Annual Statements Open main menu

AKAMAI TECHNOLOGIES INC - Quarter Report: 2018 March (Form 10-Q)

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
______________________________________________ 
FORM 10-Q
 ______________________________________________
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended March 31, 2018
or
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 0-27275
______________________________________________ 
Akamai Technologies, Inc.

(Exact name of registrant as specified in its charter)
Delaware
 
04-3432319
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)

150 Broadway
Cambridge, MA 02142
(617) 444-3000
(Address, Including Zip Code, and Telephone Number,
Including Area Code, of Registrant’s Principal Executive Offices)
______________________________________________ 

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 (the “Exchange Act”) 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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

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

Large accelerated filer  x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
Emerging growth company o
(Do not check if a smaller reporting company)

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨    No  x
The number of shares outstanding of the registrant’s common stock as of May 7, 2018: 170,630,343


Table of Contents

AKAMAI TECHNOLOGIES, INC.

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2018

TABLE OF CONTENTS
 
 
 
Page
 
 
 
 
Item 1.
 
Consolidated Balance Sheets at March 31, 2018 and December 31, 2017
 
Consolidated Statements of Income for the three months ended March 31, 2018 and 2017
 
Consolidated Statements of Comprehensive Income for the three months ended March 31, 2018 and 2017
 
Consolidated Statements of Cash Flows for the three months ended March 31, 2018 and 2017
 
Notes to Unaudited Consolidated Financial Statements
Item 2.
Item 3.
Item 4.
 
 
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 6.
 
 


2

Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

AKAMAI TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, expect share data)
March 31,
2018
 
December 31,
2017
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
363,703

 
$
313,382

Marketable securities
447,850

 
398,554

Accounts receivable, net of reserves of $1,311 and $1,281 at March 31, 2018, and December 31, 2017, respectively
484,617

 
461,457

Prepaid expenses and other current assets
163,556

 
172,853

Total current assets
1,459,726

 
1,346,246

Property and equipment, net
845,118

 
862,535

Marketable securities
512,270

 
567,592

Goodwill
1,498,906

 
1,498,688

Acquired intangible assets, net
193,228

 
201,259

Deferred income tax assets
44,490

 
36,231

Other assets
133,166

 
136,365

Total assets
$
4,686,904

 
$
4,648,916

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
81,239

 
$
80,278

Accrued expenses
253,075

 
283,743

Deferred revenue
95,490

 
70,495

Current portion of convertible senior notes
668,745

 

Other current liabilities
32,046

 
22,178

Total current liabilities
1,130,595

 
456,694

Deferred revenue
7,049

 
6,062

Deferred income tax liabilities
17,675

 
17,823

Convertible senior notes

 
662,913

Other liabilities
145,328

 
142,955

Total liabilities
1,300,647

 
1,286,447

Commitments and contingencies (Note 9)

 

Stockholders’ equity:
 
 
 
Preferred stock, $0.01 par value; 5,000,000 shares authorized; 700,000 shares designated as Series A Junior Participating Preferred Stock; no shares issued or outstanding

 

Common stock, $0.01 par value; 700,000,000 shares authorized; 170,841,758 and 169,893,324 shares issued and outstanding at March 31, 2018 and December 31, 2017, respectively
1,708

 
1,699

Additional paid-in capital
4,098,218

 
4,073,362

Accumulated other comprehensive loss
(18,334
)
 
(21,930
)
Treasury stock, at cost, 293,619 shares at March 31, 2018, and no shares at December 31, 2017
(19,785
)
 

Accumulated deficit
(675,550
)
 
(690,662
)
Total stockholders’ equity
3,386,257

 
3,362,469

Total liabilities and stockholders’ equity
$
4,686,904

 
$
4,648,916


The accompanying notes are an integral part of the consolidated financial statements.

3

Table of Contents

AKAMAI TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF INCOME
    
 
For the Three Months
Ended March 31,
(in thousands, except per share data)
2018
 
2017
Revenue
$
668,724

 
$
600,293

Costs and operating expenses:
 
 
 
Cost of revenue (exclusive of amortization of acquired intangible assets shown below)
234,825

 
205,727

Research and development
65,065

 
52,162

Sales and marketing
122,553

 
114,492

General and administrative
154,385

 
115,009

Amortization of acquired intangible assets
8,431

 
7,569

Restructuring charges
14,908

 

Total costs and operating expenses
600,167

 
494,959

Income from operations
68,557


105,334

Interest income
3,965

 
4,624

Interest expense
(4,850
)
 
(4,597
)
Other income (expense), net
21

 
(684
)
Income before provision for income taxes
67,693

 
104,677

Provision for income taxes
13,979

 
30,094

Net income
$
53,714

 
$
74,583

Net income per share:
 
 
 
Basic
$
0.32

 
$
0.43

Diluted
$
0.31

 
$
0.43

Shares used in per share calculations:
 
 
 
Basic
170,116

 
173,158

Diluted
172,004

 
175,171


The accompanying notes are an integral part of the consolidated financial statements.

4

Table of Contents

AKAMAI TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Net income
$
53,714

 
$
74,583

Other comprehensive income:
 
 
 
Foreign currency translation adjustments
6,282

 
9,927

Change in unrealized (loss) gain on investments, net of income tax benefit (provision) of $871 and $(488) for the three months ended March 31, 2018 and 2017, respectively
(2,686
)
 
810

Other comprehensive income
3,596

 
10,737

Comprehensive income
$
57,310

 
$
85,320


The accompanying notes are an integral part of the consolidated financial statements.


5

Table of Contents

AKAMAI TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Cash flows from operating activities:
 
 
 
Net income
$
53,714

 
$
74,583

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
104,095

 
86,533

Stock-based compensation
44,686

 
38,986

(Benefit) provision for deferred income taxes
(7,814
)
 
28,425

Amortization of debt discount and issuance costs
4,850

 
4,597

Restructuring-related software charges
2,818

 

Other non-cash reconciling items, net
4,379

 
(129
)
Changes in operating assets and liabilities, net of effects of acquisitions:
 
 
 
Accounts receivable
(18,419
)
 
(19,876
)
Prepaid expenses and other current assets
(4,927
)
 
(47,172
)
Accounts payable and accrued expenses
(31,312
)
 
(23,940
)
Deferred revenue
25,243

 
10,043

Other current liabilities
13,701

 
3,516

Other non-current assets and liabilities
996

 
(12,948
)
Net cash provided by operating activities
192,010

 
142,618

Cash flows from investing activities:
 
 
 
Cash paid for acquired businesses, net of cash acquired
(79
)
 
(10
)
Purchases of property and equipment
(51,584
)
 
(45,224
)
Capitalization of internal-use software development costs
(61,491
)
 
(45,957
)
Purchases of short- and long-term marketable securities
(73,352
)
 
(92,306
)
Proceeds from sales of short- and long-term marketable securities
16,196

 
180,257

Proceeds from maturities of short- and long-term marketable securities
59,540

 
143,881

Other non-current assets and liabilities
(715
)
 
(335
)
Net cash (used in) provided by investing activities
(111,485
)
 
140,306

Cash flows from financing activities:
 
 
 
Proceeds related to the issuance of common stock under stock plans
22,738

 
17,530

Employee taxes paid related to net share settlement of stock-based awards
(29,714
)
 
(33,921
)
Repurchases of common stock
(19,785
)
 
(72,467
)
Other non-current assets and liabilities
(3,900
)
 

Net cash used in financing activities
(30,661
)
 
(88,858
)
Effects of exchange rate changes on cash, cash equivalents and restricted cash
1,165

 
5,019

Net increase in cash, and cash equivalents and restricted cash
51,029

 
199,085

Cash, cash equivalents and restricted cash at beginning of period
314,429

 
324,626

Cash, cash equivalents and restricted cash at end of period
$
365,458

 
$
523,711

 
 
 
 
Supplemental disclosure of cash flow information:
 
 
 
Cash paid for income taxes, net of refunds received of $4,476 and $815 for the three months ended March 31, 2018 and 2017, respectively
$
18,313

 
$
41,133

Non-cash investing activities:
 
 
 
Purchases of property and equipment and capitalization of internal-use software development costs included in accounts payable and accrued expenses
18,555

 
39,200

Capitalization of stock-based compensation
7,811

 
6,411



6

Table of Contents

AKAMAI TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS, continued

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Reconciliation of cash, cash equivalents and restricted cash:

 
 
 
Cash and cash equivalents
$
363,703

 
$
522,319

Restricted cash
1,755

 
1,392

Cash, cash equivalents and restricted cash
$
365,458

 
$
523,711


The accompanying notes are an integral part of the consolidated financial statements.

7

Table of Contents

AKAMAI TECHNOLOGIES, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1. Nature of Business and Basis of Presentation

Akamai Technologies, Inc. (the “Company”) provides cloud services for delivering, optimizing and securing content and business applications over the Internet. The Company's globally-distributed platform comprises more than 200,000 servers across 130 countries. The Company was incorporated in Delaware in 1998 and is headquartered in Cambridge, Massachusetts. The Company currently operates in one industry segment: providing cloud services for delivering, optimizing and securing content and business applications over the Internet.

The accompanying interim consolidated financial statements are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information. These financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany transactions and balances have been eliminated in the accompanying financial statements.

Certain information and footnote disclosures normally included in the Company’s annual audited consolidated financial statements and accompanying notes have been condensed in, or omitted from, these interim financial statements. Accordingly, the unaudited consolidated financial statements included herein should be read in conjunction with the audited consolidated financial statements and accompanying notes included in the Company’s annual report on Form 10-K for the year ended December 31, 2017, filed with the Securities and Exchange Commission on March 1, 2018.

The results of operations presented in this quarterly report on Form 10-Q are not necessarily indicative of the results of operations that may be expected for any future periods. In the opinion of management, these unaudited consolidated financial statements include all adjustments, consisting only of normal recurring adjustments, that are necessary for a fair statement of the results of all interim periods reported herein.

Newly-Adopted Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board ("FASB") issued updated guidance and disclosure requirements for recognizing revenue. The new revenue recognition standard provides a five-step model for recognizing revenue from contracts with customers. The core principle is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The new standard can be adopted using one of two methods: retrospectively to each prior period presented or a modified retrospective application by recognizing a cumulative-effect adjustment as a component of equity as of the date of adoption. The Company adopted this new standard on a retrospective basis on January 1, 2018. The changes to the Company's revenue recognition approach under this new standard primarily impact the timing of recognizing revenue from a small number of licensed software customers. There is little impact on revenue recognized for the Company's core services. As a result of the change, the Company also began capitalizing certain commission and incentive payments.

In November 2016, the FASB issued guidance that requires restricted cash to be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The Company adopted this new standard on a retrospective basis on January 1, 2018.


8

Table of Contents

The following table details the changes to the consolidated balance sheet as of December 31, 2017 as a result of the retrospective adoption of the new revenue recognition standard (in thousands):

 
As Previously Reported
 
Revenue Recognition Standard Adjustments
 
As Revised
ASSETS
 
 
 
 
 
Current assets:
 
 
 
 
 
Accounts receivable
$
459,127

 
$
2,330

 
$
461,457

Prepaid expenses and other current assets
137,809

 
35,044

 
172,853

Total current assets
1,308,872

 
37,374

 
1,346,246

Deferred income tax assets
51,069

 
(14,838
)
 
36,231

Other assets
112,829

 
23,536

 
136,365

Total assets
4,602,844

 
46,072

 
4,648,916

LIABILITIES AND STOCKHOLDERS' EQUITY
 
 
 
 
 
Current liabilities:
 
 
 
 
 
Deferred revenue
$
77,705

 
$
(7,210
)
 
$
70,495

Total current liabilities
463,904

 
(7,210
)
 
456,694

Deferred revenue
6,839

 
(777
)
 
6,062

Deferred income tax liabilities
15,510

 
2,313

 
17,823

Total liabilities
1,292,121

 
(5,674
)
 
1,286,447

Stockholders' equity:
 
 


 
 
Accumulated deficit
(742,408
)
 
51,746

 
(690,662
)
Total stockholders' equity
3,310,723

 
51,746

 
3,362,469

Total liabilities and stockholders' equity
4,602,844

 
46,072

 
4,648,916


The following table details the changes to the consolidated statement of income for the three months ended March 31, 2017 as a result of the retrospective adoption of the new revenue recognition standard (in thousands, except per share data):

 
As Previously Reported
 
Revenue Recognition Standard Adjustments
 
As Revised
Revenue
$
609,237

 
$
(8,944
)
 
$
600,293

Costs and operating expenses:
 
 


 
 
Cost of revenue (exclusive of amortization of acquired intangible assets)
205,703

 
24

 
205,727

Sales and marketing
113,566

 
926

 
114,492

Total costs and operating expenses
494,009

 
950

 
494,959

Income from operations
115,228

 
(9,894
)
 
105,334

Income before provision for income taxes
114,571

 
(9,894
)
 
104,677

Provision for income taxes
33,641

 
(3,547
)
 
30,094

Net income
80,930

 
(6,347
)
 
74,583

Net income per share:
 
 


 
 
Basic
$
0.47

 
$
(0.04
)
 
$
0.43

Diluted
$
0.46

 
$
(0.04
)
 
$
0.43


The statement of comprehensive income for the three months ended March 31, 2017 was also impacted by the adjustments to net income of $6.3 million.

9

Table of Contents

The following table details the changes to the consolidated statement of cash flows for the three months ended March 31, 2017 as a result of the retrospective adoption of the new revenue recognition and statement of cash flow standards (in thousands):

 
As Previously Reported
 
Revenue Recognition Standard Adjustments
 
Cash Flow Standard Adjustments
 
As Revised
Cash flows from operating activities:
 
 


 
 
 
 
Net income
$
80,930

 
$
(6,347
)
 
$

 
$
74,583

Adjustments to reconcile net income to net cash provided by operating activities:
 
 


 
 
 
 
Provision for deferred income taxes
31,972

 
(3,547
)
 

 
28,425

Changes in operating assets and liabilities, net of effects of acquisitions:
 
 


 
 
 
 
Accounts receivable
(30,146
)
 
10,270

 

 
(19,876
)
Prepaid expenses and other current assets
(47,065
)
 
(107
)
 

 
(47,172
)
Deferred revenue
10,876

 
(833
)
 

 
10,043

Other non-current assets and liabilities
(13,512
)
 
564

 

 
(12,948
)
Net cash provided by operating activities
142,618

 

 

 
142,618

Cash flows from investing activities:
 
 
 
 
 
 
 
Other non-current assets and liabilities
(1,230
)
 

 
895

 
(335
)
Net cash provided by investing activities
139,411

 

 
895

 
140,306

Effects of exchange rate changes on cash, cash equivalents and restricted cash
4,979

 

 
40

 
5,019

Net increase in cash, and cash equivalents and restricted cash
198,150

 

 
935

 
199,085

Cash, cash equivalents and restricted cash at beginning of period
324,169

 

 
457

 
324,626

Cash, cash equivalents and restricted cash at end of period
522,319

 

 
1,392

 
523,711


In October 2016, the FASB issued guidance that requires an entity to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. The Company adopted this new standard on January 1, 2018 using the modified retrospective basis, recognizing a cumulative-effect adjustment as a component of equity as of the date of adoption. Upon adoption, the Company reclassified $11.6 million from prepaid and other current assets and $27.0 million from other assets to beginning retained earnings.

In January 2017, the FASB issued guidance that changes the definition of a "business" to assist entities with evaluating whether transactions should be accounted for as transfers of assets or business combinations. The Company adopted this guidance on January 1, 2018 and will apply it prospectively to future transactions. The adoption of this new accounting guidance had no immediate impact on the Company's consolidated financial statements; however, it may result in a future transaction being recorded as a transfer of assets, whereas previously the Company may have concluded it was a business combination.

Recent Accounting Pronouncements

In February 2016, the FASB issued guidance that requires companies to present assets and liabilities arising from leases with terms greater than 12 months on the consolidated balance sheets. The updated standard aims to increase transparency and comparability among organizations by requiring lessees to recognize right-of-use assets and lease liabilities on the balance sheet and requiring disclosure of key information about leasing arrangements. This will impact all leases, including leases for real estate and co-location facilities, among other arrangements currently under evaluation. The Company plans to adopt this standard in the first quarter of 2019 and expects to record significant right-of-use assets and lease liabilities on its consolidated balance sheets. The Company has formed a project team to assess the current state of accounting for leases, to understand the gaps between the current state and required future state and to implement the new processes, systems and controls required. To date, the Company has completed its gap analysis and selected a software tool to assist with the accounting for leases. The Company is in the process of selecting and finalizing its accounting policies and developing a data collection plan. The

10

Table of Contents

Company expects the adoption of this standard to require changes to its processes, systems and controls over financial reporting.

In June 2016, the FASB issued guidance that introduces a new methodology for accounting for credit losses on financial instruments, including available-for-sale debt securities. The guidance establishes a new "expected loss model" that requires entities to estimate current expected credit losses on financial instruments by using all practical and relevant information. Any expected credit losses are to be reflected as allowances rather than reductions in the amortized cost of available-for-sale debt securities. This guidance will be effective for the Company on January 1, 2020. The Company is evaluating the potential impact of adopting this new accounting guidance on its consolidated financial statements.

2. Significant Accounting Policies Update

The Company's significant accounting policies are detailed in Note 2 of its annual report on Form 10-K for the year ended December 31, 2017. As a result of the FASB's updated guidance for revenue recognition and related changes, as described in Note 1, the following policies have been updated as of the Company's adoption date of January 1, 2018, with retrospective application to the historical periods presented.

Revenue Recognition
    
The Company primarily derives revenue from the sale of services to customers executing contracts having terms of one year or longer. Services included in the Company's contracts consist of its core services – the delivery of content, applications and software over the Internet – as well as security solutions and professional services. Revenue is recognized upon transfer of control of promised services in an amount that reflects the consideration the Company expects to receive in exchange for those services.
    
The Company enters into contracts that may include various combinations of these services, which are generally capable of being distinct and accounted for as separate performance obligations. These contracts generally commit the customer to a minimum of monthly, quarterly or annual levels of usage and specify the rate at which the customer must pay for actual usage above the stated minimum. Based on the typical structure of the Company's contracts, which are generally for monthly recurring services that are essentially the same over time and have the same pattern of transfer to the customer, most performance obligations represent a promise to deliver a series of distinct services over time.

The Company's contracts with customers sometimes include promises to deliver multiple services to a customer. Determining whether services are distinct performance obligations often requires the exercise of judgment by management. For example, advanced features that enhance a service and are highly interrelated are generally not considered distinct; rather, they are combined with the service they relate to into one performance obligation. Different determinations related to combining services into performance obligations could result in differences in the timing and amount of revenue recognized in a period.

Generally, the transaction price in a contract is equal to the committed price stated in the contract, less any discounts or rebates. Because the Company's typical contracts represent a series of distinct services delivered over time with the same pattern of transfer to the customer, variable consideration such as usage or "bursting" over committed contract levels is allocated to the period to which it relates. The amount of consideration recognized for usage above contract minimums is limited to the amount the Company expects to be entitled to receive in exchange for providing the services. Once the transaction price has been determined, the Company allocates such price among all performance obligations in the contract on a relative standalone selling price (“SSP”) basis.

Determination of SSP requires the exercise of judgment by management. SSP is based on observable inputs such as the price the Company charges for the service when sold separately, or the discounted list price per management’s approved price list. In cases where services are not sold separately or price list rates are not available, a cost-plus-margin approach or adjusted market approach is used to determine SSP.

Most content delivery and security services represent stand-ready obligations that are satisfied over time as the customer simultaneously receives and consumes the benefits provided by the Company. Accordingly, revenue for those services is recognized over time, generally ratably over the term of the arrangement due to consistent monthly traffic commitments that expire each period. Any bursting over given commitments is recognized in the period in which the traffic was served. For services that involve traffic consumption, revenue is recognized in an amount that reflects the level of traffic served to a customer in a given period. For custom arrangements, other methods may be used as a measure of progress towards completion of satisfying the performance obligations.

11

Table of Contents


Some of the Company's services are satisfied at a point in time, such as one-time professional services contracts, integration services and most license sales where the primary obligation is delivery of the license at the start of the term. In these cases, revenue is recognized at the point in time of delivery or satisfaction of the performance obligation.

From time to time, the Company enters into contracts to sell its services or license its technology to unrelated enterprises at or about the same time that it enters into contracts to purchase products or services from the same enterprises. Consideration payable to a customer is reviewed as part of the transaction price. If the payment to the customer does not represent payment for a distinct service, revenue is recognized only up to the net amount of consideration after customer payment obligations are considered. The Company may also resell the licenses or services of third parties. If the Company is acting as an agent in an arrangement with a customer to provide third party services, the transaction price reflects only the net amount to which the Company will be entitled, after accounting for payments made to the third party responsible for satisfying the performance obligation.

Incremental Costs to Obtain a Contract with a Customer

The Company capitalizes incremental costs associated with obtaining customer contracts, specifically certain commission and incentive payments. These costs are deferred on the Company's consolidated balance sheets and amortized over the expected life of the customer arrangement on a straight-line basis. Based on the nature of the Company's unique technology and services, and the rate at which the Company continually enhances and updates its technology, the expected life of the customer arrangement is determined to be approximately 2.5 years. Amortization is primarily included in sales and marketing expense in the consolidated statements of income. The current portion of deferred commission and incentive payments is included in prepaid expenses and other current assets and the long-term portion is included in other assets on the Company's consolidated balance sheets.

Contract Liabilities
    
Contract liabilities primarily represent payments received from customers for which the related performance obligations have not yet been satisfied. These balances consist of the unearned portion of monthly service fees and integration fees, and prepayments made by customers for future periods. The current and long-term portions of the Company's contract liabilities are included in deferred revenue in the respective sections of the Company's consolidated balance sheets.

3. Fair Value Measurements

The following is a summary of available-for-sale marketable securities held as of March 31, 2018 and December 31, 2017 (in thousands):

 
 
 
Gross Unrealized
 
 
 
Classification on Balance Sheet
 
Amortized Cost
 
Gains
 
Losses
 
Aggregate
Fair Value
 
Short-Term
Marketable
Securities
 
Long-Term
Marketable
Securities
As of March 31, 2018
 
 
 
 
 
 
 
 
 
 
 
Commercial paper
$
5,707

 
$

 
$
(17
)
 
$
5,690

 
$
5,690

 
$

Corporate bonds
734,080

 

 
(7,253
)
 
726,827

 
301,960

 
424,867

U.S. government agency obligations
219,515

 

 
(1,887
)
 
217,628

 
140,145

 
77,483

 
$
959,302

 
$

 
$
(9,157
)
 
$
950,145

 
$
447,795

 
$
502,350

 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2017
 
 
 
 
 
 
 
 
 
 
 
Commercial paper
$
6,951

 
$

 
$
(9
)
 
$
6,942

 
$
6,942

 
$

Corporate bonds
736,902

 
2

 
(3,829
)
 
733,075

 
289,378

 
443,697

U.S. government agency obligations
220,014

 

 
(1,764
)
 
218,250

 
102,234

 
116,016

 
$
963,867

 
$
2

 
$
(5,602
)
 
$
958,267

 
$
398,554

 
$
559,713


The Company offers certain eligible employees the ability to participate in a non-qualified deferred compensation plan. The mutual funds held by the Company that are associated with this plan are classified as restricted trading securities. These

12

Table of Contents

securities are not included in the available-for-sale securities table above but are included in marketable securities in the consolidated balance sheets.

Unrealized gains and unrealized temporary losses on investments classified as available-for-sale are included within accumulated other comprehensive loss in the consolidated balance sheets. Upon realization, those amounts are reclassified from accumulated other comprehensive loss to interest income in the consolidated statements of income. As of March 31, 2018, the Company held for investment corporate bonds with a fair value of $558.7 million, which are classified as available-for-sale marketable securities and have been in a continuous unrealized loss position for more than 12 months. The unrealized losses of $4.9 million related to these corporate bonds are included in accumulated other comprehensive income as of March 31, 2018. The unrealized losses are attributable to changes in interest rates. Based on the evaluation of available evidence, the Company does not believe any unrealized losses represent other than temporary impairments.

The following table details the fair value measurements within the fair value hierarchy of the Company’s financial assets and liabilities as of March 31, 2018 and December 31, 2017 (in thousands):

 
Total Fair Value
 
Fair Value Measurements at Reporting Date Using
 
 
Level 1    
 
Level 2    
 
Level 3    
As of March 31, 2018
 
 
 
 
 
 
 
Cash Equivalents and Marketable Securities:
 
 
 
 
 
 
 
Money market funds
$
7,059

 
$
7,059

 
$

 
$

Commercial paper
5,690

 

 
5,690

 

Corporate bonds
726,827

 

 
726,827

 

U.S. government agency obligations
217,628

 

 
217,628

 

Mutual funds
9,975

 
9,975

 

 

 
$
967,179

 
$
17,034

 
$
950,145

 
$

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Contingent consideration related to a completed acquisition
$
(5,600
)
 
$

 
$

 
$
(5,600
)
 
 
 
 
 
 
 
 
As of December 31, 2017
 
 
 
Cash Equivalents and Marketable Securities:
 
 
 
 
 
 
 
Money market funds
$
22,649

 
$
22,649

 
$

 
$

Commercial paper
10,928

 

 
10,928

 

Corporate bonds
733,075

 

 
733,075

 

U.S. government agency obligations
218,248

 

 
218,248

 

     Mutual funds
7,879

 
7,879

 

 

 
$
992,779


$
30,528


$
962,251


$

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Contingent consideration related to a completed acquisition
$
(8,631
)
 
$

 
$

 
$
(8,631
)

As of March 31, 2018 and December 31, 2017, the Company grouped money market funds and mutual funds using a Level 1 valuation because market prices for such investments are readily available in active markets. As of March 31, 2018 and December 31, 2017, the Company grouped commercial paper, corporate bonds and U.S. government agency obligations using a Level 2 valuation because quoted prices for identical or similar assets are available in markets that are inactive. The Company did not have any transfers of assets between Level 1, Level 2 or Level 3 of the fair value measurement hierarchy during the three months ended March 31, 2018.


13

Table of Contents

When developing fair value estimates, the Company maximizes the use of observable inputs and minimizes the use of unobservable inputs. When available, the Company uses quoted market prices to measure fair value. The valuation technique used to measure fair value for the Company's Level 1 and Level 2 assets is a market approach, using prices and other relevant information generated by market transactions involving identical or comparable assets. If market prices are not available, the fair value measurement is based on models that use primarily market-based parameters including yield curves, volatilities, credit ratings and currency rates. In certain cases where market rate assumptions are not available, the Company is required to make judgments about assumptions market participants would use to estimate the fair value of a financial instrument.

The valuation technique used to measure fair value of the Company's Level 3 liabilities, which consist of contingent consideration related to the acquisition of Cyberfend, Inc. in 2016, was primarily an income-based approach. The significant unobservable input used in the fair value measurement of the contingent consideration was the likelihood of achieving certain post-closing financial results.

Contractual maturities of the Company’s available-for-sale marketable securities held as of March 31, 2018 and December 31, 2017 were as follows (in thousands):

 
March 31,
2018
 
December 31,
2017
Due in 1 year or less
$
447,795

 
$
398,554

Due after 1 year through 3 years
502,350

 
559,713

 
$
950,145

 
$
958,267


The following table reflects the activity for the Company’s major classes of liabilities measured at fair value using Level 3 inputs during the three months ended March 31, 2018 (in thousands):

 
Other Liabilities:
Contingent Consideration Obligation
Balance as of January 1, 2018
$
(8,631
)
Fair value adjustment to contingent consideration included in general and administrative expense
(1,135
)
Cash paid upon achievement of milestone
4,166

Balance as of March 31, 2018
$
(5,600
)

4. Accounts Receivable

Net accounts receivable consisted of the following as of March 31, 2018 and December 31, 2017 (in thousands):
 
 
March 31,
2018
 
December 31,
2017
Trade accounts receivable
$
345,112

 
$
320,001

Unbilled accounts receivable
140,816

 
142,737

Gross accounts receivable
485,928

 
462,738

Allowance for doubtful accounts and other reserves
(1,311
)
 
(1,281
)
Accounts receivable, net
$
484,617

 
$
461,457



14

Table of Contents

5. Incremental Costs to Obtain a Contract with a Customer

The following table summarizes the deferred costs associated with obtaining customer contracts, specifically commission and incentive payments, as of March 31, 2018 and December 31, 2017 (in thousands):

 
March 31,
2018
 
December 31,
2017
Deferred costs included in prepaid and other current assets
$
34,786

 
$
35,044

Deferred costs included in other assets
21,312

 
23,536

Total deferred costs
$
56,098

 
$
58,580


During the three months ended March 31, 2018 and 2017, the Company recognized $10.9 million and $9.1 million, respectively, of amortization expense related to deferred commissions, which is primarily included in sales and marketing expense in the consolidated statements of income.

6. Goodwill and Acquired Intangible Assets

The change in the carrying amount of goodwill for the three months ended March 31, 2018 was as follows (in thousands):

Balance as of January 1, 2018
$
1,498,688

Measurement period adjustments
(2,263
)
Foreign currency translation
2,481

Balance as of March 31, 2018
$
1,498,906


The Company tests goodwill for impairment at least annually. Through the date the consolidated financial statements were issued, no triggering events had occurred that would indicate a potential impairment exists.

Acquired intangible assets that are subject to amortization consisted of the following as of March 31, 2018 and December 31, 2017 (in thousands):

 
March 31, 2018
 
December 31, 2017
 
Gross
Carrying
Amount
 
Accumulated Amortization
 
Net
Carrying
Amount
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
Completed technology
$
145,091

 
$
(69,359
)
 
$
75,732

 
$
145,091

 
$
(65,283
)
 
$
79,808

Customer-related intangible assets
245,710

 
(132,823
)
 
112,887

 
245,310

 
(128,835
)
 
116,475

Non-compete agreements
710

 
(163
)
 
547

 
4,710

 
(3,975
)
 
735

Trademarks and trade names
7,200

 
(3,138
)
 
4,062

 
7,200

 
(2,959
)
 
4,241

Acquired license rights
490

 
(490
)
 

 
490

 
(490
)
 

Total
$
399,201

 
$
(205,973
)
 
$
193,228

 
$
402,801

 
$
(201,542
)
 
$
201,259


Aggregate expense related to amortization of acquired intangible assets for the three months ended March 31, 2018 and 2017 was $8.4 million and $7.6 million, respectively. Based on the Company’s acquired intangible assets as of March 31, 2018, aggregate expense related to amortization of acquired intangible assets is expected to be $24.9 million for the remainder of 2018, and $36.6 million, $33.9 million, $28.0 million and $22.4 million for 2019, 2020, 2021 and 2022, respectively.

7. Convertible Senior Notes

In February 2014, the Company issued $690.0 million in par value of convertible senior notes due 2019 (the "Notes"). The Notes are senior unsecured obligations of the Company, do not bear regular interest and mature on February 15, 2019, unless repurchased or converted prior to maturity.


15

Table of Contents

At their option, holders may convert their Notes prior to the close of business on the business day immediately preceding August 15, 2018, only under the following circumstances:

during any calendar quarter commencing after the calendar quarter ended June 30, 2014 (and only during such calendar quarter), if the last reported sale price of the Company's common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day; or

during the five business day period after any five consecutive trading day period in which the trading price per $1,000 principal amount of Notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of the Company's common stock and the conversion rate on each such trading day; or upon the occurrence of specified corporate events.

On or after August 15, 2018, holders may convert all or any portion of their Notes at any time prior to the close of business on the second scheduled trading day immediately preceding the maturity date, regardless of the foregoing circumstances.

Upon conversion, the Company, at its election, may pay or deliver to holders cash, shares of the Company's common stock or a combination of cash and shares of the Company's common stock. The initial conversion rate is 11.1651 shares of the Company's common stock per $1,000 principal amount, which is equivalent to an initial conversion price of approximately $89.56 per share, subject to adjustments in certain events, and represents a potential conversion into 7.7 million shares.

In accounting for the issuance of the Notes, the Company separated the Notes into liability and equity components. The carrying cost of the liability component was calculated by measuring the fair value of a similar debt obligation that does not have an associated convertible feature. The carrying amount of the equity component representing the conversion option was determined by deducting the fair value of the liability component from the par value of the Notes. The difference between the principal amount of the Notes and the proceeds allocated to the liability component (“debt discount”) is amortized to interest expense using the effective interest method over the term of the Notes. The equity component is recorded in additional paid-in capital in the consolidated balance sheet and will not be remeasured as long as it continues to meet the conditions for equity classification.

In accounting for the transaction costs related to the issuance of the Notes, the Company allocated the total transaction costs incurred to the liability and equity components based on their relative values. Transaction costs attributable to the liability component are being amortized to interest expense over the term of the Notes, and transaction costs attributable to the equity component are netted against the equity component of the Notes in stockholders’ equity.

The Notes consist of the following components as of March 31, 2018 and December 31, 2017 (in thousands):

 
March 31,
2018
 
December 31, 2017
Liability component:
 
 
 
Principal
$
690,000

 
$
690,000

Less: debt discount and issuance costs, net of amortization
(21,255
)
 
(27,087
)
Net carrying amount
$
668,745

 
$
662,913

 
 
 
 
Equity component:
$
101,276

 
$
101,276


The estimated fair value of the Notes at March 31, 2018 was $712.9 million. The fair value was determined based on the quoted price of the Notes in an inactive market on the last trading day of the reporting period and has been classified as Level 2 within the fair value hierarchy. Based on the closing price of the Company's common stock of $70.98 on March 31, 2018, the value of the Notes if converted to common stock was less than the principal amount of $690.0 million.

The Company used $62.0 million of the proceeds from the offering to repurchase shares of its common stock, concurrent with the issuance of the Notes. The repurchase was made in accordance with a share repurchase program previously approved by the Board of Directors. Additionally, $23.3 million of the proceeds was used for the net cost of convertible note hedge and warrant transactions. The remaining net proceeds are for working capital, share repurchases and other general corporate purposes, as well as for potential acquisitions and strategic transactions.


16

Table of Contents

Note Hedge

To minimize the impact of potential dilution upon conversion of the Notes, the Company entered into convertible note hedge transactions with respect to its common stock in February 2014. The Company paid $101.3 million for the note hedge transactions. The note hedge transactions cover approximately 7.7 million shares of the Company’s common stock at a strike price that corresponds to the initial conversion price of the Notes, also subject to adjustment, and are exercisable upon conversion of the Notes. The note hedge transactions are intended to reduce dilution in the event of conversion of the Notes.

Warrants

Separately, in February 2014, the Company entered into warrant transactions, whereby the Company sold warrants to acquire, subject to anti-dilution adjustments, up to 7.7 million shares of the Company’s common stock at a strike price of approximately $104.49 per share. The Company received aggregate proceeds of $78.0 million from the sale of the warrants. The convertible note hedge and warrant transactions will generally have the effect of increasing the conversion price of the Notes to approximately $104.49 per share.

Interest Expense

The Notes do not bear regular interest, but have an effective interest rate of 3.2% attributable to the conversion feature. The following table sets forth total interest expense included in the consolidated statements of income related to the Notes for the three months ended March 31, 2018 and 2017 (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
Amortization of debt discount and issuance costs
$
5,832

 
$
5,632

Capitalization of interest expense
(982
)
 
(1,035
)
Total interest expense
$
4,850

 
$
4,597


8. Restructuring

During the fourth quarter of 2017, management committed to an action to restructure certain parts of the Company, with the intent of shifting focus to more critical areas of the business and away from products that have not seen expected commercial success. The restructuring is also intended to facilitate cost efficiencies and savings. As part of the cost efficiency and savings plans, certain headcount and facility reductions were made in 2017 and the first quarter of 2018. Certain capitalized internal-use software charges have also been realized for software not yet placed into service that will not be completed and implemented due to this action. The Company has incurred $62.4 million of restructuring charges as part of this action, of which $13.1 million was recognized during the three months ended March 31, 2018 and $49.3 million was recognized during the three months ended December 31, 2017. The Company expects to record additional restructuring charges in the remainder of 2018, primarily related to consolidating facilities. The Company does not expect the incremental charges to be material.

The Company also recognized restructuring charges for redundant employees, facilities and contracts associated with acquisitions completed in 2017.


17

Table of Contents

The following table summarizes the activity of the Company's restructuring accrual during the three months ended March 31, 2018 (in thousands):

 
Employee Severance and Related Benefits
 
Software Charges
 
Excess Facilities, Contract Terminations and Other
 
Total
Balance as of January 1, 2018
$
12,857

 
$

 
$
1,386

 
$
14,243

Costs incurred
7,163

 
2,818

 
4,927

 
14,908

Cash disbursements
(10,766
)
 

 
(2,986
)
 
(13,752
)
Software and other non-cash charges

 
(2,818
)
 
(1,787
)
 
(4,605
)
Balance as of March 31, 2018
$
9,254

 
$

 
$
1,540

 
$
10,794


9. Commitments and Contingencies

Legal Matters

In April 2018, as part of the resolution of multiple existing lawsuits between Limelight Networks, Inc. ("Limelight") and the Company, including in the U.S. District Court for the Eastern District of Virginia and in the U.S. District Court for the District of Massachusetts, the Company and Limelight entered into an agreement to settle the cases and request that the U.S. Patent Trial and Appeal Board terminate certain proceedings related to patents at issue in the litigation. The Company recorded a $14.9 million charge, which is included in general and administrative expenses in the consolidated statement of income, during the three months ended March 31, 2018 related to this settlement.

10. Stockholders’ Equity

Share Repurchase Program

In February 2016, the Board of Directors authorized a $1.0 billion repurchase program effective from February 2016 through December 2018. In March 2018, the Company announced that its Board had increased its share repurchase authorization by $416.7 million, such that the amount that is authorized and available for repurchase in 2018 is $750.0 million. The Company's goal for the share repurchase program is to return capital to shareholders, as business and market conditions warrant, and to offset the dilution created by its employee equity compensation programs.

During the three months ended March 31, 2018, the Company repurchased 0.3 million shares of its common stock for $19.8 million.

Stock-Based Compensation

The following table summarizes stock-based compensation included in the Company’s consolidated statements of income for the three months ended March 31, 2018 and 2017 (in thousands):
 
 
For the Three Months
Ended March 31,
 
2018
 
2017
Cost of revenue
$
5,296

 
$
4,685

Research and development
10,509

 
9,029

Sales and marketing
15,959

 
15,157

General and administrative
12,922

 
10,115

Total stock-based compensation
44,686

 
38,986

Provision for income taxes
(11,088
)
 
(17,985
)
Total stock-based compensation, net of income taxes
$
33,598

 
$
21,001



18

Table of Contents

In addition to the amounts of stock-based compensation reported in the table above, the Company’s consolidated statements of income for the three months ended March 31, 2018 and 2017 include stock-based compensation reflected as a component of amortization of capitalized internal-use software of $5.6 million and $3.5 million, respectively, before taxes.

11. Accumulated Other Comprehensive Loss

The following table summarizes the changes in accumulated other comprehensive loss, net of tax, which is reported as a component of stockholders' equity, for the three months ended March 31, 2018 (in thousands):

 
Foreign Currency Translation
 
Net Unrealized Gains (Losses) on Investments
 
Total
Balance as of January 1, 2018
$
(24,319
)
 
$
2,389

 
$
(21,930
)
Other comprehensive gain (loss)
6,282

 
(2,686
)
 
3,596

Balance as of March 31, 2018
$
(18,037
)
 
$
(297
)
 
$
(18,334
)

Amounts reclassified from accumulated other comprehensive loss to net income were insignificant for the three months ended March 31, 2018.

12. Revenue from Contracts with Customers

The Company sells its services through a sales force located both domestically and abroad. Revenue derived from operations outside of the U.S. is determined based on the country in which the sale originated. Other than the U.S., no single country accounted for 10% or more of the Company’s total revenue for any reported period. The following table summarizes revenue by geography included in the Company’s consolidated statements of income for the three months ended March 31, 2018 and 2017 (in thousands):

 
Three Months Ended
March 31,
 
2018
 
2017
U.S.
$
423,339

 
$
398,870

International
245,385

 
201,423

Total revenue
$
668,724

 
$
600,293


While the Company sells its services through a geographically disbursed sales force, it manages its customer relationships in two divisions: the Web Division and the Media and Carrier Division. These divisions manage a portfolio of customers that predominately purchase solutions managed by the division; however, customers may purchase solutions managed by the other division as well. The following table summarizes revenue by division included in the Company’s consolidated statements of income for the three months ended March 31, 2018 and 2017 (in thousands):

 
Three Months Ended
March 31,
 
2018
 
2017
Web Division
$
352,837

 
$
303,488

Media and Carrier Division
315,887

 
296,805

Total revenue
$
668,724

 
$
600,293


Most content delivery and security services represent stand-ready obligations that are satisfied over time as the customer simultaneously receives and consumes the benefits provided by the Company. Accordingly, the majority of the Company's revenue is recognized over time, generally ratably over the term of the arrangement due to consistent monthly traffic commitments that expire each period. A small percentage of the Company's services are satisfied at a point in time, such as one-time professional services contracts, integration services and most license sales where the primary obligation is delivery of the license at the start of the term. In these cases, revenue is recognized at a point in time of delivery or satisfaction of the performance obligation.

19

Table of Contents


During the three months ended March 31, 2018 and 2017, the Company recognized $46.4 million and $31.0 million of revenue that was included in deferred revenue as of December 31, 2017 and 2016, respectively.

As of March 31, 2018, the aggregate amount of remaining performance obligations from contracts with customers was $2.3 billion. The Company expects to recognize more than 70% of its remaining performance obligations as revenue over the next 12 months, with the remaining recognized thereafter. Remaining performance obligations represent the amount of the transaction price within contracts with customers that relates to performance obligations that are unsatisfied or partially satisfied at the reporting date. This consists of future committed revenue for monthly, quarterly or annual periods within current contracts with customers, as well as deferred revenue arising from consideration invoiced in prior periods for which the related performance obligation has not been satisfied. It excludes estimates of variable consideration such as usage-based contracts with no committed contract as well as anticipated renewed contracts.

13. Income Taxes

The effective income tax rate is based on estimated income for the year, the estimated composition of the income in different jurisdictions and discrete adjustments, if any, in the applicable quarterly periods. Potential discrete adjustments include tax charges or benefits related to stock-based compensation, changes in tax legislation, settlements of tax audits or assessments, uncertain tax positions and acquisitions, among other items.

The Company’s effective income tax rate was 20.7% and 28.7% for the three months ended March 31, 2018 and 2017, respectively. The lower effective tax rate for the three months ended March 31, 2018, is primarily due to a reduction in the U.S. federal statutory tax rate from 35.0% to 21.0% as part of the U.S. Tax Cuts and Jobs Act (the "TCJA") that was enacted in December 2017.

For the three months ended March 31, 2018, the effective income tax rate was lower than the federal statutory tax rate due to foreign income taxed at lower rates and the benefit of U.S. federal, state and foreign research and development credits, partially offset by U.S. federal taxes on Global Intangible Low-Taxed Income (“GILTI”) enacted as part of the TCJA and an intercompany sale of intellectual property.

For the three months ended March 31, 2017, the effective income tax rate was lower than the federal statutory tax rate due to foreign income taxed at lower rates and the benefit of U.S. federal, state and foreign research and development credits, partially offset by the effects of accounting for stock-based compensation in accordance with the authoritative guidance for share-based payments and state income taxes.

As of March 31, 2018, no changes have been made to the previously recorded provisional amounts related to the one-time transition tax and the re-measurement of the Company's deferred tax balances in its consolidated financial statements for the year ended December 31, 2017 due to the TCJA. Any changes to the provisional amounts will be recorded in the period in which the adjustments are made. These changes could arise from additional analysis, changes in assumptions or interpretations the Company has made, additional guidance that may be issued and actions the Company may take as a result of the TCJA.

Beginning in 2018, the TCJA provides for a modified territorial tax system imposing an incremental tax on foreign income deemed to be taxed at a “low rate” (the aforementioned GILTI provisions). Under GAAP, an election must be made to either (1) treat taxes due related to GILTI as a current-period expense when incurred (the “period cost method”) or (2) factor such amounts into the measurement of deferred taxes (the “deferred method”). The Company is evaluating the effects of these provisions and has not yet adopted a policy to account for the related impacts.

14. Net Income per Share

Basic net income per share is computed using the weighted average number of common shares outstanding during the applicable period. Diluted net income per share is computed using the weighted average number of common shares outstanding during the period, plus the dilutive effect of potential common stock. Potential common stock consists of shares issuable pursuant to stock options, restricted stock units ("RSUs"), deferred stock units ("DSUs"), convertible senior notes and warrants issued by the Company. The dilutive effect of outstanding awards and convertible securities is reflected in diluted earnings per share by application of the treasury stock method.


20

Table of Contents

The following table sets forth the components used in the computation of basic and diluted net income per share for the three months ended March 31, 2018 and 2017 (in thousands, except per share data):
 
 
For the Three Months
Ended March 31,
 
2018
 
2017
Numerator:
 
 
 
Net income
$
53,714

 
$
74,583

Denominator:
 
 
 
Shares used for basic net income per share
170,116

 
173,158

Effect of dilutive securities:
 
 

Stock options
142

 
360

RSUs and DSUs
1,746

 
1,653

Convertible senior notes

 

Warrants related to issuance of convertible senior notes

 

Shares used for diluted net income per share
172,004

 
175,171

Basic net income per share
$
0.32

 
$
0.43

Diluted net income per share
$
0.31

 
$
0.43


For the three months ended March 31, 2018 and 2017, certain potential outstanding shares from stock options, service-based RSUs, convertible notes and warrants were excluded from the computation of diluted net income per share because the effect of including these items was anti-dilutive. Additionally, certain performance-based RSUs were excluded from the computation of diluted net income per share because the underlying performance conditions for such RSUs had not been met as of these dates. The number of potentially outstanding shares excluded from the computation of diluted net income per share for the three months ended March 31, 2018 and 2017 are as follows (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
Stock options

 
3

Service-based RSUs
2,815

 
2,681

Performance-based RSUs
1,529

 
1,253

Convertible senior notes
7,704

 
7,704

Warrants related to issuance of convertible senior notes
7,704

 
7,704

Total shares excluded from computation
19,752

 
19,345



21

Table of Contents

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This quarterly report on Form 10-Q, particularly Management’s Discussion and Analysis of Financial Condition and Results of Operations set forth below, and notes to our unaudited consolidated financial statements included herein contain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties and are based on the beliefs and assumptions of our management as of the date hereof based on information currently available to our management. Use of words such as “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates,” “should,” “forecasts,” “if,” “continues,” “goal,” “likely” or similar expressions indicates a forward-looking statement. Forward-looking statements are not guarantees of future performance and involve risks, uncertainties and assumptions. Actual results may differ materially from the forward-looking statements we make. See “Risk Factors” elsewhere in this quarterly report on Form 10-Q for a discussion of certain risks associated with our business. We disclaim any obligation to update forward-looking statements as a result of new information, future events or otherwise.

Our management’s discussion and analysis of our financial condition and results of operations is based upon our unaudited consolidated financial statements included elsewhere in this quarterly report on Form 10-Q, which we have prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP, for interim periods and with Regulation S-X promulgated under the Securities Exchange Act of 1934, as amended, or the Exchange Act. The preparation of these unaudited consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related items, including, but not limited to, revenue recognition, accounts receivable and related reserves, valuation and impairment of marketable securities, goodwill and acquired intangible assets, capitalized internal-use software development costs, impairment and useful lives of long-lived assets, income taxes and stock-based compensation. We base our estimates and judgments on historical experience and on various other assumptions that we believe to be reasonable under the circumstances at the time they are made. Actual results may differ from our estimates. See the section entitled “Application of Critical Accounting Policies and Estimates” in our annual report on Form 10-K for the year ended December 31, 2017 and the section entitled "Significant Accounting Policies Update" in the notes to our unaudited consolidated financial statements included herein for further discussion of our critical accounting policies and estimates.

Overview

We provide cloud services for delivering, optimizing and securing content and business applications over the Internet. The key factors that influence our financial success are our ability to build on recurring revenue commitments for our performance and security offerings, increase media traffic on our network, develop new products and carefully manage our capital spending and other expenses.

Revenue

For most of our solutions, our customers commit to contracts having terms of a year or longer, which allows us to have a consistent and predictable base level of revenue. In addition to a base level of revenue, we are also dependent on media customers where usage of our services is more variable. As a result, our revenue is impacted by the amount of media and software download traffic we serve on our network, the rate of adoption of social media and video platform capabilities, the timing and variability of customer-specific one-time events and the impact of seasonal variations on our business. The ability to expand our product portfolio and to effectively manage the prices we charge for our services are also key factors impacting our revenue growth.

We have observed the following trends related to our revenue in recent years:

Increased sales of our security solutions have made a significant contribution to revenue growth. We plan to continue to invest in this area with a focus on further enhancing our product portfolio and extending our go-to-market capabilities.

We have increased committed recurring revenue from our solutions by increasing sales of incremental services to our existing customers and adding new customers. These increases helped to limit the impact of reductions in usage of our services and contract terminations by certain customers, as well as the effect of price decreases negotiated as part of contract renewals.

The prices paid by some of our customers have declined, reflecting the impact of competition. Our revenue would have been higher absent these price declines.

22

Table of Contents

We have experienced increases in the amount of traffic delivered for customers that use our solutions for video, gaming, social media and software downloads, contributing to an increase in our revenue. However, since 2015, our traffic growth rates have moderated, primarily due to the “do-it-yourself” efforts by some of our customers that are among the large Internet platform companies: Amazon, Apple, Facebook, Google, Microsoft and Netflix. We refer to these companies as our Internet Platform Customers. Some of these customers have elected to develop and rely on their internal infrastructure to deliver more of their media content, particularly less performance-sensitive content, themselves rather than use our services. As a result, we have experienced lower revenue from these customers in recent years. We have not, however, been experiencing a significant shift to internal infrastructure usage across the remainder of our media services customer base.

We have experienced variations in certain types of revenue from quarter to quarter. In particular, we experience higher revenue in the fourth quarter of each year for some of our solutions as a result of holiday season activity. We also experience lower revenue in the summer months, particularly in Europe, from both e-commerce and media customers because overall Internet use declines during that time. In addition, we experience quarterly variations in revenue attributable to, among other things, the nature and timing of software and gaming releases by our customers using our software download solutions; whether there are large live sporting or other events that increase the amount of media traffic on our network; and the frequency and timing of purchases of custom services.

Expenses

Our level of profitability is also impacted by our expenses, including direct costs to support our revenue such as bandwidth and co-location costs. Some of our bandwidth and co-location costs are fixed over a minimum time period, while others are variable and better able to be more flexible to changes in customer needs. We have observed the following trends related to our profitability in recent years:

Network bandwidth costs represent a significant portion of our cost of revenue. Historically, we have been able to mitigate increases in these costs by reducing our network bandwidth costs per unit and investing in internal-use software development to improve the performance and efficiency of our network. Our total bandwidth costs may increase in the future as a result of expected higher traffic levels and serving more traffic from higher cost regions. We will need to continue to effectively manage our bandwidth costs to maintain current levels of profitability.

Co-location costs are also a significant portion of our cost of revenue. By improving our internal-use software and managing our hardware deployments to enable us to use servers more efficiently, we have been able to manage the growth of co-location costs. We expect to continue to scale our network in the future and will need to continue to effectively manage our co-location costs to maintain current levels of profitability.

We incurred significant restructuring costs in the fourth quarter of 2017 and first quarter of 2018 as management committed to an action to restructure certain parts of the company. The restructuring actions are intended to facilitate cost efficiencies and savings.

Payroll and related compensation costs have grown as we have increased headcount, particularly in our professional services and engineering teams to support our revenue growth and strategic initiatives. During the year ended December 31, 2017, we increased our headcount by 1,161 employees. Our headcount decreased by 196 employees during the three-month period ended March 31, 2018, primarily due to the recent restructuring actions. We anticipate our headcount growth to be modest during the remainder of 2018.

We retrospectively adopted the new accounting standard for revenue recognition on January 1, 2018; accordingly, prior period results have been revised for the adoption of the new standard. The changes to our revenue recognition approach under this new standard primarily impact the timing of recognizing revenue from a small number of licensed software customers. There is little impact on revenue from our core Web and Media products. As a result of the change, we also began capitalizing certain commission and incentive payments. The revisions as a result of the new standard did not have a material impact on our annual revenue or results of operations but did cause quarter-over-quarter fluctuations.

We primarily report our revenue by division, which is a customer-focused reporting view that reflects revenue from customers that are managed by the division. As of January 1, 2018, we now report our revenue in two divisions compared to the three divisions reported in 2017; the Media Division and Enterprise and Carrier Division were combined to form the new Media and Carrier Division. In addition, as the purchasing patterns and required account expertise of customers change over time, we may reassign a customer's division from one to another. In 2018, we reassigned some of our customers from the Media and

23

Table of Contents

Carrier Division to the Web Division and revised historical results in order to reflect the most recent categorization and to provide a comparable view for all periods presented.

Results of Operations

The following table sets forth, as a percentage of revenue, consolidated statements of income data for the periods indicated:

 
For the Three Months
Ended March 31,
 
2018
 
2017
Revenue
100.0
 %
 
100.0
 %
Costs and operating expenses:
 
 
 
Cost of revenue (exclusive of amortization of acquired intangible assets shown below)
35.1

 
34.3

    Research and development
9.7

 
8.7

    Sales and marketing
18.3

 
19.1

    General and administrative
23.1

 
19.2

    Amortization of acquired intangible assets
1.3

 
1.3

    Restructuring charges
2.2

 

 Total costs and operating expenses
89.7

 
82.6

Income from operations
10.3

 
17.4

    Interest income
0.6

 
0.8

    Interest expense
(0.7
)
 
(0.8
)
    Other income (expense), net

 
(0.1
)
Income before provision for income taxes
10.2

 
17.3

    Provision for income taxes
2.1

 
5.0

Net income
8.1
 %
 
12.3
 %

Revenue

Revenue by division during the periods presented was as follows (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
 
% Change at Constant Currency
Web Division
$
352,837

 
$
303,488

 
16.3
%
 
13.2
%
Media and Carrier Division
315,887

 
296,805

 
6.4

 
3.9

Total revenue
$
668,724

 
$
600,293

 
11.4
%
 
8.6
%

During the three-month period ended March 31, 2018, the increase in our revenue as compared to the same period in 2017 was primarily the result of higher media traffic volumes, increased sales of our new product offerings and continued strong growth from our Cloud Security Solutions. During the three-month period ended March 31, 2018, our Cloud Security Solutions revenue was $149.2 million, as compared to $110.0 million during the three-month period ended March 31, 2017, which represents a 35.6% increase.

The increase in Web Division revenue during the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily the result of increased sales of new products, particularly Image Manager, Digital Performance Management and Bot Manager, as well as continued strong growth in our core Kona and Prolexic Cloud Security Solutions.


24

Table of Contents

The increase in Media and Carrier Division revenue during the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily the result of increased customer traffic volumes driven primarily by video delivery and gaming customers as well as a few large sporting events that took place during the quarter. The increase in Media and Carrier Division revenue was offset by a decline in revenue from our Internet Platform Customers to $44.4 million for the three-month period ended March 31, 2018, as compared to $51.4 million for the three-month period ended March 31, 2017. Excluding these customers, revenue increased 11.0% quarter-over-quarter within the Media and Carrier Division.

Revenue derived in the U.S. and internationally during the periods presented is as follows (in thousands):
    
 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
 
% Change at Constant Currency
U.S.
$
423,339

 
$
398,870

 
6.1
%
 
6.1
%
International
245,385

 
201,423

 
21.8

 
13.6

Total revenue
$
668,724

 
$
600,293

 
11.4
%
 
8.6
%

For the three-month period ended March 31, 2018, the increase to our U.S. revenue was the result of increases in our media traffic, which was partially offset by decreased revenue from our Internet Platform Customers who are concentrated in the U.S. Excluding the Internet Platform Customers, our U.S. revenue growth rates would have been 9.1% for the three-month period ended March 31, 2018.

For the three-month period ended March 31, 2018, approximately 37% of our revenue was derived from our operations located outside the U.S., compared to 34% for the three-month period ended March 31, 2017. No single country outside the U.S. accounted for 10% or more of revenue during any of these periods. During the three-month period ended March 31, 2018, we continued to see strong revenue growth from our operations in the Asia-Pacific region. Changes in foreign currency exchange rates impacted our revenue favorably by $6.9 million during the three-month period ended March 31, 2018, as compared to the same period in 2017.

Cost of Revenue

Cost of revenue consisted of the following for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
Bandwidth fees
$
42,117

 
$
41,483

 
1.5
%
Co-location fees
33,103

 
31,810

 
4.1

Network build-out and supporting services
18,525

 
16,900

 
9.6

Payroll and related costs
60,008

 
50,413

 
19.0

Stock-based compensation, including amortization of prior capitalized amounts
10,531

 
7,888

 
33.5

Depreciation of network equipment
38,235

 
35,255

 
8.5

Amortization of internal-use software
32,306

 
21,978

 
47.0

Total cost of revenue
$
234,825

 
$
205,727

 
14.1
%
As a percentage of revenue
35.1
%
 
34.3
%
 
 


25

Table of Contents

The increase in total cost of revenue for the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily due to growth in:

payroll and related costs, including stock-based compensation, due to increased hiring in our services team in 2017 to support revenue growth; and
amortization of internal-use software as we continued to release internally-developed software onto our network as a result of new product launches and significant enhancements to our existing services throughout 2017 and the first quarter of 2018.

We have long-term purchase commitments for co-location services and bandwidth usage with various vendors and network and Internet service providers. Our minimum commitments related to bandwidth usage and co-location services may vary from period to period depending on the timing and length of contract renewals with our service providers. There have been no significant changes to these commitments as reported in our annual report on Form 10-K for the year ended December 31, 2017, other than normal period-to-period variations.

During 2018, we anticipate amortization of internal-use software development costs to increase as compared to 2017, along with increased payroll and related costs associated with our professional services personnel and related expenses. However, we do not anticipate that cost of revenue will increase as a percentage of revenue during 2018 as compared to 2017. We plan to continue making investments in our network with the expectation that our customer base will continue to expand and that we will continue to deliver more traffic to existing customers.

Research and Development Expenses

Research and development expenses consisted of the following for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
Payroll and related costs
$
95,685

 
$
75,432

 
26.8
%
Stock-based compensation
10,509

 
9,029

 
16.4

Capitalized salaries and related costs
(43,091
)
 
(33,879
)
 
27.2

Other expenses
1,962

 
1,580

 
24.2

Total research and development
$
65,065

 
$
52,162

 
24.7
%
As a percentage of revenue
9.7
%
 
8.7
%
 
 

The increase in research and development expenses during the three-month period ended March 31, 2018, as compared to the same period in 2017, was due to growth in payroll and related costs as a result of headcount growth in 2017 to support investments in new product development and network scaling, and as a result of acquisitions we completed in 2017; which was offset by increases in capitalized salaries and related costs due to continued investment in internal-use software deployed on our network.

Research and development costs are expensed as incurred, other than certain internal-use software development costs eligible for capitalization. Capitalized development costs consist of payroll and related costs for personnel and external consulting expenses involved in the development of internal-use software used to deliver our services and operate our network. During the three-month period ended March 31, 2018 and 2017, we capitalized $7.2 million and $6.0 million, respectively, of stock-based compensation. These capitalized internal-use software development costs are amortized to cost of revenue over their estimated useful lives, which is generally two years.

We expect research and development expenses to increase during 2018 as compared to 2017 due to the increases in headcount we experienced throughout 2017. We expect the increases to payroll and related costs in 2018 as compared to 2017 to be at a slower pace than we experienced in 2017.


26

Table of Contents

Sales and Marketing Expenses

Sales and marketing expenses consisted of the following for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
Payroll and related costs
$
94,193

 
$
83,337

 
13.0
 %
Stock-based compensation
15,959

 
15,157

 
5.3

Marketing programs and related costs
11,280

 
9,950

 
13.4

Other expenses
1,121

 
6,048

 
(81.5
)
Total sales and marketing
$
122,553

 
$
114,492

 
7.0
 %
As a percentage of revenue
18.3
%
 
19.1
%
 
 

The increase in sales and marketing expenses during the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily due to growth in payroll and related costs from headcount increases in 2017 to enable our Web Division's go-to-market strategies in pursuit of growth opportunities. We expect sales and marketing expenses to increase during 2018 as compared to 2017 due to increased payroll and related costs as a result of headcount growth during 2017 and expected hiring in 2018.

General and Administrative Expenses

General and administrative expenses consisted of the following for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
 
% Change
Payroll and related costs
$
51,894

 
$
44,891

 
15.6
%
Stock-based compensation
12,922

 
10,115

 
27.8

Depreciation and amortization
19,888

 
18,528

 
7.3

Facilities-related costs
21,795

 
18,798

 
15.9

Provision for doubtful accounts
521

 
153

 
240.5

Acquisition-related costs
1,143

 
(209
)
 
646.9

Legal and stockholder matter costs
23,091

 

 
nm

License of patent
(4,215
)
 
(4,035
)
 
4.5

Professional fees and other expenses
27,346

 
26,768

 
2.2

Total general and administrative
$
154,385

 
$
115,009

 
34.2
%
As a percentage of revenue
23.1
%
 
19.2
%
 
 

The increase in general and administrative expenses for the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily due to:

legal and stockholder matter costs related to a settlement charge from our litigation with Limelight Networks, Inc., or Limelight, and amounts paid to professional service providers for advisory services provided in connection with a non-routine stockholder matter; and
payroll and related costs from headcount increases during 2017, specifically in our network infrastructure and information technology functions in support of our security infrastructure growth.


27

Table of Contents

General and administrative expenses for the three-month periods ended March 31, 2018 and 2017 are broken out by category as follows (in thousands):

 
 
For the Three Months Ended March 31,
 
 
2018
 
2017
 
% Change
Global functions
 
$
55,653

 
$
48,727

 
14.2
%
As a percentage of revenue
 
8.3
%
 
8.1
%
 
 
Infrastructure
 
78,192

 
70,373

 
11.1

As a percentage of revenue
 
11.7
%
 
11.7
%
 
 
Other
 
20,540

 
(4,091
)
 
602.1

Total general and administrative expenses
 
$
154,385

 
$
115,009

 
34.2
%
As a percentage of revenue
 
23.1
%
 
19.2
%
 
 

During the three-month period ended March 31, 2018, as compared to the same period in 2017, the increase in general and administrative expenses from our global functions was primarily the result of increased payroll and stock-based compensation as a result of increased headcount. The increase in other general and administrative expenses is the result of costs related to the settlement of litigation with Limelight and amounts paid to professional service providers for advisory services provided in connection with a non-routine stockholder matter.

Global functions expense includes payroll, stock-based compensation and other employee-related costs for administrative functions, including finance, purchasing, order entry, human resources, legal, information technology and executive personnel, as well as third-party professional service fees. Infrastructure expense includes payroll, stock-based compensation and other employee-related costs for our network infrastructure functions, as well as facility rent expense, depreciation and amortization of facility and IT-related assets, software and software-related costs, business insurance and taxes. Our network infrastructure function is responsible for network planning, sourcing, architecture evaluation and platform security. Other expenses includes acquisition-related costs, provision for doubtful accounts, legal settlements, non-routine stockholder matter costs and the license of a patent.

During 2018, we expect payroll and related costs of our general and administrative functions to increase as compared to 2017 as a result of headcount growth in 2017. Other than the one-time charges incurred during the three-month period ended March 31, 2018 for legal and stock-holder matter costs, we do not expect other areas of general and administrative expenses to experience the same level of increases as past years.

Amortization of Acquired Intangible Assets

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
 
% Change
Amortization of acquired intangible assets
$
8,431

 
$
7,569

 
11.4
%
As a percentage of revenue
1.3
%
 
1.3
%
 
 

The increase in amortization of acquired intangible assets for the three-month period ended March 31, 2018, as compared to the same period in 2017, was the result of amortization of assets related to our recent acquisitions and the pattern in which we amortize assets related to these acquisitions. Based on our intangible assets at March 31, 2018, we expect amortization of acquired intangible assets to be approximately $24.9 million for the remainder of 2018, and $36.6 million, $33.9 million, $28.0 million and $22.4 million for 2019, 2020, 2021 and 2022, respectively.


28

Table of Contents

Restructuring Charges

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
 
% Change
Restructuring charges
$
14,908

 
$

 
nm
As a percentage of revenue
2.2
%
 
%
 
 

The restructuring charges for the three-month period ended March 31, 2018 were primarily the result of certain restructuring actions initiated in the fourth quarter of 2017. Management committed to an action to restructure certain parts of the business, primarily media-related, with the intent of shifting focus away from products that have not seen expected commercial success and to facilitate other cost efficiencies and savings. As part of these actions, certain headcount and facility reductions were implemented during the three-month periods ended December 31, 2017 and March 31, 2018. In addition, certain capitalized internal-use software charges were realized for software not yet placed into service that will not be completed and launched due to the restructuring action. We expect to record additional restructuring charges in the remainder of 2018, primarily related to consolidating facilities; however, we do not expect the charges to be material.
    
Non-Operating Income (Expense)

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
 
% Change
Interest income
$
3,965


$
4,624

 
(14.3
)%
As a percentage of revenue
0.6
 %
 
0.8
 %
 
 
Interest expense
$
(4,850
)
 
$
(4,597
)
 
5.5

As a percentage of revenue
(0.7
)%
 
(0.8
)%
 

Other income (expense), net
$
21

 
$
(684
)
 
103.1

As a percentage of revenue
 %
 
(0.1
)%
 
 

For the periods presented, interest income primarily consists of interest earned on invested cash balances and marketable securities, and interest expense consists of the amortization of the debt discount and debt issuance costs related to our convertible senior notes issued in February 2014.

Other income (expense), net primarily represents net foreign exchange gains and losses and other non-operating expense and income items. The fluctuation in other income (expense), net for the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily due to foreign currency exchange rate fluctuations on intercompany and other non-functional currency transactions. Other income (expense), net may fluctuate in the future based on changes in foreign currency exchange rates or other events.

Provision for Income Taxes

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
 
% Change
Provision for income taxes
$
13,979

 
$
30,094

 
(53.5
)%
As a percentage of revenue
2.1
%
 
5.0
%
 
 
Effective income tax rate
20.7
%
 
28.7
%
 
 

For the three-month period ended March 31, 2018, as compared to the same period in 2017, our provision for income taxes decreased as a result of decreased profitability and a reduction in the U.S. federal statutory tax rate to 21.0% as part of the U.S. Tax Cuts and Jobs Act, or the TCJA, that was enacted in December 2017, from 35.0% during the three months ended March 31, 2017.


29

Table of Contents

For the three months ended March 31, 2018, the effective income tax rate was lower than the federal statutory tax rate due to foreign income taxed at lower rates and the benefit of U.S. federal, state and foreign research and development credits, partially offset by U.S. taxes on Global Intangible Low-Taxed Income enacted as part of the TCJA and an intercompany sale of intellectual property.

For the three months ended March 31, 2017, the effective income tax rate was lower than the federal statutory tax rate due to foreign income taxed at lower rates and the benefit of U.S. federal, state and foreign research and development credits, partially offset by the effects of accounting for stock-based compensation in accordance with the authoritative guidance for share-based payments and state income taxes.

We expect our effective income tax rate to remain relatively consistent during the remaining quarters of 2018, as compared to the first quarter of 2018. This expectation does not take into consideration the effect of potential one-time discrete items that may be recorded in the future, including settlements of tax audits and assessments, the resolution or identification of tax position uncertainties and acquisitions. The effective tax rate could also be different depending on the nature and timing of dispositions of incentive stock options and other employee equity awards.

In determining our net deferred tax assets and valuation allowances, annualized effective tax rates and cash paid for income taxes, management is required to make judgments and estimates about domestic and foreign profitability, the timing and extent of the utilization of net operating loss carryforwards, applicable tax rates, transfer pricing methodologies and tax planning strategies. Judgments and estimates related to our projections and assumptions are inherently uncertain; therefore, actual results could differ materially from our projections.

We have recorded certain tax reserves to address potential exposures involving our income tax and sales and use tax positions. These potential tax liabilities result from the varying application of statutes, rules, regulations and interpretations by different taxing jurisdictions. Our estimate of the value of these tax reserves reflects assumptions made based on past experiences and judgments about the interpretation of statutes, rules and regulations by taxing jurisdictions. It is possible that the ultimate tax liability or benefit from these matters may be materially greater or less than the amount that we have estimated.

We have continued to assess the impact that the TCJA will have on our total tax provision during the quarter. As of March 31, 2018, no changes have been made to the previously recorded provisional amounts related to the one-time transition tax and the re-measurement of our deferred tax balances in our consolidated financial statements for the year ended December 31, 2017. Any changes to the provisional amounts will be recorded in the period in which the adjustments are made. These changes could arise from additional analysis, changes in assumptions or interpretations we have made, additional guidance that may be issued and actions we take as a result of the TCJA. The U.S. Securities and Exchange Commission issued guidance that allows for a measurement period not to exceed one year from date of enactment. We expect to complete the analysis within the allotted time frame.

Non-GAAP Financial Measures

In addition to providing financial measurements based on accounting principles generally accepted in the U.S., or GAAP, we publicly discuss additional financial measures that are not prepared in accordance with GAAP, or non-GAAP financial measures. Management uses non-GAAP financial measures, in addition to GAAP financial measures, to understand and compare operating results across accounting periods, for financial and operational decision-making, for planning and forecasting purposes, to set executive compensation and to evaluate our financial performance. These non-GAAP financial measures are: non-GAAP income from operations, non-GAAP operating margin, non-GAAP net income, non-GAAP net income per diluted share, Adjusted EBITDA, Adjusted EBITDA margin and impact of foreign currency exchange rates, as discussed below.

Management believes that these non-GAAP financial measures reflect our ongoing business in a manner that facilitates meaningful comparisons and analysis of trends in the business, as they assist in the comparison of financial results across accounting periods and to those of our peer companies. Management also believes that these non-GAAP financial measures enable investors to evaluate our operating results and future prospects in the same manner as management. These non-GAAP financial measures may also exclude expenses and gains that may be unusual in nature, infrequent or not reflective of our ongoing operating results.

The non-GAAP financial measures do not replace the presentation of our GAAP financial measures and should only be used as a supplement to, not as a substitute for, our financial results presented in accordance with GAAP.


30

Table of Contents

The non-GAAP adjustments, and our basis for excluding them from non-GAAP financial measures, are outlined below:

Amortization of acquired intangible assets We have incurred amortization of intangible assets, included in our GAAP financial statements, related to various acquisitions we have made. The amount of an acquisition's purchase price allocated to intangible assets and term of its related amortization can vary significantly and are unique to each acquisition; therefore, we exclude amortization of acquired intangible assets from our non-GAAP financial measures to provide investors with a consistent basis for comparing pre- and post-acquisition operating results.

Stock-based compensation and amortization of capitalized stock-based compensation – Although stock-based compensation is an important aspect of the compensation paid to our employees, the grant date fair value varies based on the stock price at the time of grant, varying valuation methodologies, subjective assumptions and the variety of award types. This makes the comparison of our current financial results to previous and future periods difficult to evaluate; therefore, we believe it is useful to exclude stock-based compensation and amortization of capitalized stock-based compensation from our non-GAAP financial measures in order to highlight the performance of our core business and to be consistent with the way many investors evaluate our performance and compare our operating results to peer companies.

Acquisition-related costs Acquisition-related costs include transaction fees, advisory fees, due diligence costs and other direct costs associated with strategic activities. In addition, subsequent adjustments to our initial estimated amounts of contingent consideration and indemnification associated with specific acquisitions are included within acquisition-related costs. These amounts are impacted by the timing and size of the acquisitions. We exclude acquisition-related costs from our non-GAAP financial measures to provide a useful comparison of our operating results to prior periods and to our peer companies because such amounts vary significantly based on the magnitude of our acquisition transactions and do not reflect the Company's core operations.

Restructuring chargesWe have incurred restructuring charges that are included in our GAAP financial statements, primarily related to workforce reductions and estimated costs of exiting facility lease commitments. We exclude these items from our non-GAAP financial measures when evaluating our continuing business performance as such items vary significantly based on the magnitude of the restructuring action and do not reflect expected future operating expenses. In addition, these charges do not necessarily provide meaningful insight into the fundamentals of current or historical operations of our business.
Amortization of debt discount and issuance costs and amortization of capitalized interest expense In February 2014, we issued $690 million of convertible senior notes due 2019 with a coupon interest rate of 0%. The imputed interest rate of the convertible senior notes was approximately 3.2%. This is a result of the debt discount recorded for the conversion feature that is required to be separately accounted for as equity under GAAP, thereby reducing the carrying value of the convertible debt instrument. The debt discount is amortized as interest expense together with the issuance costs of the debt. All of our interest expense is comprised of these non-cash components and is excluded from management's assessment of our operating performance because management believes the non-cash expense is not representative of ongoing operating performance.

Gains and losses on investmentsWe have recorded gains and losses from the disposition and impairment of certain investments. We believe excluding these amounts from our non-GAAP financial measures is useful to investors as the types of events giving rise to them occur infrequently and are not representative of our core business operations and ongoing operating performance.

31

Table of Contents


Legal and stockholder matter costsWe have incurred losses related to the settlement of legal matters, costs from professional service providers related to a non-routine stockholder matter and costs with respect to an internal U.S. Foreign Corrupt Practices Act, or FCPA, investigation. We believe excluding these amounts from our non-GAAP financial measures is useful to investors as the types of events giving rise to them are not representative of our core business operations.
Income tax effect of non-GAAP adjustments and certain discrete tax itemsThe non-GAAP adjustments described above are reported on a pre-tax basis. The income tax effect of non-GAAP adjustments is the difference between GAAP and non-GAAP income tax expense. Non-GAAP income tax expense is computed on non-GAAP pre-tax income (GAAP pre-tax income adjusted for non-GAAP adjustments) and excludes certain discrete tax items (such as recording or releasing of valuation allowances), if any. We believe that applying the non-GAAP adjustments and their related income tax effect allows us to highlight income attributable to our core operations.

The following table reconciles GAAP income from operations to non-GAAP income from operations and non-GAAP operating margin for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
Income from operations
$
68,557

 
$
105,334

Amortization of acquired intangible assets
8,431

 
7,569

Stock-based compensation
44,686

 
38,986

Amortization of capitalized stock-based compensation and capitalized interest expense
6,263

 
3,911

Restructuring charges
14,908

 

Acquisition-related costs
1,143

 
(208
)
Legal and stockholder matter costs
23,091

 

Non-GAAP income from operations
$
167,079

 
$
155,592

 
 
 
 
GAAP operating margin
10
%
 
18
%
Non-GAAP operating margin
25
%
 
26
%

The following table reconciles GAAP net income to non-GAAP net income for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
Net income
$
53,714

 
$
74,583

Amortization of acquired intangible assets
8,431

 
7,569

Stock-based compensation
44,686

 
38,986

Amortization of capitalized stock-based compensation and capitalized interest expense
6,263

 
3,911

Restructuring charges
14,908

 

Acquisition-related costs
1,143

 
(208
)
Legal and stockholder matter costs
23,091

 

Amortization of debt discount and issuance costs
4,850

 
4,597

Income tax effect of above non-GAAP adjustments and certain discrete tax items
(21,283
)
 
(15,467
)
Non-GAAP net income
$
135,803

 
$
113,971



32

Table of Contents

The following table reconciles GAAP net income per diluted share to non-GAAP net income per diluted share for the periods presented (in thousands, except per share data):

 
For the Three Months
Ended March 31,
 
2018
 
2017
GAAP net income per diluted share
$
0.31

 
$
0.43

Amortization of acquired intangible assets
0.05

 
0.04

Stock-based compensation
0.25

 
0.22

Amortization of capitalized stock-based compensation and capitalized interest expense
0.04

 
0.02

Restructuring charges
0.09

 

Acquisition-related costs
0.01

 

Legal and stockholder matter costs
0.13

 

Amortization of debt discount and issuance costs
0.03

 
0.03

Income tax effect of above non-GAAP adjustments and certain discrete tax items
(0.12
)
 
(0.09
)
     Non-GAAP net income per diluted share
$
0.79

 
$
0.65

 
 
 
 
Shares used in diluted per share calculations
172,004

 
175,171


Non-GAAP net income per diluted share is calculated as non-GAAP net income divided by diluted weighted average common shares outstanding. GAAP diluted weighted average common shares outstanding are adjusted in non-GAAP per share calculations for the shares that would be delivered to us pursuant to the note hedge transactions entered into in connection with the issuance of our convertible senior notes. Under GAAP, shares delivered under hedge transactions are not considered offsetting shares in the fully-diluted share calculation until they are delivered. However, we would receive a benefit from the note hedge transactions and would not allow the dilution to occur, so management believes that adjusting for this benefit provides a meaningful view of net income per share. Unless and until our weighted average stock price is greater than $89.56, the initial conversion price, there will be no difference between our GAAP and non-GAAP diluted weighted average common shares outstanding.

We consider Adjusted EBITDA to be another important indicator of the operational strength and performance of our business and a good measure of our historical operating trends. Adjusted EBITDA eliminates items that we do not consider to be part of our core operations. We define Adjusted EBITDA as GAAP net income excluding the following items: interest income; income taxes; depreciation and amortization of tangible and intangible assets; stock-based compensation; amortization of capitalized stock-based compensation; acquisition-related costs; restructuring charges; gains and other activity related to divestiture of a business; gains and losses on legal settlements; costs from professional service providers related to a non-routine stockholder matter; costs incurred with respect to our internal FCPA investigation; foreign exchange gains and losses; loss on early extinguishment of debt; amortization of debt discount and issuance costs; amortization of capitalized interest expense; certain gains and losses on investments; and other non-recurring or unusual items that may arise from time to time. Adjusted EBITDA margin represents Adjusted EBITDA stated as a percentage of revenue.


33

Table of Contents

The following table reconciles GAAP net income to Adjusted EBITDA and Adjusted EBITDA margin for the periods presented (in thousands):

 
For the Three Months
Ended March 31,
 
2018
 
2017
Net income
$
53,714

 
$
74,583

Amortization of acquired intangible assets
8,431

 
7,569

Stock-based compensation
44,686

 
38,986

Amortization of capitalized stock-based compensation and capitalized interest expense
6,263

 
3,911

Restructuring charges
14,908

 

Acquisition-related costs
1,143

 
(208
)
Legal and stockholder matter costs
23,091

 

Interest income
(3,965
)
 
(4,624
)
Amortization of debt discount and issuance costs
4,850

 
4,597

Provision for income taxes
13,979

 
30,094

Depreciation and amortization
89,401

 
75,053

Other (income) expense, net
(21
)
 
684

Adjusted EBITDA
$
256,480

 
$
230,645

Adjusted EBITDA margin
38
%
 
38
%

Impact of Foreign Currency Exchange Rates

Revenue and earnings from our international operations have historically been an important contributor to our financial results. Consequently, our financial results have been impacted, and management expects they will continue to be impacted, by fluctuations in foreign currency exchange rates. For example, when the local currencies of our foreign subsidiaries weaken, generally our consolidated results stated in U.S. dollars are negatively impacted.

Because exchange rates are a meaningful factor in understanding period-to-period comparisons, management believes the presentation of the impact of foreign currency exchange rates on revenue and earnings enhances the understanding of our financial results and evaluation of performance in comparison to prior periods. The dollar impact of changes in foreign currency exchange rates presented is calculated by translating current period results using monthly average foreign currency exchange rates from the comparative period and comparing them to the reported amount. The percentage change at constant currency presented is calculated by comparing the prior period amounts as reported and the current period amounts translated using the same monthly average foreign currency exchange rates from the comparative period.

Liquidity and Capital Resources

To date, we have financed our operations primarily through public and private sales of debt and equity securities and cash generated by operations. As of March 31, 2018, our cash, cash equivalents and marketable securities, which primarily consisted of corporate bonds and U.S. government agency securities, totaled $1.3 billion. Factoring in our convertible senior notes of $690.0 million, our net cash at March 31, 2018 was $633.8 million. We place our cash investments in instruments that meet high-quality credit standards, as specified in our investment policy. Our investment policy is also designed to limit the amount of our credit exposure to any one issue or issuer and seeks to manage these assets to achieve our goals of preserving principal and maintaining adequate liquidity at all times.

Changes in cash, cash equivalents and marketable securities are dependent upon changes in, among other things, working capital items such as deferred revenue, accounts payable, accounts receivable and various accrued expenses, as well as changes in our capital and financial structure due to common stock repurchases, debt repurchases and issuances, stock option exercises, purchases and sales of marketable securities and similar events. We believe our strong balance sheet and cash position are important competitive differentiators that provide the financial flexibility necessary to make investments at opportune times. We expect to continue to evaluate strategic investments to strengthen our business on an ongoing basis.


34

Table of Contents

As of March 31, 2018, we had cash and cash equivalents of $266.4 million held in accounts outside the U.S. As a result of the TCJA, we have recorded a provisional tax expense of $43.4 million related to the one-time transition tax on the mandatory deemed repatriation of cumulative foreign earnings as of December 31, 2017. An election is available to pay the transition tax in installments over an eight year period. We have sufficient cash in the U.S. to pay this tax obligation and do not need to rely on cash outside the U.S. for payment. The TCJA also provides for a territorial tax system in the U.S., which may provide companies with the ability to repatriate earnings with minimal U.S. federal income tax impact beginning in 2018. As a result, our liquidity is not materially impacted by the amount of cash and cash equivalents held in accounts outside the U.S.

Cash Provided by Operating Activities

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Net income
$
53,714

 
$
74,583

Non-cash reconciling items included in net income
153,014

 
158,412

Changes in operating assets and liabilities
(14,718
)
 
(90,377
)
Net cash flows provided by operating activities
$
192,010

 
$
142,618


The increase in cash provided by operating activities for the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily due to lower cash paid for income taxes due to the timing of estimated tax payments during the three-month period ended March 31, 2018 and higher cash paid for multi-year network-related maintenance contracts that were renewed during the three-month period ended March 31, 2017; partially offset by lower profitability and higher annual bonus payouts in the first quarter of 2018 due to increased hiring in 2017.

In April 2018, we announced that our Board has agreed to establish a $50.0 million endowment for the Akamai Foundation. The one-time endowment will help the Akamai Foundation continue to support charitable initiatives including those related to math education. We expect to fund this in 2018.

Cash (Used in) Provided by Investing Activities

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Cash paid for acquired businesses, net of cash acquired
$
(79
)
 
$
(10
)
Purchases of property and equipment and capitalization of internal-use software development costs
(113,075
)
 
(91,181
)
Net marketable securities activity
2,384

 
231,832

Other investing activity
(715
)
 
(335
)
Net cash (used in) provided by investing activities
$
(111,485
)
 
$
140,306


The change in cash (used in) provided by investing activities during the three-month period ended March 31, 2018, as compared to the same period in 2017, was driven by a decrease in net sales and maturities of marketable securities during the three-month period ended March 31, 2018, as compared to the same period in 2017. The difference is primarily attributable to sales of securities during the first quarter of 2017 to fund our acquisition of Soasta, Inc. during the second quarter of 2017. In addition, capitalization of internal use software development increased during the three-month period ended March 31, 2018 as a result of continued investment in internal-use software deployed on our network.


35

Table of Contents

Cash Used in Financing Activities

 
For the Three Months
Ended March 31,
(in thousands)
2018
 
2017
Activity related to stock-based compensation
$
(6,976
)
 
$
(16,391
)
Repurchases of common stock
(19,785
)
 
(72,467
)
Other financing activities
(3,900
)
 

Net cash used in financing activities
$
(30,661
)
 
$
(88,858
)

The decrease in cash used in financing activities during the three-month period ended March 31, 2018, as compared to the same period in 2017, was primarily the result of decreased share repurchases. In February 2016, the Board of Directors authorized a $1.0 billion share repurchase program effective from February 2016 through December 31, 2018. In March 2018, we announced that the Board of Directors had increased our share repurchase authorization by $416.7 million, raising the amount that is authorized and available to $750.0 million, which we plan to utilize by the end of 2018. Our goal for the share repurchase program is to return capital to shareholders, as business and market conditions warrant, and to offset the dilution created by employee equity compensation programs.

During the three-month period ended March 31, 2018, we repurchased 0.3 million shares of common stock at a weighted average price of $67.38 per share for an aggregate of $19.8 million. During the three-month period ended March 31, 2017, we repurchased 1.1 million shares of common stock at a weighted average price of $65.78 per share for an aggregate of $72.5 million. As of March 31, 2018, $730.2 million remains available for future share repurchases. The timing and amount of any future share repurchases will be determined by our management based on its evaluation of market conditions and other factors.

Convertible Senior Notes

In February 2014, we issued $690.0 million in par value of convertible senior notes due 2019 and entered into related convertible note hedge and warrant transactions. The terms of the notes, hedge and warrant transactions are discussed more fully in Note 7 to the consolidated financial statements included elsewhere in this quarterly report on Form 10-Q. We have used, and intend to use, the net proceeds of the offering for share repurchases, working capital and general corporate purposes, including potential acquisitions and other strategic transactions.

The convertible senior notes are due in February 2019, and are classified as a current liability on our consolidated balance sheet as of March 31, 2018. We are currently assessing our options with respect to repayment of the notes.

Liquidity Outlook

Based on our present business plan, we expect our current cash, cash equivalents and marketable securities balances and our forecasted cash flows from operations to be sufficient to meet our foreseeable cash needs for at least the next 12 months. Our foreseeable cash needs, in addition to our recurring operating costs, include our expected capital expenditures, investments in information technology and facility expansion, opportunistic business acquisitions, anticipated share repurchases, lease and purchase commitments and settlements of other long-term liabilities.

Contractual Obligations

Our principal commitments consist of service agreements with co-location facilities for data center capacity and bandwidth usage, obligations under leases for office space and open vendor purchase orders. Our minimum commitments related to bandwidth usage and co-location services may vary from period to period depending on the timing and length of contract renewals with our service providers. As of March 31, 2018, there have been no significant changes in our future non-cancelable minimum payments under these commitments from those reported in our annual report on Form 10-K for the year ended December 31, 2017, other than normal period-to-period variations.


36

Table of Contents

Off-Balance Sheet Arrangements

We have entered into indemnification agreements with third parties, including vendors, customers, landlords, our officers and directors, shareholders of acquired companies, joint venture partners and third parties to which we license technology. Generally, these indemnification agreements require us to reimburse losses suffered by a third party due to various events, such as lawsuits arising from patent or copyright infringement or our negligence. These indemnification obligations are considered off-balance sheet arrangements in accordance with the authoritative guidance for guarantor’s accounting and disclosure requirements for guarantees, including indirect guarantees of indebtedness of others. See also Note 12 to our consolidated financial statements included in our annual report on Form 10-K for the year ended December 31, 2017 for further discussion of these indemnification agreements. The fair value of guarantees issued or modified during the three months ended March 31, 2018 was determined to be immaterial.

As of March 31, 2018, we did not have any additional material off-balance sheet arrangements.

Critical Accounting Policies and Estimates

See Note 1 and Note 2 to the consolidated financial statements included elsewhere in this quarterly report on Form 10-Q for information regarding recent and newly adopted accounting pronouncements. See also Note 2 to the consolidated financial statements included in our annual report on Form 10-K for the year ended December 31, 2017. Except for our adoption of the new revenue recognition standard, there have been no material changes to our critical accounting policies and estimates from those reported in our annual report on Form 10-K for the year ended December 31, 2017.

Revenue Recognition
    
Our contracts with customers sometimes include promises to transfer multiple services to a customer. Determining whether services are distinct performance obligations often requires the exercise of judgment by management. Advanced features that enhance a main product or service and are highly interrelated are generally not considered distinct; rather, they are combined with the service they relate to into one performance obligation. Different determinations related to combining services into performance obligations could result in differences in the timing and amount of revenue recognized in a period.

Determination of the standalone selling price, or SPP, also requires the exercise of judgment by management. SSP is based on observable inputs such as the price we charge for the service when sold separately, or the discounted list price per management’s approved price list. In cases where services are not sold separately or price list rates are not available, a cost-plus-margin approach or adjusted market approach is used to determine SSP. Changes to SSP could result in differences in the allocation of transaction price among performance obligations, which could result in differences in the timing and amount of revenue recognized in a period.

From time to time, we enter into contracts to sell services or license technology to unrelated enterprises at or about the same time that we enter into contracts to purchase products or services from the same enterprises. Consideration payable to a customer is reviewed as part of the transaction price. If the payment to the customer does not represent payment for a distinct service, revenue is recognized only up to the net amount of consideration after customer payment obligations are considered. Different determinations on whether a payment represents a distinct service could result in differences in the amount of revenue recognized.

We may also resell the licenses or services of third parties. If we are acting as an agent in an arrangement with a customer to provide third party services, the transaction price reflects only the net amount to which we will be entitled, after accounting for payments made to the third party responsible for satisfying the performance obligation. Different determinations on whether we are acting as an agent or a principle could change the amount of revenue recognized.


37

Table of Contents

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Risk

Our portfolio of cash equivalents and short- and long-term investments is maintained in a variety of securities, including U.S. government agency obligations, high-quality corporate debt securities, commercial paper, mutual funds and money market funds. The majority of our investments are classified as available-for-sale securities and carried at fair market value with cumulative unrealized gains or losses recorded as a component of accumulated other comprehensive loss within stockholders' equity. A sharp rise in interest rates could have an adverse impact on the fair market value of certain securities in our portfolio. We do not currently hedge our interest rate exposure and do not enter into financial instruments for trading or speculative purposes.

Foreign Currency Risk

Growth in our international operations will incrementally increase our exposure to foreign currency fluctuations as well as other risks typical of international operations that could impact our business, including, but not limited to, differing economic conditions, changes in political climate, differing tax structures and other regulations and restrictions.

Transaction Exposure

Foreign exchange rate fluctuations may adversely impact our consolidated results of operations as exchange rate fluctuations on transactions denominated in currencies other than our functional currencies result in gains and losses that are reflected in our consolidated statements of income. We enter into short-term foreign currency forward contracts to offset foreign exchange gains and losses generated by the re-measurement of certain assets and liabilities recorded in non-functional currencies. Changes in the fair value of these derivatives, as well as re-measurement gains and losses, are recognized in our consolidated statements of income within other income, net. Foreign currency transaction gains and losses from these forward contracts were determined to be immaterial during the three months ended March 31, 2018. We do not enter into derivative financial instruments for trading or speculative purposes.

Translation Exposure

To the extent the U.S. dollar weakens against foreign currencies, the translation of these foreign currency-denominated transactions will result in increased revenue and operating expenses. Conversely, our revenue and operating expenses will decrease when the U.S. dollar strengthens against foreign currencies.

Foreign exchange rate fluctuations may also adversely impact our consolidated financial condition as the assets and liabilities of our foreign operations are translated into U.S. dollars in preparing our consolidated balance sheet. These gains or losses are recorded as a component of accumulated other comprehensive loss within stockholders' equity.

Credit Risk

Concentrations of credit risk with respect to accounts receivable are limited to certain customers to which we make substantial sales. Our customer base consists of a large number of geographically dispersed customers diversified across numerous industries. We believe that our accounts receivable credit risk exposure is limited. As of March 31, 2018 and December 31, 2017, no customer had an accounts receivable balance greater than 10% of our accounts receivable. We believe that at March 31, 2018, the concentration of credit risk related to accounts receivable was insignificant.

Item 4. Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer (our principal executive officer and principal financial officer, respectively), evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2018. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosures. Management

38

Table of Contents

recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of March 31, 2018, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.

No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the fiscal quarter ended March 31, 2018 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1.Legal Proceedings

We are party to litigation that we consider routine and incidental to our business. We do not currently expect the results of any of these litigation matters to have a material effect on our business, results of operations, financial condition or cash flows.

In April 2018, as part of the resolution of multiple existing lawsuits between Limelight Networks, Inc., or Limelight, and Akamai, including in the U.S. District Court for the Eastern District of Virginia and in the U.S. District Court for the District of Massachusetts, Akamai and Limelight entered into an agreement to settle the cases and request that the U.S. Patent Trial and Appeal Board terminate certain proceedings related to patents at issue in the litigation. We recorded a $14.9 million charge during the three months ended March 31, 2018 related to this settlement.

Item 1A. Risk Factors

The following are important factors that could cause our actual operating results to differ materially from those indicated or suggested by forward-looking statements made in this quarterly report on Form 10-Q or presented elsewhere by management from time to time. We have not made any material changes to the risk factors previously disclosed in our annual report on Form 10-K for the year ended December 31, 2017.
If we do not continue to innovate, make sound investments that bring positive returns, and develop profitable products and solutions that are attractive to existing and potential customers, our operating results may suffer.

We have been in business for nearly two decades and consider ourselves pioneers in the development of content and application delivery and security solutions. As the information technology industry evolves, however, it may become increasingly difficult for us to maintain a technological advantage in business areas where we have historically placed our focus. In particular, our traditional offerings, particularly our media and website delivery services, could face more intense competition as competitors or even current or former customers seek to replicate them such that we must lower the prices we charge, reducing the profitability of such offerings, or risk losing such business.

It is, therefore, also important to our revenue growth and profitability that we enter into new business areas that present significant value-generating investment opportunities. This requires investing in business areas that can potentially provide positive returns and developing or acquiring innovative, high-margin solutions, including in areas such as enterprise security and digital performance management. We must do so in a rapidly-changing technology environment where it can be difficult to anticipate the needs of potential customers, where competitors may develop products and services that are, or may be viewed as, better than ours and where it can be costly to acquire other companies. The process of developing new solutions is complex and uncertain; we must commit significant resources to developing new services or features without knowing whether our investments will result in solutions the market will accept, and we may choose to invest in business areas for which a viable market for our products does not ultimately develop. This could cause our expenses to grow more rapidly than our revenue. There is often a lengthy period between commencing development initiatives and bringing new or improved solutions to market. During this time, technology preferences, customer demand and the market for our solutions, or those introduced by our competitors, may move in directions that we had not anticipated when we decided to pursue such initiatives. Furthermore, we may not successfully execute our technology initiatives because of errors in planning, timing or execution, technical or operational hurdles that we fail to overcome in a timely fashion, or a lack of appropriate resources.

Failure to invest in areas that can potentially provide a positive return or to adequately develop, on a cost-effective basis, innovative new or enhanced solutions that are attractive to customers and profitable to us and an inability to keep pace with rapid technological and market changes could have a material effect on our business, results of operations, financial condition and cash flows.

39

Table of Contents


Slower traffic growth on our network and numerous other factors could cause our revenue growth rate to slow and profitability to decline.

During the past twenty years, we have diversified our business from a media-dominated content delivery network by becoming a leading supplier of web and security products and services for a broad range of customers in myriad industries. Nevertheless, increasing traffic on our network remains key to our revenue growth and profitability. Numerous factors can impact traffic growth including:

the pace of introduction of over-the-top (often referred to as OTT) video delivery initiatives by our customers;
the popularity of our customers' streaming offerings as compared to those offered by companies that do not use our services;
the pace at which our customers' enterprise applications move from behind the firewall to the cloud;
media and other customers utilizing their own data centers and implementing delivery approaches that limit or eliminate reliance on third party providers like us; and
macro-economic market and industry pressures.

We base our decisions about expense levels and investments on estimates of our future revenue and future anticipated rate of growth. In addition, many of our expenses are fixed cost in nature for some minimum amount of time so it may not be possible to reduce costs in a timely manner or without the payment of fees to exit certain obligations early. If we experience slower traffic growth on our network than we expect or than we have experienced in recent years, our revenue growth rate will slow, and we may not be able to maintain our current level of profitability on a quarterly or annual basis in the future.

Our profitability may also decline in future periods as a result of a number of other factors unrelated to traffic growth, including:

inability to increase sales of our core services and advanced features;
pricing pressure on our solutions;
failure of our new products and services, including our enterprise security and digital performance management solutions, to achieve sufficient market acceptance given our investment to develop them;
increased headcount expenses;
changes in our customers' business models that we do not fully anticipate or that we fail to address adequately; and
increased reliance by customers on our secure socket layer, or SSL, network which is more expensive to maintain and operate.

If we are unable to compete effectively, our business will be adversely affected.

We compete in markets that are intensely competitive and rapidly changing. Our current and potential competitors vary by size, product and service offerings, and geographic region and range from start-ups that offer solutions competing with a discrete part of our business to large technology or telecommunications companies that offer, or may be planning to introduce, products and services that are broadly competitive with what we do. The primary competitive factors in our market are: excellence of technology, global presence, customer service, technical expertise, security, ease-of-use, breadth of services offered, price and financial strength. Competitors include some of our current partners and customers.

Many of our current and potential competitors have substantially greater financial, technical and marketing resources, larger customer bases, broader product portfolios, longer operating histories, greater brand recognition and more established relationships in the industry than we do. As a result, some of these competitors may be able to:

develop superior products or services, gain greater market acceptance, enter new markets more easily, and expand their service offerings more efficiently or more rapidly;
combine their products that are competitive with ours with other solutions they offer in a way that makes our offerings less appealing to current and potential customers;
adapt to new or emerging technologies and changes in customer requirements more quickly;
take advantage of acquisition, investment and other opportunities more readily;
adopt more aggressive pricing policies and allocate greater resources to the promotion, marketing, and sales of their services; and
dedicate greater resources to the research and development of their products and services.


40

Table of Contents

Smaller and more nimble competitors may be able to:

attract customers by offering less sophisticated versions of services than we provide at lower prices than those we charge;
develop new business models that are disruptive to us; and
respond more quickly than we can to new or emerging technologies, changes in customer requirements and market and industry developments, resulting in superior offerings.

Existing and potential customers may not purchase our services, or may limit their use of them, because they:

pursue a "do-it-yourself" approach by putting in place equipment, software and other technology solutions for content and application delivery within their internal systems;
enter into relationships directly with network providers instead of relying on an overlay network like ours; or
implement multi-vendor policies to reduce reliance on external providers like us.

Ultimately, increased competition of all types could result in price and revenue reductions, loss of customers and loss of market share, each of which could materially impact our business, profitability, financial condition, results of operations and cash flows.

We may be unable to replace lost revenue due to customer cancellations, renewals at lower rates or other less favorable terms.

It is key to our profitability that we offset lost committed recurring revenue due to customer cancellations, terminations, price reductions or other less favorable terms by adding new customers, selling more high-margin services, features and functionalities to existing customers and increasing traffic usage by all customers. Some customers may elect not to renew and others may renew at lower prices, lower committed traffic levels, or for shorter contract lengths. Historically, a significant percentage of our renewals, particularly with larger customers, has led to unit price declines as competition has increased and the market for certain parts of our business has matured. Our renewal rates may decline as a result of a number of factors, including competitive pressures, customer dissatisfaction with our services, customers' inability to continue their operations and spending levels, the impact of multi-vendor policies, customers implementing or increasing their use of in-house technology solutions and general economic conditions. In addition, our customer contracting models may change to move away from a committed revenue structure to a "pay-as-you-go" approach. The absence of a commitment would make it easier for customers to stop doing business with us, which would negatively impact revenue.

Security breaches and attacks on our platform could lead to significant costs and disruptions that could harm our business, financial results and reputation.

Our business is dependent on providing our customers with fast, efficient and reliable distribution of applications and content over the Internet. We transmit and store our customers' information, data and encryption keys as well as our own; customer information and data may, in turn, include individual data of and about their customers. Maintaining the security and availability of our services, network and internal IT systems and the security of information we hold is a critical issue for us and our customers. Attacks on our customers and our own network are frequent and take a variety of forms, including DDoS attacks, infrastructure attacks, botnets, malicious file uploads, cross-site scripting, credential abuse, ransomware, bugs, viruses, worms and malicious software programs. Malicious actors can attempt to fraudulently induce employees or suppliers to disclose sensitive information through illegal electronic spamming, phishing or other tactics. In addition, unauthorized parties may attempt to gain physical access to our facilities in order to infiltrate our information systems.

In recent years, Internet-based attacks have increased in size, sophistication and complexity, increasing exposure for our customers and us. In addition, as we expand our emphasis on selling security-related solutions, we may become a more attractive target for attacks on our infrastructure intended to destabilize, overwhelm or shut down our platform. The costs to us to avoid or alleviate cyber or other security problems and vulnerabilities are significant. However, our efforts to address these problems may not be successful. Any significant breach of our security measures could:

lead to the dissemination of proprietary information or sensitive, personal or confidential data about us, our employees or our customers – including personally identifiable information of individuals involved with our customers;
threaten our ability to provide our customers with our services;
generate negative publicity about us;
result in litigation and increased legal liability or fines; or

41

Table of Contents

lead to governmental inquiry or oversight.

The occurrence of any of these events could harm our business or damage our brand and reputation, lead to customer credits, loss of customers, higher expenses, and possibly impede our present and future success in retaining and attracting new customers. A successful assault on our infrastructure would be damaging to our reputation and could adversely affect our financial condition.

Similar security risks exist with respect to our business partners and the third-party vendors that we rely on for aspects of our information technology support services and administrative functions. As a result, we are subject to the risk that the activities of our business partners and third-party vendors may adversely affect our business even if an attack or breach does not directly impact our systems.

We may have insufficient transmission and co-location space, which could result in disruptions to our services and loss of revenue.

Our operations are dependent in part upon transmission capacity provided by third party telecommunications network providers and access to co-location facilities to house our servers. There can be no assurance that we are adequately prepared for unexpected increases in bandwidth demands by our customers, particularly those under cyber-attack. The bandwidth we have contracted to purchase may become unavailable for a variety of reasons, including payment disputes, network providers going out of business, natural disasters, networks imposing traffic limits, or governments adopting regulations that impact network operations. In some regions, network providers may choose to compete with us and become unwilling to sell us adequate transmission capacity at fair market prices. This risk is heightened where market power is concentrated with one or a few major networks. We also may be unable to move quickly enough to augment capacity to reflect growing traffic or security demands. Failure to put in place the capacity we require could result in a reduction in, or disruption of, service to our customers and ultimately a loss of those customers.

Acquisitions and other strategic transactions we complete could result in operating difficulties, dilution, diversion of management attention and other harmful consequences that may adversely impact our business and results of operations.

We expect to continue to pursue acquisitions and other types of strategic relationships that involve technology sharing or close cooperation with other companies. Acquisitions and other complex transactions are accompanied by a number of risks, including the following:

difficulty integrating the operations and personnel of acquired companies;
potential disruption of our ongoing business;
potential distraction of management;
diversion of business resources from core operations;
expenses related to the transactions;
failure to realize synergies or other expected benefits;
increased accounting charges such as impairment of goodwill or intangible assets, amortization of intangible assets acquired and a reduction in the useful lives of intangible assets acquired; and
potential unknown liabilities associated with acquired businesses.

Any inability to integrate completed acquisitions or combinations in an efficient and timely manner could have an adverse impact on our results of operations. If we use a significant portion of our available cash to pay for acquisitions that are not successful, it could harm our balance sheet and limit our flexibility to pursue other opportunities without having enjoyed the intended benefits of the acquisition. As we complete acquisitions, we may encounter difficulty in incorporating acquired technologies into our offerings while maintaining the quality standards that are consistent with our brand and reputation. If we are not successful in completing acquisitions or other strategic transactions that we may pursue in the future, we may incur substantial expenses and devote significant management time and resources without a successful result. Future acquisitions could require use of substantial portions of our available cash or result in dilutive issuances of securities. Technology sharing or other strategic relationships we enter into may give rise to disputes over intellectual property ownership, operational responsibilities and other significant matters. Such disputes may be expensive and time-consuming to resolve.


42

Table of Contents

The information technology industry and the markets in which we compete are constantly evolving, which makes our future business strategies, practices and results difficult to predict.

The information technology industry and the markets in which we compete have grown significantly over the life of our company and continue to evolve rapidly in response to new technological advances, changing business models and other factors. We and the other companies that compete in this industry and these markets experience continually shifting business relationships, commercial focuses and business priorities, all of which occur in reaction to industry and market forces and the emergence of new opportunities. These shifts have led or could lead to:

our customers or partners becoming our competitors;
our network suppliers becoming partners with us or, conversely, no longer seeking to work with us;
our working more closely with hardware providers;
large technology companies that previously did not appear to show interest in the markets we seek to address entering into those markets as competitors; and
needing to expand into new lines of business or to change or abandon existing strategies.

The Internet itself is constantly evolving. There could develop an inflection point above which global usage of the Internet increases to a level that causes our current approaches to the delivery of content and applications to no longer be sustainable at current levels of profitability or at all. We also need to continue to manage successfully the transition from the IPv4 protocol to IPv6.

With this constantly changing environment, our future business strategies, practices and results may be difficult to predict, and we may face operational difficulties in adjusting to the changes. Any of these developments could harm our business.

Our operating results can be impacted by the actions and business life cycles of a small number of large customers.

Historically, our operating results have been subject to fluctuations due to our dependence on several large customers, particularly media companies, for a significant portion of our revenues. The amount of traffic we deliver on behalf of those customers can vary significantly based on decisions they make about their businesses, including whether to start or delay new business initiatives, build out their own networks to handle delivery, or implement or maintain multiple vendor strategies. These approaches can change rapidly and unpredictably. While we believe that we will be less reliant on individual customers in the future, we are likely to continue to face some uncertainty in forecasting our revenues as they relate to these customers from quarter to quarter or over longer periods. We could also experience inconsistent revenue growth patterns and earnings as a result of the behavior of these customers.

Our failure to effectively manage our operations as our business evolves could harm us.

Our future operating results will depend on our ability to manage our operations. As a result of the diversification of our business, personnel growth, acquisitions and international expansion in recent years, many of our employees are now based outside of our Cambridge, Massachusetts headquarters; however, most key management decisions are made by a relatively small group of individuals based primarily at our headquarters. If we are unable to appropriately increase management depth, enhance succession planning and decentralize our decision-making at a pace commensurate with our actual or desired growth rates, we may not be able to achieve our financial or operational goals. It is also important to our continued success that we hire qualified personnel, properly train them and manage out poorly-performing personnel, all while maintaining our corporate culture and spirit of innovation. If we are not successful in these efforts, our growth and operations could be adversely affected.

As our business evolves, we must also expand and adapt our IT and operational infrastructure. Our business relies on our data systems, traffic measurement systems, billing systems, ordering processes and other operational and financial reporting and control systems. All of these systems have become increasingly complex due to the diversification and complexity of our business, acquisitions of new businesses with different systems and increased regulation over controls and procedures. As a result, these systems could generate errors that impact traffic measurement or invoicing. We will need to continue to upgrade and improve our data systems, traffic measurement systems, billing systems, ordering processes and other operational and financial systems, procedures and controls. These upgrades and improvements may be difficult and costly. If we are unable to adapt our systems and organization in a timely, efficient and cost-effective manner to accommodate changing circumstances, our business may be adversely affected.


43

Table of Contents

Our restructuring and reorganization activities may be disruptive to our operations and harm our business.

Over the past several years, we have implemented internal restructurings and reorganizations designed to reduce the size and cost of our operations, improve operational efficiencies, enhance our ability to pursue market opportunities and accelerate our technology development initiatives. We may take similar steps in the future as we seek to realize operating synergies, optimize our operations to achieve our target operating model and profitability objectives, or better reflect changes in the strategic direction of our business. Disruptions in operations may occur as a result of taking these actions. Taking these actions may also result in significant expense for us, including with respect to workforce reductions, as well as decreased productivity and unanticipated employee turnover. Substantial expense or business disruptions resulting from restructuring and reorganization activities could adversely affect our operating results.

If we are unable to retain our key employees and hire and retain qualified sales, technical, marketing and support personnel, our ability to compete could be harmed.

Our future success depends upon the services of our executive officers and other key technology, sales, marketing and support personnel who have critical industry experience and relationships. There is significant competition for talented individuals in the regions in which our primary offices are located, which affects both our ability to retain key employees and hire new ones. In making employment decisions, particularly in our industry, job candidates and current personnel often consider the value of stock-based compensation. In recent years, we have increasingly linked compensation levels to corporate performance metrics. Declines in the price of our stock or failure to achieve annual revenue and profitability metrics could adversely affect our ability to attract or retain key employees.

None of our officers or key employees is bound by an employment agreement for any specific term. Members of our senior management team have left Akamai over the years for a variety of reasons, and we cannot be certain that there will not be additional departures, which may be disruptive to our operations and detrimental to our future outlook. The loss of the services of any of our key employees or our inability to attract and retain new talent could hinder or delay the implementation of our business model and the development and introduction of, and negatively impact our ability to sell, our services.

Our stock price has been, and may continue to be, volatile, and your investment could lose value.

The market price of our common stock has been volatile. Trading prices may continue to fluctuate in response to a number of events and factors, including the following:

quarterly variations in operating results;
announcements by our customers related to their businesses that could be viewed as impacting their usage of our solutions;
market speculation about whether we are a takeover target or considering a strategic transaction;
activism by any single large stockholder or combination of stockholders;
changes in financial estimates and recommendations by securities analysts;
failure to meet the expectations of securities analysts;
purchases or sales of our stock by our officers and directors;
macro-economic factors;
repurchases of shares of our common stock;
successful cyber-attacks against our network or systems;
performance by other companies in our industry; and
geopolitical conditions such as acts of terrorism or military conflicts.

Furthermore, our revenue, particularly that portion attributable to usage of our services beyond customer commitments, can be difficult to forecast, and, as a result, our quarterly operating results can fluctuate substantially. This concern is particularly acute with respect to our media and commerce customers for which holiday sales are a key but unpredictable driver of usage of our services. In the future, our customer contracting models may change to move away from a committed revenue structure to a "pay-as-you-go" approach. The absence of a minimum revenue commitment would make it easier for customers to stop doing business with us, which would create additional challenges with our forecasting processes. Because a significant portion of our cost structure is largely fixed in the short-term, revenue shortfalls tend to have a disproportionately negative impact on our profitability. If we announce revenue or profitability results that do not meet or exceed our guidance or make changes in our guidance with respect to future operating results, our stock price may decrease significantly as a result.


44

Table of Contents

Any of these events, as well as other circumstances discussed in these Risk Factors, may cause the price of our common stock to fall. In addition, the stock market in general, and the market prices of stock of publicly-traded technology companies in particular, have experienced significant volatility that often has been unrelated to the operating performance of such companies. These broad stock market fluctuations may adversely affect the market price of our common stock, regardless of our operating performance.

Actions of activist stockholders could be distracting to us, cause us to incur significant expenses and impact the trading value of our common stock.
 
Responding to actions by activist stockholders could be distracting to our Board of Directors, executives and our other employees. Such activities may also require us to incur significant legal and other advisor fees and public relations costs. Perceived uncertainty as to our future direction could affect customer and investor sentiment, resulting in longer sales cycles, employee retention and hiring challenges, and volatility in the price of our common stock.

We face risks associated with global operations that could harm our business.

We have operations in numerous foreign countries and may continue to expand our operations internationally. As a result, we are increasingly subject to a number of risks associated with international business activities that may increase our costs, make our operations less efficient and require significant management attention. These risks include:

regulations related to security requirements, data localization or restricting content that could pose risks to our intellectual property, increase the cost of doing business in a country or create other disadvantages to our business;
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;
uncertainty regarding liability for content or services;
adjusting to different employee/employer relationships and different regulations governing such relationships;
corporate and personal liability for alleged or actual violations of laws and regulations;
difficulty in staffing, developing and managing foreign operations as a result of distance, language and cultural differences;
currency exchange rate fluctuations and limitations on the repatriation and investment of funds;
difficulties in transferring funds from, or converting currencies in, certain countries;
reliance on channel partners over which we have limited control or influence on a day-to-day basis; and
potentially adverse tax consequences.

Geo-political events such as the United Kingdom's pending withdrawal from the European Union, commonly referred to as Brexit, may increase the likelihood of certain of these risks materializing or heighten their impact on us in affected regions. In particular, it is possible that the level of economic activity in the United Kingdom and the rest of Europe will be adversely impacted and that we will face increased regulatory and legal complexities, including those related to tax, trade, security and employee relations as a result of Brexit. Such changes could be costly and potentially disruptive to our operations and business relationships in affected regions.

In addition, compliance with complex foreign and U.S. laws and regulations that apply to our international operations increases our cost of doing business. These numerous, rapidly-changing and sometimes conflicting laws and regulations include, among others:

internal control and disclosure rules;
data protection, privacy and filtering regulations and requirements;
anti-corruption laws, such as the U.S. Foreign Corrupt Practices Act, the UK Bribery Act and local laws prohibiting corrupt payments to governmental officials; and
antitrust and competition regulations.

We entered into a Non-Prosecution Agreement with the U.S. Securities and Exchange Commission in June 2016 in connection with the previously-disclosed investigation relating to sales practices in a country outside the U.S. In the event we violate the terms of this Non-Prosecution Agreement, we could be subject to additional investigation or enforcement by the Commission or the Department of Justice. Although we have implemented policies and procedures designed to ensure compliance with the Non-Prosecution Agreement and relevant laws and regulations, there can be no assurance that our employees, contractors or agents will not violate our policies or applicable laws. Any such violations could result in fines and penalties, criminal sanctions against us or our employees and prohibitions on the conduct of our business and on our ability to

45

Table of Contents

offer our products and services in one or more countries. They could also materially affect our brand, our global operations, any international expansion efforts, our ability to attract and retain employees, our business overall, and our financial results.

Defects or disruptions in our services could diminish demand for our solutions or subject us to substantial liability.

Our services are highly complex and are designed to be deployed in and across numerous large and complex networks that we do not control. From time to time, we have needed to correct errors and defects in the software that underlies our services and platform that have given rise to service incidents or otherwise impacted our operations. We have also experienced customer dissatisfaction with the quality of some of our media delivery and other services, which has led to loss of business and could lead to loss of customers in the future. While we have robust quality control processes in the place, there may be additional errors and defects in our software that may adversely affect our operations. We may not have in place adequate quality assurance procedures to ensure that we detect errors in our software in a timely manner, and we may have insufficient resources to efficiently cope with multiple service incidents happening simultaneously or in rapid succession. If we are unable to efficiently and cost-effectively fix errors or other problems that may be identified and improve the quality of our services or systems, or if there are unidentified errors that allow persons to improperly access our services or systems, we could experience loss of revenue and market share, damage to our reputation, increased expenses, delayed payments and legal actions by our customers.

Government regulation is evolving, and unfavorable changes could harm our business.

Laws and regulations that apply to communications and commerce over the Internet are becoming more prevalent. In particular, domestic and foreign government attempts to regulate the operation of the Internet could negatively impact our business. It is unclear whether potential changes to regulations previously adopted by the U.S. Federal Communications Commission that govern certain aspects of the operation of the Internet (such as content blocking and throttling and paid prioritization) will be adopted and, if adopted, how they would apply to content delivery network providers like us. It is also uncertain how future regulatory and legislative initiatives or changes will impact our business.

Increasing regulatory focus on privacy issues and expanding laws and regulations could expose us to increased liability.

Privacy laws, including the European Union General Data Protection Regulation, or GDPR, are rapidly changing and evolving globally. Governments, privacy advocates and class action attorneys are increasingly scrutinizing how companies collect, process, use, store, share and transmit personal data. New laws and industry self-regulatory codes have been enacted and more are being considered that, like the GDPR, may affect our ability to reach current and prospective customers, to understand how our products and services are being used, and to respond to customer requests allowed under the laws, and how we use data generated from our network. Any perception that our business practices, data collection activities or how our services operate represent an invasion of privacy, whether or not consistent with current regulations and industry practices, may subject us to public criticism (or boycotts), class action lawsuits, reputational harm or claims by regulators, industry groups or other third parties, all of which could disrupt our business and expose us to increased liability. Compliance with GDPR may be administratively difficult and expensive.

Over the past several years, the regulatory landscape governing the transfer of covered personal data from Europe to the United States has seen sweeping changes. Currently, we have in place U.S.-European Union and U.S. Swiss Privacy Shield Frameworks to legally transfer covered personal data from Europe to the United States, but their legitimacy may continue to be subject to challenge and review. Any changing or new requirements or rulings by the European Commission or EU member jurisdictions may impact our services or subject us to sanctions, including fines and a prohibition on data transfers, by EU data protection regulators. Furthermore, any continued or new judicial challenges or reviews may result in new, modified or inconsistent standards or requirements for the transfer of personal data, which could result in increased regulation, cost of compliance and limitations on data transfer for us and our customers. These developments could harm our business, financial condition and results of operations.

We also have a publicly-available privacy policy concerning our collection, use and disclosure of user data. Any failure, or perceived failure, by us to comply with our posted privacy policy could result in damage to our reputation or proceedings or actions against us, which could potentially have an adverse effect on our business.


46

Table of Contents

We may need to defend against patent or copyright infringement claims, which would cause us to incur substantial costs or limit our ability to use certain technologies in the future.

As we expand our business and develop new technologies, products and services, we may become increasingly subject to intellectual property infringement and other claims, including those that may arise under international laws. In many cases, we have agreed to indemnify our customers and channel and strategic partners if our services infringe or misappropriate specified intellectual property rights; therefore, we could become involved in litigation or claims brought against customers or channel or strategic partners if our services or technology are the subject of such allegations. Any litigation or claims, whether or not valid, brought against us or pursuant to which we indemnify our customers or channel or strategic partners could result in substantial costs and diversion of resources and require us to do one or more of the following:

cease selling, incorporating or using features, functionalities, products or services that incorporate the challenged intellectual property;
pay substantial damages and incur significant litigation expenses;
obtain a license from the holder of the infringed intellectual property right, which license may not be available on reasonable terms or at all; or
redesign products or services.

If we are forced to take any of these actions, our business may be seriously harmed.

Our business will 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 contractual restrictions on disclosure to protect our intellectual property rights. These legal protections afford only limited protection. We have previously brought lawsuits against entities that we believed were infringing our intellectual property rights but have not always prevailed. Such lawsuits can be expensive and require a significant amount of attention from our management and technical personnel, and the outcomes are unpredictable. Monitoring unauthorized use of our services is difficult, and we cannot be certain that the steps we have taken or will take will prevent unauthorized use of our technology. Furthermore, we 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. If we are unable to protect our proprietary rights from unauthorized use, the value of our intellectual property assets may be reduced. Although we have licensed from other parties proprietary technology covered by patents, we cannot be certain that any such patents will not be challenged, invalidated or circumvented. Such licenses may also be non-exclusive, meaning our competition may also be able to access such technology.

We rely on 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; however, certain open-source code is governed by license agreements, the terms of which could require users of such software to make any derivative works of the software available to others on unfavorable terms or at no cost. Because we use open-source code, we may be required to take remedial action in order to protect our proprietary software. Such action could include replacing certain source code used in our software, discontinuing certain of our products or taking other actions that could be expensive and divert resources away from our development efforts. In addition, the terms relating to disclosure of derivative works in many open-source licenses are unclear. 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 certain of our key software available at no cost. Furthermore, open-source software may have security flaws and other deficiencies that could make our solutions less reliable and damage our business.

We may be unsuccessful at developing and maintaining strategic relationships with third parties that expand our distribution channels and increase revenue, which could significantly limit our long-term growth.

Achieving future success will likely require us to maintain and increase the number and depth of our relationships with resellers, systems integrators, product makers and other strategic partners and to leverage those relationships to expand our distribution channels and increase revenue. If we become reliant on a small number of large partners, any termination of our relationship with one of them could have an adverse impact on our financial condition. The need to develop such relationships can be particularly acute in areas outside of the U.S. We have not always been successful at developing these relationships due

47

Table of Contents

to the complexity of our services, our historical reliance on an internal sales force and other factors. Recruiting and retaining qualified channel partners and training them in the use of our technology and services and ensuring that they are compliant with our ethical expectations requires significant time and resources. In order to develop and expand our distribution channel, we must continue to expand and improve our portfolio of solutions as well as the systems, processes and procedures that support our channels. Those systems, processes and procedures may become increasingly complex and difficult to manage. The time and expense required for the sales and marketing organizations of our channel partners to become familiar with our offerings, including our new services developments, may make it more difficult to introduce those products to enterprises. Our failure to maintain and increase the number and quality of relationships with channel partners, and any inability to successfully execute on the partnerships we initiate, could significantly impede our revenue growth prospects in the short and long term.

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 U.S. The preparation of these financial statements requires us to make estimates and judgments about, among other things, taxes, revenue recognition, stock-based compensation costs, capitalization of internal-use software development costs, investments, contingent obligations, allowance for doubtful accounts, intangible assets and restructuring charges. These estimates and judgments affect, among other things, 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, actual results may differ materially from our estimates and we may need to, among other things, accrue additional charges that could adversely affect our results of operations, which in turn could adversely affect our stock price. In addition, new accounting pronouncements and interpretations of accounting pronouncements have occurred and may occur in the future that could adversely affect our reported financial results.

We may have exposure to greater-than-anticipated tax liabilities.

Our future income taxes could be adversely affected by earnings being lower than anticipated in jurisdictions that have lower statutory tax rates and higher than anticipated in jurisdictions that have higher statutory tax rates, or changes in tax laws, regulations, or accounting principles, as well as certain discrete items such as equity-related compensation. In particular, we do not yet know the full effect that the U.S. Tax Cuts and Jobs Act of 2017 and subsequent related regulations will have on our business and tax exposure assessment. We have recorded certain tax reserves to address potential exposures involving our income tax and sales and use tax positions. These potential tax liabilities result from the varying application of statutes, rules, regulations and interpretations by different jurisdictions. We are currently subject to tax audits in various jurisdictions including the Commonwealth of Massachusetts. If the outcome of such audit or other audits were to be adverse to us, our reserves may not be adequate to cover our total actual liability. Although we believe our estimates, our reserves and the positions we have taken are reasonable, the ultimate tax outcome may differ from the amounts recorded in our financial statements and may materially affect our financial results in the period or periods for which such determination is made.

If we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud. As a result, our stockholders could lose confidence in our financial reporting, which could harm our business and the trading price of our common stock.

We have complied with Section 404 of the Sarbanes-Oxley Act of 2002 by assessing, strengthening and testing our system of internal controls. Even though we concluded our internal control over financial reporting and disclosure controls and procedures were effective as of the end of the period covered by this report, we need to continue to maintain our processes and systems and adapt them to changes as our business evolves and we rearrange management responsibilities and reorganize our business. This continuous process of maintaining and adapting our internal controls and complying with Section 404 is expensive and time-consuming and requires significant management attention. We cannot be certain that our internal control measures will continue to provide adequate control over our financial processes and reporting and ensure compliance with Section 404. Furthermore, as our business changes, including by expanding our operations in different markets, increasing reliance on channel partners and completing acquisitions, our internal controls may become more complex and we will require significantly more resources to ensure our internal controls remain effective. Failure to implement required new or improved controls, or difficulties encountered in their implementation, could harm our operating results or cause us to fail to meet our reporting obligations. If we or our independent registered public accounting firm identify material weaknesses, the disclosure of that fact, even if quickly remediated, could reduce the market's confidence in our financial statements and harm our stock price.


48

Table of Contents

Any failure to meet our debt obligations would damage our business.

As of March 31, 2018, we had total par value of $690.0 million of convertible senior notes outstanding due in 2019. Our ability to refinance the notes, make cash payments in connection with conversions of the notes or repurchase the notes in the event of a fundamental change (as defined in the indenture governing the notes) will depend on market conditions and our future performance, which is subject to economic, financial, competitive and other factors beyond our control. We also may not use the cash we have raised through the issuance of the convertible senior notes in an optimally productive and profitable manner. If we are unable to remain profitable or if we use more cash than we generate in the future, our level of indebtedness at such time could adversely affect our operations by increasing our vulnerability to adverse changes in general economic and industry conditions and by limiting or prohibiting our ability to obtain additional financing for additional capital expenditures, acquisitions and general corporate and other purposes. In addition, if we are unable to make cash payments upon conversion of the notes, we would be required to issue significant amounts of our common stock, which would be dilutive to the stock of existing stockholders. If we do not have sufficient cash to repurchase the notes following a fundamental change, we would be in default under the terms of the notes, which could seriously harm our business. In addition, the terms of the notes do not limit the amount of future indebtedness we may incur. If we incur significantly more debt, this could intensify the risks described above.

Fluctuations in foreign currency exchange rates affect our operating results in U.S. dollar terms.

An increasing portion of our revenue is derived from international operations. Revenue generated and expenses incurred by our international subsidiaries are often denominated in the currencies of the local countries. As a result, our consolidated U.S. dollar financial statements are subject to fluctuations due to changes in exchange rates as the financial results of our international subsidiaries are translated from local currencies into U.S. dollars. In addition, our financial results are subject to changes in exchange rates that impact the settlement of transactions in non-functional currencies. While we have implemented a foreign currency hedging program to mitigate transactional exposures, there is no guarantee that such program will be effective.

We may issue additional shares of our common stock or instruments convertible into shares of our common stock and thereby materially and adversely affect the market price of our common stock.

Our Board of Directors has the authority to issue additional shares of our common stock or other instruments convertible into, or exchangeable or exercisable for, shares of our common stock. If we issue additional shares of our common stock or instruments convertible into, or exchangeable or exercisable for, shares of our common stock, it may materially and adversely affect the market price of our common stock.

Our sales to government clients subject us to risks including early termination, audits, investigations, sanctions and penalties.

We have customer contracts with the U.S. government, as well as foreign, state and local governments and their respective agencies. Such government entities often have the right to terminate these contracts at any time, without cause. There is increased pressure for governments and their agencies, both domestically and internationally, to reduce spending. Most of our government contracts are subject to legislative approval of appropriations to fund the expenditures under these contracts. These factors combine to potentially limit the revenue we derive from government contracts in the future. Additionally, government contracts generally have requirements that are more complex than those found in commercial enterprise agreements and therefore are more costly to comply with. Such contracts are also subject to audits and investigations that could result in civil and criminal penalties and administrative sanctions, including termination of contracts, refund of a portion of fees received, forfeiture of profits, suspension of payments, fines and suspensions or debarment from future government business.

Litigation may adversely impact our business.

From time to time, we are or may become involved in various legal proceedings relating to matters incidental to the ordinary course of our business, including patent, commercial, product liability, employment, class action, whistleblower and other litigation and claims, and governmental and other regulatory investigations and proceedings. In addition, under our charter, we could be required to indemnify and advance expenses to our directors and officers in connection with their involvement in certain actions, suits, investigations and other proceedings. Such matters can be time-consuming, divert management’s attention and resources and cause us to incur significant expenses.


49

Table of Contents

Furthermore, because litigation is inherently unpredictable and may not be covered by insurance, there can be no assurance that the results of any litigation matters will not have an adverse impact on our business, results of operations, financial condition or cash flows.

General global market and economic conditions may have an adverse impact on our operating performance, results of operations and cash flows.

Our business has been and could continue to be affected by general global economic and market conditions. To the extent economic conditions impair our customers' ability to profitably monetize the content we deliver on their behalf, they may reduce or eliminate the traffic we deliver for them. Such reductions in traffic would lead to a reduction in our revenue. Additionally, in a down-cycle economic environment, we may experience the negative effects of increased competitive pricing pressure, customer loss, a deceleration in commerce over the Internet and corresponding decrease in traffic delivered over our network and failures by customers to pay amounts owed to us on a timely basis or at all. Suppliers on which we rely for servers, bandwidth, co-location and other services could also be negatively impacted by economic conditions that, in turn, could have a negative impact on our operations or expenses.

Global climate change and natural resource conservation regulations could adversely impact our business.

Our deployed network of servers consumes significant energy resources, including those generated by the burning of fossil fuels. In response to concerns about global climate change, governments may adopt new regulations affecting the use of fossil fuels or requiring the use of alternative fuel sources. While we have invested in projects to support renewable energy development, our customers, investors and other stakeholders may require us to take more steps to demonstrate that we are taking ecologically responsible measures in operating our business. The costs and any expenses we incur to make our network more energy efficient could make us less profitable in future periods. Failure to comply with applicable laws and regulations or other requirements imposed on us could lead to fines, lost revenue and damage to our reputation.

Because we currently do not intend to pay dividends, stockholders will benefit from an investment in our common stock only if it appreciates in value.

We currently intend to retain our future earnings, if any, for use in the operation of our business and do not expect to pay any cash dividends in the foreseeable future on our common stock. As a result, the success of an investment in our common stock will depend upon any future appreciation in its value. There is no guarantee that our common stock will appreciate in value or even maintain the price at which stockholders have purchased their shares.

Provisions of our charter, by-laws and Delaware law may have anti-takeover effects that could prevent a change in control even if the change in control would be beneficial to our stockholders.

Provisions of our charter, by-laws and Delaware law could make it more difficult for a third party to control or acquire us, even if doing so would be beneficial to our stockholders. These provisions include:

a classified board structure so that only approximately one-third of our Board of Directors is up for re-election in any one year;
our Board of Directors has the right to elect directors to fill a vacancy created by the expansion of the Board of Directors or the resignation, death or removal of a director;
stockholders must provide advance notice to nominate individuals for election to the Board of Directors or to propose matters that can be acted upon at a stockholders' meeting; and
our Board of Directors may issue, without stockholder approval, shares of undesignated preferred stock.

Further, as a Delaware corporation, we are also subject to certain Delaware anti-takeover provisions. Under Delaware law, a corporation may not engage in a business combination with any holder of 15% or more of its capital stock unless the holder has held the stock for three years or, among other things, the board of directors has approved the transaction. Our Board of Directors could rely on Delaware law to prevent or delay an acquisition of us.



50

Table of Contents

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

(c) Issuer Purchases of Equity Securities
 
The following is a summary of our repurchases of our common stock in the first quarter of 2018 (in thousands, except share and per share data):

Period (1)
 
(a) Total Number of Shares Purchased (2)
 
(b) Average Price Paid per Share (3)
 
(c) Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (4)
 
(d) Approximate Dollar Value of Shares that May Yet be Purchased Under Plans or Programs(4)
January 1, 2018 – January 31, 2018
 
111,965

 
$
65.83

 
111,965

 
$
325,938

February 1, 2018 – February 28, 2018
 
102,126

 
65.90

 
102,126

 
319,207

March 1, 2018 – March 31, 2018
 
79,528

 
71.47

 
79,528

 
730,215

Total
 
293,619

 
$
67.38

 
293,619

 
$
730,215


(1)
Information is based on settlement dates of repurchase transactions.
(2)
Consists of shares of our common stock, par value $0.01 per share.
(3)
Includes commissions paid.
(4)
In February 2016, the Board of Directors authorized a $1.0 billion share repurchase program effective from February 2016 through December 2018. In March 2018, the Board of Directors authorized a $416.7 million increase to the share repurchase program, such that the amount that is authorized and available for repurchase in 2018 is $750.0 million.

Item 6. Exhibits

Exhibit 10.36
 
 
 
 
Exhibit 31.1
  
 
 
 
Exhibit 31.2
  
 
 
 
Exhibit 32.1
  
 
 
 
Exhibit 32.2
  
 
 
 
101.INS
  
XBRL Instance Document*
 
 
 
101.SCH
  
XBRL Taxonomy Extension Schema Document*
 
 
 
101.CAL
  
XBRL Taxonomy Calculation Linkbase Document*
 
 
 
101.DEF
  
XBRL Taxonomy Extension Definition Linkbase Document*
 
 
 
101.LAB
  
XBRL Taxonomy Label Linkbase Document*
 
 
 
101.PRE
  
XBRL Taxonomy Presentation Linkbase Document*
*
Submitted electronically herewith

51

Table of Contents


Attached as Exhibit 101 to this report are the following formatted in XBRL (Extensible Business Reporting Language): (i) Consolidated Balance Sheets at March 31, 2018 and December 31, 2017, (ii) Consolidated Statements of Income for the three months ended March 31, 2018 and 2017, (iii) Consolidated Statements of Comprehensive Income for the three months ended March 31, 2018 and 2017, (iv) Consolidated Statements of Cash Flows for the three months ended March 31, 2018 and 2017 and (v) Notes to Unaudited Consolidated Financial Statements.


52

Table of Contents

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
Akamai Technologies, Inc.
 
 
 
May 9, 2018
By:
/s/ James Benson
 
 
James Benson
 
 
Chief Financial Officer
(Duly Authorized Officer, Principal Financial Officer)

53