CSG SYSTEMS INTERNATIONAL INC - Annual Report: 2019 (Form 10-K)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended December 31, 2019

OR

For the transition period from                      to                     

Commission File Number 0-27512

CSG SYSTEMS INTERNATIONAL, INC.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (303) 200-2000

Securities registered pursuant to Section 12(b) of the Act:

Securities registered pursuant to Section 12(g) of the Act: None.

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES ☒  NO ☐

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. YES ☐ NO ☒

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

Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). YES ☒ NO ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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.

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 ☒  

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the Registrant, based on the closing price of the shares of common stock on The NASDAQ Stock Market on June 30, 2019, was $1,158,870,134.

The number of shares of Registrant’s Common Stock outstanding as of February 18, 2020 was 32,852,226.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s Definitive Proxy Statement for its 2020 Annual Meeting of Stockholders to be filed on or prior to April 29, 2020, are incorporated by reference into Part III of this Report.

CSG SYSTEMS INTERNATIONAL, INC.

2019 FORM 10-K

TABLE OF CONTENTS

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PART I

Overview

CSG Systems International, Inc. (the “Company”, “CSG”, or forms of the pronoun “we”) is one of the world’s leading providers of revenue management, customer experience, and payment solutions that enable a growing list of companies around the world to monetize relationships with their customers in an era of rapid change and digital transformation.  We leverage more than 35 years of experience to deliver innovative customer engagement solutions that help our clients solve their toughest challenges, helping them to acquire, monetize, engage, and retain their customers. Our 4,300-plus diverse, worldwide workforce draws from real-world knowledge and extensive expertise to design and implement business solutions that make our clients’ hardest decisions simpler so that they can focus on delivering differentiated and real-time experiences to their customers.

Our proven solutions are built on a combination of on-premise, public and private cloud platforms, either customized or pre-integrated, as well as managed services models that adapt to fit our clients’ unique business needs and enable the transformative change required to create personalized experiences that drive loyalty and retention.

Our principal executive offices are located at 6175 S. Willow Drive, 10^th Floor, Greenwood Village, Colorado 80111, and the telephone number at that address is (303) 200-2000.

Our common stock is listed on the NASDAQ Stock Market LLC (“NASDAQ”) under the symbol “CSGS”. We are a S&P Small Cap 600 company.

Industry Overview

Background. We provide software and services solutions that help companies around the world monetize and digitally enable the customer experience.  While our heritage is born out of the communications industry, we count among our clients some of the world’s largest and most sophisticated communications, financial services, healthcare, and media and entertainment companies, as well as a long list of governmental entities, with an increasingly diversified revenue mix.  Our solutions allow service providers to:

Market Trends of Communications Industry. Our primary market, the global communications industry, continues to undergo rapid change.  Some key trends are emerging as communications service providers (“CSPs”) try to evolve and compete in this highly complex ecosystem:

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Overall, these market trends drive the demand for scalable, flexible, and cost-efficient revenue management, customer experience, and payment solutions, which we believe will provide our clients opportunities to monetize and grow revenue from their customers in this age of digital transformation.  As a result, we have historically invested meaningfully in research and development (“R&D”) and have acquired companies that enable us to expand our solutions in a timely and efficient manner. We believe that our scalable, modular, and flexible solutions, combined with our rich domain expertise and ability to effectively migrate clients to our solutions, provide the clients with proven solutions to improve their profitability and their customers’ experiences.  We have specifically built our solutions to offer service providers a phased, incremental approach to transforming their businesses, thereby reducing the business interruption risk associated with this evolution.

Business Strategy

Our Mission is to deliver innovative engagement solutions that help our clients acquire, monetize, engage with, and retain their customers.  We do this by focusing on three goals:

Energizing and developing our Employees.  Our people make us exceptional and separate us from our competition.  They are ambassadors of the CSG brand and values; they are the point of connection with our clients, for each other, and within our communities.

Delighting our Clients.  Our clients depend on us to help them achieve their business objectives.  We’ve established a reputation for doing what we say, being easy to do business with, and delivering highly scalable, robust solutions.  This reputation has resulted in our becoming a trusted enabler and partner to our clients.

Delivering stockholder value.  Our responsibility is to deliver long-term value to shareholders by delivering growth profitably.  We achieve this through thoughtfully investing in our business and returning an appropriate amount of capital to stockholders.

We believe that successful execution of our goals will allow us to grow revenues and earnings, and therefore, create long-term value for our clients, employees, and stockholders.

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Our strategic focus to accomplish our goals is as follows:

Drive Profitable Growth through Long-Term Relationships:  Our relentless focus on our clients is built upon providing market-leading solutions, world-class operations, delivery capabilities and services, and helping our clients solve their toughest challenges.  By building strong, long-term relationships based on trust and by delivering on our commitments (i.e., doing what we say), our clients stay with us.

Lead with Technology Innovation:  We believe that our broad portfolio of on-premise, cloud and pre-integrated solutions give service providers a competitive advantage.  These solutions allow service providers to efficiently manage their traditional businesses while being able to quickly deliver new digital services and a more personalized and relevant experience to their consumers.  We continually add new relevant capabilities to what we do as a company, both in terms of our people and our solutions.  

Deliver an Exceptional Customer Experience:  We believe that we deliver more business value by having developed a long track record of doing what we say and being easy to do business with.  We do this by putting the client at the heart of our decision-making which is always directed at improving our agility, delivery capabilities, operational excellence, efficiency and reliability to delight and enable our clients’ success.

Attract and Retain Talent:  In order to maintain our competitiveness in the market, we must foster a culture in which our people can do their best work.  We do this by investing in our people and programs that foster a culture of innovation, collaboration and professional fulfillment.

In short, we believe our strategy is a key enabler to help our clients compete more effectively and successfully in an evolving market.

Description of Business

Key Clients. We work with the leading communication service providers located around the world.  A partial list of our key clients as of December 31, 2019 is included below:  

Clients that represented 10% or more of our revenues for 2019 and 2018 were as follows (in millions, except percentages):

See the Significant Client Relationships section of our Management’s Discussion and Analysis (“MD&A”) for additional information regarding our business relationships with these key clients.

Research and Development.  Our clients around the world are facing competition from new entrants and at the same time, are deploying new services at a rapid pace and dramatically increasing the complexity of their business operations. Therefore, we continue to make meaningful investments in R&D to ensure that we stay ahead of our clients’ needs and advance our clients’ businesses as well as our own. We believe our value proposition is to provide solutions that help our clients ensure that each customer interaction is an opportunity to create value and deepen the business relationship.

Our total R&D expenses for 2019 and 2018 were $128.0 million and $124.0 million, respectively, or approximately 13% and 14%, respectively, of our total revenues.  We anticipate the level of R&D investment in the near-term to be relatively consistent with that of 2019.

There are certain inherent risks associated with significant technological innovations.  Some of these risks are described in this report in our Risk Factors section below.

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Solutions and Services.  Our solutions and services help companies with complex transaction-centric business models manage the opportunities and challenges associated with accurately capturing, managing, generating, and optimizing the revenue associated with an immense volume of customer interactions and then manage the intricate nature of those customer relationships.  Below is a high-level overview:

Historically, a substantial percentage of our total revenues have been generated from our revenue management and customer experience solutions.  These solutions are expected to provide a large percentage of our total revenues in the foreseeable future as well.

Business Acquisitions. Our strategy includes acquiring assets and businesses which provide the technology and personnel to expedite our solutions and services development efforts, provide complementary solutions and services, increase market share, and/or provide access to new markets and clients.

Professional Services. We employ professional services experts globally who bring a wide-ranging expertise – including solution architecture, project management, systems implementation, and business consultancy – to every project.  We apply a structured methodology to each of our engagements, leveraging consistent world-class processes, best-practice programs, and systemized templates in the development of our solutions.

Sales and Marketing. We organize our sales efforts to clients primarily within our geographically dispersed, dedicated account teams, with senior level account managers who are responsible for new revenues and renewal of existing contracts within a client account.   The account teams are supported by sales support personnel who are experienced in the various solutions and services that we provide.

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Competition. The market for revenue management solutions and services in the communications industry, as well as in other industries we serve, is highly competitive.  We compete with both independent providers and in-house developers of customer management systems.  We believe that our most significant competitors in our primary markets are Amdocs Limited and NEC Corporation; network equipment providers such as Ericsson and Huawei; and client-developed internal solutions.  Some of our actual and potential competitors have substantially greater financial, marketing, and technological resources than us and in some instances, we may partner and collaborate with our competitors on large opportunities and projects.

We believe service providers in our industry use the following criteria when selecting a vendor for the mission critical management of their revenue, customer experience, and digital ecosystem: (i) functionality, scalability, flexibility, interoperability, and architecture of the software assets; (ii) the breadth and depth of pre-integrated product solutions; (iii) solution quality, client service, and support; (iv) operational excellence and reliability; (v) quality of R&D efforts; and (vi) total cost of ownership.  We believe that our solutions allow us to compete effectively in these areas.

Proprietary Rights and Licenses

We rely on a combination of trade secret, copyright, trademark, and patent laws in the United States (“U.S.”) and similar laws in other countries, and non-disclosure, confidentiality, and other types of contractual arrangements to establish, maintain, and enforce our intellectual property rights in our solutions.  Despite these measures, any of our intellectual property rights could be challenged, invalidated, circumvented, or misappropriated.  Although we hold a select number of patents and patent applications on some of our newer solutions, we do not rely upon patents as a primary means of protecting our rights in our intellectual property.  In any event, there can be no assurance that our patent applications will be approved, that any issued patents will adequately protect our intellectual property, or that such patents will not be challenged by third parties.  Also, much of our business and many of our solutions rely on key technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties at all or on reasonable terms.  Our failure to adequately establish, maintain, and protect our intellectual property rights could have a material adverse impact on our business, financial position, and results of operations.  For a description of the risks associated with our intellectual property rights, see “Item 1A - Risk Factors - Failure to Protect Our Intellectual Property Rights or Claims by Others That We Infringe Their Intellectual Property Rights Could Substantially Harm Our Business, Financial Position and Results of Operations.”

Employees

As of December 31, 2019, we had a total of 4,339 employees, an increase of 374 employees when compared to the number of employees we had as of December 31, 2018. Our success is dependent upon our ability to attract and retain qualified employees.  We are subject to various foreign employment laws and regulations based on the country in which our employees are located. We believe that our relations with our employees are good.

Available Information

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy materials, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act are available free of charge on our website at www.csgi.com.  Additionally, these reports are available on the SEC’s website at www.sec.gov.  

Code of Conduct and Business Ethics

A copy of our Code of Conduct and Business Ethics (the “Code of Conduct”) is maintained on our website.  Any future amendments to the Code of Conduct, or any future waiver of a provision of our Code of Conduct, will be timely posted to our website upon their occurrence.  Historically, we have had minimal changes to our Code of Conduct, and have had no waivers of a provision of our Code of Conduct.

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Item 1A.Risk Factors

We or our representatives from time-to-time may make or may have made certain forward-looking statements, whether orally or in writing, including without limitation, any such statements made or to be made in MD&A contained in our various Securities and Exchange Commission (“SEC”) filings or orally in conferences or teleconferences. We wish to ensure that such statements are accompanied by meaningful cautionary statements, so as to ensure, to the fullest extent possible, the protections of the safe harbor established in the Private Securities Litigation Reform Act of 1995.

We operate in rapidly changing and evolving markets throughout the world addressing the complex needs of communication service providers, financial institutions, and many others, and as a result, new risk factors will likely emerge and currently identified risk factors will likely evolve in their scope. Further, as we enter new market sectors as well as new geographic markets, we could be subject to new regulatory requirements that increase the risk of non-compliance and the potential for economic harm to us and our clients. Accordingly, the risk factors and any forward-looking statements are qualified in their entirety by reference to and are accompanied by the following meaningful cautionary statements:

We Derive a Significant Portion of Our Revenues From a Limited Number of Clients, and the Loss of the Business of a Significant Client Could Have a Material Adverse Effect on Our Financial Position and Results of Operations.

Over the past decade, the global communications industry has experienced significant consolidation, resulting in a large percentage of the market being served by a limited number of communication service providers with greater size and scale, and there are possibilities of further consolidation. Consistent with this market concentration, we generate over 40% of our revenues from our two largest clients, which are (in order of size) Comcast and Charter, which each individually accounted for over 10% or more of our total revenues. See the Significant Client Relationships section of MD&A for key renewal dates and a brief summary of our business relationship with these clients.

There are inherent risks whenever a large percentage of total revenues are concentrated with a limited number of clients. Such risks are that a significant client could: (i) undergo a formalized process to evaluate alternative providers for solutions and services we provide; (ii) terminate or fail to renew their contracts with us, in whole or in part for any reason; (iii) significantly reduce the number of customer accounts processed on our solutions, the price paid for our solutions and services, or the scope of solutions and services that we provide; or (iv) experience significant financial or operating difficulties.

Our industry is highly competitive, and as a result, it is possible that a competitor could increase its footprint and share of customers serviced at our expense or a client could develop their own internal solutions. While our clients may incur some costs in switching to our competitors or their own internally-developed solutions, they may do so for a variety of reasons, including: (i) price; (ii) dissatisfaction with our solutions or service levels; or (iii) dissatisfaction with our relationships.

The Delivery of Our Solutions is Dependent on a Variety of Computing and Processing Environments and Communications Networks Which May Not Be Available or May Be Subject to Security Attacks.

Our solutions are generally delivered through a variety of sources including public cloud, third-party data center and other service providers, and internally-operated computing and processing environments (collectively referred to hereafter in this section as “Systems”). We and/or end users are connected to the Systems through a variety of public and private communications networks, which we will collectively refer to herein as “Networks.” Our solutions are generally considered to be mission critical customer management systems by our clients. As a result, our clients are highly dependent upon the high availability and uncompromised security of the Networks and Systems to conduct their business operations.

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Networks and Systems are subject to the risk of an extended interruption, outage, or security breach due to many factors such as: (i) changes to the Systems and Networks for such things as scheduled maintenance and technology upgrades, or conversions to other technologies, service providers, or physical location of hardware; (ii) failures or lack of continuity of services from public cloud or third-party data center and other service providers; (iii) defects in software program(s); (iv) human and machine error; (v) acts of war and/or nature; (vi) intentional, unauthorized attacks from computer “hackers”, or cyber-attacks; and (vii) using the Systems to perpetrate identity theft through unauthorized authentication to our clients’ customers’ accounts. Most recently, the marketplace is experiencing an ever-increasing exposure to both the number and severity of cyber-attacks.  In addition, we continue to expand our use of third-party Systems and Networks with our solution offerings thereby permitting, for example, our clients’ customers to use the Internet to review account balances, order services or execute similar account management functions. Access to Networks and Systems via the Internet has the potential to increase their vulnerability to unauthorized access and corruption, as well as increasing the dependency of the Systems’ reliability on the availability and performance of the Internet and end users’ infrastructure they obtain through other third-party providers.

The method, manner, cause and timing of an extended interruption, outage, or security breach in third-party and/or the Networks or Systems are impossible to predict. As a result, there can be no assurances that these Networks and Systems will not fail, not suffer a security breach or that the third-party and/or our business continuity or remediation plans will adequately mitigate the negative effects of a disruption or security breach to the Networks or Systems. Further, our property, technology errors and omissions, contractual relationship with third-party providers, and business interruption insurance may not adequately compensate us for losses that we incur as a result of such interruptions or security breaches. Should the Networks or Systems: (i) experience an extended interruption or outage; (ii) have their security breached; and/or (iii) have their data lost, corrupted or otherwise compromised, it would impede our ability to meet solution and service delivery obligations, and likely have an immediate impact to the business operations of our clients. This would most likely result in damaging our reputation as well as our long-term ability to attract and retain new clients. The loss of confidential information could result in losing the customers’ confidence, as well as imposition of penalties, fines, and/or damages.

The Occurrence or Perception of a Security Breach or Disclosure of Confidential Personally Identifiable Information Could Harm Our Business.

In providing solutions to our clients, we process, transmit, and store confidential and personally identifiable information (“PII”), including social security numbers, health-related information, and financial information. Our treatment of such information is subject to contractual restrictions and federal, state, and foreign data privacy laws and regulations, which continue to evolve resulting in greater scrutiny over the protection of PII. In response to these evolving restrictions and regulations, including the European Union’s adoption of the General Data Protection Regulation (“GDPR”) and California Consumer Privacy Act (“CCPA”), we leverage various data protection strategies (e.g., encryption) and have implemented measures to protect against unauthorized access to such information, and comply with these laws and regulations. These measures include standard industry practices (e.g. payment card industry (“PCI”) requirements), periodic security reviews of our systems by independent parties, secure development practices, network firewalls, policy directives, procedural controls, intrusion detection systems, and antivirus applications. Due to the inherent risks and complexities to defend against cybercrime, these measures may fail to adequately protect this information. Any failure on our part to protect the privacy of PII or comply with data privacy laws and regulations may subject us to contractual liability and damages, loss of business, damages from individual claimants, substantial fines/penalties, criminal prosecution, and unfavorable publicity. Even the mere perception of a security breach or inadvertent disclosure of PII could damage our reputation and inhibit market acceptance of our solutions. In addition, third-party vendors that we engage to perform services for us may unintentionally release PII or otherwise fail to comply with applicable laws and regulations. As new laws and regulations emerge and evolve our compliance costs could increase substantially.

We May Not Be Able to Efficiently and Effectively Implement New Solutions or Migrate Clients onto Our Solutions.

Our continued growth plans include the implementation of new solutions, as well as migrating both new and existing clients to our solutions. Such implementations or migrations (collectively referred to hereafter in this section as “implementations”), regardless of whether they involve new solutions or new customers, have become increasingly more difficult because of the sophistication, complexity, and interdependencies of the various software and network environments impacted, combined with the increasing complexity of the clients’ underlying business processes. In addition, the complexity of the implementations increases when the arrangement includes other vendors participating in the project, including but not limited to, prime and subcontractor relationships with our company. For these reasons, implementations subject our clients to potential business disruption, which could cause them to delay or even cancel future implementations.  

As a result, there is a risk that we may experience cancellations, delays, or unexpected costs associated with implementations. In addition, our inability to complete implementations in an efficient and effective manner could damage our reputation in the market place, reducing our opportunity to grow our business with both new and existing clients.

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We May Not Be Successful in the Integration or Achievement of Financial Targets of Our Acquisitions.

As part of our growth strategy, we seek to acquire assets, technology, and businesses which will provide the technology and personnel to expedite our solutions and services development efforts, provide complementary solutions, or provide access to new markets and clients.

Acquisitions involve a number of risks and difficulties, including: (i) expansion into new markets and business ventures; (ii) the requirement to understand local business practices; (iii) the diversion of management’s attention to the assimilation of acquired operations and personnel; (iv) being bound by acquired client or vendor contracts with unfavorable terms; and (v) potential adverse effects on a company’s operating results for various reasons, including, but not limited to, the following items: (a) the inability to achieve financial targets; (b) the inability to achieve certain integration expectations, operating goals, and synergies; (c) costs incurred to exit current or acquired contracts or activities; (d) costs incurred to service any acquisition debt; and (e) the amortization or impairment of acquired intangible assets.

Due to the multiple risks and difficulties associated with any acquisition, there can be no assurance that we will be successful in achieving our expected strategic, operating, and financial goals for any such acquisition.

Our Business is Highly Dependent on the Global Communications Industry.

Since a large percentage of our revenues are generated from clients that operate within the global communications industry, we are highly dependent on the health and the business trends occurring within this industry (in particular for our North American cable and satellite clients).  Key factors within this industry that could potentially impact our clients’ businesses, and thus, our business, are as follows:

In addition, changes in demand for traditional services for CSPs are causing them to seek new revenue sources, while also managing their cost structure and quality of service delivery during their business transformation. The result is that many CSPs are delaying investment decision on maintaining/advancing legacy systems, and/or making investments in new solutions to drive their business forward into new areas.

Also, as consolidated entities execute upon their revenue and operational synergies, there is generally a slowdown in decision-making on discretionary spending and/or on new business initiatives.  While this could be a timing issue only, it could impact quarterly and annual results.  

The above industry factors are impacting our clients’ businesses, and thus could cause delays, cancellations/loss of business, and/or downward pricing pressure on our sales and services. This could cause us to either fall short of revenue expectations or have a cost model that is misaligned with revenues.  

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We May Not Be Able to Respond to Rapid Technological Changes.

The market for business support solutions, such as customer care, billing solutions, and payment solutions is characterized by rapid changes in technology and is highly competitive with respect to the need for timely solution innovations and new solution introductions. As a result, we believe that our future success in sustaining and growing our revenues depends upon: (i) our ability to continuously expand, adapt, modify, maintain, and operate our solutions to address the increasingly complex and evolving needs of our clients without sacrificing the reliability or quality of the solutions; (ii) the integration of acquired technologies and their widely distributed, complex worldwide operations; and (iii) creating and maintaining an integrated suite of customer care and billing solutions, which are portable to new verticals.  In addition, the market is demanding that our solutions have greater architectural flexibility and interoperability, and that we are able to meet the demands for technological advancements to our solutions at a greater pace. Our attempts to meet these demands subject our R&D efforts to greater risks.

As a result, substantial and effective R&D and solution investment will be required to maintain the competitiveness of our solutions in the market. Technical problems may arise in developing, maintaining, integrating, and operating our solutions as the complexities are increased. Development projects can be lengthy and costly, and may be subject to changing requirements, programming difficulties, a shortage of qualified personnel, and/or unforeseen factors which can result in delays. In addition, we may be responsible for the implementation of new solutions and/or the conversion of clients to new solutions, and depending upon the specific solution, we may also be responsible for operations of the solution.

There is an inherent risk in the successful development, implementation, conversion, integration, and operation of our solutions as the technological complexities, and the pace at which we must deliver these solutions to market, continue to increase. The risk of making an error that causes significant operational disruption to a client, or results in incorrect computer processing of customer or vendor data that we perform on behalf of our clients, increases proportionately with the frequency and complexity of changes to our solutions and new delivery models. There can be no assurance: (i) of continued market acceptance of our solutions; (ii) that we will be successful in the development of enhancements or new solutions that respond to technological advances or changing client needs at the pace the market demands; or (iii) that we will be successful in supporting the implementation, conversion, integration, and/or operations of enhancements or new solutions.

A Reduction in Demand for Our Key Business Support Solutions Could Have a Material Adverse Effect on Our Financial Position and Results of Operations.

Historically, a substantial percentage of our total revenues have been generated from our core cloud-based , ACP, and related solutions. These solutions are expected to continue to provide a large percentage of our total revenues in the foreseeable future. Any significant reduction in demand for ACP and related solutions could have a material adverse effect on our business.

We May Be Subject to Payments Regulation in the U.S.  

Many states in which we operate have laws that govern payment activities and have implemented various definitions and licensing requirements for entities deemed to be money transmitters, including licensure. If we are deemed to be money transmitters in such states and fail to meet such state requirements at any time, we could be subject to enforcement actions and financial penalties and other costs.  An enforcement action could result in restrictions upon, or a prohibition on engaging in, the business of money transmission in one or more states and it could delay or prevent us from obtaining a money transmitter license in one or more states.  Enforcement actions could also result in reputational harm to our business and force us to cease or limit certain aspects of our business or prevent us from growing our business.  Further, laws governing payment activities may evolve and changes in such law could affect our ability to provide our solutions or services in the same form and on the same terms as we have historically, or at all.  

If we must apply for money transmitter licenses in one or more states, there can be no assurance that we will be able to obtain any such licenses and such application process may be prolonged and costly.  During the application process, states may impose disclosure and vetting requirements of persons deemed in control of our business. In addition, there are substantial costs and potential solution changes involved in maintaining such licenses, and we could be subject to fines or other enforcement action if we are found to have violated applicable federal, state, and local laws and regulations, including those related to licensing and supervision, anti-money laundering, the Bank Secrecy Act, financial privacy, and cybersecurity and data security.  These factors could impose substantial additional costs and involve considerable delay to the development or provision of our solutions or services, or could require significant and costly operational changes or prevent us from providing our solutions or services in a given market. These limitations may adversely affect our ability to grow our business. 

We may also be subject to card association and network rules and requirements, and violations of such rules and requirements could result in fines or the inability to use third-party networks to conduct our business.

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Failure to Deal Effectively with Fraud, Fictitious Transactions, Bad Transactions, and Negative Experiences Could Increase Our Loss Rate and Harm Our Payment Processing Business, and Could Severely Diminish Merchant and Consumer Confidence in and Use of Our Services.

In the event that merchants do not fulfill their obligations to consumers or a consumer disputes a transaction for various reasons, we may incur losses as a result of chargebacks and/or claims from consumers. We would seek to recover such losses from the merchant, however, we may not be able to recover the amounts in full if the merchant is unwilling or unable to pay.  While we have established financial reserves based on assumptions and estimates that we believe are reasonable to cover such eventualities, these reserves on individual merchants may be insufficient. We may also incur losses from claims that the consumer did not authorize the purchase, from consumer fraud, from erroneous transactions, and as a result of consumers who have closed bank accounts or have insufficient funds in their bank accounts to satisfy payments. In addition, if losses incurred by us related to payment card transactions become excessive, we could lose the right to process credit card transactions, which would significantly impact our payment processing business. We have taken measures to detect and reduce the risk of fraud, including underwriting and risk management procedures and processes, but these measures need to be continually updated to address emerging means of perpetrating fraud or to accommodate new solution offerings.

Failure to Attract and Retain Our Key Management and Other Highly Skilled Personnel Could Have a Material Adverse Effect on Our Business.

Our future success depends in large part on the continued service of our key management, sales, product development, professional services, and operational personnel. We believe that our future success also depends on our ability to attract and retain highly skilled technical, managerial, operational, and sales and marketing personnel, including, in particular, personnel in the areas of R&D, professional services, and technical support. Competition for qualified personnel at times can be intense, particularly in the areas of R&D, conversions, software implementations, and technical support. This risk is heightened with a widely dispersed customer base and employee populations. For these reasons, we may not be successful in attracting and retaining the personnel we require, which could have a material adverse effect on our ability to meet our commitments and new solution delivery objectives.

Variability of Our Quarterly Revenues and Our Failure to Meet Revenue and Earnings Expectations Would Negatively Affect the Market Price of Our Common Stock.

From time to time, we may experience variability in quarterly revenues and operating results. Common causes of failure to meet revenue and operating expectations include, among others:

Should we fail to meet our revenue and earnings expectations of the investment community, by even a relatively small amount, it could have a disproportionately negative impact upon the market price of our common stock.

We May be Subject to Various Anti-Money Laundering and Counter-Terrorist Financing Laws and Regulations.

We may be subject to various anti-money laundering (“AML”) and counter-terrorist financing laws and regulations that prohibit, among other things, our involvement in processing the proceeds of criminal activities. We maintain an AML Compliance Policy and Procedure applicable to our payments processing business which policy is intended to comply with any applicable U.S. federal requirements.  The laws or their application, our interpretation of the laws, and/or our services may change so that we could be subject to additional regulation and incur additional costs of compliance. We may not be able to meet additional regulatory requirements or the cost of adhering to such requirements could be substantial or could severely impact our ability to continue to maintain and/or grow our payments processing business or retain merchants or partners. The regulations of other countries and/or any increased compliance costs associated with such regulations, could prevent us from entering new markets for our services.

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Our Global Operations Subject Us to Additional Risks.

We currently conduct a portion of our business outside the U.S. We are subject to certain risks associated with operating internationally including the following items:

Our Global Operations Require Us To Comply With Applicable U.S. and International Laws and Regulations.

Doing business on a global basis requires our company and our subsidiaries to comply with the laws and the regulations of the U.S. government and various international jurisdictions.  In addition, the number of countries enacting anti-corruption laws and related enforcement activities is increasing. These regulations place restrictions on our operations, trade practices and trade partners. In particular, our global operations are subject to U.S. and foreign anti-corruption laws and regulations such as the Foreign Corrupt Practices Act (“FCPA”), the U.K. Anti-Bribery Act and economic sanction programs administered by the Office of Foreign Assets Control (“OFAC”).  

The FCPA prohibits us from providing anything of value to foreign officials for the purposes of influencing official decisions or obtaining or retaining business. In addition, the FCPA imposes accounting standards and requirements on publicly traded U.S. corporations and their foreign affiliates, which are intended to prevent the diversion of corporate funds to the payment of bribes and other improper payments, and to prevent the establishment of “off books” slush funds from which such improper payment can be made. As part of our business, we regularly deal with state-owned business enterprises, the employees of which are considered foreign officials for purposes of the FCPA. In addition, some of the international locations in which we operate lack a developed legal system and have higher than normal levels of corruption. We inform our personnel and third-party sales representatives of the requirements of the FCPA and other anti-corruption laws, including, but not limited to their reporting requirements. We have also developed and will continue to develop and implement systems for formalizing contracting processes, performing due diligence on agents and partners while improving our recordkeeping and auditing practices regarding these regulations. However, there is no guarantee that our employees, third-party sales representatives or other agents have not or will not engage in conduct undetected by our processes and for which we might be held responsible under the FCPA or other anti-corruption laws.

Economic sanctions programs restrict our business dealings with certain countries and individuals. As a global provider, we are exposed to a heightened risk of violating OFAC regulations. Violations of these laws and regulations are punishable by civil penalties, including fines, injunctions, asset seizures, debarment from government contracts and revocations or restrictions of licenses, as well as criminal fines and imprisonment. While we actively screen and monitor the global companies and individuals that we do business with, utilizing a risk-based approach, there is no guarantee that we have not or will not, through the lack of accurate information, changing client business structures, process failure, oversight, or error, have violations occur.

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Our Use of Open Source Software May Subject Us to Certain Intellectual Property-Related Claims or Require Us to Re-Engineer Our Software, Which Could Harm Our Business.

We use open source software in connection with our solutions, processes, and technology. Companies that use or incorporate open source software into their products have, from time to time, faced claims challenging their use, ownership and/or licensing rights associated with that open source software. As a result, we could be subject to suits by parties claiming certain rights to what we believe to be open source software. Some open source software licenses require users who distribute open source software as part of their software to publicly disclose all or part of the source code in their software and make any derivative works of the open source code available on unfavorable terms or at no cost. In addition to risks related to license requirements, use of open source software can lead to greater risks than use of third-party commercial software, as open source licensors generally do not provide warranties, support, or controls with respect to origin of the software. Use of open source software also complicates compliance with export-related laws. While we take measures to protect our use of open source software in our solutions, open source license terms may be ambiguous, and many of the risks associated with usage of open source software cannot be eliminated. If we were found to have inappropriately used open source software, we may be required to release our proprietary source code, re-engineer our software, discontinue the sale of certain solutions in the event re-engineering cannot be accomplished on a timely basis, or take other remedial action that may divert resources away from our development efforts.

We Face Significant Competition in Our Industry.

The market for our solutions is highly competitive. We directly compete with both independent providers and in-house solutions developed by existing and potential clients. In addition, some independent providers are entering into strategic alliances with other independent providers, resulting in either new competitors, or competitors with greater resources. Many of our current and potential competitors have significantly greater financial, marketing, technical, and other competitive resources than our company, many with significant and well-established domestic and international operations. There can be no assurance that we will be able to compete successfully with our existing competitors or with new competitors.

Failure to Protect Our Intellectual Property Rights or Claims by Others That We Infringe Their Intellectual Property Rights Could Substantially Harm Our Business, Financial Position and Results of Operations.

We rely on a combination of trade secret, copyright, trademark, and patent laws in the U.S. and similar laws in other countries, and non-disclosure, confidentiality, and other types of contractual arrangements to establish, maintain, and enforce our intellectual property rights in our solutions. Despite these measures, any of our intellectual property rights could be challenged, invalidated, circumvented, or misappropriated. Further, our contractual arrangements may not effectively prevent disclosure of our confidential information or provide an adequate remedy in the event of unauthorized disclosure of our confidential information. Others may independently discover trade secrets and proprietary information, which may complicate our assertion of trade secret rights against such parties. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive business position. In addition, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the U.S. Therefore, in certain jurisdictions, we may be unable to protect our proprietary technology adequately against unauthorized third party copying or use, which could adversely affect our competitive position.

Although we hold a limited number of patents and patent applications on some of our solutions, we do not rely upon patents as a primary means of protecting our rights in our intellectual property. In any event, there can be no assurance that our patent applications will be approved, that any issued patents will adequately protect our intellectual property, or that such patents will not be challenged by third parties. Also, much of our business and many of our solutions rely on key technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties at all or on reasonable terms.

Finally, third parties may claim that we, our clients, licensees or other parties indemnified by us are infringing upon their intellectual property rights. Even if we believe that such claims are without merit, they can be time consuming and costly to defend and distract management’s and technical staff’s attention and resources. Claims of intellectual property infringement also might require us to redesign affected solutions, enter into costly settlement or license agreements or pay costly damage awards, or face a temporary or permanent injunction prohibiting us from marketing or selling certain of our solutions. Even if we have an agreement to indemnify us against such costs, the indemnifying party may be unable to uphold its contractual obligations. If we cannot or do not license the infringed technology on reasonable pricing terms or at all, or substitute similar technology from another source, our business could be adversely impacted. Our failure to adequately establish, maintain, and protect our intellectual property rights could have a material adverse effect on our business.

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We May Incur Material Restructuring Charges in the Future.

In the past, we have recorded restructuring charges related to involuntary employee terminations, various facility abandonments, and various other restructuring and reorganization activities. We continually evaluate ways to reduce our operating expenses through new restructuring opportunities, including more effective utilization of our assets, workforce, and operating facilities. As a result, there is a risk, which is increased during economic downturns and with expanded global operations, that we may incur material restructuring or reorganization charges in the future.

Substantial Impairment of Long-lived Assets in the Future May Be Possible.

As a result of various acquisitions and the growth of our company over the last several years, we have approximately $223 million of long-lived assets other than goodwill (principally, property and equipment, software, acquired client contracts, and client contract costs) as of December 31, 2019. Long-lived assets are required to be evaluated for possible impairment whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. We utilize our market capitalization and/or cash flow models as the primary basis to estimate the fair value amounts used in our long-lived asset impairment valuations. If an impairment was to be recorded in the future, it could materially impact our results of operations in the period such impairment is recognized, but such an impairment charge would be a non-cash expense, and therefore would have no impact on our cash flows.  

None.

Item 2. Properties

As of December 31, 2019, we were operating in over 25 leased sites around the world, representing over 650,000 square feet.

Our corporate headquarters is located in Greenwood Village, Colorado. In addition, we lease office space in the U.S. in Allen, Texas; Atlanta, Georgia; Bloomfield, New Jersey; Chicago, Illinois; Omaha, Nebraska; and Philadelphia, Pennsylvania.  The leases for these office facilities expire in the years 2020 through 2027. We also maintain leased facilities internationally in Australia, Brazil, Canada, Colombia, France, India, Ireland, Malaysia, South Africa, Sweden, United Arab Emirates, and the U.K. The leases for these international office facilities expire in the years 2020 through 2026. We utilize these office facilities primarily for the following: (i) client services, training, and support; (ii) product and operations support; (iii) systems and programming activities; (iv) professional services staff; (v) R&D activities; (vi) sales and marketing activities; and (vii) general and administrative functions.

Additionally, we lease four statement production and mailing facilities totaling approximately 350,000 square feet. These facilities are located in: (i) Omaha, Nebraska; (ii) Crawfordville, Florida; (iii) Austin, Texas; and (iv) Fort Worth, Texas. The leases for these facilities expire in the years 2021 through 2026.

We believe that our facilities are adequate for our current needs and that additional suitable space will be available as required. We also believe that we will be able to either: (i) extend our current leases as they terminate; or (ii) find alternative space without experiencing a significant increase in cost. See Note 6 to our Financial Statements for information regarding our obligations under our facility leases.

From time-to-time, we are involved in litigation relating to claims arising out of our operations in the normal course of business. In the opinion of our management, we are not presently a party to any material pending or threatened legal proceedings.

Not applicable.

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Executive Officers of the Registrant

Our executive officers are Bret C. Griess (President and Chief Executive Officer), Rolland B. Johns (Executive Vice President and Chief Financial Officer), Brian A. Shepherd (Executive Vice President and Group President), and Kenneth M. Kennedy (Executive Vice President, President of Technology and Product).  We have employment agreements with each of the executive officers.

Bret C. Griess

President and Chief Executive Officer

Mr. Griess, 51, currently serves as our President and CEO. He joined the Company in 1996 and held a variety of positions in Operations and Information Technology, until being appointed Executive Vice President of Operations in February 2009, Chief Operations Officer in March 2011, and President in June 2015. In January 2016, Mr. Griess was appointed President and CEO and a member of our Board. Mr. Griess holds an M.A. degree in Management and a B.S. degree in Management from Bellevue University in Nebraska, and an A.A.S. degree from the Community College of the Air Force.

Rolland B. Johns

Executive Vice President and Chief Financial Officer

Mr. Johns, 50,​ serves as​ CSG’s Executive Vice President and Chief Financial Officer, where he oversees finance, accounting and treasury for the organization. Mr. Johns joined CSG in 2013 as Chief Accounting Officer, and was named to his current position in May 2018. Mr. Johns brings more than 25 years of global finance and accounting expertise to the position. Prior to joining CSG, he was an audit partner at KPMG, serving in many leadership and management roles, including lead audit engagement partner on several large public company engagements in various industries across the globe. Mr. Johns is a member of the AICPA and the Nebraska Society of Certified Public Accountants. He holds a B.S. degree in Accounting from the University of San Diego.

Brian A. Shepherd

Executive Vice President and Group President

Mr. Shepherd, 52, joined CSG in 2016. He was named Executive Vice President and Group President of CSG in October 2017. In this position, he leads the profit and loss organization for the entire global organization. Prior to this role, Mr. Shepherd served as Executive Vice President and President of Global Broadband, Cable and Satellite Business from 2016 to 2017, where he focused on accelerating the growth and strategic direction of CSG’s global broadband, cable and direct broadcast satellite business. Mr. Shepherd is an international business expert with strong management, strategy, corporate growth, customer relationship, global sales/service, and cloud transformation experience. In previous executive roles at companies such as TeleTech, Amdocs, DST Innovis, and McKinsey & Company, Mr. Shepherd built a successful history of helping companies drive and achieve their strategic growth initiatives. With more than 25 years of technology and cloud expertise serving global brands in communication, media, financial services, government, healthcare and retail, he has built wide and deep relationships with C-Suite leaders, decision-makers and policy influencers who have shaped these industries globally. Mr. Shepherd graduated Magna cum laude in Economics from Wabash College and received a Master of Business Administration degree from Harvard Business School.

Kenneth M. Kennedy

Executive Vice President, President of Technology and Product

Mr. Kennedy, 50, was named President of Technology and Product in October 2017. In this position, he oversees all product development, product management, platform architecture and operations across CSG’s solutions portfolio. His expertise and vision contribute to new innovations that enable CSG’s clients to have more agile and dynamic operations. Prior to this role, Mr. Kennedy served as CSG’s Executive Vice President of Product Development from 2016 to 2017. Prior to this role, he served as CSG’s Chief Technology Officer and Senior Vice President of Product Management, Development and Operations from 2006 to 2016, managing CSG’s software development organization and implementing technology initiatives for CSG’s solution offerings. Prior to CSG, Mr. Kennedy was one of the original founders of Telution where he served as Vice President of Software Development and Professional Services from 1998 to 2006. Prior to Telution, Mr. Kennedy worked at Andersen Consulting where he was responsible for developing highly-scalable distributed software solutions for the manufacturing, financial services, and communications industries. Mr. Kennedy received a Bachelor of Business Administration and Management Information Systems from the University of Notre Dame.

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Board of Directors of the Registrant

Information related to our Board of Directors (the “Board”) is provided below.

Donald B. Reed

Mr. Reed, 75, was appointed to the Board in May 2005 and has served as CSG's non-executive Chairman of the Board since January 2010. He is presently retired. He served as CEO of Cable & Wireless Global from 2000 to 2003. Cable & Wireless Global, a subsidiary of Cable & Wireless plc, is a provider of Internet Protocol (“IP”) and data services to business customers in the U.S., United Kingdom, Europe, and Japan. From June 1998 until May 2000, Mr. Reed served Cable & Wireless in various other executive positions. Mr. Reed’s career includes 30 years at NYNEX Corporation (now part of Verizon), a regional telephone operating company. From 1995 to 1997, Mr. Reed served NYNEX Corporation as President and Group Executive with responsibility for directing the company’s regional, national, and international government affairs, public policy initiatives, legislative and regulatory matters, and public relations. Mr. Reed holds a B.A. degree in History from Virginia Military Institute

Bret C. Griess

Mr. Griess’ biographical information is included in the “Executive Officers of the Registrant” section shown directly above.

David G. Barnes

Mr. Barnes, 58, was appointed to the Board in February 2014. He is currently Chief Financial Officer of Trimble Inc., a position he assumed on January 4, 2020. He served as Executive Vice President, Global Operations of Stantec Inc., a publicly traded global provider of engineering, consulting, and construction services from 2016 through 2018. From 2009 through 2016, he served as Executive Vice President and CFO of MWH Global Inc., an employee-owned engineering and construction firm. MWH Global Inc. was acquired by Stantec Inc. in 2016. From 2006 to 2008, he was Executive Vice President of Western Union Financial Services. From 2004 to 2006, Mr. Barnes served as CFO of Radio Shack Corporation, and from 1999 to 2004, he was Vice President, Treasurer, and U.S. CFO for Coors Brewing Company. Mr. Barnes holds an M.B.A. degree from the University of Chicago and a B.A. degree from Yale University.

Ronald H. Cooper

Mr. Cooper, 63, was appointed to the Board in November 2006. He most recently served as the President and CEO of Clear Channel Outdoor Americas, Inc. (an outdoor advertising company) from 2009 through 2012. Prior to this position, he was a Principal at Tufts Consulting LLC from 2006 through 2009. Previously, he spent nearly 25 years in the cable and telecommunications industry, most recently at Adelphia Communications where he served as President and COO from 2003 to 2006. Prior to Adelphia, Mr. Cooper held a series of executive positions at AT&T Broadband, RELERA Data Centers & Solutions, MediaOne and its predecessor Continental Cablevision, Inc. He has served on various boards of directors and committees with the National Cable Television Association, California Cable & Telecommunications Association, Cable Television Association for Marketing, New England Cable Television Association, and Outdoor Advertising Association of America. Mr. Cooper holds a B.A. degree from Wesleyan University.

Marwan H. Fawaz

Mr. Fawaz, 57, was appointed to the Board in March 2016. He is currently an Executive Advisor to Google and Alphabet Inc., after joining Alphabet as the CEO of Nest Labs, Inc. With more than 30 years of experience in the media, cable, telecommunications, and broadband industries, Mr. Fawaz offers a wealth of knowledge and expertise, developed from his time as Executive Vice President and CEO of Google/Motorola Mobility from 2012 to 2013 and Executive Vice President of Strategy and Operations and Chief Technology Officer of Charter Communications from 2006 to 2011. In addition, he served as Senior Vice President and Chief Technology Officer of Adelphia Communications from 2003 to 2006 and held leadership positions for other cable industry companies such as MediaOne, among others. He was the founder and principal of Sarepta Advisors, a strategic advisory and consulting group supporting the technology, media, and telecommunications industries. He holds an M.S. degree in Electrical and Communication Engineering and a B.S. degree in Electrical Engineering, both from California State University at Long Beach.

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Rajan Naik

Dr. Naik, 48, was appointed to the Board in August 2018. He currently serves as Chief Strategy and Innovation Officer for Motorola Solutions, Inc., where he is responsible for the corporate strategy organization, chief technology office, venture capital portfolio, and competitive and market intelligence. Motorola Solutions creates mission-critical communication solutions, including devices, networks, software, services, and video. Prior to joining Motorola Solutions, Dr. Naik held the role of Senior Vice President, Chief Strategy Officer at Advanced Micro Devices (AMD), a provider of high-performance computing, graphics and visualization technologies. From 2000 to 2012, Dr. Naik was a Partner at McKinsey & Company in the technology/media/telecom practice. He holds a BSc. degree in Engineering from Cornell University and a Ph.D. degree in Engineering from the Massachusetts Institute of Technology.

Janice I. Obuchowski

Ms. Obuchowski, 68, was appointed to the Board in November 1997. She is the founder and President of Freedom Technologies, Inc. (a firm providing public policy, strategic, and engineering advice to companies in the communications sector, government agencies, and international clients), a position she has held since 1992. In 2003, Ms. Obuchowski was appointed by President George W. Bush to serve as Ambassador and Head of the U.S. Delegation to the World Radiocommunication Conference. She has served as Assistant Secretary for Communications and Information at the Department of Commerce, Administrator for the National Telecommunications and Information Administration (“NTIA”), and as the head of international government relations at NYNEX Corporation. She also has served on several non-profit and other publicly traded company boards. She holds a J.D. degree from Georgetown University and a B.A. degree from Wellesley College, and also attended the University of Paris.

Frank V. Sica

Mr. Sica, 69, has served as a director of the Company since its formation in 1994. He has been a Partner of Tailwind Capital (a private equity firm) since 2006. He currently serves as a director on the boards of JetBlue Airways, Kohl’s Corporation, and Safe Bulkers, Inc. Mr. Sica holds an M.B.A. degree from the Tuck School of Business at Dartmouth College and a B.A. degree from Wesleyan University.

Donald V. Smith

Mr. Smith, 77, was elected to the Board in January 2002. He is presently retired. Previously, he served as Senior Managing Director of Houlihan Lokey Howard & Zukin, Inc., an international investment banking firm with whom he had been associated from 1988 through 2009 and where he served on the board of directors. From 1978 to 1988, he served as a Principal with Morgan Stanley & Co. Inc., where he headed the company’s valuation and reorganization services. He also serves on the board of directors of several non-profit organizations. Mr. Smith holds an M.B.A. degree from the Wharton Graduate School of the University of Pennsylvania and a B.S. degree from the United States Naval Academy.

Haiyan Song

Ms. Song, 54, was appointed to the Board in January 2020. She has served as Sr. Vice President and General Manager of Security Markets for Splunk, Inc. since 2014. Prior to that, she spent four years from 2010-2014 with Hewlett Packard Enterprise Co., in engineering and general manager roles within HP’s ArcSight Business Unit. She joined Hewlett Packard following the company’s acquisition of ArcSight, Inc. in 2010. Ms. Song was Vice President of Engineering & Product with ArcSight from 2005-2010. Ms. Song holds both M.S. and B.S. degrees in Computer Science from Florida Atlantic University. She also studied at Tsinghua University in China and completed the Stanford University Graduate School of Business Executive Program in General Management in 2012.

James A. Unruh

Mr. Unruh, 79, was appointed to the Board in June 2005. He became a founding Principal of Alerion Capital Group, LLC (a private equity investment company) in 1998 and currently holds such position. Mr. Unruh was an executive with Unisys Corporation (a global information technology company) from 1987 to 1997, including serving as its Chairman and CEO from 1990 to 1997. From 1982 to 1986, Mr. Unruh held various executive positions, including Senior Vice President–Finance and CFO with Burroughs Corporation, a predecessor of Unisys Corporation. Prior to 1982, Mr. Unruh was CFO with Memorex Corporation and also held various executive positions with Fairchild Camera and Instrument Corporation, including CFO. Mr. Unruh formerly served as director on the boards for Tenet Healthcare Corporation and Prudential Financial, Inc. during the past five years. He holds an M.B.A. degree from the University of Denver and a B.S. degree from the University of Jamestown.

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PART II

Our common stock is listed on NASDAQ under the symbol ‘‘CSGS’’.  On January 31, 2020, the number of holders of record of common stock was 126.

Stock Price Performance

The following graph compares the cumulative total stockholder return on our common stock, the Russell 2000 Index, and our Standard Industrial Classification (“SIC”) Code Index: Data Preparation and Processing Services during the indicated five-year period. The graph assumes that $100 was invested on December 31, 2014, in our common stock and in each of the two indexes, and that all dividends, if any, were reinvested.

Equity Compensation Plan Information

The following table summarizes certain information about our equity compensation plans as of December 31, 2019:

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Of the total number of securities remaining available for future issuance, 3,438,620 shares can be used for various types of stock-based awards, as specified in the equity compensation plan, with the remaining 222,260 shares to be used for our employee stock purchase plan. See Note 13 to our Financial Statements for additional discussion of our equity compensation plans.

Issuer Repurchases of Equity Securities

The following table presents information with respect to purchases of our common stock made during the fourth quarter of 2019 by CSG Systems International, Inc. or any “affiliated purchaser” of CSG Systems International, Inc., as defined in Rule 10b-18(a)(3) under the Exchange Act.

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Item 6. Selected Financial Data

The following selected financial data have been derived from our audited financial statements. The selected financial data presented below should be read in conjunction with, and is qualified by reference to, our MD&A and our Financial Statements. The information below is not necessarily indicative of the results of future operations.

See Note 7 to our Financial Statements for additional discussion of these acquisitions.

We adopted the new guidance using the cumulative effect approach, and as a result, recorded a cumulative adjustment increasing beginning retained earnings (net of tax) by approximately $7 million.  

See Note 2 to our Financial Statements for further discussion regarding the adoption of this new standard.

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In March 2016, we completed an offering of $230 million of 4.25% senior convertible notes due March 15, 2036.  The net proceeds of approximately $223 million were used to settle the outstanding 2010 Convertible Notes, due March 1, 2017.  During 2016, we repurchased approximately $115 million of the 2010 Convertible Notes for approximately $216 million, and recognized a loss on the repurchases of $8.7 million.  In March 2017, we settled our conversion obligation by paying cash of $34.8 million for the remaining par value of the notes and delivered 694,240 shares of our common shares from treasury stock to settle the $28.8 million value of the conversion obligation in excess of par value.    

In February 2015, we refinanced our Credit Agreement.  As a result, under the refinanced Credit Agreement, we: (i) extended the term of the agreement to February 2020; (ii) increased the amount of the revolving credit facility from $100 million to $200 million; and (iii) borrowed $150 million, resulting in a net increase of available cash of $30 million, after paying off the outstanding $120 million balance from the term loan under the previous Credit Agreement.

See Note 5 to our Financial Statements for additional discussion of our debt.

We adopted this ASU utilizing the effective date method of transition thus, prior period information in our Financial Statements was not adjusted.  In conjunction with the adoption of this ASU we recorded additional assets and liabilities of approximately $80 million related to the right-of-use assets and lease liabilities.

See Notes 2 and 6 to our Financial Statements for further discussion regarding the adoption of this new standard.

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

This report contains a number of forward-looking statements relative to our future plans and our expectations concerning our business and the industries we serve. These forward-looking statements are based on assumptions about a number of important factors, and involve risks and uncertainties that could cause actual results to differ materially from estimates contained in the forward-looking statements. Some of the risks that are foreseen by management are outlined above within Item 1A., “Risk Factors”. Item 1A. constitutes an integral part of this report, and readers are strongly encouraged to review this section closely in conjunction with MD&A.

Acquisition Activity

During 2018, we completed the following two acquisitions:  (i) Business Ink, Co. (“Business Ink”) on February 28, 2018; and (ii) Forte Payment Systems, Inc. (“Forte”) on October 1, 2018.  These two business acquisitions have impacted the year-over-year results of operations, and as a result, amounts may not be comparable between years due to the timing of the transactions.  The comparable differences have been described below where relevant or significant.

Additionally, on January 2, 2020, we acquired certain assets of Tekzenit, Inc. (“Tekzenit”) for an initial purchase price of approximately $10 million.  The purchase agreement includes provisions for additional purchase price payments in the form of earn-out and qualified sales payments for up to $10 million over a three-year measurement period upon meeting certain financial and sales criteria.  At this time, we expect that Tekzenit will contribute approximately $10 million to our 2020 revenues and be neutral to slightly accretive to our results from operations.  The expected impact of the Tekzenit acquisition includes estimates for costs associated with our planned integration efforts and estimates for the amortization of acquired intangible assets.  Because of the inherent uncertainties in making such estimates, the actual impact of Tekzenit on our 2020 financial performance may vary from our current expectations as we work through our integration efforts and complete the Tekzenit purchase accounting.

These acquisitions are discussed in greater detail in Note 7 to our Financial Statements.

Impact of New Lease Accounting Pronouncement

In February 2016, the FASB issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842) (“ASC 842”), which requires lessees to recognize a lease liability and a right-of-use asset for all leases, including operating leases, with a term greater than twelve months on its balance sheet.  We adopted ASC 842 in January of 2019, utilizing the effective date method of transition.  While the adoption of this standard resulted in a material gross-up of our Balance Sheet assets and liabilities, it did not have a material impact on our Income Statement or Statement of Cash Flows.

Refer to Notes 2 and 6 to our Financial Statements for further detail regarding the adoption of ASC 842.

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Management Overview

Results of Operations. A summary of our results of operations for 2019 and 2018, and other key performance metrics are as follows (in thousands, except percentages and per share amounts):

Revenues. Our revenues for 2019 were $996.8 million, a 14% increase when compared to $875.1 million for 2018, with the increase mainly attributed to the full year impact of the Business Ink and Forte acquisitions, discussed above, which generated an additional $91 million of combined revenues in 2019 over that in 2018, and the remaining increase due primarily to our cloud solutions and managed services arrangements.

Operating Results.  Operating income for 2019 was $126.1 million, or a 12.7% operating income margin percentage, compared to $104.9 million, or a 12.0% operating income margin percentage for 2018, with the increase in operating income primarily a result of the higher revenues generated in 2019.

Diluted Earnings Per Share (“EPS”).  Diluted EPS for 2019 was $2.55 compared to $2.01 for 2018, reflective of the higher operating income for 2019.  Additionally, 2019 diluted EPS was positively impacted by a lower effective income tax rate resulting primarily from an approximately $4 million net income tax benefit related to Comcast’s exercise of 0.4 million vested common stock warrants.

Balance Sheet and Cash Flows.  As of December 31, 2019, we had cash, cash equivalents, and short-term investments of $182.7 million, as compared to $162.9 million as of December 31, 2018.  Cash flows from operating activities for 2019 were $151.1 million, compared to $143.3 million for 2018.  See the Liquidity section below for further discussion of our cash flows.

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Significant Client Relationships

Comcast.  Comcast continues to be our largest client.  For 2019 and 2018, revenues from Comcast were $229 million and $221 million, respectively, representing approximately 23% and 25% of our total revenues.  On December 16, 2019, we entered into a new CSG Master Subscriber Management System Agreement with Comcast (the “Agreement”) which supersedes all previous agreements with Comcast.  The key terms of the Agreement are as follows:

When compared to the previous agreement, we provided overall pricing adjustments of approximately 10% to Comcast, which in effect, will reduce the current fees we will receive from Comcast.  The anticipated revenue impact in both the near and long terms may vary depending on the type of service consumed by Comcast.  The impact from the Agreement is only an estimate and actual results may vary depending upon a variety of factors.  We undertake no duty to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

A copy of the Agreement, with confidential information redacted, is filed as exhibit 10.27 to this Form 10-K.

Charter. Charter is our second largest client.  For 2019 and 2018, revenues from Charter were $195 million and $179 million, respectively, representing approximately 20% of our total revenues for both years.  Our agreement with Charter runs through December 31, 2021, with an option to extend the agreement for an additional one-year term.

A copy of the Charter agreements and related amendments, with confidential information redacted, are included in the exhibits to our periodic filings with the SEC.

Stock-Based Compensation Expense

Stock-based compensation expense is included in the following (in thousands):

See Notes 2 and 13 to our Financial Statements for additional discussion of our stock-based compensation expense.

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Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets is included in the following (in thousands):

The increases in amortization of acquired intangible assets between years are due to the amortization of the intangible assets acquired with the Business Ink and Forte acquisitions in 2018, discussed above, thus 2019 having the full year impact.  See Note 4 to our Financial Statements for additional discussion of our acquired intangible assets and related amortization.  

Critical Accounting Policies

The preparation of our Financial Statements in conformity with accounting principles generally accepted in the U.S. requires us to select appropriate accounting policies, and to make judgments and estimates affecting the application of those accounting policies.  In applying our accounting policies, different business conditions or the use of different assumptions may result in materially different amounts reported in our Financial Statements.

We have identified the most critical accounting policies that affect our financial position and the results of our operations.  These critical accounting policies were determined by considering our accounting policies that involve the most complex or subjective decisions or assessments.  The most critical accounting policies identified relate to:  (i) revenue recognition; (ii) impairment assessments of long-lived assets; (iii) income taxes; and (iv) loss contingencies. These critical accounting policies, as well as our other significant accounting policies, are disclosed in the notes to our Financial Statements.

Revenue Recognition.  In accordance with ASC 606, revenue is recognized upon conclusion that a contract with a client exists. Such conclusion is made by us when the contract is legally enforceable and certain criteria, including collectability, are met.  In making our determination of collectability, we consider a number of factors depending upon the specific aspects of an arrangement, which may include, but is not limited to, the following items: (i) an assessment of the client’s specific credit worthiness, evidenced by its current financial position and/or recent operating results, credit ratings, and/or a bankruptcy filing status (as applicable); (ii) the client’s current accounts receivable status and/or its historical payment patterns with us (as applicable); (iii) the economic condition of the industry in which the client conducts the majority of its business; and/or (iv) the economic conditions and/or political stability of the country or region in which the client is domiciled and/or conducts the majority of its business.  The evaluation of these factors, and the ultimate determination of collectability, requires significant judgments to be made by us.  The judgments made in this area could have a significant effect to the amount and timing of revenue recognized in any period.

Our contracts with clients include cloud-based revenue management solution arrangements, managed services arrangements, cloud-based payment processing transaction services, software license and service arrangements, professional services arrangements, and bundled service arrangements.  The revenue recognition policies that involve the most complex and subjective decisions or assessments that may have a material impact on our operations relate to the accounting for cloud-based revenue management solution arrangements, software license and service arrangements, and bundled service arrangements.

Our cloud-based revenue management solution arrangements are complex agreements that typically include multiple performance obligations.  Key factors considered in accounting for cloud-based revenue management solution arrangements include the following criteria:  (i) identification of performance obligations within the contract; (ii) determination of the transaction price given the variable nature of the consideration and significance of the consideration; (iii) determination of stand-alone selling price for each performance obligation and the allocation of value between the performance obligations; and (iv) calculation of revenue recognized in each period. The evaluation of these factors and ultimate revenue recognition decision requires significant judgements to be made by us.  Depending on the significance of variable consideration, number of solutions/services, complex pricing structures and long-term nature of these types of contracts, the judgements and estimates made in this area could have a significant effect on the amount and timing of revenue recognized in any period.  In addition, certain solutions and arrangements require us to make an assessment of whether we are a principal to the transaction (gross revenue) or an agent to the transaction (net revenue). Such assessments can have a significant effect on the amount of revenue recognized.

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Our software license and services arrangements and bundled service arrangements include multiple performance obligations and can be complex and require considerable judgement.  Key factors considered in accounting for our software license and related service arrangements include the following criteria:  (i) identification of performance obligations within the contract; (ii) assessment of whether services included in the arrangement represent significant production, modification or customization of the software (as applicable), such that the delivery of the software license and related services required to implement the software represent one combined performance obligation; (iii) determination of the transaction price for the contract as these types of arrangements may include both fixed and variable consideration; (iv) determination of stand-alone selling price for each performance obligation; allocation of value between performance obligations; and (v) estimates to measure progress for delivery.  The evaluation of these factors and ultimate revenue recognition decision requires significant judgements to be made by us.  We generally determine stand-alone selling prices using pricing calculations (which include regional market factors) for our software license fees and maintenance, and cost-plus margins for services.  The pricing calculations can be complex and require estimates based on volumes and regional market factors. Additionally, our use of an hours-based method of accounting for software license and other professional services performance obligations that are satisfied over time requires estimates of total project revenues and costs, along with the expected hours necessary to complete a project.  Changes in estimates as a result of additional information or experience on a project as work progresses are inherent characteristics of this method of revenue recognition as we are exposed to various business risks in completing these types of performance obligations.  The estimation process to support our hours-based recognition method is more difficult for projects of greater length and/or complexity. The judgments and estimates made in this area could:  (i) have a significant effect on revenues recognized in any period by changing the amount and/or the timing of the revenue recognized; and/or (ii) impact the expected profitability of a project, including whether an overall loss on an arrangement has occurred.

Our contracts are subject to modification via amendment, change requests, and/or statement of works.  Such modifications can occur frequently.  The accounting for contract modifications under ASC 606 can be complex and requires significant judgements to be made by us as to whether the contract modification is treated as either a separate contract or part of the existing contract.  The judgements made in this area could have a significant effect on the revenues recognized in any period by changing the amount and/or timing of the revenue recognized.

Our contracts typically include service level agreements or other incentives that may result in refunds or credits to our clients.  Under ASC 606, failure to meet service level standards under the terms of the contract represent adjustments to the overall consideration (reductions in revenue) and may need to be estimated at the outset of the arrangement as part of the overall variable consideration.  Such estimates require significant judgement by us and may impact the amount and/or timing of the revenue recognized.

Impairment Assessments of Long-Lived Assets.  Long-lived assets, which for us relates primarily to property and equipment, software, acquired client contracts, and client contract costs, are required to be evaluated for possible impairment whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable.  A long-lived asset (or group of long-lived assets) is impaired if estimated future undiscounted cash flows associated with that asset, without consideration of interest, are insufficient to recover the carrying amount of the long-lived asset.  Once deemed impaired, even if by $1, the long-lived asset is written down to its fair value which could be considerably less than the carrying amount or future undiscounted cash flows.  The determination of estimated future cash flows and, if required, the determination of the fair value of a long-lived asset, are by their nature, highly subjective judgments.  Changes to one or more of the assumptions utilized in such an analysis could materially affect our impairment conclusions for long-lived assets.

Income Taxes. We are required to estimate our income tax liability in each jurisdiction in which we operate, which includes the U.S. (including both Federal and state income taxes) and numerous foreign countries.

Various judgments are required in evaluating our income tax positions and determining our provisions for income taxes.  We regularly assess the likelihood of the future realization of our deferred income tax assets.  To the extent we believe that it is more likely than not that a deferred income tax asset will not be realized, a valuation allowance is established.  During the ordinary course of our business, there are certain transactions and calculations for which the ultimate income tax determination may be uncertain.  In addition, we may be subject to examination of our income tax returns by various tax authorities which could result in adverse outcomes.  For these reasons, we establish a liability associated with unrecognized tax benefits based on estimates of whether additional taxes and interest may be due.  We adjust this liability based upon changing facts and circumstances, such as the closing of a tax audit, the closing of a tax year upon the expiration of a statute of limitations, or the refinement of an estimate. Should any of the factors considered in determining the adequacy of this liability change significantly, an adjustment to the liability may be necessary. Because of the potential significance of these issues, such an adjustment could be material.

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One of the more complex items within our income tax expense is the determination of our annual research and experimentation income tax credit (“R&D credit”).  We have incurred approximately $100 - $130 million annually in R&D expense over the last three years.  The calculation of the R&D tax credit involves the identification of qualifying projects, and then an estimation of the qualifying costs for such projects.  Because of the size, nature, and the number of projects worked on in any given year, the calculation can become complex and certain judgments are necessary in determining the amount of the R&D credits claimed.

Loss Contingencies. In the ordinary course of business, we are subject to claims (and potential claims) related to various items including but not limited to the following:  (i) legal and regulatory matters; (ii) vendor contracts; (iii) solution and service delivery matters; and (iv) labor matters.  Accounting and disclosure requirements for loss contingencies requires us to assess the likelihood of any adverse judgments in or outcomes to these matters, as well as the potential ranges of probable losses. A determination of the amount of reserves for such contingencies, if any, is based on an analysis of the issues, often with the assistance of legal counsel.  The evaluation of such issues, and our ultimate accounting and disclosure decisions, are by their nature, subject to various estimates and highly subjective judgments. Should any of the factors considered in determining the adequacy of any required reserves change significantly, an adjustment to the reserves may be necessary.  Due to the potential significance of these issues, such an adjustment could be material.

Detailed Discussion of Results of Operations

The discussion that follows includes a comparison of our results of operations and liquidity for the year ended December 31, 2019 compared to the year ended December 31, 2018.  For a discussion of the year ended December 31, 2018 compared to the year ended December 31, 2017, please refer to Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K for the year ended December 31, 2018, filed with the SEC on February 22, 2019.

Total Revenues. Total revenues for 2019 were $996.8 million, a 14% increase when compared to $875.1 million for 2018.  This increase in total revenues can be mainly attributed to the full year impact the Business Ink and Forte acquisitions, which generated an additional $91 million of combined revenues in 2019 over that in 2018 due to the timing of the transactions, and the remaining increase due primarily to our cloud solutions and managed services arrangements.

The components of total revenues, discussed in more detail below, are as follows (in thousands):

Cloud and Related Solutions Revenues. Cloud and related solutions revenues for 2019 increased 17% to $896.2 million, from $766.4 million for 2018.  The year-over-year increase can be primarily attributed to the full year impact the Business Ink and Forte acquisitions, which generated an additional $91 million of combined revenues in 2019 over that in 2018, and the remaining increase due to our cloud solutions and managed services arrangements.

Amortization of the investments in client contracts intangible asset (reflected as a reduction of cloud and related solutions revenues) for 2019, 2018, and 2017 was $6.0 million, $11.1 million, and $7.4 million, respectively.

Software and Services Revenues. Software and services revenues for 2019 decreased 10% to $52.4 million, from $58.1 million for 2018, with the decrease primarily attributed to the continued shift in our focus towards longer-term managed services arrangements, which are included in our cloud and related solutions revenues.  

Maintenance Revenues.  Maintenance revenues for 2019 decreased 5% to $48.3 million, from $50.6 million for 2018, with the decrease reflective of our decreasing software revenues and also impacted by the timing of maintenance renewals and related revenue recognition.

We continue to transition our focus towards more predictable recurring revenue models with our longer-term managed services arrangements and delivery of our cloud-based solutions and away from software and services revenues with related maintenance agreements.

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Total Operating Expenses.  Our operating expenses for 2019 increased 13% to $870.7 million, from $770.1 million for 2018, with over 85% of this increase mainly attributed to the full year impact of the Business Ink and Forte businesses operating expenses being included in our results, to include an additional $53.5 million of transaction fees and $3.8 million of acquisition amortization, year-over-year.    

Cost of Revenues (Exclusive of Depreciation).  The components of total expenses are discussed in more detail below.

The components of cost of revenues, discussed in more detail below, are as follows (in thousands):

Cost of Cloud and Related Solutions (Exclusive of Depreciation).  The cost of cloud and related solutions revenues consists principally of the following: (i) computing capacity and network communications costs; (ii) statement production costs (e.g., labor, paper, envelopes, equipment, equipment maintenance, etc.); (iii) transaction fees-interchange and other payment-related fees to third-party payment processors and financial institutions;  (iv) client support organizations (e.g., our client support call center, account management, etc.); (v) various product delivery and support organizations (e.g., managed services delivery, product management, product maintenance, etc.); (vi) facilities and infrastructure costs related to the statement production and support organizations; and (vii) amortization of acquired intangibles. The costs related to new solution development (including significant enhancements to existing solutions and services) are included in R&D expense.

The cost of cloud and related solutions for 2019 increased 20% to $472.4 million, from $392.8 million for 2018.  This increase can be mainly attributed to the cloud and related solutions expense of the acquired Business Ink and Forte businesses included in our results, to include transaction fees and acquisition amortization, and is also reflective of the increase in non-acquisition-related cloud and related solutions revenues between years.  Total cloud and related solutions cost of revenues as a percentage of our cloud and related solutions revenues for 2019, 2018, and 2017, were 52.7%, 51.3%, and 48.4%, respectively (with 2019 and 2018 reflective of transaction fees of $69.1 million and $15.6 million, respectively).

Cost of Software and Services (Exclusive of Depreciation).  The cost of software and services revenues consists principally of the following: (i) professional services organization; (ii) various product support organizations (e.g., delivery, etc.); (iii) facilities and infrastructure costs related to these organizations; and (iv) third-party software costs and/or royalties related to certain software products.  The costs related to new solution development (including significant enhancements to existing solutions and services) are included in R&D expense.

The cost of software and services for 2019 was $31.7 million, a 9% decrease when compared to $34.9 million for 2018.  This decrease is reflective of the lower software and services revenues and as a result, personnel and the related costs previously allocated to professional services projects have been reassigned to other areas of the business.  Total cost of software and services as a percentage of our software and services revenues for 2019, 2018, and 2017 were 60.6%, 60.0%, and 62.0%, respectively.

Variability in quarterly revenues and operating results are inherent characteristics of companies that sell software licenses and perform professional services.  Our quarterly revenues for software licenses and professional services may fluctuate, depending on various factors, including the timing of executed contracts and revenue recognition, and the delivery of contracted solutions.  However, the costs associated with software and professional services revenues are not subject to the same degree of variability (e.g., these costs are generally fixed in nature within a relatively short period of time), and thus, fluctuations in our cost of software and services as a percentage of our software and services revenues will likely occur between periods.  

Cost of Maintenance (Exclusive of Depreciation).  The cost of maintenance consists principally of the following: (i) client support organizations (e.g., our client support call center, account management, etc.); (ii) various product support organizations (e.g., product maintenance, product management, etc.); (iii) facilities and infrastructure costs related to these organizations; and (iv) amortization of acquired intangibles.

The cost of maintenance for 2019 decreased 5% to $21.0 million, from $22.1 million for 2018, with the decrease primarily due to lower amortization expense for certain acquired intangible assets.  Total cost of maintenance as a percentage of our maintenance revenues for 2019, 2018, and 2017 were 43.5%, 43.8%, and 53.9%, respectively.

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R&D Expense (Exclusive of Depreciation).  R&D expense for 2019 was $128.0 million, a 3% increase when compared to $124.0 million for 2018, with the increase mainly attributed to the R&D costs associated with the acquired Forte business.  

Our R&D efforts are focused on the continued evolution of our solutions that enable global service providers worldwide to provide a more personalized customer experience while introducing new digital products and services.  This includes the continued investment in our cloud-based solutions.

As a percentage of total revenues, R&D expense for 2019, 2018, and 2017 was 12.8%, 14.2%, and 14.3%, respectively (with the percentage decrease in 2019 reflective of a full year of transaction fees of $69.1 million).  We anticipate the level of R&D investment in the near-term to be relatively consistent with 2019.

Selling, General and Administrative Expense (“SG&A”) (Exclusive of Depreciation).  SG&A expense for 2019 increased 13% to $191.3 million, from $169.3 million for 2018. The increase in SG&A expense between 2019 and 2018 is primarily due to the SG&A costs related to the acquired Forte business, and an increase in employee-related costs.  As a percentage of total revenues, SG&A expense for 2019, 2018, and 2017 was 19.2%, 19.3% and 19.5%, respectively.

Depreciation Expense.  Depreciation expense for all property and equipment is reflected separately in the aggregate and is not included in the cost of revenues or the other components of operating expenses.  Depreciation expense for 2019 was $21.4 million, a 17% increase from $18.3 million for 2018.  The increase can be primarily attributed to depreciation expense from the acquired Business Ink and Forte assets and the full year impact of our increased level of capital expenditures during 2018.

Restructuring and Reorganization Charges. In 2019 and 2018, we implemented various cost reduction and efficiency initiatives that resulted in restructuring and reorganization charges of $4.8 million and $8.7 million, respectively.  These initiatives included: (i) reducing and reorganizing our workforce to further align it around our long-term growth initiatives; (ii) the abandonment of space at some of our facility locations; and (iii) the reversal of a liability related to a previous disposition of a business.

See Note 8 to our Financial Statements for additional information regarding these initiatives.

Operating Income.  Operating income and operating income margin for 2019 was $126.1 million, or 12.7% of total revenues, compared to $104.9 million, or 12.0% of total revenues for 2018.  The increase in operating income can be primarily attributed to the higher revenues generated in 2019.

Interest Expense and Amortization of Original Issue Discount (“OID”).  Our interest expense relates primarily to our 2016 Convertible Notes and our Credit Agreement. See Note 5 to our Financial Statements for additional discussion of our long-term debt, to include the non-cash interest expense related to the amortization of the convertible debt OID.

Loss on Extinguishment of Debt.  In March 2018, we refinanced our 2015 Credit Agreement (see Note 5 to our Financial Statements).  As a result, we incurred a loss of $0.8 million related to the write-off of unamortized debt issuance costs.

Income Tax Provision.  Our effective income tax rates for 2019, 2018, and 2017 were as follows:

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Liquidity

Cash and Liquidity.  As of December 31, 2019, our principal sources of liquidity included cash, cash equivalents, and short-term investments of $182.7 million, compared to $162.9 million as of December 31, 2018. We generally invest our excess cash balances in low-risk, short-term investments to limit our exposure to market and credit risks.

During the first quarter of 2018, we refinanced our 2015 Credit Agreement which extended the term of the loan to March 2023 as well as obtained a reduction in the interest rate and other fees.  The 2018 Credit Agreement increased our liquidity and capital resources position by approximately $30 million.

As part of our 2018 Credit Agreement, we have a $200 million senior secured revolving loan facility with a syndicate of financial institutions that expires in March 2023.  As of December 31, 2019, there were no borrowings outstanding on the 2018 Revolver.  The 2018 Credit Agreement contains customary affirmative covenants and financial covenants. As of December 31, 2019, and the date of this filing, we believe that we are in compliance with the provisions of the 2018 Credit Agreement.

Our cash, cash equivalents, and short-term investment balances as of the end of the indicated periods were located in the following geographical regions (in thousands):

We generally have ready access to substantially all of our cash, cash equivalents, and short-term investment balances, but may face limitations on moving cash out of certain foreign jurisdictions due to currency controls and potential negative economic consequences. As of December 31, 2019, we had $2.7 million of cash restricted as to use to collateralize outstanding letters of credit.

Cash Flows From Operating Activities. We calculate our cash flows from operating activities beginning with net income, adding back the impact of non-cash items or non-operating activity (e.g., depreciation, amortization, amortization of OID, impairments, gain/loss from debt extinguishments, deferred income taxes, stock-based compensation, etc.), and then factoring in the impact of changes in operating assets and liabilities.

Our primary source of cash is from our operating activities. Our current business model consists of a significant amount of recurring revenue sources related to our long-term cloud-based and managed services arrangements (mostly billed monthly), payment process transaction services (mostly billed monthly), and software maintenance agreements (billed monthly, quarterly, or annually). This recurring revenue base provides us with a reliable and predictable source of cash. In addition, software license fees and professional services revenues are sources of cash, but the payment streams for these items are less predictable.

The primary use of our cash is to fund our operating activities. Over half of our total operating costs relate to labor costs (both employees and contracted labor) for the following: (i) compensation; (ii) related fringe benefits; and (iii) reimbursements for travel and entertainment expenses. The other primary cash requirements for our operating expenses consist of: (i) computing capacity and related services and communication lines for our outsourced cloud-based business; (ii) paper, envelopes, and related supplies for our statement processing solutions; (iii) transaction fees paid in conjunction with the delivery of services under our payment services contracts; (iv) hardware and software; and (v) rent and related facility costs. These items are purchased under a variety of both short-term and long-term contractual commitments.  A summary of our material contractual obligations is provided below.

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Our 2019 and 2018 net cash flows from operating activities, broken out between operations and changes in operating assets and liabilities, for the indicated quarterly periods are as follows (in thousands):

We believe the above table illustrates our ability to generate recurring quarterly cash flows from our operations, and the importance of managing our working capital items.  The quarterly and annual variations in our net cash provided by operating activities are related mostly to the changes in our operating assets and liabilities (related mostly to fluctuations in timing at quarter-end of client payments and changes in accrued expenses), and generally over longer periods of time, do not significantly impact our cash flows from operations.

Significant fluctuations in key operating assets and liabilities between 2019 and 2018 that impacted our cash flows from operating activities are as follows:

Billed Trade Accounts Receivable

Management of our billed accounts receivable is one of the primary factors in maintaining strong quarterly cash flows from operating activities.  Our billed trade accounts receivable balance includes significant billings for several non-revenue items (primarily postage, sales tax, and deferred revenue items). As a result, we evaluate our performance in collecting our accounts receivable through our calculation of days billings outstanding (“DBO”) rather than a typical days sales outstanding (“DSO”) calculation.

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Our gross and net billed trade accounts receivable and related allowance for doubtful accounts receivable (“Allowance”) as of the end of the indicated quarterly periods, and the related DBOs for the quarters then ended, are as follows (in thousands, except DBOs):

As of December 31, 2019 and 2018, approximately 95% of our billed accounts receivable balance, for both periods, was less than 60 days past due.  

As a result of the Business Ink and Forte acquisitions in 2018, we have seen an increase in our gross and net billed accounts receivable balances.  Additionally, we may experience fluctuations in our accounts receivable balance due to the timing around certain recurring client payments at quarter-end.  However, these recurring monthly payments that cross a reporting period-end do not raise any collectability concerns, as payment is generally received subsequent to quarter-end.  All other changes in our gross and net billed accounts receivable reflect the normal fluctuations in the timing of client payments at quarter-end, as evidenced by our relatively consistent DBO metric over the past several quarters.

As a global provider of software and professional services, a portion of our accounts receivable balance relates to clients outside the U.S.  This diversity in the geographic composition of our client base may adversely impact our DBOs as longer billing cycles (i.e., billing terms and cash collection cycles) are an inherent characteristic of international software and professional services transactions.  For example, our ability to bill (i.e., send an invoice) and collect arrangement fees may be dependent upon, among other things: (i) the completion of various client administrative matters, local country billing protocols and processes (including local cultural differences), and/or non-client administrative matters; (ii) meeting certain contractual invoicing milestones; or (iii) the overall project status in certain situations in which we act as a subcontractor to another vendor on a project.

Other Current and Non-Current Assets and Liabilities

The increase in other current and non-current assets in 2019 is due primarily to additional client contract costs related to client conversion/set-up activities and direct material costs to fulfill our cloud-based solution arrangements.

Cash Flows From Investing Activities.  Our typical investing activities consist of purchases/sales of short-term investments, purchases of property and equipment, and investments in client contracts, which are discussed below.  Additionally, our recent investing activities also include acquisition and investment activities related to: (i) the acquisitions of the Business Ink and Forte businesses in 2018 that resulted in payments in 2019 and 2018 of $13.2 million and $142.0 million, respectively, (see Note 7 of our Financial Statements); and (ii) investments in a payment technology and services company in 2019 and 2018 of $4.0 million and $2.8 million, respectively (see Note 2 of our Financial Statements).  All of these activities are included in our cash flows from investing activities.

Purchases/Sales of Short-term Investments

During 2019 and 2018, we purchased $54.3 million and $75.0 million, respectively, and sold or had mature $52.1 million and $190.8 million, respectively, of short-term investments. We continually evaluate the possible uses of our excess cash balances and will likely purchase and sell additional short-term investments in the future.

Software, Property and Equipment

Our annual capital expenditures for software, property and equipment for 2019 and 2018 were $37.3 million and $57.1 million, respectively.  Our capital expenditures for these periods consisted principally of investments in: (i) computer hardware, software, and related equipment; (ii) statement production equipment; and (iii) facilities and internal infrastructure items.

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Cash Flows From Financing Activities.  Our financing activities typically consist of various debt-related transactions and activities with our common stock, which are discussed below.

Issuance of Common Stock

Proceeds from the issuance of common stock for 2019 and 2018 were $2.2 million and $2.3 million, respectively, and relate primarily to employee stock purchase plan purchases.

Repurchase of Common Stock

During 2019 and 2018, we repurchased approximately 576,000 shares and 704,000 shares of our common stock under the guidelines of our Stock Repurchase Program for $25.5 million and $27.6 million, respectively.

Additionally, outside of our Stock Repurchase Program, during 2019 and 2018, we repurchased from our employees and then canceled approximately 117,000 shares and 159,000 shares, of our common stock for $5.1 million and $7.4 million, respectively, in connection with minimum tax withholding requirements resulting from the vesting of restricted stock under our stock incentive plans.

Through December 31, 2019 and, 2018, we have paid $30.9 million and $34.7 million, respectively, for our total repurchases of common stock, with the differences in the amounts accrued attributed to the timing of the settlement.

Cash Dividends Paid on Common Stock

During 2019 and 2018, the Board approved dividend payments totaling $29.4 million and $28.1 million, respectively, of which $29.1 million and $28.0 million, respectively, had been paid through December 31, 2019 and 2018 (with the differences attributed to unvested incentive shares that are paid upon vesting).

Common Stock Warrants

During the fourth quarter of 2019, Comcast exercised the remaining 0.4 million of their vested common stock warrants, which we net cash settled under the provisions of the warrant agreement for $12.9 million.  See Note 12 to our Financial Statements for further discussion of Comcast’s exercise of their common stock warrants.

Long-term Debt

During the first quarter of 2018, we refinanced our 2015 Credit Agreement and as a result, we repaid the outstanding principal balance of $120.0 million and borrowed $150.0 million under the 2018 Credit Agreement, resulting in a net increase of available cash of $30.0 million.  As part of the refinancing, we paid $1.5 million of deferred financing costs.  

Additionally, during 2019 and 2018, we made principal repayments of $7.5 million and $5.6 million, respectively, on our long-term debt balance.  See Note 5 to our Financial Statements for additional discussion of our long-term debt.

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Contractual Obligations and Other Commercial Commitments and Contingencies

We have various contractual obligations that are recorded as liabilities in our Consolidated Balance Sheets. Other items, such as certain purchase commitments and other executory contracts, are not recognized as liabilities in our Balance Sheets but are required to be disclosed.

The following table summarizes our significant contractual obligations and commercial commitments as of December 31, 2019, and the future periods in which such obligations are expected to be settled in cash (in thousands).

The contractual obligation amounts reflected for our long-term debt are based upon the following assumptions:

Our long-term debt obligations are discussed in more detail in Note 5 to our Financial Statements.

Our operating leases are discussed in Note 6 to our Financial Statements.  As of December 31, 2019, our purchase obligations consist primarily of our expected minimum base fees under the Ensono service agreement, which includes embedded lease components related to processors at our outsourced data center environment (discussed in Notes 6 and 11 to our Financial Statements).

Of the total contractual obligations and commercial commitments above, approximately $490 million is reflected on our Balance Sheet.

Off-Balance Sheet Arrangements

None

Capital Resources

The following are the key items to consider in assessing our sources and uses of capital resources:

Current Sources of Capital Resources.

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Uses/Potential Uses of Capital Resources. Below are the key items to consider in assessing our uses/potential uses of capital resources:

Under our Stock Repurchase Program, we may repurchase shares in the open market or in privately negotiated transactions, including through an accelerated stock repurchase plan or under a SEC Rule 10b5-1 plan.  The actual timing and amount of share repurchases are dependent on the current market conditions and other business-related factors.  Our common stock repurchases are discussed in more detail in Note 11 to our Financial Statements.

During 2019, we repurchased 0.6 million shares of our common stock for $25.5 million (weighted-average price of $44.17 per share) under our Stock Repurchase Program.

Outside of our Stock Repurchase Program, during 2019, we repurchased from our employees and then cancelled 0.1 million shares of our common stock for $5.1 million in connection with minimum tax withholding requirements resulting from the vesting of restricted stock under our stock incentive plans.

In January 2020, we acquired certain assets of Tekzenit for an initial purchase price of approximately $10 million.  The purchase agreement includes provisions for additional purchase price payments in the form of earn-out and qualified sales payments for up to $10 million over a three-year measurement period upon meeting certain financial and sales criteria.  

These acquisitions were funded from currently available cash.  Our acquisitions are discussed in more detail in Note 7 to our Financial Statements.  As part of our growth strategy, we are continually evaluating potential business and/or asset acquisitions and investments in market share expansion with our existing and potential new clients and expansion into verticals outside the global communications market.

The Stock Warrants are discussed in more detail in Note 12 to our Financial Statements.  

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2016 Convertible Notes

During the next twelve months, there are no scheduled conversion triggers on our 2016 Convertible Notes.  As a result, we expect our required debt service cash outlay during the next twelve months for the 2016 Convertible Notes to be limited to interest payments of $9.8 million.

2018 Credit Agreement

Our 2018 Credit Agreement mandatory repayments and the cash interest expense (based upon current then interest rates) for the next twelve months is $10.3 million, and $5.1 million, respectively.  We have the ability to make prepayments on our 2018 Credit Agreement without penalty.

Our long-term debt obligations are discussed in more detail in Note 5 to our Financial Statements.  

In summary, we expect to continue to have material needs for capital resources going forward, as noted above.  We believe that our current cash, cash equivalents and short-term investments balances and our 2018 Revolver, together with cash expected to be generated in the future from our current operating activities, will be sufficient to meet our anticipated capital resource requirements for at least the next twelve months.  We also believe we could obtain additional capital through other debt sources which may be available to us if deemed appropriate.

Market risk is the potential loss arising from adverse changes in market rates and prices.  As of December 31, 2019, we are exposed to various market risks, including changes in interest rates, fluctuations and changes in the market value of our cash equivalents and short-term investments, and changes in foreign currency exchange rates.  We have not historically entered into derivatives or other financial instruments for trading or speculative purposes.

Interest Rate Risk

Long-Term Debt.  The interest rate on our 2016 Convertible Notes is fixed, and thus, as it relates to our convertible debt borrowings, we are not exposed to changes in interest rates.

The interest rates under our 2018 Credit Agreement are based upon an adjusted LIBOR rate plus an applicable margin, or an alternate base rate plus an applicable margin.  Refer to Note 5 to our Financial Statements for further details of our long-term debt.

A hypothetical adverse change of 10% in the December 31, 2019 adjusted LIBOR rate would not have had a material impact upon our results of operations.

Market Risk

Cash Equivalents and Short-Term Investments.  Our cash and cash equivalents as of December 31, 2019 and 2018 were $156.6 million and $139.3 million, respectively.  Certain of our cash balances are “swept” into overnight money market accounts on a daily basis, and at times, any excess funds are invested in low-risk, somewhat longer term, cash equivalent instruments and short-term investments.  Our cash equivalents are invested primarily in institutional money market funds, commercial paper, and time deposits held at major banks.  We have minimal market risk for our cash and cash equivalents due to the relatively short maturities of the instruments.

Our short-term investments as of December 31, 2019 and 2018 were $26.1 million and $23.6 million, respectively.  Currently, we utilize short-term investments as a means to invest our excess cash only in the U.S. The day-to-day management of our short-term investments is performed by a large financial institution in the U.S., using strict and formal investment guidelines approved by our Board.  Under these guidelines, short-term investments are limited to certain acceptable investments with: (i) a maximum maturity; (ii) a maximum concentration and diversification; and (iii) a minimum acceptable credit quality.  At this time, we believe we have minimal liquidity risk associated with the short-term investments included in our portfolio.

Settlement Assets.  We are exposed to market risk associated with cash held on behalf of our clients related to our payment processing services. As of December 31, 2019 and 2018, we had $169.3 million and $124.6 million, respectively, of cash collected on behalf of our clients which is held for an established holding period until settlement with the client.  The holding period is generally one to four business days depending on the payment model and contractual terms with the client.  During the holding period, cash is held in accounts with various major financial institutions in the U.S. in an amount equal to at least 100% of the aggregate amount owed to our clients.  These balances can significantly fluctuate between periods due to activity at the end of the period and the day in which the period ends.

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Long-Term Debt.  The fair value of our convertible debt is exposed to market risk.  We do not record our convertible debt at fair value but present the fair value for disclosure purposes (see Note 2 to our Financial Statements).  Generally, the fair value of our convertible debt is impacted by changes in interest rates and changes in the price and volatility of our common stock.  As of December 31, 2019, the fair value of the 2016 Convertible Notes was estimated at $262.8 million using quoted market prices.

Foreign Currency Exchange Rate Risk

Due to foreign operations around the world, our balance sheet and income statement are exposed to foreign currency exchange risk due to the fluctuations in the value of currencies in which we conduct business.  While we attempt to maximize natural hedges by incurring expenses in the same currency in which we contract revenue, the related expenses for that revenue could be in one or more differing currencies than the revenue stream.

During the year ended December 31, 2019, we generated approximately 88% of our revenues in U.S. dollars.  We expect that, in the foreseeable future, we will continue to generate a very large percentage of our revenues in U.S. dollars.

As of December 31, 2019 and 2018, the carrying amounts of our monetary assets and monetary liabilities on the books of our non-U.S. subsidiaries in currencies denominated in a currency other than the functional currency of those non-U.S. subsidiaries are as follows (in thousands, in U.S. dollar equivalents):

A hypothetical adverse change of 10% in the December 31, 2019 exchange rates would not have had a material impact upon our results of operations.

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CSG SYSTEMS INTERNATIONAL, INC.

CONSOLIDATED FINANCIAL STATEMENTS

INDEX

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Management’s Report on Internal Control Over Financial Reporting

Management of CSG Systems International, Inc. and subsidiaries (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) or 15d-15(f) under the Securities Exchange Act of 1934, as amended. The Company’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. The Company’s internal control over financial reporting includes those policies and procedures that:

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies and procedures may deteriorate.

Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2019. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework (2013).

Based on our assessment, management believes that the Company maintained effective internal control over financial reporting as of December 31, 2019.

The Company’s independent registered public accounting firm, KPMG LLP, has issued an attestation report on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2019. That report appears immediately following.

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Report of Independent Registered Public Accounting Firm

To the Stockholders and Board of Directors
CSG Systems International, Inc.:

Opinion on Internal Control Over Financial Reporting

We have audited CSG Systems International, Inc. and subsidiaries’ (the Company) internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.  

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2019, and the related notes  (collectively, the consolidated financial statements), and our report dated February 21, 2020 expressed an unqualified opinion on those consolidated financial statements.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control Over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ KPMG LLP

Omaha, Nebraska
February 21, 2020

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Report of Independent Registered Public Accounting Firm

To the Stockholders and Board of Directors
CSG Systems International, Inc.:

Opinion on the Consolidated Financial Statements

We have audited the accompanying consolidated balance sheets of CSG Systems International, Inc. and subsidiaries (the Company) as of December 31, 2019 and 2018, the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three‑year period ended December 31, 2019, and the related notes (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the years in the three‑year period ended December 31, 2019, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 21, 2020 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.

Adoption of ASC Topic 842 in 2019

As discussed in Note 2 to the consolidated financial statements, the Company has changed its method of accounting for leases in 2019 due to the adoption of ASC Topic 842, Leases (ASC 842). The Company adopted the standard using the effective date method, and as such, the 2018 and 2017 comparative information in the financial statements has not been adjusted and continues to be as previously reported.

Adoption of ASC Topic 606 in 2018

As discussed in Note 2 to the consolidated financial statements, the Company has changed its method of revenue recognition in 2018 due to the adoption of ASC Topic 606, Revenue from Contracts with Customers (ASC 606). The Company adopted the standard using the cumulative effect method, and as such, the 2017 comparative information in the financial statements has not been adjusted and continues to be as previously reported.

Basis for Opinion

These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current period audit of the consolidated financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.

Evaluation of amendments, change requests, or statements of work with significant clients

As discussed in Note 3 to the consolidated financial statements, the Company generated 43% of its revenues from its significant clients. The contracts with these clients are subject to modification in the form of amendments, change requests, or statements of

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work (contract modifications), which can occur frequently. The Company’s accounting for customer contracts requires judgments regarding whether each contract modification is treated as a separate contract or modification of an existing contract. The judgments made in this area, specifically those related to significant clients, could impact the timing of revenue recognized.

We identified the evaluation of contract modifications with significant clients as a critical audit matter.  In particular, assessing the Company’s judgments regarding whether each contract modification is treated as a separate contract or a modification of an existing contract required a higher degree of auditor judgment.

The primary procedures we performed to address this critical audit matter included the following. We tested certain internal controls over the Company’s revenue recognition process, including controls over monitoring and evaluating contract modifications with significant clients. For certain contract modifications with significant clients, we performed an independent analysis of the accounting treatment as a separate contract or a modification of an existing contract. We compared our conclusions to those made by the Company for each selected contract modification.

Assessment of estimate of total expected hours to complete software and services projects

As discussed in Note 2 to the consolidated financial statements, the Company's software and services revenues relate primarily to software license sales and professional services. The initial sale of software products generally requires significant production, modification or customization. The Company has determined that the delivery of the software license and the related professional services required to implement the software represent one combined performance obligation that is satisfied over time based of hours worked (hours-based method). To determine the amount of revenue to record at each reporting period, the Company estimates the total expected hours necessary to complete a project, and records revenue proportional to the hours incurred to date compared to total expected hours. Accordingly, the revenue recognized for these contracts is dependent upon estimates of the total expected hours necessary to complete projects. The Company’s revenue from software and services totaled $52 million during the year.

We identified the assessment of the Company’s estimate of total expected hours to complete software and services projects as a critical audit matter. There was subjectivity in performing audit procedures due to the nature of the estimates and assumptions about future events, which could impact the timing of the revenue recognized.

The primary procedures we performed to address this critical audit matter included the following. We tested certain internal controls over the Company’s process of estimating of expected hours to complete a project. We assessed the Company’s historical accuracy in estimating expected hours by performing a retrospective analysis of actual hours incurred compared to initially estimated hours for a sample of completed and in-progress customer contracts. For a sample of in-progress customer contracts, we read the customer contract to understand the nature and complexity of the work to be performed. In addition, we compared the estimate of total expected hours as of December 31, 2019 to the initial estimate of total expected hours. Based on this comparison, we examined documentation evidencing the change in scope of work, for certain contracts.

/s/ KPMG LLP

We have served as the Company’s auditor since 2002.

Omaha, Nebraska
February 21, 2020

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CSG SYSTEMS INTERNATIONAL, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share amounts)

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

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CSG SYSTEMS INTERNATIONAL, INC.

CONSOLIDATED STATEMENTS OF INCOME

(in thousands, except per share amounts)