
Settlement and patent license receivable | $ | 2,980 |
| | $ | 5,960 |
|
Prepaid bandwidth and backbone | 819 |
| | 1,395 |
|
VAT receivable | 2,488 |
| | 2,022 |
|
Prepaid expenses and insurance | 2,155 |
| | 1,816 |
|
Vendor deposits and other | 3,834 |
| | 3,596 |
|
Total prepaid expenses and other current assets | $ | 12,276 |
| | $ | 14,789 |
|
6. Property and Equipment, net
Property and equipment, net include: |
| | | | | | | |
| March 31, | | December 31, |
| 2019 | | 2018 |
Network equipment | $ | 113,575 |
| | $ | 105,760 |
|
Computer equipment and software | 8,552 |
| | 8,711 |
|
Furniture and fixtures | 603 |
| | 703 |
|
Leasehold improvements | 4,685 |
| | 4,587 |
|
Other equipment | 156 |
| | 156 |
|
Total property and equipment | 127,571 |
| | 119,917 |
|
Less: accumulated depreciation | (94,575 | ) | | (92,539 | ) |
Total property and equipment, net | $ | 32,996 |
| | $ | 27,378 |
|
Depreciation expense related to property and equipment classified in operating expense was $245 and $588 for the three months ended March 31, 2019 and 2018, respectively.
7. Goodwill
We have recorded goodwill as a result of past business acquisitions. Goodwill is recorded when the purchase price paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired. In each of our acquisitions, the objective of the acquisition was to expand our product offerings and customer base and to achieve synergies related to cross selling opportunities, all of which contributed to the recognition of goodwill.
No indicators of impairment were identified as of March 31, 2019. Foreign currency translation adjustments increased the carrying amount of goodwill by $300 for the three months ended March 31, 2019.
8. Other Current Liabilities
Other current liabilities include: |
| | | | | | | |
| March 31, | | December 31, |
| 2019 | | 2018 |
Accrued compensation and benefits | $ | 6,405 |
| | $ | 7,528 |
|
Accrued cost of revenue | 2,681 |
| | 2,361 |
|
Deferred rent | — |
| | 145 |
|
Accrued legal fees | 24 |
| | 22 |
|
Other accrued expenses | 2,546 |
| | 2,866 |
|
Total other current liabilities | $ | 11,656 |
| | $ | 12,922 |
|
9. Line of Credit
In February 2018, we entered into a Fourth Amendment (Fourth Amendment) to the Loan and Security Agreement (the Credit Agreement) with Silicon Valley Bank (SVB) originally entered into in November 2015. Under the Fourth Amendment, we increased the maximum principal commitment amount to $20,000. Our borrowing capacity is the lesser of the commitment amount or 80% of eligible accounts receivable. All outstanding borrowings owed under the Credit Agreement become due and payable no later than the final maturity date of November 2, 2020.
As of March 31, 2019, we had no outstanding borrowings, and we had availability under the Credit Agreement of approximately $20,000. We had no outstanding borrowings at December 31, 2018, and we had availability under the Credit Agreement of approximately $20,000.
As of March 31, 2019, borrowings under the Credit Agreement bear interest at the current prime rate minus 0.25%. In the event of default, obligations shall bear interest at a rate per annum that is 3% above the then applicable rate.
Amendment fees and other commitment fees are included in interest expense. During the three months ended March 31, 2019 and 2018, there was no interest expense, and fees expense and amortization was $10 and $59, respectively.
Any borrowings are secured by essentially all of our domestic personal property, with a negative pledge on intellectual property. SVB’s security interest in our foreign subsidiaries is limited to 65% of voting stock of each such foreign subsidiary.
We are required to maintain a minimum liquidity of $10,000 at all times, measured quarterly, with a minimum of $5,000 of the $10,000 in cash at SVB. In addition, we are required to maintain an Adjusted Quick Ratio of at least 1.0 to 1.0. We are also subject to certain customary limitations on our ability to, among other things, incur debt, grant liens, make acquisitions and other investments, make certain restricted payments such as dividends, dispose of assets or undergo a change in control. As of March 31, 2019, we were in compliance with all covenants under the Credit Agreement.
10. Contingencies
Legal Matters
Akamai ‘703 Litigation
In June 2006, Akamai Technologies, Inc. (Akamai) and the Massachusetts Institute of Technology (MIT) filed a lawsuit against us in the United States District Court for the District of Massachusetts alleging that we were infringing multiple patents assigned to MIT and exclusively licensed by MIT to Akamai. In August 2016, we entered into a settlement and license agreement with Akamai with respect to U.S. Patent No. 6,108,703 (the ’703 patent) and certain other related patents, which settled all asserted and unasserted claims with respect to the licensed patents. The terms of the agreement require us to pay $54,000 over twelve equal quarterly installments, which began on August 1, 2016. We recorded a charge in the quarter ended June 30, 2016 for the full, undiscounted amount of $54,000. As of March 31, 2019, there remained $4,500 due to Akamai under the terms of the settlement and license agreement.
Other Akamai Litigation
In November 2015, we filed a lawsuit against Akamai and XO Communications in the District Court for the Eastern District of Virginia alleging the infringement of six of our patents covering a broad range of inventions that we believe are critical to the effective and efficient delivery of bytes by a content delivery network (the Akamai and XO Litigation). Akamai also filed counterclaims in April 2016, alleging the infringement of five of its patents. We filed an answer to Akamai’s counterclaims, denying each of the allegations of infringement in May 2016.
In February 2016, Akamai filed a complaint against us in the District Court for the District of Massachusetts alleging infringement of three of its patents. In April 2016, Akamai amended its complaint by withdrawing one of the asserted patents. In April 2016, we filed our answer to the complaint, denying each of the allegations of infringement, and asserting two counterclaims alleging infringement of two of our patents. In December 2016, Akamai filed a second complaint against us in the District Court for the District of Massachusetts alleging infringement of three additional patents, and we later filed our answer to the complaint, denying each of the allegations of infringement. The two cases were ultimately consolidated into a single action by the court.
On April 9, 2018, we entered into a definitive settlement and patent license agreement where the parties agreed to (i) license certain patents to the other party, (ii) a covenant not to sue for three years for certain patents related to the licensed patents, and (iii) settle all outstanding legal disputes between the parties. The terms of the agreement also require Akamai to
pay to Limelight a total of $14,900 over five equal quarterly installments. As of March 31, 2019, there remained $2,980 due from Akamai.
We include litigation expenses in general and administrative expenses as incurred, as reported in the consolidated statement of operations.
Other Matters
We are subject to various other legal proceedings and claims, either asserted or unasserted, arising in the ordinary course of business. While the outcome of these claims cannot be predicted with certainty, management does not believe the outcome of any of these matters will have a material adverse effect on our business, financial position, results of operations, or cash flows. Litigation relating to the content delivery services industry is not uncommon, and we are, and from time to time have been, subject to such litigation. No assurances can be given with respect to the extent or outcome of any such litigation in the future.
Taxes
We are subject to indirect taxation in various states and foreign jurisdictions. Laws and regulations that apply to communications and commerce conducted over the Internet are becoming more prevalent, both in the United States and internationally, and may impose additional burdens on us conducting business online or providing Internet-related services. Increased regulation could negatively affect our business directly, as well as the businesses of our customers, which could reduce their demand for our services. For example, tax authorities in various states and abroad may impose taxes on the Internet-related revenue we generate based on regulations currently being applied to similar but not directly comparable industries.
There are many transactions and calculations where the ultimate tax determination is uncertain. In addition, domestic and international taxation laws are subject to change. In the future, we may come under audit, which could result in changes to our tax estimates. We believe we maintain adequate tax reserves, that are not material in amount, to offset potential liabilities that may arise upon audit. Although we believe our tax estimates and associated reserves are reasonable, the final determination of tax audits and any related litigation could be materially different than the amounts established for tax contingencies. To the extent these estimates ultimately prove to be inaccurate, the associated reserves would be adjusted, resulting in the recording of a benefit or expense in the period in which a change in estimate or a final determination is made.
11. Net (Loss) Income per Share
We calculate basic and diluted (loss) income per weighted average share. We use the weighted-average number of shares of common stock outstanding during the period for the computation of basic (loss) income per share. Diluted (loss) income per share include the dilutive effect of all potentially dilutive common stock, including awards granted under our equity incentive compensation plans in the weighted-average number of shares of common stock outstanding.
The following table sets forth the components used in the computation of basic and diluted net (loss) income per share for the periods indicated (in thousands, except per share data): |
| | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Net (loss) income | $ | (8,559 | ) | | $ | 149 |
|
Basic weighted average outstanding shares of common stock | 114,410 |
| | 110,761 |
|
Basic weighted average outstanding shares of common stock | 114,410 |
| | 110,761 |
|
Dilutive effect of stock options, restricted stock units, and other equity incentive plans | — |
| | 8,148 |
|
Diluted weighted average outstanding shares of common stock | 114,410 |
| | 118,909 |
|
Basic net (loss) income per share | $ | (0.07 | ) | | $ | — |
|
Diluted net (loss) income per share: | $ | (0.07 | ) | | $ | — |
|
For the three months ended March 31, 2019 and 2018, respectively, the following potentially dilutive common stock, including awards granted under our equity incentive compensation plans, were excluded from the computation of diluted net (loss) income per share because including them would have been anti-dilutive.
|
| | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Employee stock purchase plan | 307 |
| | — |
|
Stock options | 2,056 |
| | 3,443 |
|
Restricted stock units | 939 |
| | 753 |
|
| 3,302 |
| | 4,196 |
|
12. Stockholders’ Equity
Common Stock
On March 14, 2017, our board of directors authorized a $25,000 share repurchase program. Any shares repurchased under this program will be canceled and returned to authorized but unissued status. During the three months ended March 31, 2019, we did not repurchase any shares under the repurchase program. During the three months ended March 31, 2018, we purchased and canceled 1,000 shares for $3,800, including commissions and fees. As of March 31, 2019, there remained $21,200 under this share repurchase program.
Amended and Restated Equity Incentive Plan
We established the 2007 Equity Incentive Plan, or the 2007 Plan, which allows for the grant of equity, including stock options and restricted stock unit awards. In June 2016, our stockholders approved the Amended and Restated Equity Incentive Plan, or the Restated 2007 Plan, which amended and restated the 2007 Plan. Approval of the Restated 2007 Plan replaced the terms and conditions of the 2007 Plan with the terms and conditions of the Restated 2007 Plan, and extended the term of the plan to April 2026. There was no increase in the aggregate amount of shares available for issuance. The total number of shares authorized for issuance under the Restated 2007 Plan as of March 31, 2019 was approximately 10,303.
Employee Stock Purchase Plan
In June 2013, our stockholders approved our 2013 Employee Stock Purchase Plan (ESPP). The ESPP allows participants to purchase our common stock at a 15% discount of the lower of the beginning or end of the offering period using the closing price on that day. During the three months ended March 31, 2019, we did not issue any shares under the ESPP. As of March 31, 2019, shares reserved for issuance to employees under this plan totaled 34, and we held employee contributions of $841 (included in other current liabilities) for future purchases under the ESPP.
Preferred Stock
Our board of directors has authorized the issuance of up to 7,500 shares of preferred stock at March 31, 2019. The preferred stock may be issued in one or more series pursuant to a resolution or resolutions providing for such issuance duly adopted by the board of directors. As of March 31, 2019, the board of directors had not adopted any resolutions for the issuance of preferred stock.
13. Accumulated Other Comprehensive Loss
Changes in the components of accumulated other comprehensive loss, net of tax, for the three months ended March 31, 2019, was as follows: |
| | | | | | | | | | | |
|
|
| Unrealized |
|
|
|
|
| Gains (Losses) on |
|
|
| Foreign |
| Available for |
|
|
| Currency |
| Sale Securities |
| Total |
Balance, December 31, 2018 | $ | (9,992 | ) |
| $ | (41 | ) |
| $ | (10,033 | ) |
Other comprehensive income before reclassifications | 347 |
|
| 29 |
|
| 376 |
|
Amounts reclassified from accumulated other comprehensive loss | — |
|
| — |
|
| — |
|
Net current period other comprehensive income | 347 |
|
| 29 |
|
| 376 |
|
Balance, March 31, 2019 | $ | (9,645 | ) |
| $ | (12 | ) |
| $ | (9,657 | ) |
14. Share-Based Compensation
The following table summarizes the components of share-based compensation expense included in our consolidated statement of operations: |
| | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Share-based compensation expense by type: | | | |
Stock options | $ | 1,042 |
| | $ | 1,061 |
|
Restricted stock units | 2,250 |
| | 2,166 |
|
ESPP | 164 |
| | 140 |
|
Total share-based compensation expense | $ | 3,456 |
| | $ | 3,367 |
|
Share-based compensation expense: | | | |
Cost of services | $ | 411 |
| | $ | 357 |
|
General and administrative expense | 2,094 |
| | 1,810 |
|
Sales and marketing expense | 484 |
| | 603 |
|
Research and development expense | 467 |
| | 597 |
|
Total share-based compensation expense | $ | 3,456 |
| | $ | 3,367 |
|
Unrecognized share-based compensation expense totaled approximately $22,598 at March 31, 2019, of which $7,449 related to stock options and $15,149 related to restricted stock units. We currently expect to recognize share-based compensation expense of $9,053 during the remainder of 2019, $8,349 in 2020 and the remainder thereafter based on scheduled vesting of the stock options and restricted stock units outstanding at March 31, 2019.
On February 1, 2019, the compensation committee of our board of directors approved a stock for salary program wherein eligible participants elected to receive payment of his or her base salary in shares of our common stock beginning on February 1, 2019. The shares of common stock will be issued under our Amended and Restated 2007 Equity Incentive Plan. Eligible program participants include our Chief Executive Officer and his direct reports.
The stock for salary program permits eligible participants to receive 0, 25, 50, 75, or 100% of his or her 2019 salary (including any increases that may occur during the year) in shares of our common stock. On the last trading day of each calendar month, each participant will receive the number of shares of our common stock determined by dividing (i) 1/12th of his or her enrolled salary by (ii) the trailing 30-day closing average of our common stock, rounded up to the nearest whole share. Once an election is made, it runs for the full year 2019 and is irrevocable and the program will automatically terminate on the earlier to occur of January 1, 2020 or the date upon which Limelight's common stock trades on the Nasdaq at $4.00 per share or greater. Participation levels may not be changed after the close of the enrollment period. Once purchased, there is no vesting period for the shares. During 2019, our Chief Executive Officer and two of his direct reports have elected to participate in the program. Each of the three participants elected to receive 50% of their respective salary in stock. As a result of their participation in the program, we will issue 33 shares of common stock and recorded $101 of share based compensation expense during the three months ended March 31, 2019.
15. Related Party Transactions
In July 2006, an aggregate of 39,869,960 shares of Series B Preferred Stock was issued at a purchase price of $3.26 per share to certain accredited investors in a private placement transaction. As a result of this transaction, entities affiliated with Goldman, Sachs & Co., one of the lead underwriters of our initial public offering (IPO), became holders of more than 10% of our common stock. On June 14, 2007, upon the closing of our IPO, all outstanding shares of our Series B Preferred Stock automatically converted into shares of common stock on a 1-for-1 share basis. Between November 2017 and March 2018, investment partnerships affiliated with Goldman Sachs & Co. LLC and Goldman Sachs Group, Inc. sold 30,272,493 shares that they had acquired upon the conversation of their Series B Preferred Stock at the time of the Company’s IPO in June 2007. As of March 31, 2019, Goldman, Sachs & Co. owned less than 1% of our outstanding common stock. We had no other material related party transactions during the three months ended March 31, 2019 and 2018.
16. Operating Leases - Right of Use Assets and Purchase Commitments
Right of Use Assets
We have various operating leases for office space that expire through 2022. Below is a summary of our right of use assets and liabilities as of March 31, 2019. |
| | | |
Right-of-use assets | $ | 3,012 |
|
| |
Lease liability obligations, current | $ | 1,620 |
|
Lease liability obligations, less current portion | 1,630 |
|
Total lease liability obligations | $ | 3,250 |
|
| |
Weighted-average remaining lease term | 2.50 years |
|
| |
Weighted-average discount rate | 5.25 | % |
During the three months ended March 31, 2019, we recognized approximately $966 in operating lease costs. Operating lease costs of $144 are included in cost of revenue and $822 are included in operating expenses in our consolidated statement of operations. During the three months ended March 31, 2019, operating cash flows from operating leases was $238.
Approximate future minimum lease payments for our right of use assets over the remaining lease periods as of March 31, 2019, are as follows:
|
| | | |
Remainder of 2019 | $ | 1,354 |
|
2020 | 1,310 |
|
2021 | 728 |
|
2022 | 55 |
|
2023 | — |
|
Thereafter | — |
|
Total minimum payments | 3,447 |
|
Less: amount representing interest | 197 |
|
Total | $ | 3,250 |
|
As of March 31, 2019, we have additional operating leases for office space that has not yet commenced of approximately $12.7 million. This lease is expected to commence in August 2019, with a term of approximately 11 years.
Purchase Commitments
We have long-term commitments for bandwidth usage and co-location with various networks and internet service providers. These commitments did not meet the definition of a ROU asset/lease under ASU No. 2016-02. The following summarizes our minimum commitments for future periods as of March 31, 2019: |
| | | |
Remainder of 2019 | $ | 20,317 |
|
2020 | 7,790 |
|
2021 | 2,918 |
|
2022 | 496 |
|
2023 | — |
|
Thereafter | — |
|
Total minimum payments | $ | 31,521 |
|
17. Concentrations
During the three months ended March 31, 2019 and 2018, respectively, we had one customer, Amazon, who represented 10% or more of our total revenue.
Revenue from customers located within the United States, our country of domicile, was $23,976 for the three months ended March 31, 2019, compared to $30,554 for the three months ended March 31, 2018.
During the three months ended March 31, 2019, based on customer location, we had three countries, the United States, Japan, and the United Kingdom, that accounted for 10% or more of our total revenue. For the three months ended March 31, 2018, based on customer location, we had two countries, the United States, and the United Kingdom, that accounted for 10% or more of our total revenue.
18. Income Taxes
Income taxes for the interim periods presented have been included in the accompanying consolidated financial statements on the basis of an estimated annual effective tax rate. Based on an estimated annual effective tax rate and discrete items, income tax expense (benefit) for the three months ended March 31, 2019 and 2018, was $124 and $(15), respectively. Income tax expense (benefit) was different than the statutory income tax rate primarily due to us providing for a valuation allowance on deferred tax assets in certain jurisdictions, and the recording of state and foreign tax expense for the three month periods.
We file income tax returns in jurisdictions with varying statutes of limitations. Tax years 2015 through 2018 remain subject to examination by federal tax authorities. Tax years 2014 through 2018 generally remain subject to examination by state tax authorities. As of March 31, 2019, we are not under any federal or state examination for income taxes.
For the three months ended March 31, 2019, there was no impact to income tax expense related to the Global Intangible Low-Taxed Income inclusion (GILTI) as a result of our NOL and valuation allowance position. We do not expect the GILTI to have a material impact on future earnings due to our NOL and valuation allowance position.
19. Segment Reporting and Geographic Areas
Our chief operating decision maker (our Chief Executive Officer) reviews our financial information presented on a consolidated basis for purposes of allocating resources and evaluating our financial performance. We operate in one industry segment — content delivery and related services and we operate in three geographic areas — Americas, Europe, Middle East, and Africa (EMEA), and Asia Pacific.
Revenue by geography is based on the location of the customer from which the revenue is earned. The following table sets forth our revenue by geographic area: |
| | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Americas | $ | 25,035 |
| 58 | % | | $ | 32,578 |
| 63 | % |
EMEA | 7,265 |
| 17 | % | | 11,793 |
| 23 | % |
Asia Pacific | 10,980 |
| 25 | % | | 7,743 |
| 15 | % |
Total revenue | $ | 43,280 |
| 100 | % | | $ | 52,114 |
| 100 | % |
The following table sets forth the individual countries and their respective revenue for those countries whose revenue exceeded 10% of our total revenue: |
| | | | | |
| Three Months Ended March 31, |
Country / Region | 2019 | | 2018 |
United States / Americas | 23,976 |
| | 30,554 |
|
United Kingdom / EMEA | 5,129 |
| | 8,969 |
|
Japan / Asia Pacific | 5,823 |
| | 4,309 |
|
The following table sets forth long-lived assets by geographic area in which the assets are located:
|
| | | | | | | |
| March 31, | | December 31, |
| 2019 | | 2018 |
Americas | $ | 22,106 |
| | $ | 18,349 |
|
International | 10,890 |
| | 9,029 |
|
Total long-lived assets | $ | 32,996 |
| | $ | 27,378 |
|
20. Fair Value Measurements
As of March 31, 2019, and December 31, 2018, we held certain assets and liabilities that were required to be measured at fair value on a recurring basis.
The following is a summary of fair value measurements at March 31, 2019: |
| | | | | | | | | | | | | | | |
| | | Fair Value Measurements at Reporting Date Using |
Description | Total | | Quoted Prices In Active Markets for Identical Assets (Level 1) | | Significant Other Observable Inputs (Level 2) | | Significant Unobservable Inputs (Level 3) |
Assets: | | | | | | | |
Money market funds (2) | $ | 1,959 |
| | $ | 1,959 |
| | $ | — |
| | $ | — |
|
Certificate of deposit (1) | 40 |
| | — |
| | 40 |
| | — |
|
Corporate notes and bonds (1) | 22,142 |
| | — |
| | 22,142 |
| | — |
|
Total assets measured at fair value | $ | 24,141 |
| | $ | 1,959 |
| | $ | 22,182 |
| | $ | — |
|
____________
| |
(1) | Classified in marketable securities |
| |
(2) | Classified in cash and cash equivalents |
The following is a summary of fair value measurements at December 31, 2018: |
| | | | | | | | | | | | | | | |
| | | Fair Value Measurements at Reporting Date Using |
Description | Total | | Quoted Prices In Active Markets for Identical Assets (Level 1) | | Significant Other Observable Inputs (Level 2) | | Significant Unobservable Inputs (Level 3) |
Assets: | | | | | | | |
Money market funds (2) | $ | 752 |
| | $ | 752 |
| | $ | — |
| | $ | — |
|
Certificate of deposit (1) | 40 |
| | — |
| | 40 |
| | — |
|
Corporate notes and bonds (1) | 25,083 |
| | — |
| | 25,083 |
| | — |
|
Total assets measured at fair value | $ | 25,875 |
| | $ | 752 |
| | $ | 25,123 |
| | $ | — |
|
____________
| |
(1) | Classified in marketable securities |
| |
(2) | Classified in cash and cash equivalents |
The carrying amount of cash equivalents approximates fair value because their maturity is less than three months. The carrying amount of short-term and long-term marketable securities approximates fair value as the securities are marked to market as of each balance sheet date with any unrealized gains and losses reported in stockholders’ equity. The carrying amount of accounts receivable, accounts payable and accrued liabilities approximates fair value due to the short-term maturity of the amounts.
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 together with our consolidated financial statements and related notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q, as well as the audited consolidated financial statements and notes thereto and management’s discussion and analysis of financial condition and results of operations for the year ended December 31, 2018, included in Part II of our annual report on Form 10-K, as filed with the SEC, on January 31, 2019.
Prior period information has been modified to conform to current year presentation. All information in this Item 2 is presented in thousands, except per share amounts, customer count and where specifically noted.
Overview
We were founded in 2001 as a provider of content delivery network services to deliver digital content over the internet. We began development of our infrastructure in 2001 and began generating meaningful revenue in 2002. We are a provider of digital content delivery, online video delivery, cloud security, and edge computing services, empowering customers to provide exceptional digital experiences. Our edge services platform includes a unique combination of global private infrastructure, intelligent software, and expert support services that enable current and future workflows. Our mission is to securely manage and globally deliver digital content, building customer satisfaction through exceptional reliability and performance.
Our delivery services represented approximately 79% of our total revenue during the three months ended March 31, 2019. We also generate revenue through the sale of professional services and other infrastructure services, such as transit and rack space services.
We operate in markets that are highly competitive. We have experienced and expect to continue to experience increased competition in price, features, functionality, integration and other factors leading to customer churn and customers operating their own network. Competition and technology advancements have resulted in declining average selling prices in the industry. We believe continued increases in content delivery traffic growth rates, driven by increased migration of applications and data to the cloud, continued growth rates of mobile device usage and increased consumption of rich media content and larger file sizes, are all important trends that will continue to outpace declining average selling prices in the industry.
During the three months ended March 31, 2019 and 2018, respectively, we had one customer, Amazon, who represented 10% or more of our total revenue.
In addition to these revenue-related trends, our profitability is impacted by trends in our costs of services and operating expenses. We continuously work with our vendors to optimize our data center footprint. We continuously renegotiate our infrastructure contracts in order to scale our operations based on traffic levels and lower bandwidth costs per unit. Our operating expenses are largely driven by payroll and related employee costs. Our headcount decreased from 563 at December 31, 2018, to 562 as of March 31, 2019.
In August 2016, we entered into a settlement and license agreement with Akamai Technologies, Inc. (Akamai) with respect to the U.S. Patent No. 6,108,703 (the ‘703 patent) and certain other related patents. The agreement settles all asserted and unasserted claims with respect to the licensed patents. The terms of the agreement require us to pay $54,000 over twelve equal quarterly installments beginning on August 1, 2016. As of March 31, 2019, there remained $4,500 due to Akamai under the terms of the settlement and license agreement.
On April 9, 2018, we entered into a definitive settlement and patent license agreement with Akamai in a separate matter where the parties agreed to (i) license certain patents to the other party, (ii) a covenant not to sue for three years for certain patents related to the licensed patents, and (iii) settle all outstanding legal disputes between the parties. The terms of the agreement also require Akamai to pay to Limelight a total of $14,900, over five equal quarterly installments. The second quarterly payment of $2,980 was received in July 2018. As of March 31, 2019, there remained $2,980 due from Akamai.
Please see our discussion in Note 10 "Contingencies - Legal Matters" of the Notes to Consolidated Financial Statements included in Part I, Item 1 of this quarterly report on Form 10-Q for more information on this and other lawsuits.
Based on current conditions, we expect full-year 2019 revenue to be between $215,000 and $225,000. We expect full-year GAAP basic earnings per share to be between break-even and $0.10. We expect full-year non-GAAP earnings per share to be between $0.10 and $0.20 per share, and full-year Adjusted EBITDA to be between $30,000 and $40,000. We expect capital expenditures to be between $20,000 and $24,000 for the full year.
The following table summarizes our revenue, costs and expenses in thousands of dollars and as a percentage of total revenue for the three months ended March 31, 2019 and 2018. |
| | | | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Revenue | $ | 43,280 |
| | 100.0 | % | | $ | 52,114 |
| | 100.0 | % |
Cost of revenue | 27,258 |
| | 63.0 | % | | 25,434 |
| | 48.8 | % |
Gross profit | 16,022 |
| | 37.0 | % | | 26,680 |
| | 51.2 | % |
Operating expenses | 24,653 |
| | 57.0 | % | | 26,729 |
| | 51.3 | % |
Operating loss | (8,631 | ) | | (19.9 | )% | | (49 | ) | | (0.1 | )% |
Total other income | 196 |
| | 0.5 | % | | 183 |
| | 0.4 | % |
(Loss) income before income taxes | (8,435 | ) | | (19.5 | )% | | 134 |
| | 0.3 | % |
Income tax expense (benefit) | 124 |
| | 0.3 | % | | (15 | ) | | — | % |
Net (loss) income | $ | (8,559 | ) | | (19.8 | )% | | $ | 149 |
| | 0.3 | % |
Use of Non-GAAP Financial Measures
To evaluate our business, we consider and use non-generally accepted accounting principles (Non-GAAP) net income (loss), EBITDA and Adjusted EBITDA as supplemental measures of operating performance. These measures include the same adjustments that management takes into account when it reviews and assesses operating performance on a period-to-period basis. We consider Non-GAAP net income (loss) to be an important indicator of overall business performance. We define Non-GAAP net income (loss) to be U.S. GAAP net income (loss), adjusted to exclude share-based compensation and litigation expenses. We believe that EBITDA provides a useful metric to investors to compare us with other companies within our industry and across industries. We define EBITDA as U.S. GAAP net income (loss), adjusted to exclude depreciation and amortization, interest expense, interest and other (income) expense, and income tax expense (benefit). We define Adjusted EBITDA as EBITDA adjusted to exclude share-based compensation and litigation expenses. We use Adjusted EBITDA as a supplemental measure to review and assess operating performance. Our management uses these Non-GAAP financial measures because, collectively, they provide valuable information on the performance of our on-going operations, excluding non-cash charges, taxes and non-core activities (including interest payments related to financing activities). These measures also enable our management to compare the results of our on-going operations from period to period, and allow management to review the performance of our on-going operations against our peer companies and against other companies in our industry and adjacent industries. We believe these measures also provide similar insights to investors, and enable investors to review our results of operations “through the eyes of management.”
Furthermore, our management uses these Non-GAAP financial measures to assist them in making decisions regarding our strategic priorities and areas for future investment and focus.
In our April 17, 2019, earnings press release, as furnished on Form 8-K, we included Non-GAAP net income (loss), EBITDA and Adjusted EBITDA. The terms Non-GAAP net income (loss), EBITDA and Adjusted EBITDA are not defined under U.S. GAAP, and are not measures of operating income, operating performance or liquidity presented in accordance with U.S. GAAP. Our Non-GAAP net income (loss), EBITDA and Adjusted EBITDA have limitations as analytical tools, and when assessing our operating performance, Non-GAAP net income (loss), EBITDA and Adjusted EBITDA should not be considered in isolation, or as a substitute for net income (loss) or other consolidated income statement data prepared in accordance with U.S. GAAP. Some of these limitations include, but are not limited to:
| |
• | EBITDA and Adjusted EBITDA do not reflect our cash expenditures or future requirements for capital expenditures or contractual commitments; |
| |
• | these measures do not reflect changes in, or cash requirements for, our working capital needs; |
| |
• | Non- GAAP net income (loss) and Adjusted EBITDA do not reflect the cash requirements necessary for litigation costs, including provision for litigation and litigation expenses; |
| |
• | these measures do not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debt that we may incur; |
| |
• | these measures do not reflect income taxes or the cash requirements for any tax payments; |
| |
• | although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will be replaced sometime in the future, and EBITDA and Adjusted EBITDA do not reflect any cash requirements for such replacements; |
| |
• | while share-based compensation is a component of operating expense, the impact on our financial statements compared to other companies can vary significantly due to such factors as the assumed life of the options and the assumed volatility of our common stock; and |
| |
• | other companies may calculate Non-GAAP net income (loss), EBITDA and Adjusted EBITDA differently than we do, limiting their usefulness as comparative measures. |
We compensate for these limitations by relying primarily on our U.S. GAAP results and using Non-GAAP net income (loss), EBITDA, and Adjusted EBITDA only as supplemental support for management’s analysis of business performance. Non-GAAP net income (loss), EBITDA and Adjusted EBITDA are calculated as follows for the periods presented.
Reconciliation of Non-GAAP Financial Measures
In accordance with the requirements of Item 10(e) of Regulation S-K, we are presenting the most directly comparable U.S. GAAP financial measures and reconciling the unaudited Non-GAAP financial metrics to the comparable U.S. GAAP measures.
Reconciliation of U.S. GAAP Net Income (Loss) to Non-GAAP Net Income (Loss)
(Unaudited) |
| | | | | | | | | | | |
| Three Months Ended |
| March 31, | | December 31, | | March 31, |
| 2019 | | 2018 | | 2018 |
U.S. GAAP net (loss) income | $ | (8,559 | ) | | $ | (5,193 | ) | | $ | 149 |
|
Share-based compensation | 3,456 |
| | 5,485 |
| | 3,367 |
|
Litigation expenses | — |
| | 3 |
| | 2,670 |
|
Non-GAAP net (loss) income | $ | (5,103 | ) | | $ | 295 |
| | $ | 6,186 |
|
Reconciliation of U.S. GAAP Net Income (Loss) to EBITDA to Adjusted EBITDA
(Unaudited)
|
| | | | | | | | | | | |
| Three Months Ended |
| March 31, | | December 31, | | March 31, |
| 2019 | | 2018 | | 2018 |
U.S. GAAP net (loss) income | $ | (8,559 | ) | | $ | (5,193 | ) | | $ | 149 |
|
Depreciation and amortization | 4,562 |
| | 4,417 |
| | 4,968 |
|
Interest expense | 10 |
| | 10 |
| | 59 |
|
Interest and other (income) expense | (206 | ) | | (320 | ) | | (242 | ) |
Income tax expense (benefit) | 124 |
| | 190 |
| | (15 | ) |
EBITDA | $ | (4,069 | ) | | $ | (896 | ) | | $ | 4,919 |
|
Share-based compensation | 3,456 |
| | 5,485 |
| | 3,367 |
|
Litigation expenses | — |
| | 3 |
| | 2,670 |
|
Adjusted EBITDA | $ | (613 | ) | | $ | 4,592 |
| | $ | 10,956 |
|
Critical Accounting Policies and Estimates
Please see Note 2 of Part I, Item 1 of this Quarterly Report on Form 10-Q for a summary of changes in significant accounting policies. In addition, our critical accounting policies and estimates are disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2018. During the three months ended March 31, 2019, there have been no other significant changes in our critical accounting policies and estimates.
Results of Operations
Revenue
We derive revenue primarily from the sale of our digital content delivery, video delivery, cloud security, edge cloud and origin storage services. We also generate revenue through the sale of professional services and other infrastructure services, such as transit and rack space services.
The following table reflects our revenue for the three months ended March 31, 2019, compared to the three months ended March 31, 2018: |
| | | | | | | | | | | | | | |
| Three Months Ended March 31, |
| | | | | $ | | % |
| 2019 | | 2018 | | Change | | Change |
Revenue | $ | 43,280 |
| | $ | 52,114 |
| | $ | (8,834 | ) | | (17 | )% |
Our revenue decreased during the three months ended March 31, 2019, versus the comparable 2018 period due to a decrease in our content delivery revenue as a result of price compression with certain of our larger customers. This decrease was primarily the result of strategic decisions we made in the latter half of 2018 regarding contract renegotiations with certain of our large customers and our decision to move away from a few large customers that did not align with our strategic objectives. During the three months ended March 31, 2019, we experienced a decrease in average selling price versus the comparable 2018 period, due to customer and product mix.
Our active customers worldwide decreased to 643 as of March 31, 2019, compared to 703 as of March 31, 2018. We are continuing our selective approach to accepting profitable business by following a clear process for identifying customers that value quality, performance, availability, and service.
During the three months ended March 31, 2019 and 2018, sales to our top 20 customers accounted for approximately 70% and 73%, respectively, of our total revenue. The customers that comprised our top 20 customers change from time to time, and our large customers may not continue to be as significant going forward as they have been in the past.
During the three months ended March 31, 2019 and 2018, respectively, we had one customer, Amazon, who represented 10% or more of our total revenue.
Revenue by geography is based on the location of the customer from which the revenue is earned. The following table sets forth revenue by geographic area (in thousands and as a percentage of total revenue): |
| | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Americas | $ | 25,035 |
| 58 | % | | $ | 32,578 |
| 63 | % |
EMEA | 7,265 |
| 17 | % | | 11,793 |
| 23 | % |
Asia Pacific | 10,980 |
| 25 | % | | 7,743 |
| 15 | % |
Total revenue | $ | 43,280 |
| 100 | % | | $ | 52,114 |
| 100 | % |
Cost of Revenue
Cost of revenue consists primarily of fees paid to network providers for bandwidth and backbone, costs incurred for non-settlement free peering and connection to internet service providers, and fees paid to data center operators for housing of our network equipment in third party network data centers, also known as co-location costs. Cost of revenue also includes leased space and utilities, depreciation of network equipment used to deliver our content delivery services, payroll and related costs, and share-based compensation for our network operations and professional services personnel. Other costs include professional fees and outside services, travel and travel-related expenses, and royalty expenses.
Cost of revenue was composed of the following (in thousands and as a percentage of total revenue): |
| | | | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Bandwidth and co-location fees | $ | 15,128 |
| | 35.0 | % | | $ | 14,550 |
| | 27.9 | % |
Depreciation - network | 4,317 |
| | 10.0 | % | | 4,380 |
| | 8.4 | % |
Payroll and related employee costs | 4,154 |
| | 9.6 | % | | 3,975 |
| | 7.6 | % |
Share-based compensation | 411 |
| | 0.9 | % | | 357 |
| | 0.7 | % |
Other costs | 3,248 |
| | 7.5 | % | | 2,172 |
| | 4.2 | % |
Total cost of revenue | $ | 27,258 |
| | 63.0 | % | | $ | 25,434 |
| | 48.8 | % |
Our cost of revenue increased in both aggregate dollars and as a percentage of total revenue for the three months ended March 31, 2019, versus the comparable 2018 period. The changes in cost of revenue were primarily a result of the following:
| |
• | Bandwidth expenses increased in aggregate dollars due to higher transit costs, primarily peering costs resulting from increased traffic on our network and our continued expansion into new geographies. |
| |
• | Our co-location costs slightly decreased in aggregate dollars primarily due to improved server and operational efficiencies. |
| |
• | Payroll and related employee costs increased due to increased average salaries. |
| |
• | Other costs increased primarily due to an increase in international re-seller costs. |
General and Administrative
General and administrative expense was composed of the following (in thousands and as a percentage of total revenue): |
| | | | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Payroll and related employee costs | $ | 2,949 |
| | 6.8 | % | | $ | 2,931 |
| | 5.6 | % |
Professional fees and outside services | 882 |
| | 2.0 | % | | 788 |
| | 1.5 | % |
Share-based compensation | 2,094 |
| | 4.8 | % | | 1,810 |
| | 3.5 | % |
Litigation expenses | — |
| | — | % | | 2,670 |
| | 5.1 | % |
Other costs | 1,610 |
| | 3.7 | % | | 1,323 |
| | 2.5 | % |
Total general and administrative | $ | 7,535 |
| | 17.4 | % | | $ | 9,522 |
| | 18.3 | % |
Our general and administrative expense decreased in aggregate dollars and decreased as a percentage of total revenue for the three months ended March 31, 2019, versus the comparable 2018 period.
The decrease in aggregate dollars for the three months ended March 31, 2019, versus the comparable 2018 period was primarily driven by reduced litigation expenses due to the settlement of our intellectual property lawsuits. This decrease was off-set by increased share-based compensation (primarily due to the stock for salary program), increased other costs (primarily fees and licenses and other employee costs) and increased professional fees (primarily consulting and casual labor).
We expect our general and administrative expenses for 2019 to remain consistent in aggregate dollars and to decrease as a percentage of total revenue compared to 2018.
Sales and Marketing
Sales and marketing expense was composed of the following (in thousands and as a percentage of total revenue): |
| | | | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Payroll and related employee costs | $ | 7,993 |
| | 18.5 | % | | $ | 7,318 |
| | 14.0 | % |
Share-based compensation | 484 |
| | 1.1 | % | | 603 |
| | 1.2 | % |
Marketing programs | 487 |
| | 1.1 | % | | 589 |
| | 1.1 | % |
Other costs | 2,008 |
| | 4.6 | % | | 1,770 |
| | 3.4 | % |
Total sales and marketing | $ | 10,972 |
| | 25.4 | % | | $ | 10,280 |
| | 19.7 | % |
Our sales and marketing expense increased in aggregate dollars and increased as a percentage of total revenue for the three months ended March 31, 2019, versus the comparable 2018 period.
The increase in sales and marketing expense was primarily as a result of the following:
| |
• | Increased payroll and related employee costs, due to increased headcount and higher average salaries. |
| |
• | Increased other costs primarily due to increased facilities costs, increased travel and entertainment and increased consulting. |
These increases were partially off-set by decreased marketing spending related to promotional advertising and lower share-based compensation.
We expect our sales and marketing expenses for 2019 to increase compared to 2018 as we expand our sales force and marketing efforts.
Research and Development
Research and development expense was composed of the following (in thousands and as a percentage of total revenue): |
| | | | | | | | | | | | | |
| Three Months Ended March 31, |
| 2019 | | 2018 |
Payroll and related employee costs | $ | 4,320 |
| | 10.0 | % | | $ | 4,660 |
| | 8.9 | % |
Share-based compensation | 467 |
| | 1.1 | % | | 597 |
| | 1.1 | % |
Other costs | 1,114 |
| | 2.6 | % | | 1,082 |
| | 2.1 | % |
Total research and development | $ | 5,901 |
| | 13.6 | % | | $ | 6,339 |
| | 12.2 | % |
Our research and development expense decreased in aggregate dollars and increased as a percentage of total revenue for the three months ended March 31, 2019, versus the comparable 2018 period. The decrease in aggregate dollars was primarily due to a decrease in payroll and related employee costs due to lower average salaries and lower variable compensation expense. This decrease was partially off-set by an increase in other costs, primarily due to increased casual labor.
We expect our research and development expenses for 2019 to increase slightly in aggregate dollars and remain consistent as a percentage of total revenue compared to 2018.
Depreciation and Amortization (Operating Expenses)
Depreciation and amortization expense was $245, or 0.6% of revenue, for the three months ended March 31, 2019, versus $588, or 1.1% of revenue, for the comparable 2018 period. Depreciation expense consists of depreciation on equipment and furnishings used by general administrative, sales and marketing, and research and development personnel. Amortization expense consists of amortization of intangible assets acquired in business combinations.
Interest Expense
Interest expense was $10 for the three months ended March 31, 2019, versus $59 for the comparable 2018 period. The decrease in the three months ended March 31, 2019 was due to fees incurred during the comparable 2018 period associated with the Fourth Amendment (Fourth Amendment) to the Loan and Security Agreement (the Credit Agreement) with Silicon
Valley Bank (SVB) originally entered into in November 2015.
Interest Income
Interest income was $212 for the three months ended March 31, 2019, versus $130 for the comparable 2018 period. Interest income includes interest earned on invested cash balances and marketable securities.
Other Income (Expense)
Other expense was $6 for the three months ended March 31, 2019, versus other income of $112 for the comparable 2018 period. For the three months ended March 31, 2019 and 2018, respectively, other income/expense consisted primarily of foreign currency transaction gains and losses and the gain/loss on sale of fixed assets.
Income Tax Expense
Based on an estimated annual effective tax rate and discrete items, the estimated income tax expense (benefit) for the three months ended March 31, 2019, was $124 versus $(15) for the comparable 2018 period. Income tax expense (benefit) on our income (loss) before income taxes was different than the statutory income tax rate primarily due to our providing for a valuation allowance on deferred tax assets in certain jurisdictions, and recording of state and foreign tax expense for the quarter. The effective income tax rate is based primarily upon forecasted income or loss for the year, the composition of the income or loss in different countries, and adjustments, if any, for the potential tax consequences, benefits or resolutions for tax audits.
Liquidity and Capital Resources
As of March 31, 2019, our cash, cash equivalents and marketable securities classified as current totaled $38,641. Included in this amount is approximately $6,810 of cash and cash equivalents held outside the United States. Changes in cash, cash equivalents and marketable securities are dependent upon changes in, among other things, working capital items such as deferred revenues, accounts payable, accounts receivable, accrued provision for litigation, accrued settlement and patent license agreement, and various accrued expenses, as well as purchases of property and equipment and changes in our capital and financial structure due to debt repurchases and issuances, stock option exercises, sales of equity investments, and similar events.
In August 2016, we entered into a settlement and license agreement with Akamai with respect to the ‘703 and certain other related patents. The agreement settles all asserted and unasserted claims with respect to the licensed patents. The terms of the agreement require us to pay $54,000 over twelve equal quarterly installments beginning on August 1, 2016. As of March 31, 2019, there remained $4,500 due to Akamai under the terms of the settlement and license agreement.
On April 9, 2018, we entered into a definitive settlement patent license agreement with Akamai in a separate matter where the parties agreed to (i) license certain patents to the other party, (ii) a covenant not to sue for three years for certain patents related to the licensed patents, and (iii) settle all outstanding legal disputes between the parties. The terms of the Agreement also require Akamai to pay to us a total of $14,900, over five equal quarterly installments. As of March 31, 2019, there remained $2,980 due from Akamai.
We believe that our existing cash, cash equivalents and marketable securities, and available borrowing capacity will be sufficient to meet our anticipated cash needs for at least the next 12 months. If the assumptions underlying our business plan regarding future revenue and expenses change or if unexpected opportunities or needs arise, we may seek to raise additional cash by selling equity or debt securities.
The major components of changes in cash flows for the three months ended March 31, 2019 and 2018, are discussed in the following paragraphs.
Operating Activities
Net cash used in operating activities was $5,963 for the three months ended March 31, 2019, versus net cash provided by operating activities of $1,659 for the comparable 2018 period, a decrease of $7,622. Changes in operating assets and liabilities of $(5,620) during the three months ended March 31, 2019, versus $(7,211) in the comparable 2018 period were primarily due to:
| |
• | accounts receivable increased $3,720 during the three months ended March 31, 2019 as a result of timing of collections as compared to a $270 increase in the comparable 2018 period; |
| |
• | prepaid expenses and other current assets increased $474 during the three months ended March 31, 2019, due to an increase in VAT receivable, other prepaid expenses and customer acquisition costs off-set by the amortization of prepaid bandwidth expenses and other prepaid expenses, compared to a $882 decrease in the comparable 2018 period; |
| |
• | accounts payable and other current liabilities increased $2,243 during the three months ended March 31, 2019, versus a decrease of $2,286 for the comparable 2018 period due to timing of vendor payments and the payment of 2018 variable compensation accruals; and |
| |
• | net payments for provision for litigation decreased $2,980 as a result of payments received from Akamai under the settlement and patent license agreement. |
Cash provided by operating activities may not be sufficient to cover new purchases of property and equipment during the remainder of 2019 and 2020. The timing and amount of future working capital changes and our ability to manage our days sales outstanding will also affect the future amount of cash used in or provided by operating activities.
Investing Activities
Net cash used in investing activities was $2,031 for the three months ended March 31, 2019, versus net cash provided by investing activities of $2,541 for the comparable 2018 period. Net cash used in investing activities was primarily related to the purchase of marketable securities, and capital expenditures primarily for servers and network equipment associated with the build-out and expansion of our global computing platform, partially offset by cash received from the sale and maturities of marketable securities.
We expect to have ongoing capital expenditure requirements as we continue to invest in and expand our content delivery network. During the three months ended March 31, 2019, we made capital expenditures of $5,018 which represented approximately 12% of our total revenue. We currently expect an increase in capital expenditures in 2019 compared to 2018, as we continue to increase the capacity of our global network and re-fresh our systems.
Financing Activities
Net cash used in financing activities was $886 for the three months ended March 31, 2019, versus net cash used in financing activities of $5,376 for the comparable 2018 period. Net cash used in financing activities in the three months ended March 31, 2019, primarily relates to the payments of employee tax withholdings related to the net settlement of vested restricted stock units of $894, offset by cash received from the exercise of stock options and our employee stock purchase plan of $8.
Net cash used in financing activities in the three months ended March 31, 2018, primarily relates to the repurchase of our common stock of $3,800, payments of employee tax withholdings related to the net settlement of vested restricted stock units of $1,606, offset by cash received from the exercise of stock options and our employee stock purchase plan of $30.
Line of Credit
In February 2018, we entered into the Fourth Amendment to the Credit Agreement with SVB originally entered into in November 2015. Under the Fourth Amendment, we increased the maximum principal commitment amount to $20,000. Our borrowing capacity is the lesser of the commitment amount or 80% of eligible accounts receivable. All outstanding borrowings owed under the Credit Agreement become due and payable no later than the final maturity date of November 2, 2020.
As of March 31, 2019, borrowings under the Credit Agreement bear interest at the current prime rate minus 0.25%. In the event of default, obligations shall bear interest at a rate per annum which is 3% above the then applicable rate. As of March 31, 2019, and December 31, 2018, respectively, we had no outstanding borrowings, and we had availability under the Credit Agreement of approximately $20,000.
Financial Covenants and Borrowing Limitations
The Credit Agreement requires, and any future credit facilities will likely require, us to comply with specified financial requirements that may limit the amount we can borrow. A breach of any of these covenants could result in a default. Our ability to satisfy those covenants depends principally upon our ability to meet or exceed certain financial performance results. Any debt agreements we enter into in the future may further limit our ability to enter into certain types of transactions.
We are required to maintain a minimum liquidity of $10,000 at all times, measured quarterly, with a minimum of $5,000 of the $10,000 in cash at SVB. In addition, we are required to maintain an Adjusted Quick Ratio of at least 1.0 to 1.0. We are also subject to certain customary limitations on our ability to, among other things, incur debt, grant liens, make
acquisitions and other investments, make certain restricted payments such as dividends, dispose of assets or undergo a change in control. As of March 31, 2019, we were in compliance with all covenants under the Credit Agreement.
For a more detailed discussion regarding our Credit Agreement and Fourth Amendment, please refer to Note 9 "Line of Credit" of the Notes to Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q.
We may be prevented from taking advantage of business opportunities that arise because of the limitations imposed on us by restrictive covenants within the Credit Agreement. These restrictions may also limit our ability to plan for or react to market conditions, meet capital needs or otherwise restrict our activities or business plans and adversely affect our ability to finance our operations, enter into acquisitions, execute our business strategy, effectively compete with companies that are not similarly restricted or engage in other business activities that would be in our interest. In the future, we may also incur debt obligations that might subject us to additional and different restrictive covenants that could affect our financial and operational flexibility. We cannot assure you that we will be granted waivers or amendments to the indenture governing the Credit Agreement, or such other debt obligations if for any reason we are unable to comply with our obligations thereunder or that we will be able to refinance our debt on acceptable terms, or at all, should we seek to do so. Any such limitations on borrowing under the Credit Agreement, including payments related to litigation, could have a material adverse impact on our liquidity and our ability to continue as a going concern could be impaired.
Share Repurchases
On March 14, 2017, our board of directors authorized a $25,000 share repurchase program. Any shares repurchased under this program will be canceled and returned to authorized but unissued status. During the three months ended March 31, 2019, we did not repurchase any shares under the repurchase program. During the three months ended March 31, 2018, we purchased and canceled 1,000 shares for $3,800, including commissions and fees. As of March 31, 2019, there remained $21,200 under this share repurchase program.
Contractual Obligations, Contingent Liabilities, and Commercial Commitments
In the normal course of business, we make certain long-term commitments for ROU assets, (primarily office facilities) and purchase commitments for bandwidth, and computer rack space. These commitments expire on various dates ranging from 2019 to 2022. We expect that the growth of our business will require us to continue to add to and increase our ROU assets and long-term commitments in 2019 and beyond. As a result of our growth strategies, we believe that our liquidity and capital resources requirements will grow.
The following table presents our contractual obligations and commercial commitments, as of March 31, 2019, over the next five years and thereafter: |
| | | | | | | | | | | | | | | | | | | | |
| | Payments Due by Period |
| |
| | Less than | |
| |
| | More than |
| | Total | | 1 year | | 1-3 years | | 3-5 years | | 5 years |
Purchase Commitments | |
| |
| |
| |
| |
|
Bandwidth commitments | | $ | 21,546 |
| | $ | 16,525 |
| | $ | 5,021 |
| | $ | — |
| | $ | — |
|
Rack space commitments | | 9,975 |
| | 6,524 |
| | 3,275 |
| | 176 |
| | — |
|
Total purchase commitments | | 31,521 |
| | 23,049 |
| | 8,296 |
| | 176 |
| | — |
|
Right-of-use assets and other operating leases | | 3,560 |
| | 1,848 |
| | 1,712 |
| | — |
| | — |
|
Settlement agreement | | 4,500 |
| | 4,500 |
| | — |
| | — |
| | — |
|
Total commitments | | $ | 39,581 |
| | $ | 29,397 |
| | $ | 10,008 |
| | $ | 176 |
| | $ | — |
|
As of March 31, 2019, we have additional operating leases for office space that has not yet commenced of approximately $12.7 million. This lease is expected to commence in August 2019, with a term of approximately11 years.
Off Balance Sheet Arrangements
As of March 31, 2019, we are not involved in any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Risk
Our exposure to market risk for changes in interest rates relates primarily to our debt and investment portfolio. In our investment portfolio, we do not use derivative financial instruments. Our investments are primarily with our commercial and investment banks and, by policy, we limit the amount of risk by investing primarily in money market funds, United States Treasury obligations, high quality corporate and municipal obligations, and certificates of deposit. Interest expense on our line of credit under the Fourth Amendment is at the current prime rate minus 0.25%. In the event of default, obligations shall bear interest at a rate per annum which is 3% above the then applicable rate. An increase in interest rates of 100 basis points would add $10 of interest expense per year, to our financial position or results of operations, for each $1,000 drawn on the line of credit. As of March 31, 2019, there were no outstanding borrowings against the line of credit.
Foreign Currency Risk
We operate in the Americas, EMEA, and Asia-Pacific. As a result of our international business activities, our financial results could be affected by factors such as changes in foreign currency exchange rates or economic conditions in foreign markets, and there is no assurance that exchange rate fluctuations will not harm our business in the future. We have foreign currency exchange rate exposure on our results of operations as it relates to revenues and expenses denominated in foreign currencies. A portion of our cost of revenues and operating expenses are denominated in foreign currencies as are our revenues associated with certain international customers. To the extent that the U.S. dollar weakens, similar foreign currency denominated transactions in the future will result in higher revenues and higher cost of revenues and operating expenses, with expenses having the greater impact on our financial results. Similarly, our revenues and expenses will decrease if the U.S. dollar strengthens against these foreign currencies. Although we will continue to monitor our exposure to currency fluctuations, and, where appropriate, may use financial hedging techniques in the future to minimize the effect of these fluctuations, we are not currently engaged in any financial hedging transactions. Assuming a 10% weakening of the U.S. dollar relative to our foreign currency denominated revenues and expenses, our net income for the year ended December 31, 2018, would have been lower by approximately $1,563, and our net loss for the three months ended March 31, 2019, would have been higher by approximately $582. There are inherent limitations in the sensitivity analysis presented, primarily due to the assumption that foreign exchange rate movements across multiple jurisdictions are similar and would be linear and instantaneous. As a result, the analysis is unable to reflect the potential effects of more complex markets or other changes that could arise, which may positively or negatively affect our results of operations.
Inflation Risk
We do not believe that inflation has had a material effect on our business, financial condition, or results of operations. If our costs were to become subject to significant inflationary pressures, we may not be able to fully offset such higher costs through price increases. Our inability or failure to do so could harm our business, financial condition and results of operations.
Credit Risk
During any given fiscal period, a relatively small number of customers typically account for a significant percentage of our revenue. During the three months ended March 31, 2019 and 2018, sales to our top 20 customers accounted for approximately 70% and 73%, respectively, of our total revenue. During the three months ended March 31, 2019 and 2018, respectively, we had one customer, Amazon, who represented more than 10% of our total revenue.
In 2019, we anticipate that our top 20 customer concentration levels will remain consistent with 2018. In the past, the customers that comprised our top 20 customers have continually changed, and our large customers may not continue to be as significant going forward as they have been in the past.
Item 4. Controls and Procedures
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
We are responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in SEC Rules 13a-15(e) and 15d-15(e). We maintain disclosure controls and procedures, as such term is defined in SEC Rules 13a-15(e) and 15d-15(e), that are designed to ensure that information required to be disclosed in our reports under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As required by SEC Rule 13a-15(b), we carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of March 31, 2019. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting, as defined in SEC Rules 13a-15(f) and 15d-15(f), during the fiscal quarter ended March 31, 2019, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
For a description of our material pending legal proceedings, please refer to Note 10 "Contingencies - Legal Matters" of the Notes to Consolidated Financial Statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q, which is incorporated herein by reference.
Item 1A. Risk Factors
Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below, together with all of the other information in this Quarterly Report on Form 10-Q, including the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part I, Item II, and our consolidated financial statements and related notes, before making a decision to invest in our common stock. The risks and uncertainties described below may not be the only ones we face. If any of the risks actually occur, our business, financial condition, operating results and prospects could be materially and adversely affected. In that event, the market price of our common stock could decline, and you could lose part or all of your investment. All information is presented in thousands, except per share amounts, customer count, head count and where specifically noted.
Risks Related to Our Business
We currently face competition from established competitors and may face competition from others in the future.
We compete in markets that are intensely competitive, rapidly changing and characterized by frequently declining prices. In these markets, vendors offer a wide range of alternate solutions. We have experienced and expect to continue to experience increased competition on price, features, functionality, integration and other factors. Several of our current competitors, as well as a number of our potential competitors, have longer operating histories, greater name recognition, broader customer relationships and industry alliances, and substantially greater financial, technical and marketing resources than we do. As a consequence of the competitive dynamics in our markets, we have experienced reductions in our prices, and an increased requirement for product advancement and innovation in order to remain competitive, which in turn have adversely affected and may continue to adversely affect our revenue, gross margin and operating results.
Our primary competitors for our content delivery services include Akamai, CenturyLink, Amazon, Fastly, CDNetworks, StackPath, and Verizon Digital Media Services. In addition, a number of companies have recently entered or are currently attempting to enter our market, either directly or indirectly, as a result of the growth in the content delivery market. These new entrants include companies that have built internal content delivery networks to solely deliver their own traffic, rather than relying solely, largely or in part on content delivery specialists, such as us. Some of these new entrants may become significant competitors in the future. Given the relative ease by which customers typically can switch among content delivery service providers, differentiated offerings or pricing by competitors could lead to a rapid loss of customers. Some of our current or potential competitors may bundle their offerings with other services, software or hardware in a manner that may discourage content providers from purchasing the services that we offer. In addition, we face different market characteristics and competition with local content delivery service providers as we expand internationally. Many of these international competitors are very well positioned within their local markets. Increased competition could result in price reductions and revenue shortfalls, loss of customers and loss of market share, which could harm our business, financial condition and results of operations.
We face different competitors for our other service offerings. However, the competitive landscape is different from content delivery in this area in that the process of changing vendors can be more costly and complicated for the customer, which could make it difficult for us to attract new customers and increase our market share.
Several of our competitors have greater financial and sales resources than we do. Many have been offering similar services in the markets in which we compete longer than we have. We may not be able to successfully compete against these or new competitors. If we are unable to increase our customer base and increase our market share, our business, financial condition and results of operations may suffer.
Any unplanned interruption or degradation in the functioning or availability of our network or services, or attacks on or disruptions to our internal information technology systems, could lead to increased costs, a significant decline in our revenue and harm to our reputation.
Our business is dependent on providing our customers with fast, efficient, and reliable distribution of content delivery and digital asset management services over the internet every minute of every day. Many of our customers depend primarily or exclusively on our services to operate their businesses. Consequently, any disruption, or substantial and extensive degradation, of our services could have a material impact on our customers’ businesses. Our network or services could be disrupted by numerous events, including natural disasters, failure or refusal of our third-party network providers to provide the necessary capacity or access, failure of our software or global network infrastructure and power losses. In addition, we deploy our servers in third-party co-location facilities, and these third-party co-location providers could experience system outages or other disruptions that could constrain our ability to deliver our services. We may also experience disruptions caused by software viruses, unauthorized hacking of our systems, security breaches or other cyberattacks by unauthorized users. Any hacking of our systems or other cyberattacks could lead to the unauthorized release of confidential information that could damage our customers’ business and reputation, as well as our own. The economic costs to us to eliminate or alleviate cyber or other security problems, viruses, worms, malicious software programs, and other security vulnerabilities could be significant, and our efforts to address these problems may not be successful and could result in interruptions, delays, cessation of service, and loss of existing or potential customers. In addition, our release of a security-related solution may increase our visibility as a security-focused company and make us a more attractive target for attacks on our infrastructure intended to steal information about our technology, financial data, or customer information or take other actions that would be damaging to our customers and us.
We could experience a significant, unplanned disruption, or substantial and extensive degradation of our services, or our network may fail in the future. Despite our significant infrastructure investments, we may have insufficient communications and server capacity to address these or other disruptions, which could result in interruptions in our services. Any widespread interruption or substantial and extensive degradation in the functioning of our services for any reason would reduce our revenue and could harm our business and results of operations. If such a widespread interruption occurred, or if we failed to deliver content to users as expected during a high-profile media event, game release or other well-publicized circumstance, our reputation could be damaged severely. Moreover, any disruptions, significant degradation, cybersecurity threats, security breaches, or attacks on our internal information technology systems could undermine confidence in our services and cause us to lose customers or make it more difficult to attract new ones, either of which could harm our business and results of operations.
We have a history of losses and we may not achieve or maintain profitability in the future.
We incur significant expenses in developing our technology, and maintaining and expanding our network. We also incur significant share-based compensation expense and have incurred (and may in the future incur) significant costs associated with litigation. Accordingly, we may not be able to achieve or maintain profitability for the foreseeable future.
We also may not achieve sufficient revenue to achieve or maintain profitability and thus may continue to incur losses in the future for a number of reasons, including, among others:
| |
• | slowing demand for our services; |
| |
• | increasing competition and competitive pricing pressures; |
| |
• | any inability to provide our services in a cost-effective manner; |
| |
• | the incurrence of unforeseen expenses, difficulties, complications and delays; and |
| |
• | other risks described in this report. |
If we fail to achieve and maintain profitability, the price of our common stock could decline, and our business, financial condition and results of operations could suffer.
If we are unable to sell our services at acceptable prices relative to our costs, our revenue and gross margins will decrease and our business and financial results will suffer.
Prices for content delivery services have fallen in recent years and are likely to fall further in the future. We have invested significant amounts in purchasing capital equipment as part of our effort to increase the capacity of our global content delivery network. Our investments in our infrastructure are based upon our assumptions regarding future demand, as well as prices that we will be able to charge for our services. These assumptions may prove to be wrong. If the price that we are able to charge customers to deliver their content falls to a greater extent than we anticipate, if we over-estimate future demand for our services, or if our costs to deliver our services do not fall commensurate with any future price declines, we may not be able to achieve acceptable rates of return on our infrastructure investments, and our gross profit and results of operations may suffer dramatically.
As we further expand our global network and services, and as we refresh our network equipment, we are dependent on significant future growth in demand for our services to justify additional capital expenditures. If we fail to generate significant additional demand for our services, our results of operations will suffer, and we may fail to achieve planned or expected
financial results. There are numerous factors that could, alone or in combination with other factors, impede our ability to increase revenue, moderate expenses or maintain gross margins, including:
| |
• | continued price declines arising from significant competition; |
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• | increasing settlement fees for certain peering relationships; |
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• | failure to increase sales of our services; |
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• | increases in electricity, bandwidth and rack space costs or other operating expenses, and failure to achieve decreases in these costs and expenses relative to decreases in the prices we can charge for our services and products; |
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• | failure of our current and planned services and software to operate as expected; |
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• | loss of any significant customers or loss of existing customers at a rate greater than our increase in new customers or our sales to existing customers; |
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• | failure to increase sales of our services to current customers as a result of their ability to reduce their monthly usage of our services to their minimum monthly contractual commitment; |
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• | failure of a significant number of customers to pay our fees on a timely basis or at all or to continue to purchase our services in accordance with their contractual commitments; and |
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• | inability to attract high quality customers to purchase and implement our current and planned services. |
A significant portion of our revenue is derived collectively from our video delivery services, cloud security, edge cloud, and origin storage services. These services tend to have higher gross margins than our content delivery services. We may not be able to achieve the growth rates in revenue from such services that we or our investors expect or have experienced in the past. If we are unable to achieve the growth rates in revenue that we expect for these service offerings, our revenue and operating results could be significantly and negatively affected.
Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations.
Our ability to use our net operating losses to offset future taxable income may be subject to certain limitations. As of December 31, 2018, we had federal and state net operating loss carryforwards, or NOLs, of $186,100 and $126,400, respectively, due to prior period losses. In general, under Section 382 of the Internal Revenue Code of 1986, as amended, or the Code, a corporation that undergoes an “ownership change” can be subject to limitations on its ability to utilize its NOLs to offset future taxable income. Our existing NOLs may be subject to limitations arising from past ownership changes. Future changes in our stock ownership, some of which are outside of our control, could result in an ownership change under Section 382 of the Code. In addition, under the Tax Cuts and Jobs Act (the Tax Act), the amount of post 2017 NOLs that we are permitted to deduct in any taxable year is limited to 80% of our taxable income in such year, where taxable income is determined without regard to the NOL deduction itself. In addition, the Tax Act generally eliminates the ability to carry back any NOL to prior taxable years, while allowing post 2017 unused NOLs to be carried forward indefinitely. There is a risk that due to changes under the Tax Act, regulatory changes, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. For these reasons, we may not be able to realize a tax benefit from the use of our NOLs, whether or not we attain profitability.
Our involvement in litigation may have a material adverse effect on our financial condition and operations.
We have been involved in multiple intellectual property lawsuits in the past (see discussion of such lawsuits in Note 10 "Contingencies - Legal Matters" of the Notes to Consolidated Financial Statements included in Part I, Item 1 of this quarterly report on Form 10-Q). We are from time to time party to other lawsuits. The outcome of all litigation is inherently unpredictable. The expenses of defending these lawsuits, particularly fees paid to our lawyers and expert consultants, have been significant to date. If the cost of prosecuting or defending current or future lawsuits continues to be significant, it may continue to adversely affect our operating results during the pendency of such lawsuits. Lawsuits also require a diversion of management and technical personnel time and attention away from other activities to pursue the defense or prosecution of such matters. In addition, adverse rulings in such lawsuits either alone or cumulatively may have an adverse impact on our revenue, expenses, market share, reputation, liquidity and financial condition.
If we are required to seek funding, such funding may not be available on acceptable terms or at all.
We may need to obtain funding due to a number of factors, including a shortfall in revenue, increased expenses, increased investment in capital equipment, the acquisition of significant businesses or technologies, or adverse judgments or settlements in connection with future, unforeseen litigation. We believe that our cash, cash equivalents and marketable securities classified as current plus cash from operations will be sufficient to fund our operations and proposed capital expenditures for at least the next 12 months. However, we may need or desire funding before such time. If we do need to obtain funding, it may not be available on commercially reasonable terms or at all. If we are unable to obtain sufficient funding, our business would be harmed. Even if we were able to find outside funding sources, we might be required to issue securities in a
transaction that could be highly dilutive to our investors or we may be required to issue securities with greater rights than the securities we have outstanding today. We might also be required to take other actions that could lessen the value of our common stock, including borrowing money on terms that are not favorable to us. If we are unable to generate or raise capital that is sufficient to fund our operations, we may be required to curtail operations, reduce our capabilities or cease operations in certain jurisdictions or completely.
We may have difficulty scaling and adapting our existing architecture to accommodate increased traffic and technology advances or changing business requirements. This could lead to the loss of customers and cause us to incur unexpected expenses to make network improvements.
Our services and solutions are highly complex and are designed to be deployed in and across numerous large and complex networks. Our global network infrastructure has to perform well and be reliable for us to be successful. We will need to continue to invest in infrastructure and customer support to account for the continued growth in traffic (and the increased complexity of that traffic) delivered via content delivery networks such as ours. We have spent and expect to continue to spend substantial amounts on the purchase and lease of equipment and data centers and the upgrade of our technology and network infrastructure to handle increased traffic over our network, implement changes to our network architecture and integrate existing solutions and to roll out new solutions and services. This expansion is expensive and complex and could result in inefficiencies, operational failures or defects in our network and related software. If we do not implement such changes or expand successfully, or if we experience inefficiencies and operational failures, the quality of our solutions and services and user experience could decline. From time to time, we have needed to correct errors and defects in our software or in other aspects of our network. In the future, there may be additional errors and defects that may harm our ability to deliver our services, including errors and defects originating with third party networks or software on which we rely. These occurrences could damage our reputation and lead to the loss of current and potential customers, which would harm our operating results and financial condition. We must continuously upgrade our infrastructure in order to keep pace with our customers’ evolving demands. Cost increases or the failure to accommodate increased traffic or these evolving business demands without disruption could harm our operating results and financial condition.
If we are unable to develop new services and enhancements to existing services or fail to predict and respond to emerging technological trends and customers’ changing needs, our operating results and market share may suffer.
The market for our services is characterized by rapidly changing technology, evolving industry standards, and new product and service introductions. Our operating results depend on our ability to understand user preferences or predict industry changes. Our operating results also depend on our ability to modify our solutions and services on a timely basis or develop and introduce new services into existing and emerging markets. The process of developing new technologies is complex and uncertain. We must commit significant resources to developing new services or enhancements to our existing services before knowing whether our investments will result in services the market will accept. Furthermore, we may not successfully execute our technology initiatives because of errors in planning or timing, technical hurdles that we fail to overcome in a timely fashion, misunderstandings about market demand or a lack of appropriate resources. As prices for content delivery services fall, we will increasingly rely on new product offerings and other service offerings to maintain or increase our gross margins. Failures in execution, delays in bringing new or improved products or services to market, failure to effectively integrate service offerings, or market acceptance of new services we introduce could result in competitors providing those solutions before we do, which could lead to loss of market share, revenue and earnings.
We depend on a limited number of customers for a substantial portion of our revenue in any fiscal period, and the loss of, or a significant shortfall in demand from, these customers could significantly harm our results of operations.
During any given fiscal period, a relatively small number of customers typically account for a significant percentage of our revenue. For the three months ended March 31, 2019, sales to our top 20 customers accounted for approximately 70% of our total revenue. During the three months ended March 31, 2019, we had one customer, Amazon, who represented 10% or more of our total revenue.
In the past, the customers that comprised our top 20 customers have continually changed, and we also have experienced significant fluctuations in our individual customers’ usage of, or decreased usage of, our services. As a consequence, we may not be able to adjust our expenses in the short term to address the unanticipated loss of a large customer during any particular period. As such, we may experience significant, unanticipated fluctuations in our operating results that may cause us to not meet our expectations or those of stock market analysts, which could cause our stock price to decline.
Rapidly evolving technologies or new business models could cause demand for our services to decline or could cause these services to become obsolete.
Customers, potential customers or third parties may develop technological or business model innovations that address digital delivery requirements in a manner that is, or is perceived to be, equivalent or superior to our service offerings. This is particularly true as our customers increase their operations and begin expending greater resources on delivering their content using third party solutions. If we fail to offer content delivery, video content management and other related services that are competitive to in-sourced solutions, we may lose additional customers or fail to attract customers that may consider pursuing this in-sourced approach, and our business and financial results would suffer.
If competitors introduce new products or services that compete with or surpass the quality or the price or performance of our services, we may be unable to renew our agreements with existing customers or attract new customers at the prices and levels that allow us to generate attractive rates of return on our investment. We may not anticipate such developments and may be unable to adequately compete with these potential solutions. In addition, our customers’ business models may change in ways that we do not anticipate, and these changes could reduce or eliminate our customers’ needs for our services. If this occurred, we could lose customers or potential customers, and our business and financial results would suffer.
As a result of these or similar potential developments, it is possible that competitive dynamics in our market may require us to reduce our prices faster than we anticipate, which could harm our revenue, gross margin and operating results.
Failure to effectively enhance our sales capabilities could harm our ability to increase our customer base and achieve broader market acceptance of our services.
Increasing our customer base and achieving broader market acceptance of our services will depend to a significant extent on our ability to enhance our sales and marketing operations. We have a concentration of our sales force at our headquarters in Tempe, Arizona, but we also have a widely deployed field sales force. We have aligned our sales resources to improve our sales productivity and efficiency and to bring our sales personnel closer to our current and potential customers. Adjustments to our sales force have been and will continue to be expensive and could cause some near-term productivity impairments. As a result, we may not be successful in improving the productivity and efficiency of our sales force, which could cause our results of operations to suffer.
We believe that there is significant competition for both inside and direct sales personnel with the sales skills and technical knowledge that we require. Our ability to achieve significant growth in revenue in the future will depend, in large part, on our success in recruiting, training and retaining sufficient numbers of inside and direct sales personnel. New hires require significant training and, in most cases, take a significant period of time before they achieve full productivity. Our recent hires and planned hires may not become as productive as we would like, and we may be unable to hire or retain sufficient numbers of qualified individuals in the future in the markets where we do business. Our business will be seriously harmed if our sales force productivity efforts do not generate a corresponding significant increase in revenue.
Many of our significant current and potential customers are pursuing emerging or unproven business models, which, if unsuccessful, or ineffective at monetizing delivery of their content, could lead to a substantial decline in demand for our content delivery and other services.
Because the proliferation of broadband internet connections and the subsequent monetization of content libraries for distribution to internet users are relatively recent phenomena, many of our customers’ business models that center on the delivery of rich media and other content to users remain unproven. Some of our customers will not be successful in selling advertising, subscriptions, or otherwise monetizing the content we deliver on their behalf and consequently may not be successful in creating a profitable business model. This will result in some of our customers discontinuing their internet or web-based business operations and discontinuing use of our services and solutions. Further, any deterioration and related uncertainty in the global financial markets and economy could result in, among other things, reductions in available capital and liquidity from banks and other providers of credit, fluctuations in equity and currency values worldwide, and concerns that portions of the worldwide economy may be in a prolonged recessionary period. Any one or more of these occurrences could materially adversely impact our customers’ access to capital or willingness to spend capital on our services or, in some cases, ultimately cause the customer to file for protection from creditors under applicable insolvency or bankruptcy laws or simply go out of business. This uncertainty may also impact our customers’ levels of cash liquidity, which could affect their ability or willingness to timely pay for services that they will order or have already ordered from us. From time to time we discontinue service to customers for non-payment of services. We expect further customers may discontinue operations or not be willing or able to pay for services that they have ordered from us. Further loss of customers may adversely affect our financial results.
If we are unable to attract new customers or to retain our existing customers, our revenue could be lower than expected and our operating results may suffer.
To increase our revenue, we must add new customers and sell additional services to existing customers and encourage existing customers to increase their usage levels. If our existing and prospective customers do not perceive our services to be of
sufficiently high value and quality, we may not be able to retain our current customers or attract new customers. We sell our services pursuant to service agreements that generally include some form of financial minimum commitment. Our customers have no obligation to renew their contracts for our services after the expiration of their initial commitment, and these service agreements may not be renewed at the same or higher level of service, if at all. Moreover, under some circumstances, some of our customers have the right to cancel their service agreements prior to the expiration of the terms of their agreements. Aside from minimum financial commitments, customers are not obligated to use our services for any particular type or amount of traffic. These facts, in addition to the changing competitive landscape in our market, means that we cannot accurately predict future customer renewal rates or usage rates. Our customers’ renewal rates may decline or fluctuate as a result of a number of factors, including:
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• | their satisfaction or dissatisfaction with our services; |
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• | the quality and reliability of our content delivery network; |
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• | the prices of our services; |
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• | the prices of services offered by our competitors; |
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• | discontinuation by our customers of their internet or web-based content distribution business; |
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• | mergers and acquisitions affecting our customer base; and |
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• | reductions in our customers’ spending levels. |
If our customers do not renew their service agreements with us, or if they renew on less favorable terms, our revenue may decline and our business may suffer. Similarly, our customer agreements often provide for minimum commitments that are often significantly below our customers’ historical usage levels. Consequently, even if we have agreements with our customers to use our services, these customers could significantly curtail their usage without incurring any penalties under our agreements. In this event, our revenue would be lower than expected and our operating results could suffer.
It also is an important component of our growth strategy to market our services and solutions to particular industries or market segments. As an organization, we may not have significant experience in selling our services into certain of these markets. Our ability to successfully sell our services into these markets to a meaningful extent remains unproven. If we are unsuccessful in such efforts, our business, financial condition and results of operations could suffer.
Rapid increase in the use of mobile and alternative devices to access the internet present significant development and deployment challenges.
The number of people who access the internet through devices other than PCs, including mobile devices, game consoles and television set-top devices, has increased dramatically in the past few years. The capabilities of these devices are advancing dramatically and the increasing need to provide a high-quality video experience will present us and other providers with significant challenges. If we are unable to deliver our service offerings to a substantial number of alternative device users and at a high quality, or if we are slow to develop services and technologies that are more compatible with these devices, we may fail to capture a significant share of an increasingly important portion of the market. Such a failure could limit our ability to compete effectively in an industry that is rapidly growing and changing, which, in turn, could cause our business, financial condition and results of operations to suffer.
We need to defend our intellectual property and processes against patent or copyright infringement claims, which may cause us to incur substantial costs and threaten our ability to do business.
Companies, organizations or individuals, including our competitors and non-practicing entities, may hold or obtain patents or other proprietary rights that would prevent, limit or interfere with our ability to make, use or sell our services or develop new services, which could make it more difficult for us to operate our business. From time to time, we may receive inquiries from holders of patents inquiring whether we infringe their proprietary rights. Companies holding internet-related patents or other intellectual property rights are increasingly bringing suits alleging infringement of such rights or otherwise asserting their rights and seeking licenses. Any litigation or claims, whether or not valid, could result in substantial costs and diversion of resources from the defense of such claims. In addition, many of our agreements with customers require us to defend and indemnify those customers for third-party intellectual property infringement claims against them, which could result in significant additional costs and diversion of resources. If we are determined to have infringed upon a third party’s intellectual property rights, we may also be required to do one or more of the following:
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• | cease selling, incorporating or using products or services that incorporate the challenged intellectual property; |
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• | pay substantial damages; |
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• | obtain a license from the holder of the infringed intellectual property right, which license may or may not be available on reasonable terms or at all; or |
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• | redesign products or services. |
If we are forced to litigate any claims or to take any of these other actions, our business may be seriously harmed.
Our business may be adversely affected if we are unable to protect our intellectual property rights from unauthorized use or infringement by third parties.
We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We have applied for patent protection in the United States and a number of foreign countries. These legal protections afford only limited protection and laws in foreign jurisdictions may not protect our proprietary rights as fully as in the United States. Monitoring infringement of our intellectual property rights is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our intellectual property rights. Developments and changes in patent law, such as changes in interpretations of the joint infringement standard, could restrict how we enforce certain patents we hold. We also cannot be certain that any pending or future patent applications will be granted, that any future patent will not be challenged, invalidated or circumvented, or that rights granted under any patent that may be issued will provide competitive advantages to us.
Our results of operations may fluctuate in the future. As a result, we may fail to meet or exceed the expectations of securities analysts or investors, which could cause our stock price to decline.
Our results of operations may fluctuate as a result of a variety of factors, many of which are outside of our control. If our results of operations fall below the expectations of securities analysts or investors, the price of our common stock could decline substantially. In addition to the effects of other risks discussed in this section, fluctuations in our results of operations may be due to a number of factors, including, among others:
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• | our ability to increase sales to existing customers and attract new customers to our content delivery and other services; |
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• | the addition or loss of large customers, or significant variation in their use of our content delivery and other services; |
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• | costs associated with current or future intellectual property lawsuits and other lawsuits; |
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• | service outages or third party security breaches to our platform or to one or more of our customers’ platforms; |
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• | the amount and timing of operating costs and capital expenditures related to the maintenance and expansion of our business, operations and infrastructure and the adequacy of available funds to meet those requirements; |
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• | the timing and success of new product and service introductions by us or our competitors; |
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• | the occurrence of significant events in a particular period that result in an increase in the use of our content delivery and other services, such as a major media event or a customer’s online release of a new or updated video game or operating system; |
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• | changes in our pricing policies or those of our competitors; |
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• | the timing of recognizing revenue; |
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• | limitations of the capacity of our global network and related systems; |
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• | the timing of costs related to the development or acquisition of technologies, services or businesses; |
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• | the potential write-down or write-off of intangible or other long-lived assets; |
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• | general economic, industry and market conditions (such as fluctuations experienced in the stock and credit markets during times of deteriorated global economic conditions) and those conditions specific to internet usage; |
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• | limitations on usage imposed by our customers in order to limit their online expenses; and |
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• | war, threat of war or terrorist actions, including cyber terrorism targeted at us, our customers, or both, and inadequate cybersecurity. |
We believe that our revenue and results of operations may vary significantly in the future and that period-to-period comparisons of our operating results may not be meaningful. You should not rely on the results of one period as an indication of future performance.
We generate our revenue primarily from the sale of content delivery services, and the failure of the market for these services to expand as we expect or the reduction in spending on those services by our current or potential customers would seriously harm our business.
While we offer our customers a number of services and solutions, we generate the majority of our revenue from charging our customers for the content delivered on their behalf through our global network. We are subject to an elevated risk of reduced demand for these services. Furthermore, if the market for delivery of rich media content in particular does not continue to grow as we expect or grows more slowly, then we may fail to achieve a return on the significant investment we are making to prepare for this growth. Our success, therefore, depends on the continued and increasing reliance on the internet for delivery of media content and our ability to cost-effectively deliver these services. Many different factors may have a general
tendency to limit or reduce the number of users relying on the internet for media content, the amount of content consumed by our customers’ users, or the number of providers making this content available on-line, including, among others:
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• | a general decline in internet usage; |
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• | third party restrictions on on-line content (including copyright restrictions, digital rights management and restrictions in certain geographic regions); |
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• | system impairments or outages, including those caused by hacking or cyberattacks; and |
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• | a significant increase in the quality or fidelity of off-line media content beyond that available online to the point where users prefer the off-line experience. |
The influence of any of these or other factors may cause our current or potential customers to reduce their spending on content delivery services, which would seriously harm our operating results and financial condition.
We could incur charges due to impairment of goodwill and long-lived assets.
As of March 31, 2019, we had a goodwill balance of approximately $76,707, which is subject to periodic testing for impairment. Our long-lived assets also are subject to periodic testing for impairment. A significant amount of judgment is involved in the periodic testing. Failure to achieve sufficient levels of cash flow could result in impairment charges for goodwill or fixed asset impairment for long-lived assets, which could have a material adverse effect on our reported results of operations. Our goodwill impairment analysis also includes a comparison of the aggregate estimated fair value of our reporting unit to our total market capitalization. If our stock trades below our book value, a significant and sustained decline in our stock price and market capitalization could result in goodwill impairment charges. During times of financial market volatility, significant judgment will be used to determine the underlying cause of the decline and whether stock price declines are short-term in nature or indicative of an event or change in circumstances. Impairment charges, if any, resulting from the periodic testing are non-cash.
Our operations are dependent in part upon communications capacity provided by third party telecommunications providers. A material disruption of the communications capacity could harm our results of operations, reputation and customer relations.
We enter into arrangements for private line capacity for our backbone from third party providers. Our contracts for private line capacity generally have terms of three to four years. The communications capacity may become unavailable for a variety of reasons, such as physical interruption, technical difficulties, contractual disputes, or the financial health of our third party providers. Also, industry consolidation among communications providers could result in fewer viable market alternatives, which could have an impact on our costs of providing services. Alternative providers are currently available; however, it could be time consuming and expensive to promptly identify and obtain alternative third party connectivity. Additionally, as we grow, we anticipate requiring greater private line capacity than we currently have in place. If we are unable to obtain such capacity from third party providers on terms commercially acceptable to us or at all, our business and financial results would suffer. Similarly, if we are unable to timely deploy enough network capacity to meet the needs of our customer base or effectively manage the demand for our services, our reputation and relationships with our customers would be harmed, which, in turn, could harm or business, financial condition and results of operations.
We face risks associated with international operations that could harm our business.
We have operations in numerous foreign countries and may continue to expand our sales and support organizations internationally. As part of our business strategy, we intend to expand our international network infrastructure. Expansion could require us to make significant expenditures, including the hiring of local employees or resources, in advance of generating any revenue. As a consequence, we may fail to achieve profitable operations that will compensate our investment in international locations. We are subject to a number of risks associated with international business activities that may increase our costs, lengthen our sales cycle and require significant management attention. These risks include:
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• | increased expenses associated with sales and marketing, deploying services and maintaining our infrastructure in foreign countries; |
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• | competition from local content delivery service providers, many of which are very well positioned within their local markets; |
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• | challenges caused by distance, language and cultural differences; |
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• | unexpected changes in regulatory requirements preventing or limiting us from operating our global network or resulting in unanticipated costs and delays; |
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• | interpretations of laws or regulations that would subject us to regulatory supervision or, in the alternative, require us to exit a country, which could have a negative impact on the quality of our services or our results of operations; |
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• | longer accounts receivable payment cycles and difficulties in collecting accounts receivable; |
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• | corporate and personal liability for violations of local laws and regulations; |
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• | currency exchange rate fluctuations and repatriation of funds; |
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• | potentially adverse tax consequences; |
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• | credit risk and higher levels of payment fraud; and |
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• | foreign exchange controls that might prevent us from repatriating cash earned in countries outside the United States. |
International operations are subject to significant additional risks not generally faced in our domestic operations, including, but not limited to, risks relating to legal systems that may not adequately protect contract and intellectual property rights, policies and taxation, the physical infrastructure of the country, as well as risks relating to potential political turmoil and currency exchange controls. There can be no assurance that these international risks will not materially adversely affect our business. For example, our operations include software development and quality assurance activities in Ukraine, which has experienced social unrest in recent years. Should there be significant productivity losses, or if we become unable to conduct operations in Ukraine in the future, and our contingency plans are unsuccessful in addressing the related risks, our business could be adversely affected.
Our business depends on continued and unimpeded access to third party controlled end-user access networks.
Our content delivery services depend on our ability to access certain end-user access networks in order to complete the delivery of rich media and other on-line content to end-users. Some operators of these networks may take measures that could degrade, disrupt or increase the cost of our or our customers’ access to certain of these end-user access networks. Such measures may include restricting or prohibiting the use of their networks to support or facilitate our services, or charging increased fees to us, our customers or end-users in connection with our services. In 2015, the U.S. Federal Communications Commission (FCC) released network neutrality and open internet rules that reclassified broadband internet access services as a telecommunications service subject to some elements of common carrier regulation. Among other things, the FCC order prohibited blocking or discriminating against lawful services and applications and prohibited "paid prioritization," or providing faster speeds or other benefits in return for compensation. In 2017, the FCC overturned these rules. As a result, we or our customers could experience increased cost or slower data on these third-party networks. If we or our customers experience increased cost in delivering content to end users, or otherwise, or if end users perceive a degradation of quality, our business and that of our customers may be significantly harmed. This or other types of interference could result in a loss of existing customers, increased costs and impairment of our ability to attract new customers, thereby harming our revenue and growth.
In addition, the performance of our infrastructure depends in part on the direct connection of our global network to a large number of end-user access networks, known as peering, which we achieve through mutually beneficial cooperation with these networks. In some instances, network operators charge us for the peering connections. If, in the future, a significant percentage of these network operators elected to no longer peer with our network or peer with our network on less favorable economic terms, then the performance of our infrastructure could be diminished, our costs could increase and our business could suffer.
If our ability to deliver media files in popular proprietary content formats was restricted or became cost-prohibitive, demand for our content delivery services could decline, we could lose customers and our financial results could suffer.
Our business depends on our ability to deliver media content in all major formats. If our legal right or technical ability to store and deliver content in one or more popular proprietary content formats, such as HTTP Live Streaming was limited, our ability to serve our customers in these formats would be impaired and the demand for our content delivery and other services would decline by customers using these formats. Owners of propriety content formats may be able to block, restrict or impose fees or other costs on our use of such formats, which could lead to additional expenses for us and for our customers, or which could prevent our delivery of this type of content altogether. Such interference could result in a loss of existing customers, increased costs and impairment of our ability to attract new customers, which would harm our revenue, operating results and growth.
We use certain “open-source” software, the use of which could result in our having to distribute our proprietary software, including our source code, to third parties on unfavorable terms, which could materially affect our business.
Certain of our service offerings use software that is subject to open-source licenses. Open-source code is software that is freely accessible, usable and modifiable. Certain open-source code is governed by license agreements, the terms of which could require users of such open-source code to make any derivative works of such open-source code available to others on unfavorable terms or at no cost. Because we use open-source code, we may be required to take remedial action to protect our proprietary software. Such action could include replacing certain source code used in our software, discontinuing certain of our products or features or taking other actions that could divert resources away from our development efforts.
In addition, the terms relating to disclosure of derivative works in many open-source licenses are unclear. We periodically review our compliance with the open-source licenses we use and do not believe we will be required to make our proprietary software freely available. Nevertheless, if a court interprets one or more such open-source licenses in a manner that is unfavorable to us, we could be required to make some components of our software available at no cost, which could materially and adversely affect our business and financial condition.
If we are unable to retain our key employees and hire qualified sales and technical personnel, our ability to compete could be harmed.
Our future success depends upon the continued services of our executive officers and other key technology, sales, marketing and support personnel who have critical industry experience and relationships that they rely on in implementing our business plan. There is increasing competition for talented individuals with the specialized knowledge to deliver our services and this competition affects both our ability to retain key employees and hire new ones. Historically, we have experienced a significant amount of employee turnover, especially with respect to our sales personnel. As a result, a significant number of our sales personnel are relatively new and may need time to become fully productive. The loss of the services of any of our key employees could disrupt our operations, delay the development and introduction of our services, and negatively impact our ability to sell our services.
We are subject to the effects of fluctuations in foreign exchange rates, which could affect our operating results.
The financial condition and results of operations of our operating foreign subsidiaries are reported in the relevant local currency and are then translated into U.S. dollars at the applicable currency exchange rate for inclusion in our consolidated U.S. dollar financial statements. Also, although a large portion of our customer and vendor agreements are denominated in U.S. dollars, we may be exposed to fluctuations in foreign exchange rates with respect to customer agreements with certain of our international customers. Exchange rates between these currencies and U.S. dollars in recent years have fluctuated significantly and may do so in the future. In addition to currency translation risk, we incur currency transaction risk whenever one of our operating subsidiaries enters into a transaction using a different currency than the relevant local currency. Given the volatility of exchange rates, we may be unable to manage our currency transaction risks effectively. Currency fluctuations could have a material adverse effect on our future international sales and, consequently, on our financial condition and results of operations.
As part of our business strategy, we may acquire businesses or technologies and may have difficulty integrating these operations.
We have completed a number of business acquisitions and may seek to acquire businesses or technologies that are complementary to our business in the future. Acquisitions are often complex and involve a number of risks to our business, including, among others;
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• | the difficulty of integrating the operations, services, solutions and personnel of the acquired companies; |
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• | the potential disruption of our ongoing business; |
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• | the potential distraction of management; |
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• | the possibility that our business culture and the business culture of the acquired companies will not be compatible; |
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• | the difficulty of incorporating or integrating acquired technology and rights with or into our other services and solutions; |
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• | expenses related to the acquisition and to the integration of the acquired companies; |
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• | the impairment of relationships with employees and customers as a result of any integration of new personnel; |
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• | employee turnover from the acquired companies or from our current operations as we integrate businesses; |
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• | risks related to the businesses of acquired companies that may continue to impact the businesses following the merger; and |
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• | potential unknown liabilities associated with acquired companies. |
Any inability to integrate services, solutions, operations or personnel in an efficient and timely manner could harm our results of operations.
If we are not successful in completing acquisitions that we may pursue in the future, we may be required to reevaluate our business strategy, and we may incur substantial expenses and devote significant management time and resources without a productive result. In addition, future acquisitions will require the use of our available cash or dilutive issuances of securities. Future acquisitions or attempted acquisitions could also harm our ability to achieve profitability.
Internet-related and other laws relating to taxation issues, privacy, data security, and consumer protection and liability for content distributed over our network could harm our business.
Laws and regulations that apply to communications and commerce conducted over the internet are becoming more prevalent, both in the United States and internationally, and may impose additional burdens on companies conducting business on-line or providing internet-related services such as ours. Increased regulation could negatively affect our business directly, as well as the businesses of our customers, which could reduce their demand for our services. For example, tax authorities abroad may impose taxes on the internet-related revenue we generate based on where our internationally deployed servers are located. In addition, domestic and international taxation laws are subject to change. Our services, or the businesses of our customers, may become subject to increased taxation, which could harm our financial results either directly or by forcing our customers to scale back their operations and use of our services in order to maintain their operations. Also, the Communications Act of 1934, as amended by the Telecommunications Act of 1996 (the Act), and the regulations promulgated by the FCC under Title II of the Act, may impose obligations on the internet and those participants involved in internet-related businesses. In addition, the laws relating to the liability of private network operators for information carried on, processed by or disseminated through their networks are unsettled, both in the United States and abroad. Network operators have been sued in the past, sometimes successfully, based on the content of material disseminated through their networks. We may become subject to legal claims such as defamation, invasion of privacy and copyright infringement in connection with content stored on or distributed through our network. In addition, our reputation could suffer as a result of our perceived association with the type of content that some of our customers deliver. If we need to take costly measures to reduce our exposure to the risks posed by laws and regulations that apply to communications and commerce conducted over the internet, or are required to defend ourselves against related claims, our financial results could be negatively affected.
Several other federal laws also could expose us to liability and impose significant additional costs on us. For example, the Digital Millennium Copyright Act has provisions that limit, but do not eliminate, our liability for the delivery of customer content that infringe copyrights or other rights, so long as we comply with certain statutory requirements. In addition, the Children’s On-line Privacy Protection Act restricts the ability of on-line services to collect information from minors and the Protection of Children from Sexual Predators Act of 1998 requires on-line service providers to report evidence of violations of federal child pornography laws under certain circumstances. Also, there are emerging regulation and industry standards regarding the collection and use of personal information and protecting the security of data on networks. Compliance with these laws, regulations and standards is complex and any failure on our part to comply with these regulations may subject us to additional liabilities.
Privacy concerns could lead to regulatory and other limitations on our business, including our ability to use “cookies” and video player “cookies” that are crucial to our ability to provide services to our customers.
Our ability to compile data for customers depends on the use of “cookies” and video player “cookies” to identify certain on-line behavior that allows our customers to measure a website or video’s effectiveness. A cookie is a small file of information stored on a user’s computer that allows us to recognize that user’s browser or video player when the user makes a request for a web page or to play a video. Government authorities inside the United States concerned with the privacy of internet users have suggested the enactment of legislation that would regulate cookies and/or require certain disclosures regarding cookies. Bills aimed at regulating the collection, use and/or storage of personal data from internet users are currently pending in United States Congress and many state legislatures. Attempts at such regulation may be drafted in such a way as to limit or otherwise regulate the collection of certain technology like cookies, thereby creating restrictions that could reduce our ability to use them. In addition, the Federal Trade Commission and the Department of Commerce have conducted hearings regarding user profiling, the collection of non-personally identifiable information and on-line privacy.
Our foreign operations may also be adversely affected by regulatory action outside the United States. These regulations, which can be enforced by private parties or governmental entities, are constantly evolving and can be subject to significant change. For example, the European Union has enacted an electronic communications directive that imposes certain restrictions on the use of cookies, requires certain disclosures with respect to cookie usages and also places restrictions on the sending of unsolicited communications. Each European Union member country was required to enact legislation to comply with the provisions of the electronic communications directive. Germany has also enacted additional laws limiting the use of user profiling, and other countries, both in and out of the European Union, may impose similar limitations.
Internet users may directly limit or eliminate the placement of cookies on their computers by using third-party software that blocks cookies, or by disabling or restricting the cookie functions of their internet browser software and in their video player software. Internet browser software upgrades also may result in limitations on the use of cookies. Technologies like the Platform for Privacy Preferences Project may limit collection of cookies. Plaintiffs’ attorneys also have organized class action suits against companies related to the use of cookies and several companies, including companies in the internet advertising industry, have had claims brought against them before the Federal Trade Commission regarding the collection and use of internet user information. We may be subject to such suits in the future, which could limit or eliminate our ability to collect such information. If our ability to use cookies were substantially restricted due to the foregoing, or for any other reason, we would have to generate and use other technology or methods that allow the gathering of user data in order to provide
services to customers. This change in technology or methods could require significant re-engineering time and resources, and may not be complete in time to avoid negative consequences to our business. In addition, alternative technology or methods might not be available on commercially reasonable terms, if at all. If the use of cookies is prohibited and we are not able to efficiently and cost effectively create new technology, our business, financial condition and results of operations would be materially adversely affected. In addition, any compromise of security that results in the release of internet users’ and/or our customers’ data could seriously limit the adoption of our service offerings as well as harm our reputation and brand, expose us to liability and subject us to reporting obligations under various state laws, which could have an adverse effect on our business. The risk that these types of events could seriously harm our business is likely to increase as the amount of data stored for customers on our servers and the number of countries where we operate has been increasing, and we may need to expend significant resources to protect against security breaches, which could have an adverse effect on our business, financial condition or results of operations.
Also, a number of new privacy laws and/or proposals pending could affect our business. For example, the European Commission has enacted the General Data Protection Regulation, or GDPR, which became effective in May 2018. GDPR superseded prior EU data protection legislation, imposes more stringent EU data protection requirements, and provides for greater penalties for noncompliance. Additionally, in October 2015, the European Court of Justice invalidated the U.S.-EU Safe Harbor framework that had been in place since 2000, which allowed companies to meet certain European legal requirements for the transfer of personal data from the European Economic Area to the United States. Although U.S. and EU authorities reached a political agreement regarding a new potential means for legitimizing personal data transfers from the European Economic Area to the United States, the EU-U.S. Privacy Shield, there continue to be concerns about whether the EU-US Privacy Shield will face additional challenges (similar to the fate of the Safe Harbor framework). We expect that for the immediate future, we will continue to face uncertainty as to whether our efforts to comply with our obligations under European privacy laws will be sufficient. If we are investigated by a European data protection authority, we may face fines and other penalties. Any such investigation or charges by European data protection authorities could have a negative effect on our existing business and on our ability to attract and retain new customers. These existing and proposed laws and regulations can be costly to comply with, could expose us to significant penalties for non-compliance, can delay or impede the development or adoption of our products and services, reduce the overall demand for our services, result in negative publicity, increase our operating costs, require significant management time and attention, slow the pace at which we close (or prevent us from closing) sales transactions, and subject us to claims or other remedies, including fines or demands that we modify or cease existing business practices.
Our business requires the continued development of effective business support systems to support our customer growth and related services.
The growth of our business depends on our ability to continue to develop effective business support systems. This is a complicated undertaking requiring significant resources and expertise. Business support systems are needed for:
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• | implementing customer orders for services; |
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• | delivering these services; and |
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• | timely and accurate billing for these services. |
Because our business plan provides for continued growth in the number of customers that we serve and services offered, there is a need to continue to develop our business support systems on a schedule sufficient to meet proposed service roll-out dates. The failure to continue to develop effective business support systems could harm our ability to implement our business plans and meet our financial goals and objectives.
We have incurred, and will continue to incur significant costs as a result of operating as a public company, and our management is required to devote substantial time to compliance initiatives.
As a public company, we have incurred, and will continue to incur, significant expenses, including accounting, legal and other professional fees, insurance premiums, investor relations costs, and costs associated with compensating our independent directors. In addition, rules implemented by the SEC and the Nasdaq Global Select Market impose additional requirements on public companies, including requiring changes in corporate governance practices. For example, the listing requirements of the Nasdaq Global Select Market require that we satisfy certain corporate governance requirements relating to independent directors, audit committees, distribution of annual and interim reports, stockholder meetings, stockholder approvals, solicitation of proxies, conflicts of interest, stockholder voting rights and codes of conduct. Our management and other personnel need to devote a substantial amount of time to these compliance initiatives. Moreover, these rules and regulations increase our legal and financial compliance costs and make some activities more time-consuming and costly. For example, these rules and regulations make it more difficult and more expensive for us to obtain director and officer liability insurance.
If the accounting estimates we make, and the assumptions on which we rely, in preparing our financial statements prove inaccurate, our actual results may be adversely affected.
Our financial statements have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments about, among other things, taxes, revenue recognition, share-based compensation costs, contingent obligations and doubtful accounts. These estimates and judgments affect the reported amounts of our assets, liabilities, revenue and expenses, the amounts of charges accrued by us, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances and at the time they are made. If our estimates or the assumptions underlying them are not correct, we may need to accrue additional charges or reduce the value of assets that could adversely affect o