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EX-32.2 - EXHIBIT 32.2 - BROADSOFT, INC.bsft-2016930xex322.htm
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EX-31.2 - EXHIBIT 31.2 - BROADSOFT, INC.bsft-2016930xex312.htm
EX-31.1 - EXHIBIT 31.1 - BROADSOFT, INC.bsft-2016930xex311.htm

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549 
________________________________________________________________________
FORM 10-Q 
________________________________________________________________________

x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2016
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-34777 
________________________________________________________________________
BroadSoft, Inc.
(Exact name of registrant as specified in its charter)
________________________________________________________________________
Delaware
 
52 2130962
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
9737 Washingtonian Boulevard, Suite 350
Gaithersburg, MD
 
20878
(Address of principal executive offices)
 
(Zip Code)
(301) 977-9440
(Registrant’s telephone number, including area code)
________________________________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  o
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.
Large accelerated filer
 
x
 
Accelerated filer
 
o
Non-accelerated filer
 
o  (Do not check if a smaller reporting company)
 
Smaller reporting company
 
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  x
The number of shares outstanding of the Registrant’s common stock, par value $0.01 per share, on October 27, 2016, was 30,143,503.
 



BroadSoft, Inc.
FORM 10-Q
TABLE OF CONTENTS
 
 
Page
PART I. FINANCIAL INFORMATION
 
 
PART II. OTHER INFORMATION
 

 

2


PART I. Financial Information
ITEM 1.
Financial Statements
BroadSoft, Inc.
Unaudited Condensed Consolidated Balance Sheets 
 
September 30,
2016
 
December 31,
2015
 
(In thousands, except share
and per share data)
Assets:
Current assets:
 
 
 
Cash and cash equivalents
$
100,047

 
$
175,857

Short-term investments
149,354

 
72,531

Accounts receivable, net of allowance for doubtful accounts of $207 and $85 at September 30, 2016 and December 31, 2015, respectively
104,521

 
108,113

Other current assets
15,650

 
13,155

Total current assets
369,572

 
369,656

Long-term assets:
 
 
 
Property and equipment, net
19,948

 
19,481

Long-term investments
117,807

 
102,385

Intangible assets, net
21,805

 
18,835

Goodwill
79,710

 
72,275

Deferred tax assets
10,917

 
1,661

Other long-term assets
7,397

 
8,081

Total long-term assets
257,584

 
222,718

Total assets
$
627,156

 
$
592,374

Liabilities and stockholders' equity:
Current liabilities:
 
 
 
Accounts payable and accrued expenses
$
32,102

 
$
28,667

Deferred revenue, current
96,034

 
106,483

Total current liabilities
128,136

 
135,150

Convertible senior notes
197,759

 
188,331

Deferred revenue
6,015

 
4,571

Other long-term liabilities
6,078

 
7,289

Total liabilities
337,988

 
335,341

Commitments and contingencies (Note 10)

 

Stockholders’ equity:
 
 
 
Preferred stock, $0.01 par value per share; 5,000,000 shares authorized at September 30, 2016 and December 31, 2015; no shares issued and outstanding at September 30, 2016 and December 31, 2015

 

Common stock, par value $0.01 per share; 100,000,000 shares authorized at September 30, 2016 and December 31, 2015; 30,069,633 and 29,080,197 shares issued and outstanding at September 30, 2016 and December 31, 2015, respectively.
301

 
291

Additional paid-in capital
372,201

 
333,153

Accumulated other comprehensive loss
(17,009
)
 
(13,810
)
Accumulated deficit
(66,325
)
 
(62,601
)
Total stockholders’ equity
289,168

 
257,033

Total liabilities and stockholders’ equity
$
627,156

 
$
592,374

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

3


BroadSoft, Inc.
Unaudited Condensed Consolidated Statements of Operations
 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands, except per share data)
Revenue:
 
 
 
 
 
 
 
License software
$
31,486

 
$
31,343

 
$
95,992

 
$
84,370

Subscription and maintenance support
36,509

 
29,828

 
106,348

 
82,263

Professional services and other
16,127

 
7,926

 
36,639

 
22,619

Total revenue
84,122

 
69,097

 
238,979

 
189,252

Cost of revenue:
 
 
 
 
 
 
 
License software
1,799

 
2,444

 
5,697

 
7,984

Subscription and maintenance support
11,894

 
9,787

 
34,060

 
28,958

Professional services and other
10,060

 
9,429

 
27,340

 
20,949

Total cost of revenue
23,753

 
21,660

 
67,097

 
57,891

Gross profit
60,369

 
47,437

 
171,882

 
131,361

Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
26,112

 
20,738

 
75,386

 
59,852

Research and development
19,931

 
14,974

 
58,120

 
45,524

General and administrative
12,759

 
10,955

 
36,675

 
31,366

Total operating expenses
58,802

 
46,667

 
170,181

 
136,742

Income (loss) from operations
1,567

 
770

 
1,701

 
(5,381
)
Other expense:
 
 
 
 
 
 
 
Interest expense
3,959

 
2,848

 
11,738

 
6,864

Interest income
(683
)
 
(323
)
 
(1,950
)
 
(819
)
Other, net
(207
)
 
4,089

 
(533
)
 
5,312

Total other expense, net
3,069

 
6,614

 
9,255

 
11,357

Loss before income taxes
(1,502
)
 
(5,844
)
 
(7,554
)
 
(16,738
)
Benefit from income taxes
(897
)
 
(2,593
)
 
(2,545
)
 
(5,294
)
Net loss
$
(605
)
 
$
(3,251
)
 
$
(5,009
)
 
$
(11,444
)
Net loss per common share:
 
 
 
 
 
 
 
Basic and diluted
$
(0.02
)
 
$
(0.11
)
 
$
(0.17
)
 
$
(0.39
)
Weighted average common shares outstanding:
 
 
 
 
 
 
 
Basic and diluted
29,878

 
29,322

 
29,491

 
29,182

Stock-based compensation expense included above:
 
 
 
 
 
 
 
Cost of revenue
$
2,225

 
$
1,901

 
$
6,118

 
$
5,287

Sales and marketing
4,973

 
2,812

 
13,321

 
10,048

Research and development
4,249

 
2,428

 
11,414

 
8,933

General and administrative
2,574

 
2,016

 
7,454

 
6,119

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

4


BroadSoft, Inc.
Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss)

 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands)
Net loss
$
(605
)
 
$
(3,251
)
 
$
(5,009
)
 
$
(11,444
)
Other comprehensive loss, net of tax:
 
 
 
 
 
 
 
Foreign currency translation adjustment
(637
)
 
(1,133
)
 
(4,171
)
 
(3,118
)
Unrealized gain (loss) on investments
(172
)
 
112

 
972

 
155

Total other comprehensive loss, net of tax
(809
)
 
(1,021
)
 
(3,199
)
 
(2,963
)
Comprehensive loss
$
(1,414
)
 
$
(4,272
)
 
$
(8,208
)
 
$
(14,407
)
The accompanying notes are an integral part of these condensed consolidated financial statements.

5


BroadSoft, Inc.
Unaudited Condensed Consolidated Statements of Stockholders’ Equity
(In thousands, except per share data)

 
Total
Stockholders’
Equity
 
Common Stock Par
Value $0.01 Per Share
 
Additional
Paid-in
Capital
 
Accumulated
Other
Comprehensive
Loss
 
Accumulated
Deficit
 
Shares
 
Amount
 
Balance December 31, 2015
$
257,033

 
29,080

 
$
291

 
$
333,153

 
$
(13,810
)
 
$
(62,601
)
Issuance of common stock for exercise of stock options and vesting of RSUs and PSUs, net of effect of withholding tax
828

 
990

 
10

 
818

 

 

Stock-based compensation expense
38,106

 

 

 
38,106

 

 

Tax windfall benefits on exercises of stock options
1,409

 

 

 
124

 

 
1,285

Foreign currency translation adjustment
(4,171
)
 

 

 

 
(4,171
)
 

Unrealized gain on investments
972

 

 

 

 
972

 

Net loss
(5,009
)
 

 

 

 

 
(5,009
)
Balance September 30, 2016
$
289,168

 
30,070

 
$
301

 
$
372,201

 
$
(17,009
)
 
$
(66,325
)
Balance December 31, 2014
$
212,961

 
28,943

 
$
290

 
$
258,169

 
$
(7,712
)
 
$
(37,786
)
Issuance of common stock for exercise of stock options and vesting of RSUs, net of effect of early exercises and withholding tax
(4,539
)
 
640

 
6

 
(4,545
)
 

 

Repurchase of common stock
(25,002
)
 
(791
)
 
(8
)
 

 
 
 
(24,994
)
Equity component of 2022 convertible senior notes issuance, net of issuance costs
67,792

 

 

 
67,792

 

 

Equity component of 2018 convertible senior notes repurchase
(6,751
)
 

 

 
(6,751
)
 

 

Deferred tax liability related to convertible senior notes, net
(23,446
)
 

 

 
(23,446
)
 

 

Stock-based compensation expense
30,595

 

 

 
30,595

 

 

Tax shortfall on exercise of stock options
(753
)
 

 

 
(753
)
 

 

Foreign currency translation adjustment
(3,118
)
 

 

 

 
(3,118
)
 

Unrealized gain on investments
155

 

 

 

 
155

 

Net loss
(11,444
)
 

 

 

 

 
(11,444
)
Balance September 30, 2015
$
236,450

 
28,792

 
$
288

 
$
321,061

 
$
(10,675
)
 
$
(74,224
)
The accompanying notes are an integral part of these condensed consolidated financial statements.

6


BroadSoft, Inc.
Unaudited Condensed Consolidated Statements of Cash Flows

 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
(In thousands)
Cash flows from operating activities:
 
 
 
Net loss
$
(5,009
)
 
$
(11,444
)
Adjustment to reconcile net loss income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
13,293

 
11,844

Amortization of software licenses
2,423

 
2,614

Stock-based compensation expense
38,307

 
30,387

Provision for doubtful accounts
207

 
6

Benefit from deferred income taxes
(5,923
)
 
(5,585
)
Excess tax benefit related to stock-based compensation
(197
)
 
(1,247
)
Non-cash interest expense on convertible senior notes
9,428

 
5,441

Payment of original convertible senior notes issuance discount

 
(1,094
)
Changes in operating assets and liabilities, net of acquisitions:
 
 
 
Accounts receivable
4,788

 
(18,005
)
Other current and long-term assets
(3,493
)
 
(6,718
)
Accounts payable, accrued expenses and other long-term liabilities
3,049

 
4,324

Current and long-term deferred revenue
(9,133
)
 
7,723

Net cash provided by operating activities
47,740

 
18,246

Cash flows from investing activities:
 
 
 
Additions to property and equipment
(10,377
)
 
(10,813
)
Payments for acquisitions, net of cash acquired
(21,427
)
 
(17,733
)
Purchases of marketable securities
(207,896
)
 
(155,333
)
Proceeds from sale of marketable securities
73,251

 
101,933

Proceeds from maturities of marketable securities
42,400

 
57,251

Net cash used in investing activities
(124,049
)
 
(24,695
)
Cash flows from financing activities:
 
 
 
Proceeds from the exercise of stock options
13,866

 
2,983

Taxes paid on vesting of RSUs
(13,038
)
 
(7,522
)
Excess tax benefit related to stock-based compensation
197

 
1,247

Repurchase of common stock

 
(25,002
)
Proceeds from issuance of 2022 convertible senior notes, net of issuance costs

 
194,822

Repurchase of 2018 convertible senior notes

 
(48,601
)
Net cash provided by financing activities
1,025

 
117,927

Effect of exchange rate changes on cash and cash equivalents
(526
)
 
(1,184
)
Net increase (decrease) in cash and cash equivalents
(75,810
)
 
110,294

Cash and cash equivalents, beginning of period
175,857

 
101,543

Cash and cash equivalents, end of period
$
100,047

 
$
211,837

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

7

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements




1. Nature of Business
BroadSoft, Inc. (“BroadSoft” or the “Company”), a Delaware corporation, was formed in 1998. The Company is the leading global provider of software and services that enable telecommunications service providers to deliver hosted, cloud-based Unified Communications, or UC, to their enterprise customers.
2. Financial Statement Presentation
Principles of Consolidation
The accompanying unaudited condensed consolidated financial statements include the accounts and results of operations of the Company and its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated in the accompanying unaudited condensed consolidated financial statements.
Interim Financial Presentation
The accompanying unaudited condensed consolidated financial statements and footnotes have been prepared in accordance with United States generally accepted accounting principles (“U.S. GAAP”) as contained in the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification for interim financial information and Article 10 of Regulation S-X issued by the United States Securities and Exchange Commission (the “SEC”). Accordingly, they do not include all the information and footnotes required by U.S. GAAP for annual fiscal reporting periods. In the opinion of management, the interim financial information includes all adjustments of a normal recurring nature necessary for a fair statement of the financial position, results of operations, comprehensive income (loss), changes in stockholders’ equity and cash flows. The results of operations for the three and nine months ended September 30, 2016 are not necessarily indicative of results that may be expected for the year ending December 31, 2016 or any other period. The accompanying condensed consolidated financial statements are unaudited and should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Form 10-K for the fiscal year ended December 31, 2015 filed with the SEC on February 29, 2016.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual amounts could differ from these estimates.
Recent Accounting Pronouncements
In May 2014, the FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers: Topic 606 ("ASU 2014-09"), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The standard's core principle is to recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services. The standard defines a five step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. The standard allows entities to apply either of two adoption methods: (a) retrospective application to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU 2014-09; or (b) retrospective application with the cumulative effect of initially applying the standard recognized at the date of initial application and providing certain additional disclosures as defined per ASU 2014-09. In August 2015, the FASB issued Accounting Standards Update 2015-14, Revenue from Contracts with Customers: Topic 606 ("ASU 2015-14"), which defers the effective date for ASU 2014-09 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The Company is evaluating the impact of adopting this new standard on its financial statements and the method of adoption.
In February 2016, the FASB issued Accounting Standards Update 2016-02, Leases: Topic 842 ("ASU 2016-02"), which provides updated guidance on lease accounting. ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018, including interim periods within that annual period, with early adoption permitted. The Company is evaluating the impact of adopting this new standard on its financial statements.

8


In March 2016, the FASB issued Accounting Standards Update 2016-09, Compensation-Stock Compensation: Topic 718 ("ASU 2016-09"), which provides updated guidance on several aspects of the accounting for share-based payment transactions. ASU 2016-09 is effective for annual reporting periods beginning after December 15, 2016, including interim periods within those annual periods, with early adoption permitted. The Company expects to adopt this guidance on January 1, 2017 and is evaluating the impact of this guidance on its financial statements.
3. Investments and Fair Value Disclosures
Investments in Marketable Securities
Marketable securities that the Company does not intend to hold to maturity are classified as available-for-sale, are carried at fair value and are included on the Company’s balance sheet as either short-term or long-term investments depending on their maturity. Investments with original maturities greater than three months that mature less than one year from the consolidated balance sheet date are classified as short-term investments. Investments with maturities greater than one year from the consolidated balance sheet date are classified as long-term investments. Available-for-sale investments are marked-to-market at the end of each reporting period, with unrealized holding gains or losses, which represent temporary changes in the fair value of the investment, reflected in accumulated other comprehensive loss, a separate component of stockholders’ equity. The Company’s primary objective when investing excess cash is preservation of principal. The following table summarizes the Company’s investments:
 
September 30, 2016
 
Contracted Maturity
 
Carrying Value
 
 
 
(in thousands)
Money market funds
demand
 
$
43,405

Total cash equivalents
 
 
$
43,405

 
 
 
 
U.S. agency notes
70 - 365 days
 
$
59,706

Commercial paper
25 - 62 days
 
16,678

Corporate bonds
19 - 348 days
 
69,462

Asset-backed securities
199 days
 
3,508

Total short-term investments
 
 
$
149,354

 
 
 
 
U.S. agency notes
380 - 562 days
 
$
84,212

Corporate bonds
370 - 572 days
 
33,595

Total long-term investments
 
 
$
117,807


The following table summarizes the Company's investments at September 30, 2016 (in thousands):
 
Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Fair Value
U.S. agency notes
$
143,893

 
$
53

 
$
(28
)
 
$
143,918

Commercial paper
16,678

 

 

 
16,678

Corporate bonds
102,901

 
186

 
(30
)
 
103,057

Asset-backed securities
3,504

 
4

 

 
3,508

Total investments
$
266,976

 
$
243

 
$
(58
)
 
$
267,161






9

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



The following table summarizes the Company's investments at December 31, 2015 (in thousands):
 
Cost
 
Gross Unrealized Gains
 
Gross Unrealized Losses
 
Fair Value
U.S. agency notes
$
83,977

 
$

 
$
(334
)
 
$
83,643

Corporate bonds
91,537

 
2

 
(266
)
 
91,273

Total investments
$
175,514

 
$
2

 
$
(600
)
 
$
174,916

Fair Value
The following table summarizes the carrying and fair value of the Company’s financial assets (in thousands):
 
September 30, 2016
  
December 31, 2015
 
Carrying Value
 
Fair Value
 
Carrying Value
 
Fair Value
Assets
 
  
 
  
 
  
 
Cash equivalents*
$
43,405

   
$
43,405

   
$
123,170

   
$
123,170

Short and long-term investments
267,161

 
267,161

 
174,916

 
174,916

Total assets
$
310,566

   
$
310,566

   
$
298,086

   
$
298,086

* Excludes $56.6 million and $52.7 million of operating cash balances as of September 30, 2016 and December 31, 2015, respectively.
The carrying amounts of the Company’s other financial instruments, accounts receivable, accounts payable and accrued expenses, approximate their respective fair values due to their short-term nature. (See Note 8 Borrowings for additional information on the fair value of debt.)
The Company uses a three-tier fair value measurement hierarchy to classify and disclose all assets and liabilities measured at fair value on a recurring basis, as well as assets and liabilities measured at fair value on a non-recurring basis, in periods subsequent to their initial measurement. The three tiers are defined as follows:
Level 1. Observable inputs based on unadjusted quoted prices in active markets for identical instruments and include the Company’s investments in money market funds and certificates of deposit;
Level 2. Inputs valued using quoted market prices for similar instruments, nonbinding market prices that are corroborated by observable market data and include the Company’s investments and marketable securities in U.S. agency notes, commercial paper, corporate bonds and asset-backed securities; and
Level 3. Unobservable inputs for which there is little or no market data, which require the Company to develop its own assumptions.

10

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



Assets Measured at Fair Value on a Recurring Basis
The Company evaluates its financial assets subject to fair value measurements on a recurring basis to determine the appropriate level of classification for each reporting period. This determination requires significant judgments to be made. There were no transfers between classification levels during the periods. The following tables summarize the values (in thousands):
 
September 30,
2016
 
Level 1
 
Level 2
 
Level 3
Money market funds
$
43,405

 
$
43,405

 
$

 
$

Total cash equivalents*
43,405

 
43,405

 

 

U.S. agency notes
143,918

 

 
143,918

 

Commercial paper
16,678

 

 
16,678

 

Corporate bonds
103,057

 

 
103,057

 

Asset-backed securities
3,508

 

 
3,508

 

Total investments
267,161

 

 
267,161

 

Total cash equivalents and investments
$
310,566

 
$
43,405

 
$
267,161

 
$

 
 
 
 
 
 
 
 
 
December 31, 2015
 
Level 1
 
Level 2
 
Level 3
Money market funds
$
123,170

 
$
123,170

 
$

 
$

Total cash equivalents*
123,170

 
123,170

 

 

U.S. agency notes
83,643

 

 
83,643

 

Corporate bonds
91,273

 

 
91,273

 

Total investments
174,916

 

 
174,916

 

Total cash equivalents and investments
$
298,086

 
$
123,170

 
$
174,916

 
$

* Excludes $56.6 million and $52.7 million of operating cash balances as of September 30, 2016 and December 31, 2015, respectively.
Assets Measured at Fair Value on a Nonrecurring Basis
The Company measures certain assets, including property and equipment, goodwill and intangible assets, at fair value on a nonrecurring basis. These assets are recognized at fair value when they are deemed to be impaired. During the nine months ended September 30, 2016 and 2015, there were no assets or liabilities measured at fair value on a nonrecurring basis after initial recognition.
4. Acquisitions
Transera Communications, Inc.
On February 4, 2016, the Company completed its acquisition of all of the stock of Transera Communications, Inc. ("Transera"), which was renamed BroadSoft Contact Center, Inc. Transera provides cloud-based contact center software and the acquisition enables the Company to offer its customers a comprehensive cloud contact center solution that is complementary to, and integrates with, its BroadWorks and BroadCloud platform. The total consideration paid for Transera was $19.8 million, which was funded with cash on hand. The Company incurred $0.5 million of transaction costs for financial advisory and legal services related to the acquisition, which costs are included in general and administrative expenses as incurred, in the Company’s condensed consolidated statements of operations.
The condensed consolidated financial statements include the results of Transera from the date of acquisition. The purchase price has been allocated to the assets acquired and liabilities assumed based on fair values as of the acquisition date.

11

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



The following table summarizes the fair value of the assets acquired and liabilities assumed at the acquisition date of February 4, 2016 (in thousands):
    
Cash and cash equivalents
$
365

Accounts receivable
1,623

Prepaid and other assets
285

Property and equipment
155

Deferred tax assets
3,495

Trade name
160

Customer relationships
4,100

Developed technology
3,050

Goodwill
7,826

Deferred revenue
(111
)
Accounts payable and accrued expenses
(1,148
)
          Total consideration
$
19,800

The trade name represents the fair value of the Transera trade name that the Company intends to use for a fixed period of time. Customer relationships represent the fair value of the underlying relationships and agreements with Transera customers. Developed technology represents the fair value of Transera's intellectual property. The trade name, customer relationships and developed technology are being amortized on a straight-line basis over a period of three years, seven years and five years, respectively, which in general reflects the estimated cash flows to be generated from such assets. The weighted-average amortization period for depreciable intangible assets acquired is approximately six years.
The excess of purchase consideration over the fair value of the net tangible and identifiable intangible assets acquired of $7.8 million was recorded as goodwill. The goodwill balance is attributable to the assembled workforce and the synergies expected as a result of the acquisition. In accordance with U.S. GAAP, goodwill associated with this acquisition will not be amortized but will be tested for impairment on an annual basis. Goodwill associated with this acquisition is not deductible for tax purposes.
Pro Forma Financial Information for Acquisition of Transera (unaudited)
Transera contributed revenue of $5.7 million and a net loss of $2.8 million for the period from the date of acquisition to September 30, 2016.
The unaudited pro forma statement of operations data below gives effect to the acquisition of Transera as if it had occurred on January 1, 2015. The following data includes adjustments for amortization of intangible assets and acquisition costs. This pro forma data is presented for information purposes only and does not purport to be indicative of the results of future operations or of the results that would have occurred had the acquisition taken place on January 1, 2015.
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands, except per share data)
Revenue
$
85,326

 
$
71,597

 
$
240,183

 
$
196,388

Net loss
(179
)
 
(3,909
)
 
(4,693
)
 
(12,677
)
Net loss per share:
 
 
 
 
 
 
 
Basic
$
(0.01
)
 
$
(0.13
)
 
$
(0.16
)
 
$
(0.43
)
Diluted
$
(0.01
)
 
$
(0.13
)
 
$
(0.16
)
 
$
(0.43
)

12

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



5. Goodwill
The following table provides a summary of the changes in the carrying amounts of goodwill (in thousands):
Balance as of December 31, 2015
$
72,275

Increase in goodwill related to acquisitions
8,604

Other
(1,169
)
Balance as of September 30, 2016
$
79,710

The increase in goodwill related to acquisitions consists of $7.8 million of goodwill related to the acquisition of Transera in February 2016, $1.0 million of goodwill related to the acquisition of an enterprise messaging-based team communication and collaboration software application company in May 2016 and a $(0.2) million measurement period adjustment related to a cloud-based communications provider in Japan acquired in November 2015. Any change in the goodwill amounts resulting from foreign currency translations are presented as “Other” in the above table.
6. Deferred Revenue
Deferred revenue represents amounts billed to or collected from customers for which the related revenue has not been recognized because one or more of the revenue recognition criteria have not been met. The current portion of deferred revenue is expected to be recognized as revenue within 12 months from the balance sheet date. Deferred revenue consisted of the following (in thousands):    
 
September 30,
2016
 
December 31,
2015
License software
$
19,476

 
$
33,200

Subscription and maintenance support
58,154

 
61,399

Professional services and other
24,419

 
16,455

Total
$
102,049

 
$
111,054

 
 
 
 
Current portion
$
96,034

 
$
106,483

Non-current portion
6,015

 
4,571

Total
$
102,049

 
$
111,054

7. Software Licenses
The Company has entered into an agreement with a third-party that provides the Company the right to distribute its software on an unlimited basis through December 2020.
For the period from June 2012 to May 2016, the Company had a fixed cost associated with these distribution rights of $10.2 million, which was amortized to cost of revenue over the four-year period beginning in June 2012, based on the straight line method.
For the period from June 2016 to December 2020, the Company has a fixed cost associated with these distribution rights of $17.3 million, and to the extent billed license software revenue over the extended term exceeds $850 million, the Company would be required to pay additional fees. The $17.3 million is being amortized to cost of revenue over the extended term beginning June 2016, based on the straight line method.
Amortization expense related to this agreement was $0.9 million and $0.6 million for the three months ended September 30, 2016 and 2015, respectively and $2.3 million and $1.9 million for the nine months ended September 30, 2016 and 2015, respectively.
8. Borrowings
2022 Convertible Senior Notes
In September 2015, the Company issued $201.3 million aggregate principal amount of 1.00% convertible senior notes due in 2022 (the “2022 Notes”). The 2022 Notes are general unsecured obligations of the Company, with interest payable semi-annually in cash at a rate of 1.00% per annum, and will mature on September 1, 2022, unless earlier converted, redeemed or repurchased.
The 2022 Notes may be converted by the holders at their option on any day prior to the close of business on the business day immediately preceding June 1, 2022 only under the following circumstances: (a) during any calendar quarter commencing after the calendar quarter ended on December 31, 2015 (and only during such calendar quarter), if the last reported sale price of the common stock for at least 20 trading days (whether or not consecutive) during the period of 30 consecutive trading days ending

13

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



on the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day; (b) during the five business day period after any ten consecutive trading day period (the “measurement period”) in which the trading price, as defined in the indenture governing the 2022 Notes (the "2022 Indenture"), per $1,000 principal amount of 2022 Notes for each trading day of the measurement period was less than 98% of the product of the last reported sale price of the Company's common stock and the conversion rate on each such trading day; (c) if the Company calls any or all of the 2022 Notes for redemption, at any time prior to the close of business on the second scheduled trading day immediately preceding the relevant redemption date; or (d) upon the occurrence of specified corporate events. The 2022 Notes will be convertible, regardless of the foregoing circumstances, at any time from, and including, June 1, 2022 through the second scheduled trading day immediately preceding the maturity date.
The initial conversion rate for the 2022 Notes is 25.8249 shares of the Company’s common stock per $1,000 principal amount of 2022 Notes, equivalent to a conversion price of approximately $38.72 per share of common stock. The conversion rate will be subject to adjustment in some events, but will not be adjusted for any accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date or if the Company issues a notice of redemption on or after September 1, 2019 as described below, the Company will increase the conversion rate for a holder who elects to convert its 2022 Notes in connection with such a corporate event or during the related redemption period in certain circumstances. Upon conversion, the Company will pay or deliver, as the case may be, cash, shares of the Company's common stock or a combination of cash and shares of the Company's common stock, at the Company's election. It is the Company's current intent to settle conversions through combination settlement with a specified dollar amount per $1,000 principal amount of 2022 Notes of $1,000. While the 2022 Notes were not convertible as of September 30, 2016, if the 2022 Notes were convertible, shares would have been distributed upon conversion because the conversion price was below the stock price as of such date.
Holders of the 2022 Notes may require the Company to repurchase some or all of the 2022 Notes for cash upon a fundamental change, as defined in the 2022 Indenture, at a repurchase price equal to 100% of the principal amount of the 2022 Notes being repurchased, plus any accrued and unpaid interest up to, but excluding, the relevant repurchase date.
The Company may not redeem the 2022 Notes prior to September 1, 2019. Beginning September 1, 2019, the Company may redeem for cash all or a portion of the 2022 Notes, at the Company's option, if the last reported sale price of the common stock is equal to or greater than 140% of the conversion price then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period (including the last trading day of such period) ending within the five trading days immediately preceding the date on which the Company provides notice of redemption, at a redemption price equal to 100% of the principal amount of the 2022 Notes to be redeemed, plus accrued and unpaid interest to, but excluding, the redemption date. No sinking fund is provided for the 2022 Notes.
The Company has separately accounted for the liability and equity components of the convertible debt instrument by allocating the gross proceeds from the issuance of the 2022 Notes between the liability component and the embedded conversion option, or equity component. This allocation was done by first estimating an interest rate at the time of issuance for similar notes that do not include the embedded conversion option. This interest rate, estimated at 7.4%, was used to compute the initial fair value of the liability component of $131.3 million. The excess of the gross proceeds received from the issuance of the 2022 Notes over the initial amount allocated to the liability component of $70.0 million was allocated to the embedded conversion option, or equity component. This excess is reported as a debt discount and will be subsequently amortized as interest expense, using the interest method, through September 2022, the maturity date of the 2022 Notes. Offering costs, consisting of the initial purchasers’ discount and offering expenses payable by the Company, were $6.4 million. These offering costs were allocated to the liability component and the equity component based on the relative valuations of such components. As a result, $4.2 million of the offering costs were classified as debt issuance costs and recorded on the balance sheet as a deduction from the carrying amount of the debt liability. The remaining $2.2 million of offering costs were allocated to the equity component.
The fair value of the 2022 Notes as of September 30, 2016 and December 31, 2015 was $266.6 million and $221.1 million, respectively. The carrying amount of the equity component of the 2022 Notes was $61.6 million at September 30, 2016. The unamortized offering costs classified as debt issuance costs and recorded as a direct deduction to the carrying amount of the debt liability at September 30, 2016 were $3.6 million, which are being amortized as interest expense through the September 2022 maturity date of the 2022 Notes.
2018 Convertible Senior Notes
In June 2011, the Company issued $120.0 million aggregate principal amount of 1.50% convertible senior notes due in 2018 (the “2018 Notes”). The 2018 Notes are senior unsecured obligations of the Company, with interest payable semi-annually in cash at a rate of 1.50% per annum, and will mature on July 1, 2018, unless earlier repurchased, redeemed or converted.
Concurrently with the closing of the 2022 Notes offering, the Company repurchased $50.9 million principal amount of the 2018 Notes in privately negotiated transactions for an aggregate purchase price of $53.4 million. The Company recorded an extinguishment loss of $4.2 million on the repurchase, including $0.5 million associated with unamortized issuance costs. This

14

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



loss was recorded in other expense within the consolidated statement of operations. The remaining purchase price was allocated between the liability component and the equity component based upon the fair value of the debt immediately prior to the repurchase at $42.4 million and $6.8 million, respectively.
The 2018 Notes may be converted by the holders at their option on any day prior to the close of business on the scheduled trading day immediately preceding April 1, 2018 only under the following circumstances: (a) during the five business-day period after any ten consecutive trading-day period (the “measurement period”) in which the trading price per 2018 Note for each day of that measurement period was less than 98% of the product of the last reported sale price of the Company’s common stock and the applicable conversion rate on each such day; (b) during any calendar quarter (and only during such quarter) after the calendar quarter ended June 30, 2012, if the last reported sale price of the common stock for 20 or more trading days in a period of 30 consecutive trading days ending on the last trading day of the immediately preceding calendar quarter exceeds 130% of the applicable conversion price in effect on the last trading day of the immediately preceding calendar quarter; (c) upon the occurrence of specified corporate events; or (d) if the Company calls the 2018 Notes for redemption. The 2018 Notes will be convertible, regardless of the foregoing circumstances, at any time from, and including, April 1, 2018 through the second scheduled trading day immediately preceding the maturity date.
The initial conversion rate for the 2018 Notes is 23.8126 shares of the Company’s common stock per $1,000 principal amount of 2018 Notes, equivalent to a conversion price of approximately $41.99 per share of common stock. The conversion price will be subject to adjustment in some events, but will not be adjusted for accrued interest. In addition, if a make-whole fundamental change, as defined in the indenture governing the 2018 Notes (the “2018 Indenture”), occurs prior to the maturity date, the Company will in some cases increase the conversion rate for a holder that elects to convert its 2018 Notes in connection with such make-whole fundamental change. Upon conversion, the Company will pay cash up to the aggregate principal amount of the 2018 Notes to be converted and deliver shares of the common stock in respect of the remainder, if any, of the conversion obligation in excess of the aggregate principal amount of the 2018 Notes being converted. While the 2018 Notes were not convertible as of September 30, 2016, if the 2018 Notes were convertible, shares would have been distributed upon conversion because the conversion price was below the stock price as of such date.
Holders of the 2018 Notes may require the Company to repurchase some or all of the 2018 Notes for cash, subject to certain exceptions, upon a fundamental change, as defined in the 2018 Indenture, at a repurchase price equal to 100% of the principal amount of the 2018 Notes being repurchased, plus any accrued and unpaid interest up to but excluding the relevant repurchase date.
Beginning July 1, 2015, the Company may redeem for cash all or part of the 2018 Notes (except for the 2018 Notes that the Company is required to repurchase as described above) if the last reported sale price of the common stock exceeds 140% of the applicable conversion price for 20 or more trading days in a period of 30 consecutive trading days ending on the trading day immediately prior to the date of the redemption notice. The redemption price will equal the sum of 100% of the principal amount of the 2018 Notes to be redeemed, plus accrued and unpaid interest, plus a “make-whole premium” payment. The Company must make the make-whole premium payments on all 2018 Notes called for redemption prior to the maturity date, including 2018 Notes converted after the date the Company delivered the notice of redemption.
The Company has separately accounted for the liability and equity components of the convertible debt instrument by allocating the gross proceeds from the issuance of the 2018 Notes between the liability component and the embedded conversion option, or equity component. This allocation was done by first estimating an interest rate at the time of issuance for similar notes that do not include the embedded conversion option. This interest rate, estimated at 8%, was used to compute the initial fair value of the liability component of $79.4 million. The excess of the gross proceeds received from the issuance of the 2018 Notes over the initial amount allocated to the liability component, of $40.6 million, was allocated to the embedded conversion option, or equity component. This excess is reported as a debt discount and subsequently amortized as interest expense, using the interest method, through July 2018, the maturity date of the 2018 Notes. Offering costs, consisting of the initial purchasers’ discount and offering expenses payable by the Company, were $4.3 million. These offering costs were allocated to the liability component and the equity component based on the relative valuations of such components. As a result, $2.9 million of the offering costs were classified as debt issuance costs and recorded on the balance sheet in other assets. The remaining $1.4 million of offering costs were allocated to the equity component.
The fair value of the 2018 Notes as of September 30, 2016 and December 31, 2015 was $84.3 million and $75.3 million, respectively. The carrying amount of the equity component of the 2018 Notes was $7.0 million at September 30, 2016. The unamortized offering costs classified as debt issuance costs and recorded as a direct deduction to the carrying amount of the debt liability at September 30, 2016 were $0.4 million, which is being amortized as interest expense through the July 2018 maturity date of the 2018 Notes.

15

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



The following table shows the amounts recorded within the Company’s financial statements with respect to the combined 2022 Notes and the 2018 Notes (collectively, the "Notes") (in thousands):
 
September 30, 2016
 
December 31, 2015
Convertible debt principal
$
270,355

 
$
270,355

Unamortized debt discount
(68,637
)
 
(77,440
)
Unamortized debt issuance costs
(3,959
)
 
(4,584
)
Net carrying amount of convertible debt
$
197,759

 
$
188,331


The following table presents the interest expense recognized related to the Notes (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Contractual interest expense
$
762

 
$
523

 
$
2,310

 
$
1,423

Amortization of debt issuance costs
208

 
610

 
625

 
813

Accretion of debt discount
2,989

 
1,715

 
8,803

 
4,628

Net interest expense
$
3,959

 
$
2,848

 
$
11,738

 
$
6,864

The fair value for the Company’s borrowings is estimated using quoted market prices of the Notes at September 30, 2016, quoted market prices for similar instruments and by observable market data. The Company believes its creditworthiness and the financial market in which it operates have not materially changed since entering into the arrangements. If measured at fair value in the financial statements, long-term debt would be classified as Level 2 in the fair value hierarchy.
The aggregate maturities of borrowings as of September 30, 2016 were as follows (in thousands):
    
2016 - 2017
 
$

2018
 
69,105

2019
 

2020 and thereafter
 
201,250

 
 
$
270,355

9. Stock-based Compensation
Equity Incentive Plans
In 1999, the Company adopted the 1999 Stock Incentive Plan (the “1999 Plan”). The 1999 Plan provided for the grant of incentive stock options, nonqualified stock options, restricted stock awards and stock appreciation rights. The 1999 Plan terminated in June 2009 whereby no new options or awards are permitted to be granted. In April 2009, the Company adopted the 2009 Equity Incentive Plan. This plan provides for the grant of incentive stock options, nonqualified stock options, restricted stock awards, restricted stock units (“RSUs”) and stock appreciation rights. In June 2010, in connection with the Company’s initial public offering (“IPO”), the 2009 Equity Incentive Plan was amended and restated to provide for, among other things, annual increases in the share reserve (as amended and restated, the “2009 Plan”).
The term of stock-based grants is up to ten years, except that certain stock-based grants made after 2005 have a term of five years. For grants made under the 2009 Plan prior to January 1, 2015, the requisite vesting period is typically four years and for grants made subsequent to January 1, 2015, the requisite vesting period is typically three years. On each of January 1, 2015 and 2016, 1,250,000 shares were added to the 2009 Plan. At September 30, 2016, the Company had 794,538 shares of common stock available for issuance under the 2009 Plan.

16

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements




Stock-based compensation expense recognized by the Company was as follows (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Stock options
$
2,009

 
$
2,212

 
$
6,156

 
$
5,563

Restricted stock units
11,365

 
8,043

 
30,930

 
24,032

Performance stock units
647

 
(1,098
)
 
1,221

 
792

Total recognized stock-based compensation expense
$
14,021

 
$
9,157

 
$
38,307

 
$
30,387

Stock Options
The following table presents summary information related to stock options:
 
Number of Options Outstanding
 
Weighted Average Exercise Price
 
Weighted Average Remaining Contractual Term (years)
 
Aggregate Intrinsic Value
 
 
 
 
 
 
 
(in thousands)
Balance, December 31, 2015
1,998,875

 
$
29.48

 
 
 
 
     Granted
483,450

 
35.66

 
 
 
 
     Exercised
(428,424
)
 
32.36

 
 
 
 
Forfeited
(130,530
)
 
32.26

 
 
 
 
Expired
(10,373
)
 
32.84

 
 
 
 
Balance, September 30, 2016
1,912,998

 
$
30.18

 
7.36
 
$31,317
 
 
 
 
 
 
 
 
Vested and Exercisable, September 30, 2016
900,953

 
$
27.27

 
5.69
 
$17,375
During the nine months ended September 30, 2016 and 2015, the Company granted stock options with a weighted-average grant date fair value of $16.14 and $15.73, respectively. For the nine months ended September 30, 2016 and 2015, the intrinsic value of stock options exercised was $4.3 million and $3.7 million, respectively, and cash received from stock options exercised was $13.9 million and $3.0 million, respectively.
At September 30, 2016, unrecognized stock-based compensation expense, net of estimated forfeitures, related to unvested stock options was $13.6 million, which is scheduled to be recognized over a weighted average period of 1.94 years. To the extent the actual forfeiture rate is different than what the Company has anticipated at September 30, 2016, stock-based compensation expense will be different from expectations.
Restricted Stock Units
The following table presents a summary of activity for RSUs (excluding RSUs that are subject to performance-based vesting conditions (“PSUs”)):
     
 
Number of RSUs
 
Weighted Average Grant Date Fair Value
Balance, December 31, 2015
1,512,022

 
$
33.19

     Granted
1,444,344

 
38.04

     Vested
(803,246
)
 
34.02

     Forfeited
(93,703
)
 
34.60

Balance, September 30, 2016
2,059,417

 
$
36.23



17

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



The RSUs generally vest over three or four years from the vesting commencement date and on vesting the holder receives one share of common stock for each RSU.
At September 30, 2016, unrecognized stock-based compensation expense, net of estimated forfeitures, related to unvested RSUs was $61.0 million, which is scheduled to be recognized over a weighted average period of 1.97 years. To the extent the actual forfeiture rate is different than what the Company has anticipated at September 30, 2016, stock-based compensation expense will be different from expectations.
Performance Stock Units
The following table presents a summary of activity for PSUs:
     
 
Number of PSUs
 
Weighted Average Grant Date Fair Value
Balance, December 31, 2015
550,088

 
$
26.87

     Granted

 

     Vested
(75,463
)
 
32.96

     Forfeited
(1,641
)
 
23.72

Balance, September 30, 2016
472,984

 
$
25.91


The PSUs generally vest over three or four years from the vesting commencement date, subject to the satisfaction of certain performance conditions, and on vesting the holder receives one share of common stock for each PSU.
During the three months ended September 30, 2015, the Company reversed $1.4 million of expense related to the change in estimate of the number of shares expected to vest based upon the satisfaction of certain financial performance conditions.
At September 30, 2016, unrecognized stock-based compensation expense, net of estimated forfeitures, related to unvested PSUs was $0.2 million, which is scheduled to be recognized over a weighted average period of 0.66 years. To the extent the actual forfeiture rate or estimated financial performance conditions are different than what the Company has anticipated at September 30, 2016, stock-based compensation expense will be different from expectations.
Tax Benefits
In accordance with the FASB’s guidance on stock-based compensation, the Company elected the alternative transition method (short cut method) provided for calculating the tax effects of stock-based compensation. The alternative transition method includes simplified methods to establish the beginning balance of the additional paid-in capital pool (“APIC pool”) related to the tax effects of employee stock-based compensation, and to determine the subsequent impact on the APIC pool and consolidated statements of cash flows related to the tax effect of employee stock-based compensation awards that are outstanding upon adoption. As of September 30, 2016, the balance of the Company’s APIC pool related to tax windfall benefits from stock option exercises was $10.9 million.
The Company applies a with-and-without approach in determining its intra-period allocation of tax expense or benefit attributable to stock-based compensation deductions. Tax deductions in excess of previously recorded benefits (windfalls) included in net operating loss carryforwards but not reflected in deferred tax assets were $53.5 million and $50.4 million at September 30, 2016 and December 31, 2015, respectively.
10. Commitments and Contingencies
In the normal course of business, the Company enters into contracts and agreements that may contain representations and warranties and provide for general indemnifications. The Company’s exposure under these agreements is unknown because it involves claims that may be made in the future, but have not yet been made. The Company has not paid any material claims related to indemnification obligations to date.
In accordance with its bylaws and certain agreements, the Company has indemnification obligations to its officers and directors for certain events or occurrences, subject to certain limits, while they are serving at the Company’s request in such capacity. There have been no claims to date under these indemnification obligations.

18

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



In addition, the Company is involved in litigation incidental to the conduct of its business. The Company is not a party to any lawsuit or proceeding that, in the opinion of management, is reasonably possible to have a material adverse effect on its financial position, results of operations or cash flows.
11. Taxes
The Company’s provision for income taxes is determined using an estimate of its annual effective tax rate on a consolidated basis in accordance with the accounting guidance for income taxes. Where the Company has entities with losses and does not expect to realize the tax benefits in the foreseeable future, those entities are excluded from the effective tax rate calculation. Non-recurring and discrete items that impact tax expense are recorded in the period incurred.
The effective tax rate was 33.7% and 31.6% for the nine months ended September 30, 2016 and 2015, respectively. For the nine months ended September 30, 2016 and 2015, the effective tax rate differs from the computed U.S. statutory rate primarily due to nondeductible expenses related to stock-based compensation, other compensation items and losses from certain foreign jurisdictions with no associated tax benefit due to a full valuation allowance, partially offset by research and development and business credits. Included in the effective tax rate for the nine months ended September 30, 2016 is a discrete benefit of $2.1 million related to additional U.S. research and development credits claimed for the prior years.
As of September 30, 2016, the Company has not recorded a deferred tax liability for undistributed earnings of $10.8 million of certain foreign subsidiaries, since such earnings are considered to be reinvested indefinitely. If the earnings were distributed, the Company would be subject to federal income and foreign withholding taxes. Determination of an unrecognized deferred income tax liability with respect to such earnings is not practicable.
Management assesses the available positive and negative evidence to estimate if sufficient future taxable income will be generated to use the existing deferred tax assets in each relevant jurisdiction. The Company provides a valuation allowance against deferred tax assets if, based upon the weight of available evidence, we do not believe it is “more-likely-than-not” that some or all of the deferred tax assets will be realized. Realization of deferred tax assets in any jurisdictions depends on various factors, including the expectation of future profitability in that jurisdiction.
Realization of the U.S. deferred tax asset is dependent on generating sufficient taxable income prior to expiration of these U.S. loss carryforwards.  During the prior years and currently, the Company experienced losses in its U.S. jurisdiction, driven largely by significant stock-based compensation expense recorded in those years. Although realization is not assured, management believes it is more-likely-than-not that the results of U.S. operations will generate sufficient taxable income to support the realization of the existing deferred tax asset and any excess stock-based compensation deduction carryforwards prior to the expiration of those losses. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carryforward period are reduced.
12. Income (loss) per share data
Basic income per common share is computed based on the weighted average number of outstanding shares of common stock. Diluted income per common share adjusts the basic weighted average common shares outstanding for the potential dilution that could occur if stock options, RSUs and convertible securities were exercised or converted into common stock.
The following table presents a reconciliation of the numerator and denominator of the basic and diluted earnings per share computation. In the table below, net loss represents the numerator and weighted average common shares outstanding represent the denominator:
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(In thousands, except per share data)
Net loss
$
(605
)
 
$
(3,251
)
 
$
(5,009
)
 
$
(11,444
)
Weighted average common shares outstanding, basic and diluted
29,878

 
29,322

 
29,491

 
29,182

Net loss per share, basic and diluted
$
(0.02
)
 
$
(0.11
)
 
$
(0.17
)
 
$
(0.39
)
Due to the settlement features of the Notes, the Company only includes the impact of the premium feature in the diluted earnings per common share calculation when the average stock price exceeds the conversion price of the Notes. The weighted average number of shares outstanding used in the computation of diluted loss per share does not include the effect of the premium feature of the 2022 Notes convertible into 686,211 and 167,570 shares for the three and nine months ended September 30, 2016, respectively, and does not include the effect of the premium feature of the 2018 Notes convertible into 96,636 share for the three months ended September 30, 2016, as the effect would have been anti-dilutive given the Company's loss for these

19

BroadSoft, Inc.
Notes to Unaudited Condensed Consolidated Financial Statements



periods. The average stock price did not exceed the conversion price for the 2022 Notes for the three and nine months ended September 30, 2015 or exceed the conversion price for the 2018 Notes for the nine months ended September 30, 2016 and the three and nine months ended September 30, 2015.
The weighted average number of shares outstanding used in the computation of diluted loss per share does not include the effect of stock-based awards convertible into 923,561 and 508,377 shares for the three months ended September 30, 2016 and 2015, respectively, and into 888,171 and 633,990 shares for the nine months ended September 30, 2016 and 2015, respectively, as the effect would have been anti-dilutive given the Company’s losses for these periods.
The weighted average number of shares outstanding used in the computation of diluted loss per share also does not include the effect of certain additional stock-based awards exercisable into 265,546 and 1,488,820 shares for the three months ended September 30, 2016 and 2015, respectively, and into 1,090,717 and 1,606,984 shares for the nine months ended September 30, 2016 and 2015, respectively, as their effect would have been anti-dilutive because their exercise prices exceeded the average market price of the Company's common stock during these periods.
13. Segment and Geographic Information
Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The Company’s chief operating decision maker is its chief executive officer (the “CEO”). The CEO reviews financial information presented on a consolidated basis, along with information about revenue by geographic region for purposes of allocating resources and evaluating financial performance. Discrete information on a geographic basis, except for revenue, is not provided below the consolidated level to the CEO. The Company has concluded that it operates in one segment and has provided the required enterprise-wide disclosures.
The Company engages in business across three geographic regions: North America; Europe, Middle East and Africa ("EMEA"); and Asia Pacific, the Caribbean and Latin America ("Emerging Markets"). Revenue by geographic area is based on the location of the service provider. The following tables present revenue and long-lived assets, net, by geographic area (in thousands):     
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Revenue:
 
 
 
 
 
 
 
North America
$
46,696

 
$
40,028

 
$
132,545

 
$
114,319

EMEA
23,531

 
16,625

 
68,000

 
48,194

Emerging Markets
13,895

 
12,444

 
38,434

 
26,739

Total Revenues
$
84,122

 
$
69,097

 
$
238,979

 
$
189,252

North America includes $38.5 million and $36.9 million of United States revenue for each of the three months ended September 30, 2016 and 2015 and $119.4 million and $107.9 million for each of the nine months ended September 30, 2016 and 2015.
 
September 30,
2016
 
December 31, 2015
Long-Lived Assets, net
 
 
 
North America
$
20,671

 
$
21,135

EMEA
2,742

 
5,008

Emerging Markets
3,704

 
1,171

Total Long-Lived Assets, net
$
27,117

 
$
27,314

North America includes $20.3 million and $20.9 million of United States long-lived assets as of September 30, 2016 and December 31, 2015.
14. Subsequent Events
On October 28, 2016, the Company completed its acquisition of all of the outstanding units of VoIP Logic, LLC, a wholesale provider of BroadWorks-based cloud communications services. This cloud offering will be added to the Company's BroadCloud portfolio and addresses the needs of service providers who want greater control of their platform and to maintain their own administrative systems. The total consideration paid for VoIP Logic was $13.4 million, funded with cash on hand. The Company has not yet allocated the purchase price to the acquired assets and liabilities.

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ITEM 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2015 filed with the Securities and Exchange Commission, or SEC, on February 29, 2016.
This Quarterly Report on Form 10-Q contains forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that involve substantial risks and uncertainties. All statements other than statements of historical facts contained in this Quarterly Report on Form 10-Q are forward-looking statements. In some cases, you can identify forward-looking statements by terminology such as “believe,” “will,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “expect,” “predict,” “could,” “potentially” or the negative of these terms or other similar expressions. Forward-looking statements in this Quarterly Report on Form 10-Q may include statements about:
our dependence on the success of BroadWorks;
our ability to continue to develop, and to successfully deploy, our BroadCloud offering, expand this offering geographically and increase the associated recurring service revenue;
any potential loss of or reductions in orders from certain significant customers;
our dependence on our service provider customers to sell services using our applications;
claims that we infringe the intellectual property rights of others;
our ability to protect our intellectual property;
competitive factors, including, but not limited to, industry consolidation, entry of new competitors into our market, and new product and marketing initiatives by our competitors;
our ability to predict our revenue, operating results and gross margin accurately;
the length and unpredictability of our sales cycles;
our ability to expand our product offerings;
our international operations, including foreign currency exchange risk;
our significant reliance on distribution partners in international markets;
our ability to manage our growth, including our increased headcount;
the attraction and retention of qualified employees and key personnel;
the interoperability of our products with service provider networks;
our ability to realize the benefits of our recent acquisitions and the successful integration of the personnel, technologies, and customers from such acquisitions;
the quality of our products and services, including any undetected errors or bugs in our software; and
our ability to maintain proper and effective internal controls.
The outcome of the events described in these forward-looking statements is subject to known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from the results anticipated by these forward-looking statements, including those factors we discuss in the “Risk Factors” sections of our Annual Report on Form 10-K for the fiscal year ended December 31, 2015 and in our other filings with the SEC. You should read these factors and the other cautionary statements made in this Quarterly Report on Form 10-Q as being applicable to all related forward-looking statements wherever they appear in this Quarterly Report on Form 10-Q. These risks are not exhaustive. Although we believe the expectations reflected in the forward-looking statements are based on reasonable assumptions, we can give no assurance we will attain these expectations or that any deviations will not be material. Except as required by law, we undertake no obligation to update publicly any forward-looking statements for any reason after the date of this Quarterly Report on Form 10-Q to conform these statements to actual results or to changes in our expectations.
Overview
We are the leading global provider of software and services that enable telecommunications service providers to deliver hosted, cloud-based Unified Communications, or UC, to their enterprise customers.
Traditionally, many enterprises have utilized premise-based private branch exchanges, or PBX’s, to connect their offices and people to public telephony networks. Hosted UC enables the delivery of PBX features without the need for premise-based equipment. Hosted UC can be delivered through service providers using their own internet protocol, or IP-based networks and their mobile networks, as well as over the public internet (also known as "over the top" or OTT). In addition to voice telephony, UC offers additional features such as full integration with mobile devices, high definition, or HD, voice and video calling and conferencing, instant messaging and presence, or IM&P, and web collaboration.

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We believe we are well positioned to enable service providers to capitalize on increasing demand by enterprises for such UC services by enabling them to efficiently and cost-effectively offer a broad suite of services to their end-users. Our service provider customers, who are located in more than 80 countries, are delivering services and have deployed over 13 million UC subscriber lines worldwide using our software. We count among our customers 25 of the top 30 telecommunications service providers globally, as measured by revenue for the year ended December 31, 2015.
UC-One
UC-One, our UC solution, is a communications and collaboration offering that enables telecommunications service providers to offer businesses and other enterprises UC features and functionalities on a hosted basis without the need for traditional premise-based PBX equipment. Our technology is designed to meet service providers’ stringent requirements for service availability, network integration and scale and to address the needs of various business segments, such as micro, small, medium and large enterprises; market segments such as hospitality, government, education, contact centers and healthcare; and industries requiring call center functionality.
Our UC-One services include HD voice and video calling, audio conferencing, IM&P, desktop sharing and collaboration and call center capabilities. Because these capabilities can be accessed through desk phones, smartphones, tablets, laptops and PCs, UC-One provides full support for today’s distributed workforce and mobile employees. Our solution can also be deployed across multiple access networks and technologies, including fixed line/fiber and traditional mobile 3G networks, as well as voice over LTE, or VoLTE, networks and voice over wifi, or VoWiFi.
The benefits of UC-One to enterprises and end users include:
Solution Breadth and Flexibility. UC-One is scalable and can be used by businesses of varying sizes, from very small businesses of two employees to the largest global enterprises with hundreds of thousands of employees in multiple locations. Capacity can be purchased as needed by enterprises in response to business and operational needs.
Multi-Location and Ease of Use. Because UC-One is cloud and IP-based, an enterprise can provide uniform communications functionality across its entire organization, enabling a consistent and simplified user experience. It also provides a single console to manage all the communication and collaboration needs for businesses with geographically dispersed offices and mobile workers, greatly streamlining business operations and reducing operational costs.
Enhanced Mobility. Our solution provides the flexibility to work from the office, at home or on the move, with the full range of UC-One services available irrespective of location or end user device.
Business Continuity. Because UC-One is cloud-based, in the event an enterprise has a business interruption issue, the enterprise’s core communications and collaboration services would remain unaffected.
Openness. We have an active ecosystem of development partners who use our open APIs to create complementary offerings designed for specific market segments or industry verticals.
Lower Total Cost of Ownership. We believe that enterprises will experience a lower total cost of ownership compared to legacy premise-based solutions. Because it is cloud-based, there are significantly lower capital investment requirements, fewer highly trained personnel required and reduced costs given the inherent flexibility of per-user based costs.
We offer service providers two deployment options, software and software-as-a-service, or SaaS, to enable them to offer UC services to their enterprise customers:
Software. BroadWorks is our application server software offering, with the software generally deployed on industry-standard servers located in the service provider’s data centers. With BroadWorks implemented as an application server in its infrastructure, the service provider is responsible for the development and implementation of the overall solution and integration with the service provider’s network, operations, support and billing systems. This deployment model gives the service provider the maximum flexibility to define its UC-One offering. In this model, revenue is derived from perpetual software license and annual maintenance and support fees, as well as associated professional services. Since our inception, the majority of our revenue has been derived from such software licensing.
SaaS. The second deployment option is our BroadCloud SaaS offering. BroadCloud provides a managed services offering for service providers. In this model, we have implemented UC-One and other BroadWorks capabilities within our own data centers and provide operations capabilities covering sales and order management, service delivery, device provisioning, customer service and billing. We believe that through BroadCloud, service providers can accelerate their deployments of UC-One services and reduce their capital expenditures and the internal costs of implementing UC services. Generally, service providers

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utilizing our BroadCloud offering pay us on a monthly recurring basis based on the total number of subscriber lines the service provider has deployed.
Other Products
We also offer to our service provider customers SIP Trunking and Voice over IP, or VoIP, consumer solutions based on our BroadWorks software.
SIP Trunking. Our BroadWorks’ SIP Trunking solution enables service providers to provide IP interconnectivity and additional services to enterprises that already have premise-based PBXs. With SIP Trunking, service providers are able to bundle voice and data over a single converged IP pipe, creating a more economical offering than can be achieved with separate voice and data connections. We believe our solution enables service providers to differentiate their SIP Trunking service offerings and increase revenue by offering enhanced services such as UC, video, mobility, global four-digit dialing and business continuity.
BroadSoft Consumer Applications. Our consumer IP applications allow service providers to offer consumers voice and multimedia telephony services with voice calling, video calling, enhanced messaging and content sharing over broadband and VoLTE networks.
Company
We were incorporated in Delaware in 1998 and we began selling BroadWorks in 2001. We sell our products to service providers both directly and indirectly through distribution partners, such as telecommunications equipment vendors, value-added resellers, or VARs, and other distributors.
Industry
Traditionally, many enterprises have used premise-based PBX’s to connect their offices and people to the public telephone network. These PBX offerings were primarily voice communications based. We believe several trends are driving enterprises of all sizes to embrace the change from premise-based to cloud-based delivery of PBX functionality:
The increasing demand by enterprises to move business applications to the cloud for operational savings, flexibility and expanded services;
The desire by enterprises to drive greater team collaboration and workplace productivity through communications and collaboration tools;
The demand by enterprises to offer broader communications services such as HD voice and video calling and conferencing across their organizations;
The increasingly distributed nature of enterprises’ operations and workforces and the desire to provide fully integrated UC to them;
The proliferation of mobile devices used by employees and other workers; and
The rapid expansion of high quality IP bandwidth, particularly the expansion of wireless bandwidth such as Wi-Fi and VoLTE.
We believe that service providers are well-positioned to address these market demands. A number of our service provider customers have made significant investments in their IP-based and mobile networks and are already offering standard communications services such as broadband access and fixed and mobile calling plans. Many have a long track record of reliably delivering these business critical services. We believe that as UC solutions are increasingly being offered over fixed-
line and mobile networks, service providers can achieve significant competitive advantages in delivering such services over their networks. Further, we believe service providers have a significant incentive to offer UC services to their enterprise customers as competitive and regulatory pressures have commoditized their historical revenue streams.
In addition, we believe that larger service providers are becoming more focused on implementing transformations of their fixed and mobile networks from traditional circuit switched networks to their IP-based broadband networks. As these service providers embark on such projects, they are incorporating application servers like BroadWorks to enable them to offer enhanced business services that were previously offered over their circuit switched networks. We believe this emerging trend is evident in both fixed-line transformations and increasingly in service providers’ investment in their mobile VoLTE networks. We believe this trend is a positive development for us, as service providers both replace services to their business users on their traditional networks and provide new business services.
Our Strategy
Our goal is to strengthen our position as the leading provider of software and services that enable service providers to deliver cloud-based UC to their enterprise customers. To achieve this goal, our strategy is to deliver an increasingly feature rich set of services to address the needs of a broader spectrum of business customer types. Key elements of our strategy include:
Extend our technology leadership and product depth and breadth. We intend to continue to provide industry leading UC solutions through product innovation and substantial investment in research and development for new features, applications and services.
Accelerate the adoption of UC solutions by providing communications centric UC and collaboration capabilities. Project Tempo is our vision of extending UC to help drive how enterprises and people communicate, interact and collaborate by integrating their communication and collaborative tools with contextual intelligence. We also intend to accelerate UC adoption and our service provider customers’ time to market by promoting and expanding our UC offerings. Our BroadCloud solution enables our service providers to offer UC features and functions through a service offering that we host and manage. We also intend to expand the geographic availability of our BroadCloud offerings beyond the United States, United Kingdom, Germany, Japan and France.
Broaden demand by enterprises and assist our service provider customers by developing more market segment directed UC offerings. We enable service providers to develop UC offerings targeted towards specific business segments, including small, medium and large enterprises and market segments such as hospitality, government, education, contact center and healthcare.
Drive revenue growth by:
Assisting our current service provider customers to sell more of their currently deployed BroadWorks and BroadCloud offerings. We support our service provider customers by regularly offering enhanced and new features to their current applications, as well as providing tools and training to help them market their services to subscribers.
Expanding our BroadCloud offering. We believe that service providers will increasingly find that using our BroadCloud offering to deliver UC solutions to their customers will accelerate their time to market and product introduction cycles.
Continuing to acquire new customers. Our customers are located around the world and include many of the top telecommunications services providers globally. We believe we are well positioned to continue to acquire new customers, particularly with the addition of our BroadCloud offering and our focus on developing UC solutions based on enterprise size and vertical market segments.
Pursuing selected acquisitions and collaborations that complement our strategy. We intend to continue to pursue acquisitions and collaborations that we believe are strategic to strengthen our industry leadership position, expand our geographic presence or allow us to offer new or complementary products or services.
Executive Summary
Our management team monitors and analyzes a number of key industry trends and performance indicators to manage our business and evaluate our financial and operating performance.
We believe the trend towards adoption of cloud-based unified communications by enterprises will continue and even accelerate over the next several years. We also believe that service providers using our products and services are strongly positioned to

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take advantage of this demand. Our objective is to provide our service provider customers with the service and software offerings they need to effectively address this market opportunity and their end-user customer needs.
We expect continued revenue growth from our UC solutions during the remainder of 2016, which growth we believe is largely driven by increased market acceptance of hosted UC offerings and our continued market leadership. We believe converged and mobile operators desire to deliver UC solutions to their enterprise customer base to grow revenue, reduce subscriber turnover, or churn, and raise average revenue per user. Our UC-One solutions, which are either delivered through our SaaS UC offerings or through our BroadWorks server software that resides within the service provider’s network, enable service providers to rapidly and efficiently deliver a UC experience regardless of end-user device and whether or not the end-user has fixed-line or wireless access. In addition, we believe that mobile network centric UC offerings will become an increasingly important trend in the UC market, and we believe that our service provider customers are in a strong position to take advantage of this market trend. This year, major service provider customers of ours, such as Verizon Wireless, Rogers Communications and Vodafone Germany, have announced and are marketing such mobile centric offerings based on our BroadWorks platform.
During 2016, our SaaS offerings have been, and for the remainder of this year will continue to be a particularly important area of investment and marketing focus for us. Many of our service provider customers are interested in accessing the capabilities of our BroadWorks features and functions through a service offering hosted and managed by us. We believe that service providers choose our SaaS offerings to accelerate their time to market and reduce their capital and implementation costs and that delivering innovative solutions to our customers will drive our revenue growth. While our SaaS business continues to grow, we do not expect the same pace of growth during the remainder of 2016. We expect this growth rate to decline, in part due to the effects of foreign currency exchange rate fluctuations related to the United Kingdom vote to exit the European Union on our pound-denominated cloud revenue in the United Kingdom. During the remainder of 2016, we expect to continue to invest in our SaaS offerings and expand the geographic availability of these offerings.
We are expanding our UC-One capabilities by enabling enterprises and people to be more flexible and dynamically communicate, interact and collaborate by helping them integrate their communication and collaborative tools. Our goal is to enable service providers to adopt UC-One as the centerpiece in what we have entitled "The Future of Work." As an example, we are adding team (or enterprise) messaging capabilities into our UC-One communications experience, increasing the collaboration and communications capabilities of our UC-One offerings. We expect that during the remainder of 2016, we will continue our strategic investments in these and other initiatives and in research and development of existing and new products, such as client and portal software, mobility and cloud-based services, and products acquired in connection with our acquisitions.
We believe that many of the largest carriers in the world are embarking on projects to ultimately transform most, if not all, of their legacy fixed and mobile circuit switched networks to IP-based networks, driven in part by the movement to migrate their wireless networks to VoLTE. We think that we are well-positioned to meet such carrier demand for these transformation projects, especially with regard to our UC and UC for VoLTE offerings. We have achieved thus far this year, and expect to achieve during the remainder of 2016, significant positive revenue impact from these projects and believe transformation projects by certain of our largest service provider customers could drive significant growth for us over the next several years.
Key Financial Highlights
Some of our key GAAP financial highlights for the quarter ended September 30, 2016 include:
Total revenue increased by $15.0 million or 22%, to $84.1 million, compared to $69.1 million for the quarter ended September 30, 2015;
Gross profit was $60.4 million, or 72% of revenue, compared to $47.4 million, or 69% of revenue, for the quarter ended September 30, 2015;
Income from operations was $1.6 million, compared to $0.8 million for the quarter ended September 30, 2015;
Net loss was $0.6 million, compared to $3.3 million for the quarter ended September 30, 2015;
Net loss per diluted share was $0.02, compared to $0.11 for the quarter ended September 30, 2015;

24


Billings (revenue plus net change in deferred revenue) increased by 11% to $78.9 million, compared to $71.0 million for the quarter ended September 30, 2015;
Deferred revenue decreased by $5.3 million, compared to an increase of $2.0 million for the quarter ended September 30, 2015; and
Cash provided by operating activities was $15.1 million, compared to $4.6 million for the quarter ended September 30, 2015.
Some of our key non-GAAP financial highlights for the quarter ended September 30, 2016 include:
Non-GAAP gross profit increased to $64.3 million, or 76% of revenue, compared to $51.0 million, or 74% of revenue, for the quarter ended September 30, 2015;
Non-GAAP income from operations increased to $17.3 million, or 21% of revenue, compared to $11.5 million, or 17% of revenue, for the quarter ended September 30, 2015;
Non-GAAP net income increased to $16.4 million, or 19% of revenue, compared to $10.9 million, or 16% of revenue, for the quarter ended September 30, 2015; and
Non-GAAP net income per diluted share increased to $0.52 per common share, compared to $0.37 per common share for the quarter ended September 30, 2015.
For a discussion of these non-GAAP financial measures and a reconciliation of GAAP and non-GAAP financial results, please refer to “Non-GAAP Financial Measures” included elsewhere in this Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Components of Operating Results
Revenue
We derive our revenue primarily from the sale of license software, subscription and maintenance support and professional services. We recognize revenue when all revenue recognition criteria have been met in accordance with revenue recognition guidance. This guidance provides that revenue should be recognized when persuasive evidence of an arrangement exists, delivery has occurred, the price is fixed or determinable and collection is probable.
Our total revenue consists of the following:
License software. We derive license software revenue primarily from the sale of perpetual software licenses. We generally price our software based on the packages of features and applications provided and on the number of subscriber licenses sold. These factors impact the average selling price of our licenses and the comparability of average selling prices. Our license software revenue may vary significantly from quarter to quarter or from year to year as a result of long sales and deployment cycles, variations in customer ordering practices and the application of management’s judgment in applying complex revenue recognition rules. Our deferred license software revenue balance consists of software orders that do not meet all the criteria for revenue recognition. We are unable to predict with certainty the proportion of orders that will meet all the criteria for revenue recognition relative to those orders that will not meet all such criteria and, as a result, it is difficult to forecast whether recognized license software revenue and deferred license software revenue will continue to increase or decrease in a given period. As of September 30, 2016, our deferred license software revenue balance was $19.5 million, the current portion of which was $19.3 million.
Subscription and maintenance support. Subscription and maintenance support revenue includes recurring revenue from annual maintenance support contracts for our software licenses and from subscriptions related to our delivery of SaaS offering.
Rates for maintenance support, including subsequent renewal rates, are typically established based upon a specific percentage of net license fees as set forth in the arrangement with the customer. Maintenance support revenue is recognized ratably over the maintenance support period, assuming all other revenue recognition criteria have been met. Our annual maintenance support contracts provide for software updates, upgrades and technical support. Our typical warranty on licensed software is 90 days and, during this period, our customers are entitled to receive maintenance and support without the purchase of a maintenance contract. After the expiration of the warranty period, our customers must purchase maintenance support services to continue receiving such support.

25


With respect to our SaaS subscriptions, we are paid a recurring fee typically calculated based on the number of seats and type of services purchased or a usage fee based on the actual number of transactions. The recurring fee is typically billed monthly.
Our deferred subscription and maintenance support revenue balance consists of maintenance support and subscription orders that do not meet all the criteria for revenue recognition. As of September 30, 2016, our deferred subscription and maintenance support revenue balance was $58.2 million, the current portion of which was $53.0 million.
Professional services and other. Professional services and other revenue primarily includes revenue from professional service engagements consisting of implementation, training, consulting and design and customization services. Our professional services and other deferred revenue balance consists of orders that do not meet all the criteria for revenue recognition. As of September 30, 2016, our deferred professional services and other revenue balance was $24.4 million, the current portion of which was $23.6 million.
Cost of Revenue
Our total cost of revenue consists of the following:
Cost of license software revenue. A majority of the cost of license software revenue consists of amortization of acquired intangibles, personnel-related expenses and royalties paid to third parties whose technology or products are sold as part of BroadWorks. A significant amount of the royalty fees are for the underlying embedded data base technology within BroadWorks for which we currently incur a fixed expense per quarter. Personnel-related expenses include salaries, benefits, bonuses, reimbursement of expenses and stock-based compensation. Such costs are expensed in the period in which they are incurred.
Cost of subscription and maintenance support revenue. Cost of subscription and maintenance support revenue consists primarily of personnel-related expenses and other direct costs associated with support and maintenance obligations to our customers who have licensed our software and SaaS offerings, including maintenance and support expenses due to our use of third party software, amortization of acquired intangibles and operating and depreciation expenses associated with the delivery of SaaS offerings.
Cost of professional services and other revenue. Cost of professional services and other revenue consists primarily of personnel-related expenses and other direct costs associated with the delivery of our professional services, which are expensed in the period in which they are incurred.
Gross Profit
Gross profit is the calculation of total revenue minus cost of revenue. Our gross profit as a percentage of revenue, or gross margin, has been, and will continue to be, affected by a variety of factors, including:
Mix of license software, subscription and maintenance support and professional services and other revenue. We generate higher gross margins on license software revenue compared to subscription and maintenance support or professional services and other revenue.
Growth or decline of license software revenue. A significant portion of cost of license software revenue is fixed and is expensed in the period in which it is incurred. This cost consists primarily of royalty fees to our embedded database provider and amortization of acquired technology. If license software revenue increases, these fixed fees will decline as a percentage of revenue. If license software revenue declines, these fixed fees will increase as a percentage of revenue.
Impact of deferred revenue. If any revenue recognition criteria have not been met, the applicable revenue derived from the arrangement is deferred, including license software, subscription and maintenance support, and professional services and other revenue, until all elements of revenue recognition criteria have been met. However, the cost of revenue, including the costs of license software, subscription and maintenance support and professional services and other, is typically expensed in the period in which it is incurred. Therefore, if relatively more revenue is deferred in a particular period, gross margin would decline in that period. Because the ability to recognize revenue on orders depends largely on the terms of the sale arrangement and we are not able to predict with certainty the proportion of orders that will not meet all the criteria for revenue recognition, we cannot forecast whether any historical trends in gross margin will continue.
Intangible amortization related to mergers and acquisitions. Over the last several years, our business combinations resulted in a number of intangibles assets. These intangible assets are amortized over their useful lives, resulting in

26


additional expense impacting gross profit over the applicable period. We may undertake additional strategic transactions in the future that would result in additional intangible amortization expense.
Billings (Revenue Plus Net Change in Deferred Revenue)
We believe billings, which we calculate as revenue plus the net change in our deferred revenue balance for a particular period, is a key measure of our sales activity for that period.
Billings are as follows (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Beginning of period deferred revenue balance
$
107,305

 
$
107,726

 
$
111,054

 
$
101,456

End of period deferred revenue balance
102,049

 
109,678

 
102,049

 
109,678

Increase (decrease) in deferred revenue
(5,256
)
 
1,952

 
(9,005
)
 
8,222

Revenue
84,122

 
69,097

 
238,979

 
189,252

Billings
$
78,866

 
$
71,049

 
$
229,974

 
$
197,474

Operating Expenses
We grew our total headcount to 1,522 employees at September 30, 2016 from 1,247 employees at December 31, 2015, and we expect to continue hiring additional employees to support our anticipated growth.
Operating expenses consist of sales and marketing, research and development and general and administrative expenses. Salaries and other personnel costs are the most significant component of each of these expense categories. We expect our operating expenses to increase in 2016 primarily due to increases in headcount and personnel-costs, including stock-based compensation expense.
Sales and marketing expenses. Sales and marketing expenses consist primarily of salaries and personnel costs for our sales and marketing employees, including stock-based compensation, commissions, benefits and bonuses. Additional expenses include marketing programs, consulting, travel and other related overhead.
Research and development expenses. Research and development expenses consist primarily of salaries and personnel costs for development employees, including stock-based compensation, benefits and bonuses. Additional expenses include costs related to development, quality assurance and testing of new software and enhancement of existing software, consulting, travel and other related overhead. We engage third-party international and domestic consulting firms for various research and development efforts, such as software development, documentation, quality assurance and software support. We intend to continue to invest in our research and development efforts, including by hiring additional development personnel and by using third-party consulting firms for various research and development efforts. We believe continuing to invest in research and development efforts is essential to maintaining our competitive position.
General and administrative expenses. General and administrative expenses consist primarily of salary and personnel costs for administration, finance and accounting, legal, information systems and human resources employees, including stock-based compensation, benefits and bonuses. Additional expenses include consulting and professional fees, travel, insurance and other administrative expenses.
Stock-Based Compensation
We include stock-based compensation as part of cost of revenue and operating expenses in connection with the grant of stock-based awards to our directors, employees and consultants. We apply the fair value method in accordance with authoritative guidance for determining the cost of stock-based compensation. The total cost of the grant is measured based on the estimated fair value of the award at the date of grant. The fair value of service-only awards is recognized as stock-based compensation expense on a straight-line basis over the requisite service period, which is the vesting period, of the award. The fair value of awards with a performance condition is recognized as stock-based compensation on a graded basis over the requisite vesting period of the award. For the three months ended September 30, 2016 and 2015, we recorded stock-based compensation expense of $14.0 million and $9.2 million, respectively, and for the nine months ended September 30, 2016 and 2015, we recorded stock-based compensation expense of $38.3 million and $30.4 million, respectively.

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Based on stock-based awards outstanding as of September 30, 2016, we expect to recognize future expense related to the non-vested portions of such stock-based awards in the amount of $74.8 million over a weighted average period of approximately 1.96 years.
Other Expense, Net
Other expense, net, consists primarily of interest income, interest expense, loss on repurchase of convertible senior notes and foreign exchange gains and losses. Interest income represents interest received on our cash and cash equivalents. Interest expense consists primarily of the interest related to our 2018 convertible senior notes, or the 2018 Notes, and our 2022 convertible senior notes, or the 2022 Notes. Loss on repurchase of convertible senior notes relates to the fair value in excess of the carrying value of the portion of the 2018 Notes repurchased. Foreign exchange gains and losses relate to the revaluation of foreign currency denominated trade receivables.
Income Tax Expense
Income tax expense consists of U.S. federal, state and foreign income taxes. We are required to pay income taxes in certain states and foreign jurisdictions. Historically, we have not been required to pay significant U.S. federal income taxes due to our accumulated net operating losses.
Recent Accounting Pronouncements
In May 2014, the FASB issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers: Topic 606 ("ASU 2014-09"), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle is to recognize revenue when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services. The standard defines a five step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than are required under existing U.S. GAAP, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. The standard allows entities to apply either of two methods: (a) retrospective application to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU 2014-09; or (b) retrospective application with the cumulative effect of initially applying the standard recognized at the date of initial application and providing certain additional disclosures as defined per ASU 2014-09. In August 2015, the FASB issued Accounting Standards Update 2015-14, Revenue from Contracts with Customers: Topic 606 ("ASU 2015-14"), which defers the effective date for ASU 2014-09 to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. We are evaluating the impact of adopting this new standard on our financial statements and our method of adoption.
In February 2016, the FASB issued Accounting Standards Update 2016-02, Leases: Topic 842 ("ASU 2016-02"), which provides updated guidance on lease accounting. ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018, including interim periods within that annual period, with early adoption permitted. We are evaluating the impact of adopting this new standard on our financial statements.
In March 2016, the FASB issued Accounting Standards Update 2016-09, Compensation-Stock Compensation: Topic 718 ("ASU 2016-09"), which provides updated guidance on several aspects of the accounting for share-based payment transactions. ASU 2016-09 is effective for annual reporting periods beginning after December 15, 2016, including interim periods within those annual periods, with early adoption permitted. We expect to adopt this guidance on January 1, 2017 and we are evaluating the impact of this guidance on our financial statements.

28


Results of Operations
Comparison of the Three Months Ended September 30, 2016 and 2015
Revenue
 
Three Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Revenue by Type:
 
 
 
 
 
 
 
 
 
 
 
   License software
$
31,486

 
38
%
 
$
31,343

 
45
%
 
$
143

 
%
   Subscription and maintenance support
36,509

 
43
%
 
29,828

 
43
%
 
6,681

 
22
%
   Professional services and other
16,127

 
19
%
 
7,926

 
12
%
 
8,201

 
103
%
Total revenue
$
84,122

 
100
%
 
$
69,097

 
100
%
 
$
15,025

 
22
%
 
 
 
 
 
 
 
 
 
 
 
 
Revenue by Geography:
 
 
 
 
 
 
 
 
 
 
 
North America
$
46,696

 
56
%
 
$
40,028

 
58
%
 
$
6,668

 
17
%
EMEA
23,531

 
28
%
 
16,625

 
24
%
 
6,906

 
42
%
Emerging Markets
13,895

 
16
%
 
12,444

 
18
%
 
1,451

 
12
%
Total revenue
$
84,122

 
100
%
 
$
69,097

 
100
%
 
$
15,025

 
22
%
Total revenue for the three months ended September 30, 2016 increased by 22%, or $15.0 million, to $84.1 million as compared to the same period in 2015. This growth was primarily driven by a 22% increase in subscription and maintenance support revenue and a 103% increase in professional services and other revenue. Deferred revenue decreased by $5.3 million for the three months ended September 30, 2016, compared to an increase of $2.0 million for the same period in 2015.
North America revenue for the three months ended September 30, 2016 increased by 17%, or $6.7 million, to $46.7 million as compared to the same period in 2015. The increase in North America revenue for the three months ended September 30, 2016 was due to an increase in subscription and maintenance support revenue and professional services and other revenue, partially offset by a decrease in license software revenue.
Europe, Middle East and Africa, or EMEA, revenue for the three months ended September 30, 2016 increased 42%, or $6.9 million, to $23.5 million as compared to the same period in 2015. The increase in EMEA revenue for the three months ended September 30, 2016 was due to an increase in license software revenue, subscription and maintenance support revenue and professional services and other revenue.
Asia Pacific, the Caribbean and Latin America, or Emerging Markets, revenue for the three months ended September 30, 2016 increased by 12%, or $1.5 million, to $13.9 million compared to the same period in 2015. The increase in Emerging Markets revenue for the three months ended September 30, 2016 was due to an increase in license software revenue and subscription and maintenance support revenue, partially offset by a decrease in professional services and other revenue.
License Software
License software revenue for the three months ended September 30, 2016 increased by $0.1 million, to $31.5 million, compared to the same period in 2015. The increase in license software revenue for the three months ended September 30, 2016 reflects an increase in EMEA and Emerging Markets, partially offset by a decrease in license software revenue in North America. Deferred license software revenue decreased by $7.3 million for the three months ended September 30, 2016, compared to a decrease of $0.3 million for the same period in 2015.
Subscription and Maintenance Support
Subscription and maintenance support revenue for the three months ended September 30, 2016 increased by 22%, or $6.7 million, to $36.5 million, compared to the same period in 2015. The increase in subscription and maintenance support revenue for the three months ended September 30, 2016 was the result of growth in our subscription revenue associated with our SaaS

29


platforms, which included contributions from recent acquisitions, and growth in our installed base of customers who purchased maintenance support. Our SaaS subscription revenue for the three months ended September 30, 2016 increased by $3.5 million to $12.7 million, compared to the same period in 2015. Deferred subscription and maintenance support revenue decreased by $2.2 million for the three months ended September 30, 2016, compared to a decrease of $4.4 million for the same period in 2015.
Professional Services and Other
Professional services and other revenue for the three months ended September 30, 2016 increased by 103%, or $8.2 million, to $16.1 million, compared to the same period in 2015. The increase in professional services and other revenue for the three months ended September 30, 2016 was primarily due to revenue recognized from several large projects as we've reached milestones for those projects, and also due to increased professional services activity. Deferred professional services and other revenue increased by $4.3 million for the three months ended September 30, 2016, compared to an increase of $6.6 million for the same period in 2015.
Cost of Revenue and Gross Profit
 
Three Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Related Revenue
 
Amount
 
Percent of Related Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Cost of Revenue:
 
 
 
 
 
 
 
 
 
 
 
License software
$
1,799

 
6
%
 
$
2,444

 
8
 %
 
$
(645
)
 
(26
)%
Subscription and maintenance support
11,894

 
33
%
 
9,787

 
33
 %
 
2,107

 
22
 %
Professional services and other
10,060

 
62
%
 
9,429

 
119
 %
 
631

 
7
 %
Total cost of revenue
$
23,753

 
28
%
 
$
21,660

 
31
 %
 
$
2,093

 
10
 %
Gross Profit:
 
 
 
 
 
 
 
 
 
 
 
License software
$
29,687

 
94
%
 
$
28,899

 
92
 %
 
$
788

 
3
 %
Subscription and maintenance support
24,615

 
67
%
 
20,041

 
67
 %
 
4,574

 
23
 %
Professional services and other
6,067

 
38
%
 
(1,503
)
 
(19
)%
 
7,570

 
504
 %
Total gross profit
$
60,369

 
72
%
 
$
47,437

 
69
 %
 
$
12,932

 
27
 %
For the three months ended September 30, 2016, our gross margin increased to 72% of revenue as compared to 69% for the same period in 2015, and our gross profit increased by 27%, or $12.9 million, to $60.4 million. The total gross profit increase was primarily due to higher growth in revenue relative to cost of revenue.
For the three months ended September 30, 2016, license software gross margin increased to 94% as compared to 92% for the same period in 2015 and license software gross profit increased by 3% to $29.7 million. License software cost of revenue decreased by 26%, or $0.6 million, to $1.8 million for the three months ended September 30, 2016, compared to the same period in 2015. The decrease in license software cost of revenue was primarily due to a decrease of $0.2 million in personnel-related costs and $0.2 million in equipment and software expenses. The increase in license software gross profit was driven by the decrease in license software cost of revenue.
For the three months ended September 30, 2016, subscription and maintenance support gross margin remained approximately unchanged at 67% as compared to the same period in 2015 and subscription and maintenance support gross profit increased by 23% to $24.6 million. Subscription and maintenance support cost of revenue increased by 22%, or $2.1 million, to $11.9 million for the three months ended September 30, 2016, compared to the same period in 2015. The increase in subscription and maintenance support cost of revenue was related to our continued investment in our product offerings, primarily our BroadCloud offering, along with the impact of recent acquisitions. The increase was primarily due to a $1.0 million increase in operational costs associated with hosting our SaaS offerings, a $0.7 million increase in personnel-related costs and a $0.3 million increase in third party software maintenance costs. The increase in subscription and maintenance support gross profit was driven by higher revenue growth relative to growth in subscription and maintenance services cost of revenue.

30


For the three months ended September 30, 2016, professional services and other gross margin increased to 38% as compared to (19)% for the same period in 2015 and professional services and other gross profit increased by 504% to $6.1 million. Professional services and other cost of revenue increased by 7%, or $0.6 million, to $10.1 million for the three months ended September 30, 2016, compared to the same period in 2015. The increase in professional services and other cost of revenue was primarily due to a $0.9 million increase in personnel-related costs, along with an increase of $0.3 million in consulting expenses. The increase was partially offset by a $0.5 million decrease in hardware expenses. The increase in professional services and other gross profit was driven by higher revenue growth relative to growth in professional services and other cost of revenue.
Operating Expenses
 
Three Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Sales and marketing
$
26,112

 
31
%
 
$
20,738

 
30
%
 
$
5,374

 
26
%
Research and development
19,931

 
24
%
 
14,974

 
22
%
 
4,957

 
33
%
General and administrative
12,759

 
15
%
 
10,955

 
16
%
 
1,804

 
16
%
Total operating expenses
$
58,802

 
70
%
 
$
46,667

 
68
%
 
$
12,135

 
26
%
Sales and Marketing. Sales and marketing expense increased by 26%, or $5.4 million, to $26.1 million for the three months ended September 30, 2016, compared to the same period in 2015. This increase was primarily due to a $5.3 million increase in personnel-related costs and a $0.3 million increase in travel costs, partially offset by a $0.7 million decrease in consulting expenses.
Research and Development. Research and development expense increased by 33%, or $5.0 million, to $19.9 million for the three months ended September 30, 2016, compared to the same period in 2015. This increase was primarily due to a $4.1 million increase in personnel-related costs and a $0.5 million increase in consulting expenses.
General and Administrative. General and administrative expense increased by 16%, or $1.8 million, to $12.8 million for the three months ended September 30, 2016, compared to the same period in 2015. This increase was primarily due to a $2.0 million increase in personnel-related costs, partially offset by a $0.3 million decrease in third party legal, accounting and consulting expenses.
Income from Operations
We had income from operations of $1.6 million for the three months ended September 30, 2016, as compared to $0.8 million for the same period in 2015.
Other Expense
 
Three Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Interest expense
$
3,959

 
5
 %
 
$
2,848

 
4
%
 
$
1,111

 
39
 %
Interest income
(683
)
 
(1
)%
 
(323
)
 
*

 
(360
)
 
111
 %
Other, net
(207
)
 
*

 
4,089

 
6
%
 
(4,296
)
 
(105
)%
Total other expense, net
$
3,069

 
4
 %
 
$
6,614

 
10
%
 
$
(3,545
)
 
(54
)%
*
Less than 1%
Total other expense, net for the three months ended September 30, 2016 decreased by $3.5 million compared to the same period in 2015. The decrease in total other expense was due to the $4.2 million loss in prior year related to the repurchase of a portion

31


of the 2018 Notes and the interest income of $0.4 related to our investments, partially offset by an increase in interest expense related to our 2022 Notes.
Benefit from Income Taxes
Benefit from income taxes was $0.9 million for the three months ended September 30, 2016, compared to $2.6 million for the same period in 2015. The decrease in our benefit from income taxes is due primarily to changes in the projected mix of earnings among jurisdictions as well as an increase in our valuation allowance for certain foreign jurisdictions, partially offset by an increase in research and development credits.
Comparison of the Nine Months Ended September 30, 2016 and 2015
Revenue
 
Nine Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Revenue by Type:
 
 
 
 
 
 
 
 
 
 
 
   License software
$
95,992

 
40
%
 
$
84,370

 
45
%
 
$
11,622

 
14
%
   Subscription and maintenance support
106,348

 
45
%
 
82,263

 
43
%
 
24,085

 
29
%
   Professional services and other
36,639

 
15
%
 
22,619

 
12
%
 
14,020

 
62
%
Total revenue
$
238,979

 
100
%
 
$
189,252

 
100
%
 
$
49,727

 
26
%
 
 
 
 
 
 
 
 
 
 
 
 
Revenue by Geography:
 
 
 
 
 
 
 
 
 
 
 
North America
$
132,545

 
56
%
 
$
121,897

 
64
%
 
$
10,648

 
9
%
EMEA
68,000

 
28
%
 
48,188

 
26
%
 
19,812

 
41
%
Emerging Markets
38,434

 
16
%
 
19,167

 
10
%
 
19,267

 
101
%
Total revenue
$
238,979

 
100
%
 
$
189,252

 
100
%
 
$
49,727

 
26
%
Total revenue for the nine months ended September 30, 2016 increased by 26%, or $49.7 million, to $239.0 million as compared to the same period in 2015. This growth was driven by a 14% increase in license software revenue, a 29% increase in subscription and maintenance support revenue and a 62% increase in professional services and other revenue. Deferred revenue decreased by $9.0 million for the nine months ended September 30, 2016, compared to an increase of $8.2 million for the same period in 2015.
North America revenue for the nine months ended September 30, 2016 increased by 9%, or $10.6 million, to $132.5 million as compared to the same period in 2015. The increase in North America revenue for the nine months ended September 30, 2016 was due to an increase in subscription and maintenance support revenue and professional services and other revenue, partially offset by a decrease in license software revenue.
EMEA revenue for the nine months ended September 30, 2016 increased 41%, or $19.8 million, to $68.0 million as compared to the same period in 2015. The increase in EMEA revenue for the nine months ended September 30, 2016 was due to an increase in license software revenue, subscription and maintenance support revenue and professional services and other revenue.
Emerging Markets revenue for the nine months ended September 30, 2016 increased by 101%, or $19.3 million, to $38.4 million compared to the same period in 2015. The increase in Emerging Markets revenue for the nine months ended September 30, 2016 was primarily due to an increase in license software revenue and subscription and maintenance support revenue, partially offset by a decrease in professional services and other revenue.
License Software
License software revenue for the nine months ended September 30, 2016 increased by 14%, or $11.6 million, to $96.0 million, compared to the same period in 2015. The increase in license software revenue for the nine months ended September 30, 2016

32


reflects an increase in license software revenue in EMEA and Emerging Markets, partially offset by a decrease in North America. Deferred license software revenue decreased by $13.7 million for the nine months ended September 30, 2016, compared to an increase of $5.8 million for the same period in 2015.
Subscription and Maintenance Support
Subscription and maintenance support revenue for the nine months ended September 30, 2016 increased by 29%, or $24.1 million, to $106.3 million, compared to the same period in 2015. The increase in subscription and maintenance support revenue for the nine months ended September 30, 2016 was the result of growth in our subscription revenue associated with our SaaS platforms, which included contributions from recent acquisitions, and growth in our installed base of customers who purchased maintenance support. Our SaaS subscription revenue for the nine months ended September 30, 2016 increased by $11.6 million to $37.5 million, compared to the same period in 2015. Deferred subscription and maintenance support revenue decreased by $3.2 million for the nine months ended September 30, 2016, compared to a decrease of $3.2 million for the same period in 2015.
Professional Services and Other
Professional services and other revenue for the nine months ended September 30, 2016 increased by 62%, or $14.0 million, to $36.6 million, compared to the same period in 2015. The increase in professional services and other revenue for the nine months ended September 30, 2016 was primarily due to revenue recognized from several large projects as we've reached milestones for those projects, and also due to increased professional services activity, including contributions from recent acquisitions. Deferred professional services and other revenue increased by $8.0 million for the nine months ended September 30, 2016, compared to an increase of $5.6 million for the same period in 2015.
Cost of Revenue and Gross Profit
 
Nine Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Related Revenue
 
Amount
 
Percent of Related Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Cost of Revenue:
 
 
 
 
 
 
 
 
 
 
 
License software
$
5,697

 
6
%
 
$
7,984

 
9
%
 
$
(2,287
)
 
(29
)%
Subscription and maintenance support
34,060

 
32
%
 
28,958

 
35
%
 
5,102

 
18
 %
Professional services and other
27,340

 
75
%
 
20,949

 
93
%
 
6,391

 
31
 %
Total cost of revenue
$
67,097

 
28
%
 
$
57,891

 
31
%
 
$
9,206

 
16
 %
Gross Profit:
 
 
 
 
 
 
 
 
 
 
 
License software
$
90,295

 
94
%
 
$
76,386

 
91
%
 
$
13,909

 
18
 %
Subscription and maintenance support
72,288

 
68
%
 
53,305

 
65
%
 
18,983

 
36
 %
Professional services and other
9,299

 
25
%
 
1,670

 
7
%
 
7,629

 
457
 %
Total gross profit
$
171,882

 
72
%
 
$
131,361

 
69
%
 
$
40,521

 
31
 %
For the nine months ended September 30, 2016, our gross margin increased to 72% of revenue as compared to 69% for the same period in 2015, and our gross profit increased by 31%, or $40.5 million, to $171.9 million. The total gross profit increase was primarily due to higher revenue growth relative to cost of revenue.
For the nine months ended September 30, 2016, license software gross margin increased to 94% as compared to 91% for the same period in 2015 and license software gross profit increased by 18% to $90.3 million. License software cost of revenue decreased by 29%, or $2.3 million, to $5.7 million for the nine months ended September 30, 2016, compared to the same period in 2015. The decrease in license software cost of revenue was primarily due to a $1.1 million decrease in personnel-related costs, a $0.6 million decrease in equipment and software expenses and a $0.3 million decrease in amortization of acquired intangible assets. The increase in license software gross profit was driven by revenue growth and a decrease in license software cost of revenue.

33


For the nine months ended September 30, 2016, subscription and maintenance support gross margin increased to 68% as compared to 65% the same period in 2015 and subscription and maintenance support gross profit increased by 36% to $72.3 million. Subscription and maintenance support cost of revenue increased by 18%, or $5.1 million, to $34.1 million for the nine months ended September 30, 2016, compared to the same period in 2015. The increase in subscription and maintenance support cost of revenue was primarily related to our continued investment in our product offerings, primarily our BroadCloud offering, along with the impact of recent acquisitions. The increase was primarily due to a $1.4 million increase in personnel-related costs, a $3.3 million increase in operational costs associated with hosting our SaaS offerings and a $0.4 million increase in third party software maintenance costs. The increase in subscription and maintenance support gross profit was driven by higher revenue growth relative to growth in subscription and maintenance services cost of revenue.
For the nine months ended September 30, 2016, professional services and other gross margin increased to 25% as compared to 7% for the same period in 2015 and professional services and other gross profit increased by 457% to $9.3 million. Professional services and other cost of revenue increased by 31%, or $6.4 million, to $27.3 million for the nine months ended September 30, 2016, compared to the same period in 2015. The increase in professional services and other cost of revenue was primarily due to a $6.6 million increase in personnel-related costs, which includes the impact of recent acquisitions, and a $0.3 million increase in amortization of acquired intangible assets, partially offset by a $0.5 million decrease in consulting expenses and a $0.5 million decrease in equipment and software expenses. The increase in professional services and other gross profit was driven by higher revenue growth relative to growth in professional services and other cost of revenue.
Operating Expenses
 
Nine Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Sales and marketing
$
75,386

 
32
%
 
$
59,852

 
32
%
 
$
15,534

 
26
%
Research and development
58,120

 
24
%
 
45,524

 
24
%
 
12,596

 
28
%
General and administrative
36,675

 
15
%
 
31,366

 
17
%
 
5,309

 
17
%
Total operating expenses
$
170,181

 
71
%
 
$
136,742

 
72
%
 
$
33,439

 
24
%
Sales and Marketing. Sales and marketing expense increased by 26%, or $15.5 million to $75.4 million for the nine months ended September 30, 2016, compared to the same period in 2015. The increase was primarily due to a $13.2 million increase in personnel-related costs, a $1.3 million increase in travel costs, a $0.5 million increase in equipment and software expenses and a $0.6 million increase in recruiting and training expenses, partially offset by a decrease of $0.7 million in consulting expenses.
Research and Development. Research and development expense increased by 28%, or $12.6 million to $58.1 million for the nine months ended September 30, 2016, compared to the same period in 2015. This increase was primarily due to a $10.5 million increase in personnel-related costs, a $0.9 million increase in consulting expenses and a $0.4 million increase in travel costs.
General and Administrative. General and administrative expense increased by 17%, or $5.3 million, to $36.7 million for the nine months ended September 30, 2016, compared to the same period in 2015. This increase was primarily due to a $4.5 million increase in personnel-related costs and a $0.3 million increase in travel expenses.
Income (loss) from Operations
We had income from operations of $1.7 million for the nine months ended September 30, 2016, as compared to loss from operations of $5.4 million for the same period in 2015.
Other Expense

34


 
Nine Months Ended September 30,
 
Period-to-Period Change
 
2016
 
2015
 
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percent of Total Revenue
 
Amount
 
Percentage
 
(dollars in thousands)
Interest expense
$
11,738

 
5
 %
 
$
6,864

 
4
%
 
$
4,874

 
71
 %
Interest income
(1,950
)
 
(1
)%
 
(819
)
 
*

 
(1,131
)
 
138
 %
Other, net
(533
)
 
*

 
5,312

 
3
%
 
(5,845
)
 
(110
)%
Total other expense, net
$
9,255

 
4
 %
 
$
11,357

 
6
%
 
$
(2,102
)
 
(19
)%
*
Less than 1%
Total other expense, net for the nine months ended September 30, 2016 decreased by $2.1 million compared to the same period in 2015. The decrease in total other expense was due to the $4.2 million loss in prior year related to the repurchase of a portion of the 2018 Notes, an increase in interest income of $1.1 million related to our investments and an increase in the foreign currency translation gains related to the revaluation of foreign denominated trade receivables, partially offset by an increase in interest expense related to our 2022 Notes.
Benefit from Income Taxes
Benefit from income taxes was $2.5 million for the nine months ended September 30, 2016, compared to $5.3 million for the same period in 2015. The decrease in our benefit from income taxes is due primarily to changes in the projected mix of earnings among jurisdictions as well as an increase in our valuation allowance for certain foreign jurisdictions, partially offset by an increase in research and development credits.
Liquidity and Capital Resources
Resources
We fund our operations principally with cash provided by operating activities.
Cash and Cash Equivalents, Accounts Receivable and Working Capital
The following tables present a summary of our cash and cash equivalents, accounts receivable, working capital and cash flows for the periods indicated (in thousands):
    
 
September 30,
2016
 
December 31,
2015
Cash and cash equivalents
$
100,047

 
$
175,857

Accounts receivable, net
104,521

 
108,113

Working capital
241,436

 
234,506

    
 
Nine Months Ended 
 September 30,
 
2016
 
2015
Net cash provided by (used in):
 
 
 
Operating activities
$
47,740

 
$
18,246

Investing activities
(124,049
)
 
(24,695
)
Financing activities
1,025

 
117,927

Our cash and cash equivalents at September 30, 2016 were held for working capital and other general corporate purposes and were invested primarily in demand deposit accounts or money market funds. We do not enter into investments for trading or speculative purposes.

35


Operating Activities
For the nine months ended September 30, 2016, net cash provided by operating activities was $47.7 million, compared to $18.2 million for the same period in 2015. The increase in net cash provided by operating activities was primarily related to a $15.2 million increase due to the aggregate change in non-cash items, a $7.9 million increase from the net change in other current and long-term assets and liabilities and a decrease in net loss of $6.4 million. Non-cash items primarily consist of stock-based compensation expense, depreciation and amortization, provision for deferred income taxes, tax windfall benefits from stock option exercises, non-cash interest on convertible debt and amortization of software licenses.
Investing Activities
Our investing activities have consisted primarily of net investment in marketable securities, business acquisitions and capital expenditures for property and equipment. For the nine months ended September 30, 2016, net cash used in investing activities was $124.0 million, compared to $24.7 million for the same period in 2015. This increase in net cash used in investing activities was attributable to a $96.1 million increase in net purchases of marketable securities and a $3.7 million increase in payments for acquisitions, partially offset by a $0.4 million decrease in capital expenditures for property and equipment, compared to the same period in 2015.
Financing Activities
For the nine months ended September 30, 2016, net cash provided by financing activities was $1.0 million, compared to $117.9 million for the same period in 2015. Net cash provided by financing activities primarily consisted of proceeds from the exercise of stock options of $13.9 million and tax windfall benefits from stock options exercised of $0.2 million, partially offset by taxes paid on the vesting of restricted stock units of $13.0 million.
Borrowings and Credit Facilities
2022 Convertible Senior Notes
In September 2015, we issued $201.3 million aggregate principal amount of the 2022 Notes, with net proceeds of $195.2 million. The 2022 Notes are general unsecured obligations, with interest payable semi-annually in cash at a rate of 1.0% per annum, and will mature on September 1, 2022, unless earlier repurchased, redeemed or converted.
The initial conversion price for the 2022 Notes is approximately $38.72 per share. The conversion price is subject to adjustment in some events, but will not be adjusted for accrued and unpaid interest. In addition, following certain corporate events that occur prior to the maturity date or if we issue a notice of redemption on or after September 1, 2019 as described below, we will increase the conversion rate for a holder who elects to convert its 2022 Notes in connection with such a corporate event or during the related redemption period in certain circumstances. Upon conversion, we will pay or deliver, as the case may be, cash, shares of our common stock or a combination of cash and shares of our common stock, at our election. It is our current intent to settle conversions through combination settlement with a specified dollar amount per $1,000 principal amount of 2022 Notes of $1,000. See Note 8, Borrowings, contained elsewhere in this Quarterly Report on Form 10-Q for additional details about the 2022 Notes.
2018 Convertible Senior Notes
In June 2011, we issued $120.0 million aggregate principal amount of the 2018 Notes, with net proceeds of $116 million. The 2018 Notes are our senior unsecured obligations, with interest payable semi-annually in cash at a rate of 1.50% per annum, and will mature on July 1, 2018, unless earlier repurchased, redeemed or converted. Concurrently with the issuance of the 2022 Notes, we repurchased an aggregate of $50.9 million principal amount in outstanding 2018 Notes. We have not repurchased any additional outstanding 2018 Notes.
The initial conversion price for the 2018 Notes is approximately $41.99 per share. The conversion price is subject to adjustment in some events, but will not be adjusted for accrued interest. Upon conversion, we will pay cash up to the aggregate principal amount of the 2018 Notes to be converted and deliver shares of our common stock in respect of the remainder, if any, of the conversion obligation in excess of the aggregate principal amount of the 2018 Notes being converted. See Note 8, Borrowings, contained elsewhere in this Quarterly Report on Form 10-Q for additional details about the 2018 Notes.
Operating and Capital Expenditure Requirements
We believe that the cash generated from operations, our current cash, cash equivalents and short-term and long-term investment balances and interest income we earn on these balances will be sufficient to meet our anticipated cash requirements through at least the next 12 months. In the future, we expect our operating and capital expenditures to grow, through organic growth and

36


acquisitions, as we increase headcount, expand our business activities, grow our customer base and implement and enhance our information technology and enterprise resource planning systems. As sales grow, we expect our accounts receivable balance to increase. Any such increase in accounts receivable may not be completely offset by increases in accounts payable and accrued expenses, which would likely result in greater working capital requirements.
If our available cash resources are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or convertible debt securities or enter into a credit facility. The sale of equity and convertible debt securities may result in dilution to our stockholders and those securities may have rights senior to those of our common shares. If we raise additional funds through the issuance of convertible debt securities, these securities could contain covenants that would restrict our operations. We may require additional capital beyond our currently anticipated amounts. Additional capital may not be available on reasonable terms, or at all.
Contractual Obligations
We have contractual obligations for non-cancelable office space, notes payable and other short-term and long-term liabilities. The following table discloses aggregate information about our contractual obligations as of September 30, 2016 and periods in which payments are due (in thousands):
 
Payments Due by Year
 
Total
 
Remainder of 2016
 
2017 - 2018
 
2019 - 2020
 
After 2020
Convertible senior notes, including interest *
$
284,503

 
$
518

 
$
74,685

 
$
4,025

 
$
205,275

Operating lease obligations
24,265

 
1,584

 
11,416

 
5,704

 
5,561

Total
$
308,768

 
$
2,102

 
$
86,101

 
$
9,729

 
$
210,836

*
Contractual interest obligations related to the convertible senior notes totaled $14.1 million at September 30, 2016, including $0.5 million, $5.6 million, $4.0 million and $4.0 million due in the years 2016, 2017-2018, 2019-2020 and after 2020, respectively. There was no contractual interest obligation for the remainder of 2016.
As of September 30, 2016, we had gross unrecognized tax benefits of $7.0 million, including interest and penalties of $0.4 million. We do not expect to recognize any of these benefits in 2016. Furthermore, we are not able to provide a reliable estimate of the timing of future payments relating to these unrecognized benefits.
Non-GAAP Financial Measures
In addition to our GAAP operating results, we use certain non-GAAP financial measures when planning, monitoring, and evaluating our performance. We consider these non-GAAP financial measures to be useful metrics for management and investors because they exclude the effect of certain non-cash expenses, such as stock-based compensation expense, amortization of acquired intangibles expense, non-cash interest expense on our convertible senior notes and non-cash tax benefit or expense included in our tax provision, so management and investors can compare our core business operating results over multiple periods. While we believe that these non-GAAP financial measures are useful in evaluating our business, this information should be considered as supplemental in nature and is not meant as a substitute for results reported in accordance with U.S. GAAP. In addition, other companies, including companies in our industry, may calculate such measures differently, which reduces its usefulness as a comparative measure. We believe that these non-GAAP measures reflect our ongoing business in a manner that allows for meaningful period-to-period comparisons and analysis of trends in our business, as they exclude certain expenses.
The presentation of non-GAAP net income, non-GAAP net income per share, non-GAAP cost of revenue, non-GAAP gross profit, non-GAAP income from operations, non-GAAP operating expenses and other non-GAAP financial measures in this Quarterly Report on Form 10-Q is not meant to be a substitute for “net income,” “net income per share,” “cost of revenue,” “gross profit,” “income from operations,” "operating expenses" or other financial measures presented in accordance with GAAP, but rather should be evaluated in conjunction with such data. Our definition of “non-GAAP net income,” “non-GAAP net income per share,” “non-GAAP gross profit,” “non-GAAP income from operations," "non-GAAP operating expenses" and other non-GAAP financial measures may differ from similarly titled non-GAAP measures used by other companies and may differ from period to period. In reporting non-GAAP measures in the future, we may make other adjustments for expenses and gains we do not consider reflective of core operating performance in a particular period and may modify “non-GAAP net income,” “non-GAAP net income per share,” “non-GAAP gross profit,” “non-GAAP income from operations” and such other non-GAAP measures by excluding these expenses and gains.
Non-GAAP cost of revenue, license software cost of revenue, subscription and maintenance cost of revenue and professional services and other cost of revenue. We define non-GAAP cost of revenue as a cost of revenue less stock-based compensation expense and amortization expense for acquired intangible assets. We consider non-GAAP cost of revenue to be a useful metric for management and our investors because it excludes the effect of certain non-cash expenses so management and investors can compare our cost of revenue over multiple periods.
Non-GAAP gross profit, license software gross profit, subscription and maintenance support gross profit and professional services and other gross profit. We define non-GAAP gross profit as gross profit plus stock-based compensation expense and amortization expense for acquired intangible assets. We consider non-GAAP gross profit to be a useful metric for management and our investors because it excludes the effect of certain non-cash expenses so management and investors can compare our sales margins over multiple periods.
Non-GAAP income from operations. We define non-GAAP income from operations as income from operations plus stock-based compensation expense and amortization expense for acquired intangible assets. We consider non-GAAP income from operations to be a useful metric for management and investors because it excludes the effect of certain non-cash expenses so management and investors can compare our core business operating results over multiple periods.

37


Non-GAAP operating expenses, sales and marketing expense, research and development expense and general and administrative expense. We define non-GAAP operating expenses as operating expense less stock-based compensation expense allocated to sales and marketing, research and development and general and administrative expenses. Similarly, we define non-GAAP sales and marketing, research and development and general and administrative expenses as the relevant GAAP measure less stock-based compensation expense allocated to the particular expense item.
Non-GAAP net income and net income per share. We define non-GAAP net income as net income plus stock-based compensation expense, amortization expense for acquired intangible assets, non-cash interest expense on our convertible senior notes, foreign currency transaction gains and losses, loss on repurchase of our convertible senior notes and non-cash tax expense included in the GAAP tax provision. We define non-GAAP income per share as non-GAAP net income divided by the weighted average shares outstanding.
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Non-GAAP cost of revenue:
 
 
 
 
 
 
 
GAAP license cost of revenue
$
1,799

 
$
2,444

 
$
5,697

 
$
7,984

(percent of related revenue)
6
%
 
8
%
 
6
%
 
9
%
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
146

 
234

 
472

 
771

Amortization of acquired intangible assets
334

 
430

 
1,003

 
1,297

Non-GAAP license cost of revenue
$
1,319

 
$
1,780

 
$
4,222

 
$
5,916

(percent of related revenue)
4
%
 
6
%
 
4
%
 
7
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP subscription and maintenance support cost of revenue
$
11,894

 
$
9,787

 
$
34,060

 
$
28,958

(percent of related revenue)
33
%
 
33
%
 
32
%
 
35
%
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
952

 
607

 
2,438

 
2,329

Amortization of acquired intangible assets
1,197

 
1,010

 
3,431

 
3,122

Non-GAAP subscription and maintenance support cost of revenue
$
9,745

 
$
8,170

 
$
28,191

 
$
23,507

(percent of related revenue)
27
%
 
27
%
 
27
%
 
29
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP professional services and other cost of revenue
$
10,060

 
$
9,429

 
$
27,340

 
$
20,949

(percent of related revenue)
62
%
 
119
%
 
75
%
 
93
%
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
1,127

 
1,060

 
3,208

 
2,187

Amortization of acquired intangible assets
175

 
175

 
525

 
233

Non-GAAP professional services and other cost of revenue
$
8,758

 
$
8,194

 
$
23,607

 
$
18,529

(percent of related revenue)
54
%
 
103
%
 
64
%
 
82
%


38


 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Non-GAAP gross profit:
 
 
 
 
 
 
 
GAAP gross profit
$
60,369

 
$
47,437

 
$
171,882

 
$
131,361

(percent of total revenue)
72
%
 
69
 %
 
72
%
 
69
%
Plus:
 
 
 
 
 
 
 
Stock-based compensation expense
2,225

 
1,901

 
6,118

 
5,287

Amortization of acquired intangible assets
1,706

 
1,615

 
4,959

 
4,652

Non-GAAP gross profit
$
64,300

 
$
50,953

 
$
182,959

 
$
141,300

(percent of total revenue)
76
%
 
74
 %
 
77
%
 
75
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP license gross profit
$
29,687

 
$
28,899

 
$
90,295

 
$
76,386

(percent of related revenue)
94
%
 
92
 %
 
94
%
 
91
%
Plus:
 
 
 
 
 
 
 
Stock-based compensation expense
146

 
234

 
472

 
771

Amortization of acquired intangible assets
334

 
430

 
1,003

 
1,297

Non-GAAP license gross profit
$
30,167

 
$
29,563

 
$
91,770

 
$
78,454

(percent of related revenue)
96
%
 
94
 %
 
96
%
 
93
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP subscription and maintenance support gross profit
$
24,615

 
$
20,041

 
$
72,288

 
$
53,305

(percent of related revenue)
67
%
 
67
 %
 
68
%
 
65
%
Plus:
 
 
 
 
 
 
 
Stock-based compensation expense
952

 
607

 
2,438

 
2,329

Amortization of acquired intangible assets
1,197

 
1,010

 
3,431

 
3,122

Non-GAAP subscription and maintenance support gross profit
$
26,764

 
$
21,658

 
$
78,157

 
$
58,756

(percent of related revenue)
73
%
 
73
 %
 
73
%
 
71
%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP professional services and other gross profit (loss)
$
6,067

 
$
(1,503
)
 
$
9,299

 
$
1,670

(percent of related revenue)
38
%
 
(19
)%
 
25
%
 
7
%
Plus:
 
 
 
 
 
 
 
Stock-based compensation expense
1,127

 
1,060

 
3,208

 
2,187

Amortization of acquired intangible assets
175

 
175

 
525

 
233

Non-GAAP professional services and other gross profit
$
7,369

 
$
(268
)
 
$
13,032

 
$
4,090

(percent of related revenue)
46
%
 
(3
)%
 
36
%
 
18
%


39


 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands)
Non-GAAP income from operations:
 
 
 
 
 
 
 
GAAP income (loss) from operations
$
1,567

 
$
770

 
$
1,701

 
$
(5,381
)
(percent of total revenue)
2
%
 
1
%
 
1
%
 
(3
)%
Plus:
 
 
 
 
 
 
 
Stock-based compensation expense
14,021

 
9,157

 
38,307

 
30,387

Amortization of acquired intangible assets
1,706

 
1,615

 
4,959

 
4,652

Non-GAAP income from operations
$
17,294

 
$
11,542

 
$
44,967

 
$
29,658

(percent of total revenue)
21
%
 
17
%
 
19
%
 
16
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP operating expense
$
58,802

 
$
46,667

 
$
170,181

 
$
136,742

(percent of total revenue)
70
%
 
68
%
 
71
%
 
72
 %
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
11,796

 
7,256

 
32,189

 
25,100

Non-GAAP operating expense
$
47,006

 
$
39,411

 
$
137,992

 
$
111,642

(percent of total revenue)
56
%
 
57
%
 
58
%
 
59
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP sales and marketing expense
$
26,112

 
$
20,738

 
$
75,386

 
$
59,852

(percent of total revenue)
31
%
 
30
%
 
32
%
 
32
 %
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
4,973

 
2,812

 
13,321

 
10,048

Non-GAAP sales and marketing expense
$
21,139

 
$
17,926

 
$
62,065

 
$
49,804

(percent of total revenue)
25
%
 
26
%
 
26
%
 
26
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP research and development expense
$
19,931

 
$
14,974

 
$
58,120

 
$
45,524

(percent of total revenue)
24
%
 
22
%
 
24
%
 
24
 %
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
4,249

 
2,428

 
11,414

 
8,933

Non-GAAP research and development expense
$
15,682

 
$
12,546

 
$
46,706

 
$
36,591

(percent of total revenue)
19
%
 
18
%
 
20
%
 
19
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP general and administrative expense
$
12,759

 
$
10,955

 
$
36,675

 
$
31,366

(percent of total revenue)
15
%
 
16
%
 
15
%
 
17
 %
Less:
 
 
 
 
 
 
 
Stock-based compensation expense
2,574

 
2,016

 
7,454

 
6,119

Non-GAAP general and administrative expense
$
10,185

 
$
8,939

 
$
29,221

 
$
25,247

(percent of total revenue)
12
%
 
13
%
 
12
%
 
13
 %


40


 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
 
(in thousands, except per share data)
Non-GAAP net income and income per share:
 
 
 
 
 
 
 
GAAP net loss
$
(605
)
 
$
(3,251
)
 
$
(5,009
)
 
$
(11,444
)
(percent of total revenue)
(1
)%
 
(5
)%
 
(2
)%
 
(6
)%
Adjusted for:
 
 
 
 
 
 
 
Stock-based compensation expense
14,021

 
9,157

 
38,307

 
30,387

Amortization of acquired intangible assets
1,706

 
1,615

 
4,959

 
4,652

Non-cash interest expense on our convertible senior notes
3,197

 
2,325

 
9,428

 
5,441

Foreign currency transaction losses (gains)
(207
)
 
336

 
(533
)
 
1,559

Loss on repurchase of convertible senior notes

 
3,752

 

 
3,752

Non-cash tax benefit
(1,758
)
 
(2,994
)
 
(4,775
)
 
(6,402
)
Non-GAAP net income
$
16,354

 
$
10,940

 
$
42,377

 
$
27,945

(percent of total revenue)
19
 %
 
16
 %
 
18
 %
 
15
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP net loss per basic common share
$
(0.02
)
 
$
(0.11
)
 
$
(0.17
)
 
$
(0.39
)
Adjusted for:
 
 
 
 
 
 
 
Stock-based compensation expense
0.47

 
0.31

 
1.30

 
1.04

Amortization of acquired intangible assets
0.06

 
0.06

 
0.17

 
0.16

Non-cash interest expense on our convertible senior notes
0.11

 
0.08

 
0.32

 
0.19

Foreign currency transaction losses (gains)
(0.01
)
 
0.01

 
(0.02
)
 
0.05

Loss on repurchase of convertible senior notes

 
0.13

 

 
0.13

Non-cash tax benefit
(0.06
)
 
(0.10
)
 
(0.16
)
 
(0.22
)
Non-GAAP net income per basic common share
$
0.55

 
$
0.37

 
$
1.44

 
$
0.96

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
GAAP net loss per diluted common share
$
(0.02
)
 
$
(0.11
)
 
$
(0.17
)
 
$
(0.39
)
Adjusted for:
 
 
 
 
 
 
 
Stock-based compensation expense
0.44

 
0.31

 
1.25

 
1.02

Amortization of acquired intangible assets
0.05

 
0.05

 
0.16

 
0.16

Non-cash interest expense on our convertible senior notes
0.10

 
0.08

 
0.31

 
0.18

Foreign currency transaction losses (gains)
(0.01
)
 
0.01

 
(0.02
)
 
0.05

Loss on repurchase of convertible senior notes

 
0.13

 

 
0.13

Non-cash tax benefit
(0.06
)
 
(0.10
)
 
(0.16
)
 
(0.21
)
Non-GAAP net income per diluted common share
$
0.52

 
$
0.37

 
$
1.39

 
$
0.94


Off-Balance Sheet Arrangements
As of September 30, 2016, we did not have any significant off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.


41


ITEM 3.
Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk related to changes in interest rates and foreign currency exchange rates. We do not use derivative financial instruments for speculative, hedging or trading purposes, although in the future we may enter into interest rate or exchange rate hedging arrangements to manage the risks described below.
Interest Rate Risk
The interest rate is fixed on all our outstanding loan balances; consequently, we do not have exposure to risks due to increases in the variable rates tied to indexes. We maintain a short-term investment portfolio consisting mainly of highly liquid short-term money market funds, which we consider to be cash equivalents. These securities and investments earn interest at variable rates and, as a result, decreases in market interest rates would generally result in decreased interest income. At September 30, 2016, we had long-term debt of $270.4 million associated with our convertible senior notes, which are fixed rate instruments. We would not expect a 10% change in interest rates to have a material impact on our results of operations.
Foreign Currency Exchange Risk
Our results of operations and cash flows are subject to fluctuations because of changes in foreign currency exchange rates, particularly changes in exchange rates between the U.S. dollar and the Euro and British Pound, the currencies of countries where we currently have our most significant international operations. On a historical basis, invoicing has largely been denominated in U.S. dollars; however, we expect an increasing proportion of our future business to be conducted in currencies other than U.S. dollars. In particular, invoices for our SaaS offerings are denominated in local currencies, which exposes us to foreign currency exchange risk, and we expect this risk to increase as SaaS revenue grows as a proportion of our total revenue. Our expenses are generally denominated in the currencies of the countries in which our operations are located, with our most significant operations at present located in the United States, the United Kingdom, Germany, Canada and India. As a result, our results of operations would generally be adversely affected by a decline in the value of the U.S. dollar relative to these foreign currencies. However, we believe this net exposure is not material at this time. As we continue to grow our international operations, our exposure to foreign currency risk will likely become more significant. We do not currently engage in currency hedging activities to limit the risk of exchange rate fluctuations.
Fluctuations in foreign currencies impact the amount of total assets and liabilities that we report for our foreign subsidiaries upon the translation of these amounts into U.S. Dollars. In particular, the amount of cash and cash equivalents that we report in U.S. Dollars would be impacted by a significant fluctuation in foreign currency exchange rates. Based on our cash and cash equivalent balances held in foreign currencies at September 30, 2016, if overall foreign currency exchange rates in comparison to the U.S. Dollar uniformly weakened by 10%, the amount of cash and cash equivalents we would report in U.S. Dollars would decrease by approximately $2.6 million, assuming constant foreign currency cash and cash equivalents balances, although the actual effects may differ materially from this hypothetical analysis.



42


ITEM 4.
Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our chief executive officer and our chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2016. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required 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 September 30, 2016, 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.
Changes in Internal Control over Financial Reporting
There was no change in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.


43


PART II: OTHER INFORMATION
ITEM 1.
Legal Proceedings
From time to time, we are a defendant in litigation arising out of the ordinary course of business. Although it is difficult to predict the ultimate outcomes of these cases, we are not a party to any material, pending legal proceeding, nor are we aware of any pending legal proceeding to which any of our officers, directors, or any beneficial holders of 5% or more of our common stock are adverse to us or have a material interest adverse to us.
ITEM 1A.
Risk Factors
Except as set forth below, there have been no material changes in risk factors from those disclosed in Part 1, Item 1A, “Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2015, which was filed with the Securities and Exchange Commission, or SEC, on February 25, 2015.
Any significant disruption in our SaaS hosting network infrastructure, interruptions or delays in services, whether caused by us or third parties on whom we rely, could impair the delivery of our products and harm our business. 
We currently host our BroadCloud service and provide such services on a SaaS basis to our service provider customers. This hosting network infrastructure is a critical part of our business operations and we rely on third parties to provide certain portions of this infrastructure. We do not control the operations of the third-party infrastructure providers on which some of our cloud services are deployed and BroadCloud, and these facilities, are vulnerable to any information security breaches, power outages, telecommunications failures or other issues that the data center may experience. Our third party data center providers are also subject to break-ins, computer viruses, sabotage, intentional acts of vandalism and other misconduct. The occurrence of any of these disasters or other unanticipated problems could result in lengthy interruptions in our service. Furthermore, the availability of our platform could be interrupted by a number of additional factors, including our customers’ inability to access the Internet, the failure of our network or software systems due to human or other error, security breaches or ability of the infrastructure to handle spikes in customer usage. We have in the past experienced, and may in the future experience, interruptions, delays and outages in service and availability from time to time due to such factors. Interruptions in our service may reduce our revenue, cause us to issue credits or pay penalties under our agreements with certain customers, cause customers to terminate their subscriptions and adversely affect our renewal rates and our ability to attract new customers. Our business will also be harmed if our customers and potential customers believe our service is unreliable. 
ITEM 2.
Unregistered Sales of Equity Securities and Use of Proceeds
None.
ITEM 3.
Defaults Upon Senior Securities
None.
ITEM 4.
Mine Safety Disclosures
None.
ITEM 5.
Other Information
None.

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ITEM 6.
Exhibits
 
Exhibit Number
 
Description of Document
 
 
3.1
 
Amended and Restated Certificate of Incorporation. (1)
 
 
3.2
 
Second Amended and Restated Bylaws. (2)
 
 
4.1
 
Indenture, dated as of June 20, 2011, by and between the Company and Wells Fargo Bank, N.A., as Trustee. (3)
 
 
4.2
 
Form of Note representing the Company’s 1.50% Convertible Senior Notes due 2018. (3)
 
 
 
4.3
 
Indenture, dated as of September 15, 2015, by and between the Company and Wells Fargo Bank, N.A., as Trustee. (4)
 
 
4.4
 
Form of Note representing the Company’s 1.0% Convertible Senior Notes due 2022 (included as Exhibit A to the Indenture filed as Exhibit 4.3). (4)
 
 
 
31.1
 
Certification by Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 
31.2
 
Certification by Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
 
32.1
 
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 
32.2
 
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
 
101.INS XBRL
 
Instance Document
 
 
101.SCH XBRL
 
Taxonomy Extension Schema
 
 
101.CAL XBRL
 
Taxonomy Extension Calculation Linkbase
 
 
101.DEF XBRL
 
Taxonomy Extension Definition Linkbase
 
 
101.LAB XBRL
 
Taxonomy Extension Label Linkbase
 
 
101.PRE XBRL
 
Taxonomy Extension Presentation Linkbase
___________________
 
(1)
Previously filed as an exhibit to the registrant’s Current Report on Form 8-K (File No. 001-34777) filed with the Securities and Exchange Commission on June 25, 2010 and incorporated herein by reference.
(2)
Filed as Exhibit 3.1 to the registrant's Current Report on Form 8-K (File No. 001-34777) filed with the Securities and Exchange Commission on November 20, 2013 and incorporated herein by reference.
(3)
Previously filed as an exhibit to the registrant’s Current Report on Form 8-K (File No. 1-34777) filed with the Securities and Exchange Commission on June 21, 2011 and incorporated by reference herein.
(4)
Previously filed as an exhibit to the registrant’s Current Report on Form 8-K (File No. 1-34777) filed with the Securities and Exchange Commission on September 15, 2015 and incorporated by reference herein.




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SIGNATURE
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.
 
 
BROADSOFT, INC.
 
 
 
By:  
 
/s/ James A. Tholen
 
 
 
James A. Tholen
Chief Financial Officer
(Principal Financial Officer and duly authorized signatory)
Date: October 31, 2016

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