CONSTANT CONTACT INC 10-Q 2012
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the quarterly period ended March 31, 2012
For the transition period from to
Commission file number: 001-33707
CONSTANT CONTACT, INC.
(Exact name of registrant as specified in its charter)
(Registrants 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 x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
As of April 30 2012, there were 30,411,389 shares of the registrants Common Stock, par value $.01 per share, outstanding.
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
The accompanying notes are an integral part of these condensed consolidated financial statements.
Condensed Consolidated Statements of Operations
The accompanying notes are an integral part of these condensed consolidated financial statements.
Condensed Consolidated Statements of Comprehensive Income (Loss)
The accompanying notes are an integral part of these condensed consolidated financial statements.
Condensed Consolidated Statements of Cash Flows
The accompanying notes are an integral part of these condensed consolidated financial statements.
Notes to Condensed Consolidated Financial Statements
(amounts in thousands, except share and per share amounts)
1. Nature of the Business
Constant Contact, Inc. (the Company) was incorporated as a Massachusetts corporation on August 25, 1995. The Company reincorporated in the State of Delaware in 2000. The Company provides on-demand email marketing, social media marketing, event marketing, local deals and online survey products to small organizations, including small businesses, associations and non-profits. The Companys email marketing product allows customers to create, send and track email marketing campaigns. The Companys Social CampaignsTM product allows customers to create, publish, promote and run campaigns on Facebook®. The Companys event marketing product enables customers to promote and manage events, track event registrations and collect online payments. The Companys online survey product enables customers to create and send surveys and analyze the responses. The Companys SaveLocalTM product makes it quick and easy for customers to create, run and manage local deals. Social media marketing features in all of the Companys products allow customers to easily manage and optimize their presence across multiple social media networks. These products are designed for small organizations and are marketed directly by the Company and through a wide variety of partners.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include those of the Company and its subsidiaries, after elimination of all intercompany accounts and transactions. The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (GAAP).
The condensed consolidated balance sheet at December 31, 2011 was derived from audited financial statements, but does not include all disclosures required by GAAP. The accompanying unaudited condensed consolidated financial statements as of March 31, 2012 and for the three months ended March 31, 2012 and 2011 have been prepared by the Company, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) for interim financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that the disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the Companys audited consolidated financial statements and the notes thereto for the year ended December 31, 2011 included in the Companys Annual Report on Form 10-K, File Number 001-33707, on file with the SEC.
In the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary for a fair statement of the Companys consolidated financial position as of March 31, 2012 and consolidated results of operations for the three months ended March 31, 2012 and 2011 and consolidated cash flows for the three months ended March 31, 2012 and 2011 have been made. The condensed consolidated results of operations for the three months ended March 31, 2012 are not necessarily indicative of the results of operations and cash flows that may be expected for the year ending December 31, 2012.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. On an ongoing basis, management evaluates these estimates, judgments and assumptions, including those related to revenue recognition, stock-based compensation, goodwill and acquired intangible assets, capitalization of software and website development costs and income taxes. The Company bases these estimates on historical and anticipated results and trends and on various other assumptions that the Company believes are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for making judgments about the carrying values of assets and liabilities and recorded revenue and expenses that are not readily apparent from other sources. Actual results could differ from these estimates.
The Company provides access to its products primarily through subscription arrangements whereby the customer is charged a fee for access for a defined term. Subscription arrangements include access to use the Companys software via the Internet and support services, such as telephone, email and chat support. When there is evidence of an arrangement, the fee is fixed or determinable and collectability is deemed reasonably assured, the Company recognizes revenue on a daily basis over the subscription period as the services are delivered. Delivery is considered to have commenced at the time the customer has paid for the products and has access to the account via a log-in and password. The Company also generates revenue from its SaveLocal product by charging a fee to its customers based on the number of deals sold by its customers. The Company recognizes revenue from the fee charged when there is evidence of an arrangement, the fee is fixed or determinable and collectability is deemed reasonably assured. The Company also offers ancillary services to its customers related to its products such as custom services and training. Custom services and training revenue is accounted for separate from subscription revenue as those services have value on a standalone basis, do not involve a significant degree of risk or unique acceptance criteria and as the fair value of the Companys subscription services is evidenced by their availability on a standalone basis. Custom services and training revenue is recognized as the services are performed.
Goodwill and Acquired Intangible Assets
The Company records goodwill when consideration paid in a business acquisition exceeds the fair value of the net tangible assets and the identified intangible assets acquired. Goodwill is not amortized, but rather is tested for impairment annually or more frequently if facts and circumstances warrant a review. The Company performs its annual assessment for impairment of goodwill on November 30th and has determined that there is a single reporting unit for the purpose of conducting this annual goodwill impairment assessment. For purposes of assessing potential impairment, the Company annually estimates the fair value of the reporting unit (based on the Companys market capitalization) and compares this amount to the carrying value of the reporting unit (as reflected by the Companys total stockholders equity). If the Company determines that the carrying value of the reporting unit exceeds its fair value, an impairment charge would be required.
Effective January 1, 2012, the Company adopted new guidance that simplifies the goodwill impairment test. The amendment permits the Company to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test described in goodwill accounting standard. Adoption of the new guidance did not have an effect on the Companys consolidated financial statements.
Intangible assets are recorded at their estimated fair values at the date of acquisition. As the pattern of consumption of the economic benefits of the intangible assets cannot be reliably determined, the Company amortizes acquired intangible assets over their estimated useful lives on a straight-line basis.
Capitalization of Software and Web Site Development Costs
Research and development costs are expensed as incurred and primarily include salaries, fees to consultants and other related costs. Relative to development costs of its on-demand products and website, the Company capitalizes certain direct costs to develop functionality as well as certain upgrades and enhancements that are probable to result in additional functionality. The costs incurred in the preliminary stages of development are expensed as incurred. Once an application has reached the development stage, internal and external costs, if direct and incremental, are capitalized as part of property and equipment until the software is substantially complete and ready for its intended use. Capitalized software is amortized over a three-year period in the expense category to which the software relates.
Comprehensive Income (Loss)
Comprehensive income (loss) includes net income (loss), as well as other changes in stockholders equity that result from transactions and economic events other than those with stockholders. The Companys only elements of other comprehensive income (loss) are unrealized gains and losses on available-for-sale securities and translation adjustments.
Effective January 1, 2012, the Company adopted new guidance applicable to comprehensive income. Under this guidance the Company has two options for presenting comprehensive income. The Company can present the total of
comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. This guidance eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders equity. As the new guidance relates only to how comprehensive income is disclosed and does not change the items that must be reported as comprehensive income, adoption of the new guidance did not have an effect on the Companys consolidated financial statements.
In December 2011, the Financial Accounting Standards Board indefinitely deferred the requirement to present reclassification adjustments of other comprehensive income by line item on the face of the income statement.
The Companys marketable securities are classified as available-for-sale and are carried at fair value with the unrealized gains and losses reported as a component of accumulated other comprehensive income in stockholders equity. Realized gains and losses and declines in value judged to be other than temporary are included as a component of interest and other income based on the specific identification method.
At March 31, 2012, marketable securities by security type consisted of:
At March 31, 2012, marketable securities consisted of investments that mature within one year with the exception of agency bonds and a treasury note with a fair value of $12,148, which have maturities within two years.
At December 31, 2011, marketable securities by security type consisted of:
Fair Value of Financial Instruments
Certain assets and liabilities are carried at fair value under GAAP. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. A fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last is considered unobservable, are used to measure fair value:
The following tables present the Companys fair value hierarchy for its cash equivalents and marketable securities which are measured at fair value on a recurring basis as of March 31, 2012 and December 31, 2011:
The Company has revised its classification of certain marketable securities with a fair value of $58,437 as of December 31, 2011, from Level 1 measurements to Level 2 measurements to reflect the inputs used to price these securities as described above. The Company has concluded that this misclassification is immaterial to the Companys financial statements for all prior periods presented.
Net Income (Loss) Per Share
Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of unrestricted common shares outstanding for the period.
Diluted net income (loss) per share is computed by dividing net income (loss) by the sum of the weighted average number of unrestricted common shares outstanding during the period and the weighted average number of potential common shares from the assumed exercise of stock options and the vesting of shares of restricted common stock and restricted stock units using the treasury stock method when the effect is not anti-dilutive.
The following is a summary of the shares used in computing diluted net income (loss) per share:
The following common stock equivalents were excluded from the computation of diluted net income (loss) per share because they had an anti-dilutive impact either because the proceeds under the treasury stock method were in excess of the average fair market value for the period or because the Company had a net loss in the period:
Accounting for Stock-Based Compensation
The Company values all stock-based compensation, including grants of stock options, restricted stock and restricted stock units, at fair value on the date of grant, and expenses the fair value over the applicable service period. The straight-line method is applied to all grants with service conditions, while the graded vesting method is applied to all grants with both service and performance conditions.
Income taxes are provided for tax effects of transactions reported in the financial statements and consist of income taxes currently due plus deferred income taxes related to timing differences between the basis of certain assets and liabilities for financial statement and income tax reporting purposes. Deferred taxes are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance is provided if, based upon the weight of available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.
The Company accounts for uncertainty in income taxes recognized in the financial statements by applying a two-step process to determine the amount of tax benefit to be recognized. First, the tax position must be evaluated to determine the likelihood that it will be sustained upon external examination. If the tax position is deemed more-likely-than-not to be sustained, the tax position is then assessed to determine the amount of benefit to recognize in the financial statements. The amount of the benefit that may be recognized is the largest amount that has a greater than 50% likelihood of being realized upon ultimate settlement.
The Company manages its operations as a single segment for purposes of assessing performance and making operating decisions. Revenue is generated predominately in the U.S. and all significant assets are held in the U.S.
On February 15, 2011, the Company acquired substantially all of the assets, excluding cash, of Bantam Networks, LLC, a Delaware limited liability company (Bantam Networks), for a cash purchase price of $15,000. Bantam Networks is a contact management and social customer relationship management (CRM) software provider. The Company purchased the assets of Bantam Networks in order to expand the CRM functionality of its products.
The Company allocated the purchase price as follows:
The purchased technology was valued using the cost to replace method. The estimated economic life of the purchased technology is three years and amortization will commence once the software is ready for its intended use.
Goodwill was recognized for the excess purchase price over the fair value of the assets acquired. Goodwill is primarily attributable to Bantam Networks knowledge of CRM and expertise in working with contact management software. Goodwill from the Bantam Networks acquisition will be included within the Companys one reporting unit and will be included in the Companys enterprise-level annual review for impairment. Goodwill resulting from the acquisition of Bantam Networks is deductible for tax purposes.
The following table presents the pro forma results of the historical condensed consolidated statements of operations of the Company and Bantam Networks for the three month periods ended March 31, 2011, giving effect to the merger as if it occurred on January 1, 2010:
The pro forma net loss and loss per share presented primarily include adjustments for revenue, amortization, interest income and income taxes. This pro forma information does not purport to indicate the results that would have actually been obtained had the acquisition been completed on the assumed date, or which may be realized in the future.
On January 13, 2012, the Company acquired by merger all of the outstanding capital stock of CardStar, Inc. (CardStar) for a cash purchase price of $5,750. CardStar is a leading developer of mobile applications that extend the use of loyalty cards and mobile coupons among consumers. The Company purchased CardStar in order to accelerate its entrance into the mobile marketing and loyalty space.
The Company allocated the purchase price as follows:
The purchased technology was valued using the cost to replace method and has an estimated economic life of three years.
Goodwill was recognized for the excess purchase price over the fair value of the assets acquired. Goodwill is primarily attributable to CardStars knowledge of mobile applications and coupons and loyalty cards. Goodwill from the CardStar acquisition will be included within the Companys one reporting unit and will be included in the Companys enterprise-level annual review for impairment. Goodwill resulting from the acquisition of CardStar is not deductible for tax purposes.
Transactions costs related to the acquisitions were not material to the consolidated results of the Company. The operating expenses of the acquired entities have been included in the consolidated financial statements beginning on their acquisition dates and were not material to the consolidated results of the Company. The operations of CardStar prior to the acquisition were not material to the consolidated results of the Company.
4. Goodwill and Acquired Intangible Assets
The carrying amount of goodwill was $18,935 as of December 31, 2011. The change in the carrying amount of goodwill for the three months ended March 31, 2012 was as follows:
Goodwill is not amortized, but instead is reviewed for impairment at least annually in the fourth quarter or more frequently when events and circumstances occur indicating that the recorded goodwill may be impaired.
Intangible assets consist of the following:
The Company amortizes the intangible assets on a straight-line basis over the estimated useful lives noted above. Amortization expense for intangible assets was $164 and $80 for the three months ended March 31, 2012 and 2011, respectively. Amortization relating to developed technology is recorded within cost of revenue and the amortization of customer relationships is recorded within sales and marketing expense. Future estimated amortization expense for assets placed in service as of March 31, 2012 is as follows:
Amortization of developed technology totaling $1,800 as of March 31, 2012 has not yet commenced as the software is not yet ready for its intended use.
5. Stock-Based Awards
Stock Incentive Plan
The Companys 2011 Stock Incentive Plan (the 2011 Plan) permits the Company to make grants of incentive stock options, non-statutory stock options, restricted stock, restricted stock units, stock appreciation rights and other stock-based awards with a maximum term of seven years. These awards may be granted to the Companys employees, officers, directors, consultants, and advisors. The Company reserved 4,200,000 shares of its common stock for issuance under the 2011 Plan. Additionally, per the terms of the 2011 Plan, shares of common stock previously reserved for issuance under the 2007 Stock Incentive Plan as well shares reserved for outstanding awards under the 1999 Stock Option/Stock Issuance Plan for which the awards are cancelled, forfeited, repurchased or otherwise result in common stock not being issued will be added to the number of shares available for issuance under the 2011 Plan. Awards that are granted with a per share or per unit purchase price less than 100% of fair
market value as of the date of grant (e.g., restricted stock and restricted stock unit awards) shall count towards the total number of shares reserved for issuance under the 2011 Plan on a two-for-one basis. As of March 31, 2012, 3,116,376 shares of common stock were available for issuance under the 2011 Plan.
The Company applies the fair value recognition provisions for all stock-based awards granted or modified in accordance with authoritative guidance. Under this guidance the Company records compensation costs over the requisite service period of the award based on the grant-date fair value. The straight-line method is applied to all grants with service conditions, while the graded vesting method is applied to all grants with both service and performance conditions.
Stock Purchase Plan
The Companys 2007 Employee Stock Purchase Plan, as amended (the Purchase Plan), became effective upon the completion of the Companys initial public offering. Six-month offering periods begin on January 1 and July 1 of each year, during which employees may elect to purchase shares of the Companys common stock according to the terms of the offering. The per share purchase price for offerings is equal to 85% of the closing market price of the Companys common stock on the last day of the offering period. The first offering period of 2012 began on January 1, 2012 and will be completed on June 30, 2012. The second offering period of 2012 will begin on July 1, 2012 and will be completed on December 31, 2012. As of March 31, 2012, 188,672 shares of common stock were available for issuance to participating employees under the Purchase Plan.
Stock-Based Compensation Expense
The Company recognized stock-based compensation expense on all awards in the following expense categories:
The Company capitalized approximately $224 and $107 of stock-based compensation related to the development of internal use software for the three months ended March 31, 2012 and 2011, respectively.
6. Income Taxes
For the three months ended March 31, 2012, the Company recorded an income tax benefit of $561 as compared to an income tax benefit of $186 in the first quarter of 2011. Income tax is related to federal, state, and to a lesser extent, foreign tax obligations. During 2011 the Company had recorded a full valuation allowance against its net deferred tax assets which allowance was released in the fourth quarter of 2011. The increase in the tax benefit was primarily due to the full valuation allowance in the first quarter of 2011 versus no valuation allowance in the first quarter of 2012.
The Companys effective tax rate may vary from period to period based on changes in estimated taxable income or loss, changes to federal, state or foreign tax laws, deductibility of certain costs and expenses, and as a result of acquisitions. For the three months ended March 31, 2012, the Companys effective tax rate varied from the statutory tax rate primarily due to the recognition for tax purposes of stock based compensation on disqualifying dispositions of incentive stock options that occurred during the first quarter of 2012 partially offset by the non-recognition for tax purposes of stock based compensation related to incentive stock options.
For the three months ended March 31, 2011, the Companys income tax benefit consisted of a current income tax benefit of $265 and a deferred income tax expense of $79. The income tax benefit recorded for the three months ended March 31, 2011 related to the Companys net loss for the period multiplied by its estimated annual effective tax rate for 2011. The deferred income tax expense related to the amortization for tax purposes of goodwill from the acquisition of Bantam Networks.
The Company had net deferred tax assets of $13,827 at December 31, 2011, which increased to $15,073 at March 31, 2012, primarily as a result of the income tax benefit recorded for the three months ended March 31, 2012.
The Company has not recorded any amounts for unrecognized tax benefits as of March 31, 2012 or December 31, 2011. As of March 31, 2012 and December 31, 2011, the Company had no accrued interest or tax penalties recorded.
7. Accrued Expenses
8. Commitments and Contingencies
In May 2009, the Company entered into a lease for its headquarters space in Waltham, Massachusetts (the Lease). The Lease, effective through September 30, 2015 with one five-year extension option, includes space under a lease that existed at that time as well as additional space that will be made available to the Company at various points during the term of the Lease. The Lease also includes payment escalations and rent holidays. Under the Lease, the landlord is responsible for making certain improvements to the leased space at an agreed upon cost to the landlord. If the landlord and the Company mutually agree to make improvements that cost in excess of the agreed upon landlord cost, the landlord bills that excess cost to the Company as additional rent. This additional rent is included in the net calculation of lease incentives, so that rent expense per square foot is recognized on a straight-line basis over the remaining term of occupancy. In September 2010, the Company amended the Lease to include a small amount of additional space. All other terms and conditions of the amendment, inclusive of the landlords obligations to make certain improvements, are consistent with the Lease.
The Company leases a sales and support office in Colorado under a lease agreement effective through April 2019 with three three-year extension options. The agreement contains certain lease incentives and payment escalations. The Company also leases small amounts of general office space in Florida, New York, California and the United Kingdom under lease agreements that expire at various dates through 2014.
Lease incentives, payment escalations and rent holidays specified in the lease agreements are accrued or deferred as appropriate such that rent expense per square foot is recognized on a straight-line basis over the terms of occupancy.
At March 31, 2012, the Company had both prepaid rent and accrued rent balances related to its office leases. The prepaid rent balance was $1,083 at March 31, 2012, of which $413 was included in prepaid expenses and other current assets and $670 was included in other assets. The accrued rent balance was $2,229 at March 31, 2012, of which $266 was included in accrued expenses and $1,963 was included in other long-term liabilities. At December 31, 2011, the Company had both prepaid rent and accrued rent balances related to its office leases. The prepaid rent balance was $1,192 at December 31, 2011, of which $429 was included in prepaid expenses and other current assets and $763 was included in other assets. The accrued rent balance was $2,292 at December 31, 2011, of which $264 was included in accrued expenses and $2,028 was included in other long-term liabilities.
Total rent expense under office leases was $1,513 and $1,477 for the three months ended March 31, 2012 and 2011, respectively.
As of March 31, 2012, future minimum lease payments under noncancelable office leases are as follows:
Third-Party Hosting Agreements
The Company has agreements with two affiliated vendors to provide specialized space and equipment and related services from which the Company hosts its software applications.
Payment escalations and rent holidays specified in these agreements are accrued or deferred as appropriate such that rent expense per square foot is recognized on a straight-line basis over the terms of occupancy. At March 31, 2012, the Company had prepaid rent of $840, which was included in other assets and accrued rent of $89 which was included in other long-term liabilities.
Total rent expense under hosting agreements was $906 and $857 for the three months ended March 31, 2012 and 2011, respectively.
The agreements include payment commitments that expire at various dates through mid-2017. As of March 31, 2012, future minimum payments under the agreements are as follows:
As of March 31, 2012, the Company had issued both cancellable and non-cancellable purchase orders to various vendors and entered into contractual commitments with various vendors totaling $20,822 related primarily to marketing programs and other non-marketing goods and services to be delivered over the next twelve months.
Letters of Credit and Restricted Cash
As of March 31, 2012 and December 31, 2011, the Company maintained a letter of credit totaling $750 for the benefit of the landlord of the Companys corporate headquarters lease. The landlord can draw against the letter of credit in the event of default by the Company. The Company was required to maintain a cash balance of at least $750 as of March 31, 2012 and December 31, 2011, respectively, to secure the letter of credit. This amount was classified as restricted cash in the balance sheet at March 31, 2012 and December 31, 2011.
The Company enters into standard indemnification agreements with the Companys channel partners and certain other third parties in the ordinary course of business. Pursuant to these agreements, the Company indemnifies and agrees to reimburse the indemnified party for losses incurred by the indemnified party in connection with certain intellectual property infringement and other claims by any third party with respect to the Companys business and technology. Based on historical information and information known as of March 31, 2012, the Company does not expect it will incur any significant liabilities under these indemnification agreements.
From time to time, the Company may become involved in legal proceedings arising in the ordinary course of its business. The Company is not presently a party to any legal proceedings that, in its opinion, would have a material adverse effect on the Companys business, results of operations or financial condition.
9. 401(k) Savings Plan
The Company has a defined contribution savings plan under Section 401(k) of the Internal Revenue Code. This plan covers substantially all employees who meet minimum age and service requirements and allows participants to defer a portion of their annual compensation on a pre-tax basis. Company contributions to the plan may be made at the discretion of the Board of Directors. The Company elected to make matching contributions for the plan years ending December 31, 2012 and 2011 at a rate of 100% of each employees contribution up to a maximum matching contribution of 3% of the employees compensation and at a rate of 50% of each employees contribution in excess of 3% up to a maximum of 5% of the employees compensation.
Through March 31, 2012 and 2011, the Company made matching contributions of $550 and $439 for the plan years ended December 31, 2012 and 2011, respectively.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the unaudited condensed consolidated financial statements and the related notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the audited consolidated financial statements and notes thereto and managements discussion and analysis of financial condition and results of operations for the year ended December 31, 2011 included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission, or SEC, on February 28, 2012. This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. These statements are often identified by the use of words such as may, will, expect, believe, anticipate, intend, could, estimate, or continue, and similar expressions or variations. Such forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled Risk Factors, set forth in Part II, Item 1A of this Quarterly Report on Form 10-Q and elsewhere in this report. The forward-looking statements in this Quarterly Report on Form 10-Q represent our views as of the date of this Quarterly Report on Form 10-Q. We anticipate that subsequent events and developments will cause our views to change. However, while we may elect to update these forward-looking statements at some point in the future, we have no current intention of doing so except to the extent required by applicable law. You should, therefore, not rely on these forward-looking statements as representing our views as of any date subsequent to the date of this Quarterly Report on Form 10-Q.
We provide online marketing solutions, including email marketing, social media marketing, event marketing, local deals and surveys, for small organizations, including small businesses, associations and non-profits. We seek to help our customers succeed and have a long history of delivering affordable, easy-to-use products, support, knowhow and coaching with a personal touch, all of which empower our customers to create and grow their customer relationships.
We market our products and acquire our customers through a variety of sources including online marketing such as search engines and advertising on online networks and other websites, offline marketing through television and radio advertising, local seminars, relationships with our partners, referrals from our growing customer base, general brand awareness and the inclusion of a link to our website in the footer of substantially all of the emails sent by our customers.
We have grown rapidly since launching our first on-demand product in 2000. We ended the first quarter of 2012 with approximately 510,000 unique paying customers and had revenue for the first quarter of $59.9 million.
Our business strategy focuses on expanding beyond email marketing to support a multi-product strategy to drive high customer lifetime value through gains in average revenue per customer, retention and gross margin. We believe increasing our customers lifetime value will be a key contributor to our continued success. To drive lifetime value we will continue to invest in acquiring new customers, cross-selling our products to our large and growing customer base, driving increased product usage by our customers and improving customer retention rates. We will continue to invest in broadening our platform of engagement marketing solutions, which we believe will better help our customers create and grow their customer and member relationships. We have made numerous investments to drive future growth, including:
Key Financial and Operating Metrics
In connection with the ongoing operation of our business, our management regularly reviews key financial and operating metrics. Given our growth strategy, we pay particular attention to customer life-time value, customer acquisition metrics, number of products per customer and average revenue per customer. We also consider other operating metrics such as revenue, gross margin, expenses, trialer growth, customer attrition, customer satisfaction rates, success in cross selling and growing customer list sizes, average speed of answer for customer support calls, email deliverability rates and capital expenditures, among others. Management considers these financial and operating metrics critical to understanding and improving our business, reviewing our historical performance, benchmarking our performance versus other companies and identifying current and future trends, and for planning purposes.
In addition, we consider the following non-GAAP financial measures to be key indicators of our financial performance:
We believe that these non-GAAP financial measures are useful to management and investors in evaluating our operating performance for the periods presented and provide a tool for evaluating our ongoing operations. These non-GAAP financial measures, however, are not a measure of financial performance under accounting principles generally accepted in the United States of America, or GAAP, and should not be considered a substitute for GAAP financial measures, including but not limited to net income (loss) or cash flows from operating, investing and financing activities and may not be comparable to similarly titled measures reported by other companies.
Certain Trends and Uncertainties
The following represents a summary of certain trends and uncertainties, which could have a significant impact on our financial condition and results of operations. This summary is not intended to be a complete list of potential trends and uncertainties that could impact our business in the long or short term. The summary should be considered along with the factors set forth under Item 1A Risk Factors and elsewhere in this Quarterly Report on Form 10-Q.
Sources of Revenue
We derive our revenue principally from subscription fees from our customers. Our revenue is driven primarily by the number of paying customers and the subscription fees for our products and is not concentrated within any one customer or group of customers. In 2011, our top 100 customers accounted for less than 1% of our total revenue. We do not require our customers to commit to a contractual term; however, our customers are required to prepay for subscriptions on a monthly, semi-annual, or annual basis by providing a credit card or bank check. Fees are recorded initially as deferred revenue and then recognized as revenue on a daily basis over the prepaid subscription period.
We also generate a small amount of revenue from ancillary services related to our products, which primarily consist of custom services and training through our experts program. Revenue generated from professional services and training accounted for approximately 1% of gross revenue for each of three months ended March 31, 2012 and 2011. In February 2012, we launched our SaveLocal product for which we charge a fee based on the number of deals sold by our customers. We have not yet generated significant revenue from this product.
Cost of Revenue and Operating Expenses
We allocate certain occupancy and general office related expenses, such as rent, utilities, office supplies and depreciation of general office assets to cost of revenue and operating expense categories based on headcount. As a result, an occupancy expense allocation is reflected as personnel related costs in cost of revenue and each operating expense category.
Cost of Revenue. Cost of revenue consists primarily of wages and benefits for software operations and customer support personnel, credit card processing fees and depreciation and amortization, maintenance and hosting of our software applications underlying our product offerings. We allocate a portion of customer support costs relating to assisting trial customers to sales and marketing expense.
The expenses related to our hosted software applications are affected by the number of customers who subscribe to our products and the complexity and redundancy of our software applications and hosting infrastructure. We expect cost of revenue to increase in absolute dollars as we expect to increase our number of customers but to decrease as a percentage of revenue over time as we gain efficiencies created by our expected revenue growth and cost savings.
Research and Development. Research and development expenses consist primarily of wages and benefits for product strategy and development personnel. We have focused our research and development efforts on improving ease of use, functionality and technological scalability of our existing products as well as on the development of new product offerings. We primarily expense research and development costs. However, direct development costs related to software enhancements that add functionality are capitalized and amortized over their useful life. We expect that in 2012 our research and development expenses will increase both in absolute dollars and as a percentage of revenue due to our expanded investment in our product roadmap. Over the longer term we expect our research and development expenses to increase in absolute dollars but decrease as a percentage of revenue as we expect to grow our revenue at a faster rate.
Sales and Marketing. Sales and marketing expenses consist primarily of advertising and promotional costs, wages and benefits for sales and marketing personnel, partner referral fees and the portion of customer support costs that relate to assisting trial customers. Advertising costs consist primarily of pay-per-click advertising with search engines, other online and offline advertising media, including television and radio, as well as the costs to create and produce these advertisements. Advertising costs are expensed as incurred. Promotional costs consist primarily of public relations, memberships and event costs. In order to continue to grow our business and brand and category awareness, we expect that we will continue to commit substantial resources to our sales and marketing efforts. As a result, we expect that on an annual basis, sales and marketing expenses will increase in absolute dollars, but decrease as a percentage of revenue as we expect to continue to grow our revenue at a faster rate.
General and Administrative. General and administrative expenses consist primarily of wages and benefits for administrative, human resources, internal information technology support, finance and accounting personnel, professional fees, board compensation and expenses, certain taxes and other corporate expenses. We expect that general and administrative expenses will increase as we continue to add personnel in connection with the anticipated growth of our business and incur costs related to operating as a public company. Therefore, we expect that our general and administrative expenses will increase in absolute dollars, but decline slightly as a percentage of revenue as we expect to continue to grow our revenue at a faster rate.
Critical Accounting Policies
Our consolidated financial statements are prepared in accordance with GAAP. The preparation of our financial statements and related disclosures requires us to make estimates, assumptions and judgments that affect the reported amount of assets, liabilities, revenue, costs and expenses, and related disclosures. We believe that of our significant accounting policies, which are described in the notes to the condensed consolidated financial statements appearing elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the SEC, the following accounting policies involve the most judgment and complexity:
Accordingly, we believe the policies set forth above are critical to fully understanding and evaluating our financial condition and results of operations. If actual results or events differ materially from the estimates, judgments and assumptions used by us in applying these policies, our reported financial condition and results of operations could be materially affected.
There have been no material changes in our critical accounting policies since December 31, 2011, except with respect to the addition to our revenue recognition policy to accommodate our new SaveLocal product which is described in Sources of Revenue above and which policy is described in more detail in note 2, Summary of Significant Accounting Policies, of the notes to the condensed consolidated financial statements appearing elsewhere in this Quarterly Report on Form 10-Q. For further information please see the discussion of critical accounting policies included in our Annual Report on Form 10-K for the year ended December 31, 2011, as filed with the SEC.
Results of Operations
Three Months Ended March 31, 2012 compared to Three Months Ended March 31, 2011
Revenue increased by $9.9 million from 2011 to 2012. The increase resulted primarily from an approximately 14% increase in the number of average monthly customers and an approximately 6% increase in average revenue per customer. The increase in average revenue per customer was due to an increase in average customer list size and from add-ons to our email marketing product and an increase in pricing for our event marketing product. We expect our average revenue per customer to increase over time.
Cost of Revenue
Cost of revenue increased by $2.9 million from 2011 to 2012. The increase resulted primarily from increased customer support personnel costs of $1.7 million to support our customer growth and increased personnel costs of $206,000 in our operations group to manage our infrastructure. Depreciation, hosting and maintenance costs increased by $595,000 as a result of scaling and adding capacity to our hosting infrastructure inclusive of the effects of transitioning to a new datacenter in California in 2011.
Research and Development
Research and development expenses increased by $2.0 million from 2011 to 2012. The increase was due primarily to additional personnel related costs as a result of our continued hiring of research and development employees as well as an increase in consulting expense incurred, both to further develop and enhance our products.
Sales and Marketing
Sales and marketing expenses increased by $1.5 million from 2011 to 2012. The increase in absolute dollars consisted in large part of increased personnel related costs of $2.6 million primarily as a result of adding employees related to customer acquisition, cross-selling to our customer base and enabling increased usage and better retention. Partner referral fees increased by $522,000 as the number of new customers generated from our partners increased. These increases were partially offset by a decrease of $1.9 million of advertising and promotional expenditures due primarily to a change in the mix and timing of advertising campaigns.
General and Administrative
General and administrative expenses increased by $1.8 million from 2011 to 2012. The increase was due primarily to additional personnel related costs of $1.3 million largely as a result of increasing the number of general and administrative employees to support our overall growth. We also incurred an increase of approximately $313,000 in consulting and professional services fees associated with the growth of our business.
Interest and other income (expense), net
Interest and other income (expense), net decreased by $18,000 from 2011 to 2012 due primarily to a decrease in interest earned on our investment portfolio.
For the three months ended March 31, 2012, we recorded an income tax benefit of $561,000 as compared to an income tax benefit of $186,000 in the first quarter of 2011. Income tax is related to federal, state, and, to a lesser extent, foreign tax obligations. During 2011 we had recorded a full valuation allowance against our net deferred tax assets which allowance we released in the fourth quarter of 2011. The increase in the tax benefit was primarily due to the full valuation allowance in the first quarter of 2011 versus no valuation allowance in the first quarter of 2012.
Our effective tax rate may vary from period to period based on changes in estimated taxable income or loss, changes to federal, state or foreign tax laws, deductibility of certain costs and expenses, and as a result of acquisitions. For the three months ended March 31, 2012, our effective tax rate varied from the statutory tax rate primarily due to the recognition for tax purposes of stock based compensation on disqualifying dispositions of stock options that occurred during the first quarter of 2012 partially offset by the non-recognition for tax purposes of stock based compensation.
For the three months ended March 31, 2011, our income tax benefit consisted of a current income tax benefit of $265,000 and a deferred income tax expense of $79,000. The income tax benefit recorded for the three months ended March 31, 2011 related to our net loss for the period multiplied by our estimated annual effective tax rate for 2011. The deferred income tax expense related to the amortization for tax purposes of goodwill from the acquisition of Bantam Networks.
Liquidity and Capital Resources
During the first quarter of 2012 and 2011, we funded our operations with cash flows generated from operations. At March 31, 2012, our principal sources of liquidity were cash and cash equivalents and marketable securities of $143 million.
Net cash provided by operating activities was $10.9 million and $8.2 million for the three months ended March 31, 2012 and 2011, respectively. The improvement in cash flow in 2012 was due primarily to net income generated in the first quarter of 2012 versus a net loss in the first quarter of 2011, increases in the add-backs of non-cash expense items such as depreciation and amortization and stock-based compensation expense, partially offset by an increase in deferred tax assets in the first three months of 2012 as compared to the same period in 2011. Cash provided by operating activities has historically been affected by the amount of net income (loss), growth in prepaid subscriptions, changes in working capital accounts and the timing of rent payment and add-backs of non-cash expense items such as depreciation and amortization and the expense associated with stock-based awards as well as changes in deferred taxes.
Net cash provided by investing activities was $18.1 million in the three months ended March 31, 2012 as compared to net cash used in investing activities of $25.2 million for the three months ended March 31, 2011. Net cash provided by investing activities in the first three months of 2012 consisted primarily of the net cash provided by marketable securities transactions offset partially by cash paid to purchase CardStar and to acquire property and equipment. In January 2012, we completed the acquisition of CardStar, for $5.8 million. Net cash used in investing activities in the first quarter of 2011 consisted primarily of net cash used by marketable securities transactions, partially offset by cash paid to purchase substantially all of the assets of Bantam Networks and to acquire property and equipment. In February 2011, we completed the acquisition of substantially all of the assets of Bantam Networks, excluding cash, for $15.0 million. Acquisition of property and equipment of $5.5 million and $4.3 million in the three month periods ended March 31, 2012 and 2011, respectively, consisted of the purchase of computer equipment for our operations and employees, furniture and leasehold improvements and the capitalization of certain software development costs. In 2011, we transitioned to a new third-party hosting facility in California and made capital expenditures in 2011 for equipment to be used in the new facility. We made additional capital expenditures during 2012 to increase capacity of our operational equipment. We increased the amount of space we occupied under our corporate headquarters lease in 2010 and acquired property and equipment to outfit the additional space in 2011. We also acquired property and equipment to accommodate growth in our sales and support office in Colorado in 2012. During the three months ended March 31, 2012 and 2011, we capitalized $1.6 million and $724,000, respectively, of costs associated with the development of internal use software.
Net cash provided by financing activities was $3.4 million and $1.1 million for the three months ended March 31, 2012 and 2011, respectively. Net cash provided by financing activities in the first three months of both 2012 and 2011 consisted of proceeds from stock issued pursuant to the exercise of stock options as well as an income tax benefit from the exercise of stock options in the first quarter of 2012.
As of December 31, 2011, we had federal and state net operating loss carry-forwards of $48.2 million and $2.5 million, respectively, which we intend to use to the extent available, to offset payments of future federal and state income tax liabilities. If unused, our net operating loss carry-forwards expire at various dates through 2031 for federal and 2016 for state income tax purposes.
We lease our headquarters under an operating lease that is effective through September 2015 with one five-year extension option. We lease office space in Colorado for a sales and support office under an operating lease that expires in April 2019 with three three-year extension options. We also lease small amounts of general office space in Florida, New York, California and the United Kingdom under lease agreements that expire at various dates through 2014.
We have agreements with various vendors to provide specialized space and equipment and related services from which we host our software application. The agreements include payment commitments that expire at various dates through mid-2017.
As of March 31, 2012, we had issued both cancellable and non-cancellable purchase orders and entered into contractual commitments with various vendors totaling $20.8 million. This amount relates primarily to marketing programs and other non-marketing related goods and services to be delivered over the next twelve months.
The following table summarizes our contractual obligations at March 31, 2012, and the effect such obligations are expected to have on our liquidity and cash flow in future periods.
Our future capital requirements may vary materially from those now planned and will depend on many factors, including, but not limited to, development of new products, market acceptance of our products, the levels of advertising and promotion required to launch additional products and improve our competitive position in the marketplace, the expansion of our sales, support and marketing organizations, the establishment of additional offices in the United States and worldwide and the building of infrastructure necessary to support our anticipated growth, the response of competitors to our products and our relationships with suppliers and clients. Since the introduction of our on-demand email marketing product in 2000, we have experienced increases in our expenditures consistent with the growth in our operations and personnel, and we anticipate that our expenditures will continue to increase on an absolute dollar basis in the future.
We believe that our current cash, cash equivalents and marketable securities and operating cash flows will be sufficient to meet our working capital and capital expenditure requirements for at least the next twelve months. Thereafter, we may need to raise additional funds through public or private financings or borrowings to fund our operations, develop or enhance products, to fund expansion, to respond to competitive pressures or to acquire complementary products, businesses or technologies. If required, additional financing may not be available on terms that are favorable to us, or at all. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our stockholders will be reduced and these securities might have rights, preferences and privileges senior to those of our current stockholders or we may be subject to covenants that restrict how we conduct our business. No assurance can be given that additional financing will be available or that, if available, such financing can be obtained on terms favorable to our stockholders and us.
During the last three years, inflation and changing prices have not had a material effect on our business. We are unable to predict whether inflation or changing prices will materially affect our business in the foreseeable future.
Off-Balance Sheet Arrangements
We do not engage in any off-balance sheet financing activities. We do not have any interest in entities referred to as variable interest entities, which include special purpose entities and other structured finance entities.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Foreign Currency Exchange Risk. Significantly all of our revenue and expenses are denominated in U.S. dollars. Accordingly, our results of operations and cash flows are not subject to material fluctuations due to changes in foreign currency exchange rates. However, as we increase our operations in international markets we will become increasingly exposed to changes in currency exchange rates. The economic impact of currency exchange rate movements is often linked to variability in real growth, inflation, interest rates, governmental actions and other factors. These changes, if material, could cause us to adjust our financing and operating strategies.
Interest Rate Sensitivity. We had cash and cash equivalents and marketable securities of $143 million at March 31, 2012, which consisted of cash, government securities, corporate and agency bonds, commercial paper, certificates of deposit and money market instruments. Interest income is sensitive to changes in the general level of U.S. interest rates; however, due to the nature of these investments, we do not believe that we have any material exposure to changes in the fair value of our investment portfolio as a result of changes in interest rates.
Item 4. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures.
Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2012. The term disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act), means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SECs rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the companys management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance
of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of March 31, 2012, our chief executive officer and chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.
(b) Changes in Internal Control over Financial Reporting.
No change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during the three months ended March 31, 2012 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Item 1. Legal Proceedings
From time to time, we may become involved in legal proceedings arising in the ordinary course of our business. We are not presently a party to any legal proceedings that, in our opinion, would have a material adverse effect on our business, results of operations or financial condition.
Item 1A. Risk Factors
Our business is subject to numerous risks. We caution you that the following important factors, among others, could cause our actual results to differ materially from those expressed in forward-looking statements made by us or on our behalf in filings with the SEC, press releases, communications with investors and oral statements. Any or all of our forward-looking statements in this Quarterly Report on Form 10-Q and in any other public statements we make may turn out to be wrong. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Many factors mentioned in the discussion below will be important in determining future results. Consequently, no forward-looking statement can be guaranteed. Actual future results may vary materially from those anticipated in forward-looking statements. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosure we make in our reports filed with the SEC.
RISKS RELATED TO OUR BUSINESS AND INDUSTRY
If we are unable to attract new customers and retain existing customers on a cost-effective basis, our business and results of operations will be affected adversely.
To succeed, we must continue to attract and retain a large number of customers on a cost-effective basis. We rely on a variety of methods to attract new customers, such as paying providers of online services, search engines, directories and other websites to provide content, advertising banners and other links that direct customers to our website, television and radio advertising and the inclusion of a link to our website in substantially all of our customers emails. In addition, we are committed to providing our customers with a high level of support. As a result, we believe many of our new customers are referred to us by existing customers. However, customers cancel their accounts for many reasons, including economic concerns, business failure or a perception that they do not use our product effectively, the service is not a good value and that they can manage their online marketing efforts without our products. In some cases, we terminate an account because the customer fails to comply with our standard terms and conditions. As our customer base continues to grow, even if our customer retention rates remain the same on a percentage basis, the absolute number of customers we lose each month will increase. We must continually add new customers to replace customers whose accounts are cancelled or terminated, which may involve significantly higher marketing expenditures than we currently anticipate. If we are unable to use any of our current marketing initiatives or the cost of such initiatives were to significantly increase or such initiatives or our efforts to satisfy our existing customers are not successful, we may not be able to attract new customers or retain existing customers on a cost-effective basis and, as a result, our business and results of operations would be affected adversely.
Our business is substantially dependent on the market for email marketing services for small organizations.
We derive, and expect to continue to derive, a substantial portion of our revenue from our email marketing product for small organizations, including small businesses, associations and non-profits. For the year ended December 31, 2011, our revenue from our email marketing product alone was approximately 88% of our total revenue.
Widespread acceptance of email marketing among small organizations will continue to be critical to our future growth and success. There is no certainty regarding how the market for email marketing will continue to develop, or whether it will experience any significant contractions. Our ability to attract and retain customers will depend in part on our ability to make email marketing convenient, effective and affordable. If small organizations determine that email marketing does not sufficiently benefit them or utilize alternative or new electronic methods of communicating with their customers, existing customers may cancel their accounts and potential customers may decide not to adopt email marketing. If the market for email marketing services fails to continue to grow or grows more slowly than we currently anticipate, demand for our services may decline and our revenue would suffer.
Our growth strategy requires us to expand our product offerings beyond email marketing and this expansion may not be successful.
We have traditionally focused our business on providing our email marketing product for small organizations, but in the last few years we have expanded our product offerings. In 2007, we introduced our survey product and our add-on email archive service that enables our customers to archive their past email campaigns. In 2009, we launched our event marketing product. Through our acquisition of privately-held Nutshell Mail, Inc., or NutshellMail, which we completed in May 2010, we now provide a tool for small organizations to monitor and engage with social media networks. In January 2012, we launched our Social Campaigns product which allows small businesses the ability to run multi-step, results-oriented campaigns on their social networks. Also, in January 2012, we announced the acquisition of CardStar, a leading developer of mobile applications that extend the use of loyalty cards and mobile coupons among consumers. In February 2012, we announced the introduction of our new SaveLocal product, which makes it quick and easy for our customers to create, run and manage local deals. Our efforts to introduce new products beyond our email marketing product, including our event marketing and survey products, our social media marketing offerings, CardStar and the SaveLocal product, may not result in significant revenue growth, may not be complementary to our email marketing product, may not be timely, may divert management resources from our existing operations and require us to commit significant financial resources to an unproven business or product, which may harm our financial performance.
Current economic conditions may further negatively affect the small business sector, which may cause our customers to terminate existing accounts with us or cause potential customers to fail to purchase our products, resulting in a decrease in our revenue and impairing our ability to operate profitably.
Our products are designed specifically for small organizations, including small businesses, associations and non-profits. These organizations frequently have limited budgets and are often resource and time-constrained and, as a result, may be more likely to be significantly affected by economic downturns than their larger, more established counterparts. We believe that small organizations continue to experience some amount of economic hardship. As a result, small organizations may choose to spend the limited funds that they have on items other than our products and may experience higher failure rates. Moreover, if small organizations experience economic distress, they may be unwilling or unable to expend time and financial resources on marketing, which would negatively affect the overall demand for our products, increase customer attrition and could cause our revenue to decline. There can be no assurance, therefore, that current economic conditions or worsening economic conditions, or a recurring recession, will not have a significant adverse impact on our operating and financial results.
U.S. federal legislation and the laws of many foreign countries impose certain obligations on the senders of commercial emails, which could minimize the effectiveness of our products, particularly our email marketing product, and establishes financial penalties for non-compliance, which could increase the costs of our business.
The Federal Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003, or the CAN-SPAM Act, establishes certain requirements for commercial email messages and specifies penalties for the transmission of commercial email messages that are intended to deceive the recipient as to source or content. The CAN-SPAM Act, among other things, obligates the sender of commercial emails to provide recipients with the ability to opt out of receiving future emails from the sender. In addition, some states have passed laws regulating commercial email practices that are significantly more punitive and difficult to comply with than the CAN-SPAM Act, particularly Utah and Michigan, which have enacted do-not-email registries listing minors who do not wish to receive unsolicited commercial email that markets certain covered content, such as adult or other harmful products. Some portions of these state laws may not be preempted by the CAN-SPAM Act. The ability of our customers constituents to opt out of receiving commercial emails may minimize the effectiveness of our products. Moreover, non-compliance with the CAN-SPAM Act carries significant financial penalties. If we were found to be in violation of the CAN-SPAM Act, applicable state laws not preempted by the CAN-SPAM Act, or foreign laws regulating the distribution of commercial email such as the laws of Canada and the United Kingdom, whether as a result of violations by our customers or if we were deemed to be directly subject to and in violation of these requirements, we
could be required to pay penalties, which would adversely affect our financial performance and significantly harm our business, and our reputation would suffer. We also may be required to change one or more aspects of the way we operate our business, which could impair our ability to attract and retain customers or could increase our operating costs.
If the security of our customers confidential information stored in our systems is breached or otherwise subjected to unauthorized access, our reputation may be severely harmed, we may be exposed to liability and we may lose the ability to offer our customers a credit card payment option.
Our system stores our customers proprietary email distribution lists, credit card information and other critical data. Any accidental or willful security breaches or other unauthorized access could expose us to liability for the loss of such information, adverse regulatory action by federal and state governments, time-consuming and expensive litigation and other possible liabilities as well as negative publicity, which could severely damage our reputation. If security measures are breached because of third-party action, employee error, malfeasance or otherwise, or if design flaws in our software are exposed and exploited, and, as a result, a third party obtains unauthorized access to any of our customers data, our relationships with our customers will be severely damaged, and we could incur significant liability. Because techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until they are launched against a target, we and our third-party hosting facilities may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, as we continue to grow our customer base and our brand becomes more widely known and recognized, we may become a more inviting target for third parties seeking to compromise our security systems. Many states, including Massachusetts, have enacted laws requiring companies to notify individuals of data security breaches involving certain types of personal data. These mandatory disclosures regarding a security breach often lead to widespread negative publicity, which may cause our customers to lose confidence in the effectiveness of our data security measures. Any security breach, whether actual or perceived, would harm our reputation, and we could lose customers and fail to acquire new customers. In addition, if we fail to maintain our compliance with the data protection policy standards adopted by the major credit card issuers, we could lose our ability to offer our customers a credit card payment option. Any loss of our ability to offer our customers a credit card payment option would harm our reputation and make our products less attractive to many small organizations by negatively impacting our customer experience and significantly increasing our administrative costs related to customer payment processing.
Our existing general liability insurance may not cover any, or only a portion of any, potential claims related to security breaches to which we are exposed or may not be adequate to indemnify us for all or any portion of liabilities that may be imposed. Any imposition of liability that is not covered by insurance or is in excess of insurance coverage would increase our operating losses and reduce our net worth.
The market in which we participate is highly competitive and, if we do not compete effectively, our operating results could be harmed.
The market for our products is highly competitive and rapidly changing, and the barriers to entry are relatively low. With the introduction of new technologies and the influx of new entrants to the market, we expect competition to persist and intensify in the future, which could harm our ability to increase sales, limit customer attrition and maintain our prices.
Our principal email marketing competitors include providers of email marketing products for small to medium size businesses such as AWeber Systems, Inc., iContact Corporation, a subsidiary of Vocus, Inc., Protus, a subsidiary of j2 Global Communications, Inc. (Campaigner®), The Rocket Science Group LLC (MailChimp), Vertical Response, Inc. and Vistaprint N.V. These vendors typically charge a low monthly entry fee or a low fee per number of emails sent and, in some cases, they have a free offering. Competition could result in reduced sales, reduced margins or the failure of our email marketing product to achieve or maintain more widespread market acceptance, any of which could harm our business. In addition, there are a number of other vendors that are focused on providing email marketing products for larger organizations, including Alterian Inc., CheetahMail, Inc. (a subsidiary of Experian Group Limited), ExactTarget Inc., Responsys Inc., Silverpop Systems Inc. and StrongMail Systems, Inc. While we do not compete currently with vendors of email marketing products serving larger customers, we may face future competition from these providers if they determine that our target market presents an opportunity for them. Finally, in the future, our email marketing product may experience competition from Internet Service Providers, or ISPs, advertising and direct marketing agencies and other large established businesses, such as Microsoft Corporation or Google Inc., possessing large, existing customer bases, substantial financial resources and established distribution channels. If these companies decide to develop, market or resell competitive email marketing products, acquire one of our existing competitors or form a strategic alliance with one of our competitors, our ability to compete effectively could
be significantly compromised and our operating results could be harmed. In addition, one or more of these entities could decide to offer a competitive email marketing product at no cost or low cost in order to generate revenue as part of a larger product offering.
Our other products also face intense competition. Our event marketing product competes with offerings by Eventbrite, Inc., Evite, LLC (a wholly-owned, operating business of IAC/InterActiveCorp) and Regonline (a division of The Active Network, Inc.). Our Social Campaigns product competes with offerings by Offerpop Corporation, Pagemodo, a Webs Company, Vocus Social Media LLC doing business as North Social and Wildfire Interactive, Inc. Our survey product competes with similar offerings by Surveymonkey.com Corporation and Widgix, LLC doing business as SurveyGizmo. Our SaveLocal product competes with offerings by Groupon, Inc., LivingSocial, Inc., Amazon Local and Googleoffers.
Our current and potential competitors may have significantly more financial, technical, marketing and other resources than we do and may be able to devote greater resources to the development, promotion, sale and support of their products. Our current and potential competitors may have more extensive customer bases and broader customer relationships than we have. In addition, these companies may have longer operating histories and greater name recognition than we have and may be able to bundle email marketing, event marketing or survey products with other products that have already gained widespread market acceptance and offer them at no cost or low cost. These competitors may be better able to respond quickly to new technologies and to undertake more extensive marketing campaigns. If we are unable to compete with such companies, the demand for our products could substantially decline.
Any significant disruption in service on our website or in our computer systems, or in our customer support services, could result in a loss of customers.
The satisfactory performance, reliability and availability of our technology and our underlying network infrastructure are critical to our operations, level of customer service, reputation and ability to attract new customers and retain existing customers. In providing our services, we rely on third-party hosting facilities, bandwidth providers, internet service providers, or ISPs, and mobile networks. Our production system hardware and the disaster recovery operations for our production system hardware are co-located in third-party hosting facilities. These facilities do not guarantee that our customers access to our products will be uninterrupted, error-free or secure. Our operations also depend on the ability of our third-party hosting facilities to protect their and our systems against damage or interruption from natural disasters, power or telecommunications failures, air quality, temperature, humidity and other environmental concerns, computer viruses or other attempts to harm our systems, criminal acts and similar events. In the event that our third-party hosting arrangements are terminated, or there is a lapse of service or damage to these facilities, we could experience interruptions in our service as well as delays and additional expense in arranging new facilities. In addition, our customer support services, which are located at our headquarters in Waltham, Massachusetts and at our sales and support office in Loveland, Colorado, would experience interruptions as a result of any disruption of electrical, phone or any other similar facility support services. Any interruptions or delays in access to our products or customer support, whether as a result of third-party error, our own error, natural disasters, security breaches or malicious actions, such as denial-of-service or similar attacks, whether accidental or willful, could harm our relationships with customers and our reputation. Also, in the event of damage or interruption, our insurance policies may not adequately compensate us for any losses that we may incur. These factors could damage our brand and reputation, divert our employees attention, reduce our revenue, subject us to liability and cause customers to cancel their accounts, any of which could adversely affect our business, financial condition and results of operations.
Our production disaster recovery system is located at one of our third-party hosting facilities. Our corporate disaster recovery system is located at our headquarters in Waltham, Massachusetts. Neither system provides real time backup or has been tested under actual disaster conditions and neither system may have sufficient capacity to recover all data and services in the event of an outage. In the event of a disaster in which our production system hardware and the disaster recovery operations for our production system hardware are irreparably damaged or destroyed, we would experience interruptions in access to our products. Moreover, our headquarters and our production system hardware are located within several miles of each other. As a result, any regional disaster could affect these locations equally. Any or all of these events could cause our customers to lose access to our products, which will harm our business and results of operations.
If the delivery of our customers emails is limited or blocked, customers may cancel their accounts.
ISPs can block emails from reaching their users. The implementation of new or more restrictive policies by ISPs may make it more difficult to deliver our customers emails. We continually improve our own technology and work closely with ISPs to maintain our deliverability rates. If ISPs materially limit or halt the delivery of our customers
emails, or if we fail to deliver our customers emails in a manner compatible with ISPs email handling or authentication technologies or other policies, then the fees we charge for our email marketing product may not be accepted by the market, and customers may cancel their accounts. This, in turn, could harm our business and financial performance.
If we fail to promote and maintain our brand in a cost-effective manner, we may lose market share and our revenue may decrease.
We believe that developing and maintaining awareness of the Constant Contact brand in a cost-effective manner is critical to our goal of achieving widespread acceptance of our engagement marketing platform and attracting new customers. Furthermore, we believe that the importance of brand recognition will increase as competition in our industry increases. Successful promotion of our brand will depend largely on the effectiveness of our marketing efforts and the effectiveness and affordability of our products for our target customer demographic. Historically, our efforts to build our brand have involved significant expense, and it is likely that our future marketing efforts will require us to incur additional significant expenses. Such brand promotion activities may not yield increased revenue and, even if they do, any revenue increases may not offset the expenses we incur to promote our brand. If we fail to promote and maintain our brand successfully, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may lose our existing customers to our competitors or be unable to attract new customers, which would cause our revenue to decrease.
We depend on search engines to attract a significant percentage of our customers, and if those search engines change their listings or our relationship with them deteriorates or terminates, we may be unable to attract new customers, which would adversely affect our business and results of operations.
Many of our customers located our website by clicking through on search results displayed by search engines such as Google®, Yahoo®! and Bing. Search engines typically provide two types of search results, algorithmic and purchased listings. Algorithmic listings cannot be purchased, and instead are determined and displayed solely by a set of formulas designed by the search engine. Purchased listings can be purchased by advertisers in order to attract users to their websites. We rely on both algorithmic and purchased listings to attract a significant percentage of the customers we serve to our website. Search engines revise their algorithms from time to time in an attempt to optimize their search result listings. If search engines on which we rely for algorithmic listings modify their algorithms, this could result in fewer potential customers clicking through to our website, requiring us to resort to other costly resources to replace this traffic, which, in turn, could reduce our revenue and negatively impact our operating results, harming our business. If one or more search engines on which we rely for purchased listings modifies or terminates its relationship with us, our expenses could rise, or our revenue could decline and our business may suffer. The cost of purchased search listing advertising fluctuates and may increase as demand for these channels grows, and any such increases could negatively affect our financial results.
The success of our business depends on the continued growth and acceptance of email as a communications tool and the related expansion and reliability of the Internet infrastructure. If consumers do not continue to use email or alternative communications tools gain popularity, demand for our email marketing products may decline.
The future success of our business depends on the continued and widespread adoption of email as a primary means of communication. Security problems such as viruses, worms and other malicious programs or reliability issues arising from outages and damage to the Internet infrastructure could create the perception that email is not a safe and reliable means of communication, which would discourage businesses and consumers from using email. Use of email by businesses and consumers also depends on the ability of ISPs to prevent unsolicited bulk email, or spam, from overwhelming consumers inboxes. In recent years, ISPs have developed new technologies to filter unwanted messages before they reach users inboxes. In response, spammers have employed more sophisticated techniques to reach consumers inboxes. Although companies in the anti-spam industry have started to address the techniques used by spammers, if security problems become widespread or frequent or if ISPs cannot effectively control spam, the use of email as a means of communication may decline as consumers find alternative ways to communicate. In addition, if alternative communications tools gain widespread acceptance, the need for email may lessen. Any decrease in the use of email would reduce demand for our email marketing product and harm our business.
Various private spam blacklists have in the past interfered with, and may in the future interfere with, the effectiveness of our products and our ability to conduct business.
We depend on email to market to and communicate with our customers, and our customers rely on email to communicate with their customers and members. Various private entities attempt to regulate the use of email for
commercial solicitation. These entities often advocate standards of conduct or practice that significantly exceed current legal requirements and classify certain email solicitations that comply with current legal requirements as spam. Some of these entities maintain blacklists of companies and individuals, and the websites, ISPs and Internet protocol addresses associated with those entities or individuals that do not adhere to those standards of conduct or practices for commercial email solicitations that the blacklisting entity believes are appropriate. If a companys Internet protocol addresses are listed by a blacklisting entity, emails sent from those addresses may be blocked if they are sent to any Internet domain or Internet address that subscribes to the blacklisting entitys service or purchases its blacklist.
Some of our Internet protocol addresses currently are listed with one or more blacklisting entities and, in the future, our other Internet protocol addresses may also be listed with these and other blacklisting entities. There can be no guarantee that we will not continue to be blacklisted or that we will be able to successfully remove ourselves from those lists. Blacklisting of this type could interfere with our ability to market our products and services and communicate with our customers and could undermine the effectiveness of our customers marketing campaigns, all of which could have a material negative impact on our business and results of operations.
Our customers use of our products and website to transmit negative messages or website links to harmful applications in violation of our policies or otherwise could damage our reputation, and we may face liability for unauthorized, inaccurate or fraudulent information distributed via our products.
Our customers could use our products or website to transmit negative messages or website links to harmful applications, reproduce and distribute copyrighted and trademarked material without permission, or report inaccurate or fraudulent data or information. Any such use of our products could damage our reputation and we could face claims for damages, copyright or trademark infringement, defamation, negligence or fraud. Moreover, our customers promotion of their products and services through our products may not comply with federal, state and foreign laws. We cannot predict whether our role in facilitating these activities would expose us to liability under these laws. Even if claims asserted against us do not result in liability, we may incur substantial costs in investigating and defending such claims. If we are found liable for our customers activities, we could be required to pay fines or penalties, redesign business methods or otherwise expend resources to remedy any damages caused by such actions and to avoid future liability.
Our customers use of our SaveLocal product may negatively impact our reputation and could subject us to legal and regulatory risks, each of which could harm our business and results of operations.
Our brand and reputation may be harmed by our customers use of our SaveLocal product. Any shortcomings of one or more of our SaveLocal customers, particularly with respect to an issue affecting the quality of the deal offered or the products or services sold, may be attributed to us, thus damaging our reputation, brand value and potentially affecting our results of operations. In addition, negative publicity and customer sentiment generated as a result of fraudulent or deceptive conduct by our SaveLocal customers could damage our reputation, reduce our ability to attract new customers or retain our current customers, subject us to potential liability and diminish the value of our brand.
The deals offered by our SaveLocal customers may subject us to additional U.S. or international laws or regulations that could increase our costs or otherwise harm our business. The application of certain laws and regulations to SaveLocal deals and to our role in facilitating our customers offer of SaveLocal deals is uncertain. These include laws and regulations such as the Credit Card Accountability Responsibility and Disclosure Act of 2009, or the CARD Act, the laws of most states, which contain provisions governing product terms and conditions of gift cards, gift certificates, stored value or pre-paid cards or coupons and unclaimed and abandoned property laws. These laws may include provisions prohibiting or limiting the use of expiration dates on gift cards or the amount of fees charged in connection with gift cards or requiring specific disclosures on or in connection with gift cards and the imposition of certain fees. If we are required to alter our business practices as a result of any laws or regulations, our revenue could decrease, our costs could increase and our business could otherwise be harmed. In addition, the costs and expenses associated with defending any actions related to such additional laws and regulations and any payments of related penalties, judgments or settlements could adversely impact our financial results.
In addition, if any laws or regulations require that the face value of SaveLocal coupons have a minimum expiration period beyond the period desired by our SaveLocal customers for their promotional programs, or no expiration period, this may affect the willingness of our customers to use our SaveLocal product in jurisdictions where these laws apply.
Our business may be negatively impacted by seasonal trends.
Sales of our products are impacted by seasonality. Recently, the first calendar quarter has been our strongest quarter for customer growth because our prospective customers typically re-engage with their customers and members following the holiday season and, as a result, communicate more frequently with them during this time. Accordingly, we increase our sales and marketing activities at the end of the third quarter and during the fourth quarter. Our customer growth in the second and third quarters is typically slower as we move into the summer months, and in response, we moderate certain of our customer acquisition activities, which may magnify the seasonal trends. If these seasonality trends change materially, our financial and operating results for any given quarter may be negatively impacted and may differ materially from results in prior quarterly periods.
If we fail to enhance our existing products or develop new products, our products may become obsolete or less competitive and we could lose customers.
If we are unable to enhance our existing products or develop new products that keep pace with rapid technological developments and meet our customers needs, our business will be harmed. Creating and designing such enhancements and new products entail significant technical and business risks and require substantial expenditures and lead-time, and there is no guarantee that such enhancements and new products will be completed in a timely fashion, nor is there any guarantee that any new product offerings will gain acceptance among our customers or by the broader market. For example, our existing email marketing customers may not view any new product as complementary to our email product offerings and therefore decide not to purchase such product. If we cannot enhance our existing services or develop new products or if we are not successful in selling such enhancements and new products to our customers, we could lose customers or have difficulty attracting new customers, which would adversely impact our financial performance.
Our relationships with our partners may be terminated or may not continue to be beneficial in generating new customers, which could adversely affect our ability to increase our customer base.
We maintain a network of active partners, which refer customers to us through links on their websites and outbound promotion to their customers. If we are unable to maintain our contractual relationships with existing partners or establish new contractual relationships with potential partners, we may experience delays and increased costs in adding customers, which could have a material adverse effect on us. The number of customers we are able to add through these relationships is dependent on the marketing efforts of our partners over which we exercise very little control, and a significant decrease in the number of new customers generated through these relationships could adversely affect the size of our customer base and revenue.
Competition for employees in our industry is intense, and we may not be able to attract and retain the highly skilled employees whom we need to support our business.
Competition for highly skilled engineering and marketing personnel is intense and we continue to face difficulty identifying and hiring qualified personnel in certain areas of our business and in certain locations. We may not be able to hire and retain such personnel at compensation levels consistent with our existing compensation and salary structure. Many of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment. In particular, candidates making employment decisions, particularly in high-technology industries, often consider the value of any equity they may receive in connection with their employment. As a result, any significant volatility in the price of our stock may adversely affect our ability to attract or retain highly skilled engineering and marketing personnel.
In addition, we invest significant time and expense in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training their replacements and the quality of our services and our ability to serve our customers could diminish, resulting in a material adverse effect on our business.
If we fail to retain our key personnel, we may not be able to achieve our anticipated level of growth and our business could suffer.
Our future depends, in part, on our ability to attract and retain key personnel. Our future also depends on the continued contributions of our executive officers and other key technical and marketing personnel, each of whom would be difficult to replace. In particular, Gail F. Goodman, our Chairman, President and Chief Executive Officer, is critical to the management of our business and operations and the development of our strategic direction. The loss of the services of Ms. Goodman or other executive officers or key personnel and the process to replace any of our key personnel would involve significant time and expense, may take longer than anticipated and may significantly delay or prevent the achievement of our business objectives.
We rely on third-party computer hardware and software that may be difficult to replace or that could cause errors or failures of our service and that requires us to closely monitor our usage to ensure that we remain in compliance with any applicable licensing requirements.
We rely on computer hardware purchased and software licensed from third parties in order to offer our products, including hardware and software from such large vendors as International Business Machines Corporation, Dell Computer Corporation, 3PAR Inc., a division of the Hewlett-Packard Company, Oracle Corporation, Juniper Networks, Inc., Cisco Systems, Inc., Ciena Corporation and EMC Corporation. This hardware and software may not continue to be available on commercially reasonable terms, or at all. If we lose the right to use any of this hardware or software or such hardware or software malfunctions, our customers could experience delays or be unable to access our services until we can obtain and integrate equivalent technology or repair the cause of the malfunctioning hardware or software. Any delays or failures associated with our services could upset our customers and harm our business. In addition, if we fail to remain in compliance with the licensing requirements related to any third-party computer hardware and software we use, we may be subject to unanticipated expenses, auditing costs, penalties and the loss of such hardware and software, all of which could have a material adverse effect on our financial condition and results of operations.
If we are unable to protect the confidentiality of our unpatented proprietary information, processes and know-how and trade secrets, the value of our technology and products could be adversely affected.
We rely heavily upon unpatented proprietary technology, processes and know-how and trade secrets. Although we try to protect this information in part by executing confidentiality agreements with our employees, consultants and third parties, such agreements may offer only limited protection and may be breached. Any unauthorized disclosure or dissemination of our proprietary technology, processes and know-how or our trade secrets, whether by breach of a
confidentiality agreement or otherwise, may cause irreparable harm to our business, and we may not have adequate remedies for any such breach. In addition, our trade secrets may otherwise be independently developed by our competitors or other third parties. If we are unable to protect the confidentiality of our proprietary information, processes and know-how or our trade secrets are disclosed, the value of our technology and services could be adversely affected, which could negatively impact our business, financial condition and results of operations.
Our use of open source software could impose limitations on our ability to commercialize our products.
We incorporate open source software into our products. Although we monitor our use of open source software closely, the terms of many open source licenses to which we are subject have not been interpreted by United States or foreign courts, and there is a risk that such licenses could be construed in a manner that imposes unanticipated conditions or restrictions on our ability to commercialize our products. In such event, we could be required to seek licenses from third parties in order to continue offering our products, to re-engineer our products or to discontinue sales of our products, or to release our software code under the terms of an open source license, any of which could materially adversely affect our business. Given the nature of open source software, there is also a risk that third parties may assert copyright and other intellectual property infringement claims against us based on our use of certain open source software programs.
If a third party asserts that we are infringing its intellectual property, whether successful or not, it could subject us to costly and time-consuming litigation or require us to obtain expensive licenses, and our business may be adversely affected.
The software and Internet industries are characterized by the existence of a large number of patents, trademarks and copyrights and by frequent litigation based on allegations of infringement or other violations of intellectual property rights. Third parties may assert patent and other intellectual property infringement claims against us in the form of lawsuits, letters or other forms of communication. These claims, whether or not successful, could:
As a result, any third-party intellectual property claims against us could increase our expenses and adversely affect our business. In addition, many of our agreements with our partners and others require us to indemnify them for third-party intellectual property infringement claims, which would increase the cost to us resulting from an adverse ruling on any such claim. Even if we have not infringed any third parties intellectual property rights, we cannot be sure our legal defenses will be successful, and even if we are successful in defending against such claims, our legal defense could require significant financial resources and management time. Finally, if a third party successfully asserts a claim that our products infringe its proprietary rights, royalty or licensing agreements might not be available on terms we find acceptable or at all and we may be required to pay significant monetary damages to such third party.
Our anticipated growth could strain our personnel resources and infrastructure, and if we are unable to implement appropriate controls and procedures to manage our anticipated growth, we may not be able to implement our business plan successfully.
We are currently experiencing a period of rapid growth in our headcount and operations, which has placed, and will continue to place, to the extent that we are able to sustain such growth, a significant strain on our management and our administrative, operational and financial reporting infrastructure. Our success will depend in part on the ability of our senior management to manage this expected growth effectively. To do so, we believe we will need to continue to hire, train and manage new employees as needed. If our new hires perform poorly, or if we are unsuccessful in hiring, training, managing and integrating these new employees, or if we are not successful in retaining our existing employees, our business may be harmed. To manage the expected growth of our operations and personnel, we will need to continue to improve our operational and financial controls and update our reporting procedures and systems. The expected addition of new employees and the capital investments that we anticipate will be necessary to manage our anticipated growth will increase our cost base, which will make it more difficult for us to offset any future revenue shortfalls by reducing expenses in the short term. If we fail to manage our anticipated growth successfully, we will be unable to execute our business plan successfully.
Providing our products to customers outside the United States exposes us to risks inherent in international business.
Customers in more than 180 countries and territories currently use our products. In 2011, we opened a marketing office in the United Kingdom and we expect to continue to expand our international operations in the future. Accordingly, we are subject to risks and challenges that we would otherwise not face if we conducted our business only in the United States. The risks and challenges associated with providing our products to customers outside the United States include:
If we fail to meet these risks and challenges, we will be unable to execute our business plan and may be subject to fines and regulatory actions.
We have incurred net losses in the past and may incur net losses in the future.
We have incurred net losses in the past and may incur net losses in the future. We reported net income for 2011 and 2010, however, we experienced net losses in prior years. While we expect to generate future profitability, we may experience net losses in future periods and there is no guarantee we will be profitable in the future. In addition, we expect our operating expenses to increase as we expand our operations. If our operating expenses exceed our expectations, our financial performance could be adversely affected. If our revenue does not grow to offset these increased expenses, we may not be profitable in any future period. In future periods, we may not have any revenue growth, or our revenue could decline.
Failure to maintain effective internal control over financial reporting and disclosure controls and procedures would have a material adverse effect on our business.
The Sarbanes-Oxley Act of 2002 requires, among other things, that we maintain effective internal control over financial reporting and disclosure controls and procedures. In order to comply with Section 404 of the Sarbanes-Oxley Acts requirements relating to internal control over financial reporting, we incur substantial accounting expense and expend significant management time on compliance-related issues. We expect to continue to incur such expenses and expend such time in the future. If in the future we are not able to comply with the requirements of Section 404 in a timely manner, or if we or our independent registered public accounting firm identify deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, the market price of our stock would likely decline and we could be subject to sanctions or investigations by the NASDAQ Stock Market, the SEC or other regulatory authorities, which would require additional financial and management resources.
Our ability to use net operating loss carry-forwards in the United States may be limited.
As of December 31, 2011, we had net operating loss carry-forwards of $48.2 million for U.S. federal tax purposes and $2.5 million for state tax purposes. These loss carry-forwards expire at varying dates between 2012 and 2031. To the extent available, we intend to use these net operating loss carry-forwards to reduce the corporate income tax liability associated with our operations. Section 382 of the Internal Revenue Code of 1986, as amended, generally imposes an annual limitation on the amount of net operating loss carry-forwards that may be used to offset taxable income when a corporation has undergone significant changes in stock ownership. While we do not believe that our public stock offerings and prior private financings have resulted in ownership changes that would limit our ability to utilize net operating loss carry-forwards, any subsequent ownership changes could result in such a limitation. To the extent our use of net operating loss carry-forwards is significantly limited, our income could be subject to corporate income tax earlier than it would if we were able to use net operating loss carry-forwards, which could have a negative effect on our financial results.
Our quarterly results may fluctuate and if we fail to meet the expectations of analysts or investors, our stock price could decline substantially.
Our quarterly operating results may fluctuate, and if we fail to meet or exceed the expectations of securities analysts or investors, the trading price of our common stock could decline. Some of the important factors that could cause our revenue and operating results to fluctuate from quarter to quarter include:
Some of these factors are not within our control, and the occurrence of one or more of them may cause our operating results to vary widely. As such, we believe that quarter-to-quarter comparisons of our revenue and operating results may not be meaningful and should not be relied upon as an indication of future performance.
We may need additional capital in the future, which may not be available to us on favorable terms, or at all, and may dilute the ownership of our existing stockholders.
We have historically relied on outside financing and cash from operations to fund our operations, capital expenditures and growth. We may require additional capital from equity or debt financing in the future to:
We may not be able to secure timely additional financing on favorable terms, or at all. The terms of any additional financing may place limits on our financial and operating flexibility. If we raise additional funds through issuances of equity, convertible debt securities or other securities convertible into equity, our existing stockholders could suffer significant dilution, and any new securities we issue could have rights, preferences and privileges senior to those of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us, if and when we require it, our ability to grow or support our business and to respond to business challenges could be significantly limited.
We may engage in future acquisitions that could disrupt our business, dilute stockholder value and harm our business, operating results or financial condition.
We have completed four acquisitions in the past two years, including our most recent acquisition of CardStar in January 2012. We have, from time to time, evaluated other acquisition opportunities and may pursue acquisition opportunities in the future. Acquisitions involve numerous risks, including:
In addition, any acquisitions we complete may not ultimately strengthen our competitive position or achieve our goals, or such an acquisition may be viewed negatively by our customers, stockholders or the financial markets.
RISKS RELATED TO THE OWNERSHIP OF OUR COMMON STOCK
The market price of our common stock has been and may continue to be volatile.
The trading price of our common stock has been and may continue to be highly volatile and could be subject to wide fluctuations in response to various factors. Some of the factors that may cause the market price of our common stock to fluctuate include:
In addition, if the market for technology stocks or the stock market in general experiences a loss of investor confidence, the trading price of our common stock could decline for reasons unrelated to our business, financial condition or results of operations. If any of the foregoing occurs, it could cause our stock price to fall and may expose us to class action lawsuits that, even if unsuccessful, could be costly to defend and a distraction to management.
If securities or industry analysts do not continue to publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.
The trading market for our common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. We do not control these analysts. If one or more of the analysts who covers us downgrades our stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of our company or fails to publish reports on us regularly, demand for our stock could decrease, which could cause our stock price and trading volume to decline.
Anti-takeover provisions in our charter documents and Delaware law could discourage, delay or prevent a change of control of our company and may affect the trading price of our common stock.
We are a Delaware corporation and the anti-takeover provisions of the Delaware General Corporation Law may discourage, delay or prevent a change of control by prohibiting us from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change of control would be beneficial to our existing stockholders. In addition, our restated certificate of incorporation and second amended and restated bylaws may discourage, delay or prevent a change in our management or control over us that stockholders may consider favorable. Among other things, our restated certificate of incorporation and second amended and restated bylaws:
We do not currently intend to pay dividends on our common stock and, consequently, the ability to achieve a return on an investment in our common stock will depend on appreciation in the price of our common stock.
We do not expect to pay cash dividends on our common stock. Any future dividend payments are within the absolute discretion of our board of directors and will depend on, among other things, our results of operations, working capital requirements, capital expenditure requirements, financial condition, contractual restrictions, business opportunities, anticipated cash needs, provisions of applicable law and other factors that our board of directors may deem relevant. We may not generate sufficient cash from operations in the future to pay dividends on our common stock.
Item 6. Exhibits The exhibits listed in the Exhibit Index immediately preceding the exhibits are filed (other than exhibit 32.1 and exhibit 32.2 and each of exhibits 101.INS, 101.SCH, 101.CAL, 101.LAB, 101.PRE and 101.DEF) as part of this Quarterly Report on Form 10-Q and such Exhibit Index is incorporated herein by reference.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Listed and indexed below are all Exhibits filed as part of this report.