SPS COMMERCE INC - Quarter Report: 2016 September (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the Quarterly Period Ended: September 30, 2016

For the Transition Period from                      to                     

Commission file number 001-34702

SPS COMMERCE, INC.

(Exact Name of Registrant as Specified in its Charter)

333 South Seventh Street, Suite 1000, Minneapolis, MN 55402

(Address of Principal Executive Offices, Including Zip Code)

(612) 435-9400

(Registrant’s Telephone Number, Including Area Code)

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 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 number of shares of the registrant’s common stock, par value $0.001 per share, outstanding at October 24, 2016 was 17,039,452 shares.

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SPS COMMERCE, INC.

QUARTERLY REPORT ON FORM 10-Q

INDEX

SPECIAL NOTE REGARDING FORWARD-LOOKING INFORMATION

This Quarterly Report on Form 10-Q contains forward-looking statements regarding us, our business prospects and our results of operations that are subject to certain risks and uncertainties posed by many factors and events that could cause our actual business, prospects and results of operations to differ materially from those that may be anticipated by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those described under the heading “Risk Factors” included in our Annual Report on Form 10-K for the year ended December 31, 2015 as filed with the Securities and Exchange Commission. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We expressly disclaim any intent or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Readers are urged to carefully review and consider the various disclosures made by us in this report and in our other reports filed with the Commission that advise interested parties of the risks and factors that may affect our business.

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PART I. – FINANCIAL INFORMATION

SPS COMMERCE, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited; in thousands, except share amounts)

See accompanying notes to these condensed consolidated financial statements.

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SPS COMMERCE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Unaudited; in thousands, except per share amounts)

See accompanying notes to these condensed consolidated financial statements.

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SPS COMMERCE, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited; in thousands)

See accompanying notes to these condensed consolidated financial statements.

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SPS COMMERCE, INC.

Notes to Condensed Consolidated Financial Statements (Unaudited)

NOTE A – General

Business Description

We are a leading provider of cloud-based supply chain management solutions, providing network-proven integrations and comprehensive retail performance analytics to thousands of customers worldwide. We provide our solutions through the SPS Commerce platform, a cloud-based product suite that improves the way suppliers, retailers, distributors and other customers manage and fulfill orders. We derive the majority of our revenues from thousands of monthly recurring subscriptions from businesses that utilize our solutions.

Basis of Presentation

The accompanying unaudited condensed consolidated financial statements include the accounts of SPS Commerce, Inc. and its subsidiaries. All intercompany accounts and transactions have been eliminated in the condensed consolidated financial statements, which have been prepared in conformity with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, these condensed consolidated financial statements do not include all of the information and notes required by GAAP. We have included all normal recurring adjustments considered necessary to give a fair statement of our financial position, results of operations and cash flows for the interim periods shown. Operating results for these interim periods are not necessarily indicative of the results to be expected for the full year. The December 31, 2015 condensed consolidated balance sheet data was derived from our audited financial statements at that date. For further information, refer to the consolidated financial statements and accompanying notes for the year ended December 31, 2015 included in our Annual Report on Form 10-K as filed with the Securities and Exchange Commission on February 24, 2016.

Use of Estimates

Preparing financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

Significant Accounting Policies

During the nine months ended September 30, 2016, there were no material changes in our significant accounting policies. See Note A to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission on February 24, 2016, for additional information regarding our significant accounting policies.

Recent Accounting Pronouncements

In May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606), which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers accounting requirements for the recognition of revenue from contracts with customers. This guidance will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. These new requirements are effective for annual reporting periods beginning after December 15, 2017, and interim periods within those annual periods. We do not believe the new revenue recognition standard will materially impact our recognition of the primary fees received from customers for our cloud-based supply chain solutions. We believe the adoption of the new standard could impact our accounting for certain upfront set-up fees, but we are in the process of determining the financial statement impact and are currently unable to estimate the impact on our consolidated financial statements.

In November 2015, the FASB issued ASU No. 2015-17, Balance Sheet Classification of Deferred Taxes, which amends the guidance requiring companies to separate deferred income tax liabilities and assets into current and non-current amounts in a classified statement of financial position. This accounting guidance simplifies the presentation of deferred income taxes, such that deferred tax liabilities and assets be classified as non-current in a classified statement of financial position. This accounting guidance is effective for us beginning in the first quarter of 2017, but we elected to early adopt this guidance prospectively as of December 31, 2015. As a result, we have classified all deferred tax liabilities and assets as non-current in the condensed consolidated balance sheet at September 30, 2016.

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In February 2016, the FASB issued ASU 2016-02, Leases which will supersede the existing lease guidance and will require all leases with a term greater than 12 months to be recognized in the statements of financial position and eliminate current real estate-specific lease guidance, while maintaining substantially similar classification criteria for distinguishing between finance leases and operating leases. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018, with early adoption permitted. We believe the adoption of the new lease accounting standard will materially impact our consolidated financial statements by increasing our non-current assets and non-current liabilities on our consolidated balance sheets in order to record the right of use assets and related lease liabilities for our existing operating leases. We are in the process of determining the financial statement impact and are currently unable to estimate the impact on our consolidated financial statements.

In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, which will simplify the income tax consequences, accounting for forfeitures and classification on the statements of consolidated cash flows. This standard is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016, with early adoption permitted. We are currently evaluating the impact this guidance will have on the consolidated financial statements and related disclosures.

NOTE B – Business Acquisitions

Toolbox Solutions, Inc.

On January 5, 2016, we completed our acquisition of all of the outstanding common shares of Toolbox Solutions, Inc., (“Toolbox Solutions”) a privately held company providing point-of-sale analytics and category management services to retailers and consumer packaged goods suppliers in North America. This acquisition expands our retail network and strengthens our analytics offerings. Pursuant to the share purchase agreement, we paid $18.1 million in cash and issued $3.3 million in stock, or 48,668 shares of common stock, to the shareholders of Toolbox Solutions. The purchase agreement also allows the sellers to receive up to 16,222 additional shares of common stock, which could become payable contingent upon the completion of certain revenue milestones. See Note C for subsequent measurements of this contingent liability.

Purchase Price Allocation

We accounted for the acquisition as a business combination. We allocated the purchase price to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair values as of the acquisition date. We engaged a third-party valuation firm to assist us in the determination of the value of the purchased intangible assets. The excess of the purchase price over the fair value of net tangible and identifiable intangible assets acquired was recorded as goodwill. Goodwill is attributed to a trained workforce and other buyer-specific value resulting from expected synergies, including long-term cost savings, which are not included in the fair values of identifiable assets.

The purchase price consists of the following (in thousands):

The final purchase price is subject to a net working capital adjustment to be determined by SPS Commerce and the sellers, pursuant to the terms of the purchase agreement. The number of shares of our common stock issued for the acquisition was 48,668 shares as calculated according to the terms of the purchase agreement. The fair value of the shares issued was determined using an volume weighted average trading price of our common stock over a 30-day period ending five days prior to the acquisition date.

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The following table summarizes the estimated fair values of the assets acquired, net of cash acquired of $359,000, and liabilities assumed at the acquisition date (in thousands):

Purchased Intangible Assets

The following table summarizes the estimated fair value of the purchased intangible assets and their estimated useful lives:

The fair values of purchased intangible assets are preliminary and are subject to adjustment as additional information becomes available about the facts and circumstances that existed at the acquisition date. The purchased intangible assets are being amortized on a straight-line basis over their estimated useful lives. Amortization expense for the period from January 5, 2016 through September 30, 2016 was $1.1 million.

Acquisition-Related Costs and Post-Acquisition Operating Results

Acquisition-related costs were $147,000 and are included in our condensed consolidated statements of comprehensive income (loss) for the nine months ended September 30, 2016. No acquisition-related costs were incurred during the three months ended September 30, 2016. The operating results of Toolbox Solutions have been included in our condensed consolidated financial statements from January 5, 2016, the closing date of the acquisition. For the three months ended September 30, 2016 and the period from January 5, 2016 through September 30, 2016, approximately $2.2 million and $5.7 million of our revenues, respectively were derived from Toolbox Solutions’ products and services. The amount of operating income or loss from Toolbox Solutions was not separately identifiable due to our integration.

Pro Forma Financial Information

The pro forma financial information in the table below presents the combined operating results of SPS Commerce and Toolbox Solutions as if the acquisition had occurred on January 1, 2015. The pro forma information includes the historical operating results of each company and pro forma adjustments for the approximate $1.5 million of annual amortization expense related to purchased intangible assets and the additional impact on the provision or benefit for income taxes, resulting from the combined income and intangible amortization expense, using our statutory blended income tax rate of 26.5%.

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The pro forma financial information is presented for informational purposes only and is not necessarily indicative of the results of operations that would have actually been reported had the acquisition occurred on January 1, 2015, nor is it necessarily indicative of our results of operations for any future periods.

NOTE C – Financial Instruments

We invest primarily in money market funds, highly liquid debt instruments of the U.S. government, and U.S. corporate debt securities. All highly liquid investments with original maturities of 90 days or less are classified as cash equivalents. All investments with original maturities greater than 90 days and remaining maturities less than one year from the balance sheet date are classified as short-term marketable securities. Investments with remaining maturities of more than one year from the balance sheet date are classified as marketable securities, non-current. Short-term marketable securities and marketable securities, non-current, are also classified as available-for-sale. We intend to hold marketable securities until maturity; however, we may sell these securities at any time for use in current operations or for other purposes.

Our fixed income investments are carried at fair value and unrealized gains and losses on these investments are included in other comprehensive income (loss) in the condensed consolidated statements of comprehensive income (loss). Realized gains or losses are included in other income (expense) in the condensed consolidated statements of comprehensive income (loss). When a determination has been made that an other-than-temporary decline in fair value has occurred, the amount of the decline that is related to a credit loss is realized and is included in other income (expense), net in the condensed consolidated statements of comprehensive income (loss).

Cash equivalents and marketable securities, consisted of the following (in thousands):

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We do not believe any of the unrealized losses represent an other-than-temporary impairment based on our valuation of available evidence as of September 30, 2016. We expect to receive the full principal and interest on all of these cash equivalents and marketable securities.

Fair Value Measurements

We measure certain financial assets at fair value on a recurring basis based on a fair value hierarchy that requires us to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The three levels of inputs that may be used to measure fair value are:

Level 1 Measurements

Our cash equivalents held in money market funds are measured at fair value using level 1 inputs.

Level 2 Measurements

Our available-for-sale U.S. treasury securities, U.S. agency obligations, commercial paper and corporate debt securities are measured at fair value using level 2 inputs. We obtain the fair values of our level 2 available-for-sale securities from a professional pricing service.

Level 3 Measurements

As discussed in Note B, Business Acquisitions, we recorded a share-based earn-out liability in connection with our acquisition of Toolbox Solutions. The valuation technique used to measure the fair value of the earn-out liability is based on the present value of probability-weighted future cash flows related to the contingent earn-out criteria and the fair value of our common stock on each reporting date. While the fair value of our common stock is an observable input, the probability-weighted future cash flows related to the outcome of the earn-out represent a significant unobservable input to the valuation methodology. Accordingly, we have classified the earn-out liability as a Level 3 measurement. During the third quarter, we reevaluated the probability that these revenue milestones will be achieved and determined it to be highly unlikely based on performance to date and future expectations. Accordingly, the fair value of the related contingent consideration liability has been reduced to zero. During the three and nine months ended September 30, 2016, we recognized income of $1.0 million and $1.1 million respectively, in other income, net and interest income, net in our condensed consolidated statements of comprehensive income (loss) due to the remeasurement of the earn-out liability to fair value.

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The following table presents information about our financial assets that are measured at fair value on a recurring basis and indicates the fair value hierarchy of the valuation techniques utilized to determine such fair value (in thousands):

We classify our cash and cash equivalents and marketable securities within Level 1 or Level 2 because we use quoted market prices or alternative pricing sources and models utilizing market observable inputs to determine their fair value.

NOTE D – Goodwill and Intangible Assets, net

The change in goodwill for the nine months ended September 30, 2016 was due to the acquisition of Toolbox Solutions (see Note B) of $15.7 million, as well as the effect of foreign currency translation.

Intangible assets, net included the following (in thousands):

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At September 30, 2016, future amortization expense for intangible assets was as follows (in thousands):

NOTE E – Commitments and Contingencies

Operating Leases

At September 30, 2016, our future minimum payments under operating leases were as follows (in thousands):

NOTE F – Stock-Based Compensation

Our equity compensation plans provide for the grant of incentive and nonqualified stock options, as well as other stock-based awards including restricted stock and restricted stock units, to employees, non-employee directors and other consultants who provide services to us. Restricted stock awards result in the issuance of new shares when granted. For other stock-based awards, new shares are issued when the award is exercised, vested or released according to the terms of the agreement. In February 2016, 1,003,439 additional shares were reserved for future issuance under our 2010 Equity Incentive Plan. At September 30, 2016, there were approximately 3.9 million shares available for grant under approved equity compensation plans.

We recorded stock-based compensation expense of $2.0 million and $6.0 million for the three and nine months ended September 30, 2016 and $1.6 million and $4.8 million for the three and nine months ended September 30, 2015, respectively. This expense was allocated as follows (in thousands):

At September 30, 2016, there was approximately $15.6 million of unrecognized stock-based compensation expense under our equity compensation plans, which is expected to be recognized on a straight-line basis over a weighted average period of 2.7 years.

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Stock Options

Stock options generally vest over four years and have a contractual term of seven to ten years from the date of grant. Our stock option activity was as follows:

Of the total outstanding options at September 30, 2016, 578,813 were exercisable with a weighted average exercise price of $36.88 per share. The total outstanding options had a weighted average remaining contractual life of 4.8 years.

The weighted average grant date fair value of options granted during the first nine months of 2016 was $16.12 and this was estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions:

Restricted Stock Units and Awards

Restricted stock units vest over four years and, upon vesting, the holder is entitled to receive shares of our common stock. With restricted stock awards, shares of our common stock are issued when the award is granted and the restrictions lapse over one year.

Our restricted stock units activity was as follows:

The number of restricted stock units outstanding at September 30, 2016 included 24,995 units that have vested, but for which shares of common stock have not yet been issued pursuant to the terms of the agreement.

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Our restricted stock awards activity was as follows:

Employee Stock Purchase Plan

Our employee stock purchase plan allows participating employees to purchase shares of our common stock at a discount through payroll deductions. The plan is available to all employees’ subject to certain eligibility requirements. Participating employees may purchase common stock, on a voluntary after tax basis, at a price that is the lower of 85% of the fair market value of one share of common stock at the beginning or end of each stock purchase period. The plan consists of two six-month offering periods, beginning on January 1 and July 1 of each calendar year, respectively. A total of 1.1 million shares of common stock are reserved for issuance under the plan.

For the offering period that began on January 1, 2016 and ended on June 30, 2016, we withheld approximately $794,000 from employees participating in the plan. On June 30, 2016, approximately $786,000 of these funds were used to purchase 15,260 shares on behalf of the employees participating in the plan. The remaining funds are expected to be refunded to employees pursuant to the requirements of the plan. For the offering period that began on July 1, 2016 and will end on December 31, 2016, we have withheld approximately $523,000 as of September 30, 2016 from employees participating in the plan.

For the three and nine months ended September 30, 2016, we recorded approximately $148,000 and $384,000, respectively, of stock-based compensation expense associated with the employee stock purchase plan. The fair value was estimated based on the market price of our common stock at the beginning of each offering period and using the Black-Scholes option pricing model with the following weighted-average assumptions:

NOTE G – Income Taxes

We record our interim provision for income taxes by applying our estimated annual effective tax rate to our year-to-date pretax income and adjust the provision for discrete tax items recorded in the period. Differences between our effective tax rate and statutory tax rates are primarily due to the impact of permanently non-deductible expenses partially offset by the federal research and development credit.

As of September 30, 2016 we do not have any unrecognized tax benefits nor any accrued interest or tax penalties.

NOTE H – Net Income Per Share

Basic net income per share has been computed using the weighted average number of shares of common stock outstanding during each period. Diluted net income per share also includes the impact of our outstanding potential common shares, including options and restricted stock units. Potential common shares that are anti-dilutive are excluded from the calculation of diluted net income per share.

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The following table presents the components of the computation of basic and diluted net income per share for the periods indicated (in thousands, except per share amounts):

The effect of approximately 4,353 and 2,000 outstanding potential common shares was excluded from the calculation of diluted net income per share for the three and nine months ended September 30, 2016 and 2015, respectively, as they were anti-dilutive.

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Overview

We are a leading provider of cloud-based supply chain management solutions, providing network-proven integrations and comprehensive retail performance analytics to thousands of customers worldwide. We provide our solutions through the SPS Commerce platform, a cloud-based product suite that improves the way suppliers, retailers, distributors and other customers manage and fulfill orders. We derive the majority of our revenues from thousands of monthly recurring subscriptions from businesses that utilize our solutions.

We plan to continue to grow our business by further penetrating the supply chain management market, increasing revenues from our customers as their businesses grow, expanding our distribution channels, expanding our international presence and, from time to time, developing new solutions and applications. We also intend to selectively pursue acquisitions that will add customers, allow us to expand into new regions or allow us to offer new functionalities.

For the three months ended September 30, 2016, our revenues were $49.3 million, an increase of 22% from the comparable period in 2015, and represented our 63^rd consecutive quarter of increased revenues. Total operating expenses increased 20% for the same period in 2016 from 2015. Similar results were experienced for the nine months ended September 30, 2016 with increased revenues of 22% and increased operating expenses of 20% compared to the same period in 2015.

On January 5, 2016, we entered into a share purchase agreement with Toolbox Solutions, Inc. (“Toolbox Solutions”), a privately-held information services company specializing in the collection, analysis and distribution of point-of-sale data used by retailers and suppliers to improve their supply chain efficiencies. Under the share purchase agreement, we purchased and acquired all of the outstanding common shares of Toolbox Solutions for $18.1 million in cash, 48,668 shares of our common stock, and a share-based earn-out liability at an original fair value of $1.0 million. We also assumed certain liabilities of Toolbox Solutions. This acquisition allows us to expand our point-of-sale analytic offerings, expand our base of recurring revenue customers and add suppliers to our network. See Note B to our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for additional information regarding the acquisition of Toolbox Solutions.

Key Financial Terms and Metrics

We have several key financial terms and metrics, including annualized average recurring revenues per recurring revenue customer, which we also refer to as wallet share. During the nine months ended September 30, 2016, there were no changes in the definitions of our key financial terms and metrics, which are discussed in more detail under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the year ended December 31, 2015 as filed with the Securities and Exchange Commission on February 24, 2016.

To supplement our financial statements, we also provide investors with Adjusted EBITDA and non-GAAP income per share, both of which are non-GAAP financial measures. We believe that these non-GAAP measures provide useful information to management and investors regarding certain financial and business trends relating to our financial condition and results of operations. Our management uses these non-GAAP measures to compare the company’s performance to that of prior periods for trend analyses and planning purposes. Adjusted EBITDA is also used for purposes of determining executive and senior management incentive compensation. These measures are also presented to our board of directors.

These non-GAAP measures should not be considered a substitute for, or superior to, financial measures calculated in accordance with U.S. generally accepted accounting principles (“GAAP”). These non-GAAP financial measures exclude significant expenses and income that are required by GAAP to be recorded in our financial statements and are subject to inherent limitations. Investors should review the reconciliations of non-GAAP financial measures to the comparable GAAP financial measures that are included in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Critical Accounting Policies and Estimates

This discussion of our financial condition and results of operations is based upon our condensed consolidated financial statements, which are prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. We base our estimates of the carrying value of certain assets and liabilities on historical experience and on various other assumptions that we believe to be reasonable. Our actual results may differ from these estimates under different assumptions or conditions.

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A critical accounting policy is one that is both material to the presentation of our financial statements and requires us to make difficult, subjective or complex judgments for uncertain matters that could have a material effect on our financial condition and results of operations. Accordingly, we believe that our policies for revenue recognition, the allowance for doubtful accounts, income taxes, stock-based compensation and the valuation of goodwill and purchased intangible assets are the most critical to aid in fully understanding and evaluating our financial condition and results of operations.

During the nine months ended September 30, 2016, there were no changes in our significant accounting policies or estimates. See Note A to our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2015, as filed with the Securities and Exchange Commission on February 24, 2016, for additional information regarding our accounting policies.

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Results of Operations

Three Months Ended September 30, 2016 Compared to Three Months Ended September 30, 2015

The following table presents our results of operations for the periods indicated (dollars in thousands):

Due to rounding, totals may not equal the sum of the line items in the table above.

Revenues. Revenues for the three months ended September 30, 2016 increased $8.9 million, or 22%, to $49.3 million from $40.4 million for the same period in 2015. The increase in revenues resulted from two primary factors: the increase in recurring revenue customers and the increase in annualized average recurring revenues per recurring revenue customer, which we also refer to as wallet share.

Recurring revenues from recurring revenue customers accounted for 92% of our total revenues, respectively, for the three months ended September 30, 2016, compared to 91% for the same period in 2015. We anticipate that the number of recurring revenue customers and wallet share will continue to increase as we increase the number of solutions we offer and increase the penetration of those solutions across our customer base.

Cost of Revenues. Cost of revenues for the three months ended September 30, 2016 increased $3.5 million, or 27%, to $16.2 million from $12.7 million for the same period in 2015. The increase in cost of revenues for the three-month period in 2016 was primarily due to increased headcount, which resulted in higher personnel-related costs of approximately $2.5 million and higher occupancy costs of approximately $223,000 compared to the same period in 2015. We also incurred higher software and cloud-based subscription costs of $617,000 as compared to the same period in 2015 for continued investment in the infrastructure supporting our solutions. As a percentage of revenues, cost of revenues were 33% for the three months ended September 30, 2016, compared to 32% for the same period in 2015. Going forward, we anticipate that cost of revenues will increase in absolute dollars as we continue to expand our business.

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Sales and Marketing Expenses. Sales and marketing expenses for the three months ended September 30, 2016 increased $2.7 million, or 20%, to $16.5 million from $13.8 million for the same period in 2015. The increase in sales and marketing expenses for the three-month period in 2016 was due to increased headcount, which resulted in higher personnel-related costs of approximately $2.1 million and higher stock-based compensation of approximately $155,000. We also incurred higher variable compensation of approximately $253,000 earned by sales personnel and referral partners from new business and higher promotional costs of approximately $126,000, partially offset by a decrease in depreciation expense of $125,000. As a percentage of revenues, sales and marketing expenses were 34% for the three months ended September 30, 2016, compared to 34% for the same period in 2015. As we expand our business, we will continue to add resources to our sales and marketing efforts over time, and we expect that these expenses will continue to increase in absolute dollars.

Research and Development Expenses. Research and development expenses for the three months ended September 30, 2016 increased $1.1 million, or 24%, to $5.6 million from $4.5 million for the same period in 2015. The increase in research and development expenses for the three-month period in 2016 was primarily due to increased headcount, which resulted in higher personnel costs of approximately $951,000 compared to the same period in 2015. We also incurred higher software and cloud-based subscription costs of $120,000 as compared to the same period in 2015 for continued investment in the infrastructure supporting our solutions. As a percentage of revenues, research and development expenses were 11% for the three months ended September 30, 2016 compared to 11% for the same period in 2015. As we enhance and expand our solutions and applications, we expect that research and development expenses will continue to increase in absolute dollars.

General and Administrative Expenses. General and administrative expenses for the three months ended September 30, 2016 increased $872,000, or 14%, to $7.2 million from $6.3 million for the same period in 2015. The increase in general and administrative expenses for the three-month period in 2016 was due to higher stock based compensation expenses of approximately $220,000 compared to the same period in 2015. We also incurred higher software subscription costs of approximately $309,000, higher hardware and associated maintenance fees of $104,000, higher bad debt expense of $57,000 as well as increased legal, audit and tax fees of $59,000 primarily related to the Toolbox Solutions acquisition compared to the same period in 2015. As a percentage of revenues, general and administrative expenses were 15% for the three months ended September 30, 2016, compared to 16% for the same period in 2015. Going forward, we expect that general and administrative expenses will continue to increase in absolute dollars as we expand our business.

Amortization of Intangible Assets. Amortization of intangible assets for the three months ended September 30, 2016 increased $365,000, or 44%, to $1.2 million from $829,000 for the same period in 2015 primarily due to the acquisition of Toolbox Solutions in 2016.

Total Other Income (Expense), net. Total other income (expense), net for the three months ended September 30, 2016 included $1.0 million for an adjustment for the fair value of the Toolbox Solutions share-based earn-out liability due to the change in our estimate of probability of attainment.

Income Tax Expense. We recorded income tax expense of $1.2 million for the three months ended September 30, 2016. We recorded income tax expense of $953,000 for the three months ended September 30, 2015. The increase in income tax expense for the three-month period ended September 30, 2016 was primarily due to the increase in pretax book income. For the full year 2016, we expect that our annual effective income tax rate will be approximately 40%.

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Adjusted EBITDA. Adjusted EBITDA, which is a non-GAAP measure of financial performance, consists of net income plus depreciation and amortization, interest expense, interest income, income tax expense, stock-based compensation expense and other adjustments as necessary for a fair presentation. The other adjustment is the impact of the fair value adjustment for the Toolbox Solutions share-based earn-out liability. The following table provides a reconciliation of net income to Adjusted EBITDA (in thousands):

Non-GAAP Income per Share. Non-GAAP income per share, which is also a non-GAAP measure of financial performance, consists of net income plus stock-based compensation expense and amortization expense related to intangible assets divided by the weighted average number of shares of common stock outstanding during each period. The other adjustment is the impact of the fair value adjustment for the Toolbox Solutions share-based earn-out liability. The following table provides a reconciliation of net income to non-GAAP income per share (in thousands, except per share amounts):

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Nine Months Ended September 30, 2016 Compared to Nine Months Ended September 30, 2015

The following table presents our results of operations for the periods indicated (dollars in thousands):

Due to rounding, totals may not equal the sum of the line items in the table above.

Revenues. Revenues for the nine months ended September 30, 2016 increased $26.1 million, or 22%, to $142.2 million from $116.2 million for the same period in 2015. The increase in revenues resulted from two primary factors: the increase in recurring revenue customers and the increase in annualized average recurring revenues per recurring revenue customer, which we also refer to as wallet share.

Recurring revenues from recurring revenue customers accounted for 92% of our total revenues, respectively, for the nine months ended September 30, 2016, compared to 91% for the same period in 2015. We anticipate that the number of recurring revenue customers and wallet share will continue to increase as we increase the number of solutions we offer and increase the penetration of those solutions across our customer base.

Cost of Revenues. Cost of revenues for the nine months ended September 30, 2016 increased $10.4 million, or 28%, to $47.0 million from $36.6 million for the same period in 2015. The increase in cost of revenues for the nine-month period in 2016 was primarily due to increased headcount, which resulted in higher personnel-related costs of approximately $7.3 million, higher occupancy costs of approximately $629,000 and higher stock based compensation expense of approximately $200,000 compared to the same period in 2015. We also incurred increases in software and cloud-based subscription costs of $1.5 million, depreciation expense of $467,000 and network costs of $164,000 as compared to the same period in 2015 for continued investment in the infrastructure supporting our solutions. As a percentage of revenues, cost of revenues were 33% for the nine months ended September 30, 2016, compared to 32% for the same period in 2015. Going forward, we anticipate that cost of revenues will increase in absolute dollars as we continue to expand our business.

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Sales and Marketing Expenses. Sales and marketing expenses for the nine months ended September 30, 2016 increased $7.5 million, or 18%, to $49.1 million from $41.6 million for the same period in 2015. The increase in sales and marketing expenses for the nine-month period in 2016 was due to increased headcount, which resulted in higher personnel-related costs of approximately $5.9 million and higher stock based compensation expense of approximately $423,000. We also incurred higher variable compensation of approximately $828,000 earned by sales personnel and referral partners from new business and higher promotional costs of $461,000 compared to the same period in 2015, partially offset by a decrease in depreciation expense of $458,000. As a percentage of revenues, sales and marketing expenses were 35% for the nine months ended September 30, 2016, compared to 36% for the same period in 2015. As we expand our business, we will continue to add resources to our sales and marketing efforts over time, and we expect that these expenses will continue to increase in absolute dollars.

Research and Development Expenses. Research and development expenses for the nine months ended September 30, 2016 increased $3.1 million, or 24%, to $16.2 million from $13.1 million for the same period in 2015. The increase in research and development expenses for the nine-month period in 2016 was primarily due to increased headcount, which resulted in higher personnel costs of approximately $2.8 million compared to the same period in 2015. We also incurred higher software and cloud-based subscription costs of $332,000 as compared to the same period in 2015 for continued investment in the infrastructure supporting our solutions. As a percentage of revenues, research and development expenses were 11% for the nine months ended September 30, 2016 compared to 11% for the same period in 2015. As we enhance and expand our solutions and applications, we expect that research and development expenses will continue to increase in absolute dollars.

General and Administrative Expenses. General and administrative expenses for the nine months ended September 30, 2016 increased $3.4 million, or 19%, to $21.5 million from $18.1 million for the same period in 2015. The increase in general and administrative expenses for the nine-month period in 2016 was due to increased headcount, which resulted in higher personnel-related costs of approximately $1.2 million and higher stock based compensation expenses of approximately $690,000 compared to the same period in 2015. We also incurred higher software subscription costs of approximately $542,000, higher consulting expenses of $305,000, higher legal and audit fees of approximately $277,000 primarily due to the acquisition of Toolbox Solutions and higher credit card fees of approximately $203,000 due to increase in customers paying by credit card compared to the same period in 2015. As a percentage of revenues, general and administrative expenses were 15% for the nine months ended September 30, 2016, compared to 16% for the same period in 2015. Going forward, we expect that general and administrative expenses will continue to increase in absolute dollars as we expand our business.

Amortization of Intangible Assets. Amortization of intangible assets for the nine months ended September 30, 2016 increased $1.0 million, or 42%, to $3.6 million from $2.5 million for the same period in 2015 primarily due to the acquisition of Toolbox Solutions in 2016.

Total Other Income (Expense), net. Total other income (expense), net for the nine months ended September 30, 2016 included $1.0 million for an adjustment to the balance of the Toolbox Solutions share-based earn-out liability due to the change in our estimate of probability of attainment.

Income Tax Expense. We recorded income tax expense of $2.2 million for the nine months ended September 30, 2016. We recorded income tax expense of $1.6 million for nine months ended September 30, 2015. The increase in income tax expense for the nine-month period in 2016 was primarily due to increased pretax book income. For the full year 2016, we expect that our annual effective income tax rate will be approximately 40%.

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Adjusted EBITDA. Adjusted EBITDA, which is a non-GAAP measure of financial performance, consists of net income plus depreciation and amortization, interest expense, interest income, income tax expense, stock-based compensation expense and other adjustments as necessary for a fair presentation. The other adjustment is the impact of the fair value adjustment for the Toolbox Solutions share-based earn-out liability. The following table provides a reconciliation of net income to Adjusted EBITDA (in thousands):

Non-GAAP Income per Share. Non-GAAP income per share, which is also a non-GAAP measure of financial performance, consists of net income plus stock-based compensation expense and amortization expense related to intangible assets divided by the weighted average number of shares of common stock outstanding during each period. The other adjustment is the impact of the fair value adjustment for the Toolbox Solutions share-based earn-out liability. The following table provides a reconciliation of net income to non-GAAP income per share (in thousands, except per share amounts):