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NIMBLE STORAGE INC - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) You should read the following discussion and analysis of our financial condition and results of operations together with the consolidated financial statements and related notes that are included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements based upon current plans, expectations and beliefs that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under "Risk Factors" and in other parts of this Annual Report on Form 10-K. Overview Our mission is to provide our customers with the industry's most efficient data storage platform. We have designed and sell a flash-optimized hybrid storage platform that we believe is disrupting the market by enabling significant improvements in application performance and storage capacity with superior data protection, while simplifying business operations and lowering costs. At the core of our innovative platform is our Cache-Accelerated Sequential Layout file system software, which we call our CASL technology, and our cloud-based storage management and support service, InfoSight. We were incorporated in November 2007, and we initially focused on the development of our CASL file system software and our storage platform. We shipped our first product line, our CS200 series, in August 2010. In August 2012, we introduced our CS400 series of products and a number of scale-to-fit products, including expansion shelves and controller upgrades. In April 2013, we launched InfoSight. We typically recognize revenue upon the shipment of these products. We also offer support and maintenance services including InfoSight, for periods ranging from one to five years, and recognize revenue over the term of the related support and maintenance agreement. Since shipping our first product in August 2010, our end-customer base has grown rapidly. We had over 2,640, 1,090 and 270 end-customers as of January 31, 2014, 2013 and 2012, respectively. Our end-customers span a range of industries such as cloud-based service providers, education, financial services, healthcare, manufacturing, state and local government and technology. To continue to grow our business, it is important that we both obtain new customers and sell additional products to our existing customers. For example, in the years ended January 31, 2014, 2013 and 2012, approximately 34%, 25% and 19% of the dollar amount of orders received were from existing end-customers. As of January 31, 2014, the top 50 of our end-customers that have been with us for at least one year, on average, made additional purchases that were approximately 1.5 times more than the initial dollar purchase amount in the year following the initial sale. Of these 50 customers, 18 have at least two years of purchasing history with us, and these longer term customers, on average, made additional purchases that were approximately three times the initial purchase amount in the two years following the initial sale. 40 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements We sell our products through our network of VARs and distributors, and also engage our end-customers through our global sales force. As of January 31, 2013, 2012 and 2011, we had over 910, 430 and 110 VARs that offered our solutions worldwide. Our channel partners act as an extension of our sales force to market our solutions directly to end-customers and do not hold inventory. We have sales offices located in several international locations, including Australia, England, Germany and Singapore. In addition, we have sales employees located in a number of other geographies worldwide, including Canada, Sweden, France, the Netherlands and Japan. Our revenue outside North America was 15% of our total revenue for the year ended January 31, 2014, as we increased our sales and marketing efforts on a global basis. We outsource the manufacturing of our hardware products to our contract manufacturers, which assemble and test our products. Our contract manufacturers generally procure the components used in our products directly from third-party suppliers. Inventory and shipment are handled by our third-party logistics partners. Distributors handle fulfillment and, in some situations, shipment for our domestic and international end-customers, but do not hold inventory. We have experienced significant growth in recent periods with total revenue of $125.7 million, $53.8 million and $14.0 million in the years ended January 31, 2014, 2013 and 2012. Our net loss was $43.1 million, $27.9 million and $16.8 million in the years ended January 31, 2014, 2013 and 2012. As our sales and customer base have grown, we have also experienced growth in our deferred revenue from $2.0 million as of January 31, 2012 to $10.9 million as of January 31, 2013 and to $33.5 million as of January 31, 2014. Our gross margin has improved from approximately 55% for the year ended January 31, 2012 to 62% for the year January 31, 2013 and to 65% for the year ended January 31, 2014. As a percentage of total revenue, our operating expenses have declined from 175% for the year ended January 31, 2012 to 114% for the year ended January 31, 2013 and to 99% for the year ended January 31, 2014. As a consequence of the rapidly evolving nature of our business and our limited operating history, we believe that period-to-period comparisons of revenue and other operating results, including gross margin and operating expenses as a percentage of our total revenue, are not necessarily meaningful and should not be relied upon as indications of future performance. Although we have experienced significant percentage growth in our total revenue, we do not believe that our historical growth rates are likely to be sustainable or indicative of future growth. Since our founding, we have invested heavily in growing our business, particularly in research and development and sales and marketing. From January 31, 2011 to January 31, 2014, our headcount has increased from 47 to 592 employees. We intend to continue to invest in development of our solutions and sales and marketing programs to drive long-term growth. To support future sales, we plan to continue to invest significant resources in sales and marketing. The successful growth of our business will depend on our ability to continue to expand our customer base by gaining new customers and in turn grow revenues from our existing customer base. As a result, we intend to hire additional sales and marketing personnel. We are also expanding our VAR network and contracting directly with large distributors. While these areas represent significant opportunities for us, they also pose risks and challenges that we must successfully address in order to sustain the growth of our business and improve our operating results. For example, our investments in these areas might not result in a significant increase in productive sales personnel or channel partners. If this were to occur, we might not be able to expand our base of new customers or succeed in selling additional products to existing customers, which would affect our ability to continue to grow our revenues. Our future performance will also depend on our ability to continue to innovate, improve functionality in our products and adapt to new technologies or changes to existing technologies. 41 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Accordingly, we also intend to continue to invest in our research and development activities. It is difficult for us to predict the timing and impact that these investments will have on future revenue. Additionally, we face significant competition in the storage market, which makes it more important that the investments we make in our business are successful. Weak global economic conditions, particularly market and financial uncertainty in the United States and Europe, or a reduction in spending even if economic conditions improve, could adversely impact our business, financial condition and operating results. If we are unable to address these challenges, our business could be adversely affected. Key Business Metrics We monitor the key business metrics set forth below in managing our business. We discuss revenue and gross margin below under "-Components of Operating Results." Deferred revenue, cash flow used in operating activities, Non-GAAP Net Loss and Non-GAAP Operating Income are discussed immediately below the following table. Year Ended or as of January 31, 2014 2013 2012 (dollars in thousands) Total revenue $ 125,733 $ 53,840 $ 14,013 Year-over-year percentage increase 134 % 284 % 734 % Gross margin 64.8 % 62.0 % 55.2 % Deferred revenue, current and non-current 33,509 10,896 2,028 Net cash used in operating activities (6,742 ) (18,754 ) (14,841 ) Non-GAAP Net Loss (33,974 ) (25,253 ) (15,970 ) Non-GAAP Operating Loss (33,420 ) (25,160 ) (15,967 ) Deferred Revenue Our deferred revenue consists of amounts that have been either invoiced or prepaid but have not yet been recognized as revenue as of the period end. The majority of our deferred revenue consists of the unrecognized portion of revenue from sales of our support and service contracts. We monitor our deferred revenue balance because it represents a portion of revenue to be recognized in future periods. Net Cash Used in Operating Activities We monitor net cash used in operating activities as a measure of our overall business performance. Our net cash used in operating activities is driven in large part by our net losses. Monitoring net cash used in operating activities enables us to analyze our financial performance without the non-cash effects of certain items such as depreciation, and stock-based compensation costs, thereby allowing us to better understand and manage the cash needs of our business. Non-GAAP Net Loss and Non-GAAP Operating Loss To provide investors with additional information regarding our financial results, we have disclosed in this Annual Report on Form 10-K Non-GAAP Net Loss and Non-GAAP Operating Loss. We define Non-GAAP Net Loss as our net loss adjusted to exclude stock-based compensation. We define Non-GAAP Operating Loss as our operating loss adjusted to exclude stock-based compensation. We have provided reconciliations below of Non-GAAP Net Loss to net loss and Non-GAAP Operating Loss to operating loss, the most directly comparable GAAP financial measures. We have included non-GAAP Net Loss and Non-GAAP Operating Loss in this Annual Report on Form 10-K because they are key measures used by our management and board of directors to understand and evaluate our core operating performance and trends, to prepare and approve our 42-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements annual budget and to develop short-term and long-term operational and compensation plans. In particular, the exclusion of certain expenses in calculating non-GAAP Net Loss and Non-GAAP Operating Loss can provide useful measures for period-to-period comparisons of our core business. Accordingly, we believe that non-GAAP Net Loss and Non-GAAP Operating Loss provide useful information to investors and others in understanding and evaluating our operating results in the same manner as our management and board of directors. Our use of Non-GAAP Net Loss and Non-GAAP Operating Loss has limitations as analytical tools, and you should not consider these measures in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are: ¨ Non-GAAP Net Loss and Non-GAAP Operating Loss do not consider the potentially dilutive impact of equity-based compensation, which is an ongoing expense for us; ¨ Other companies, including companies in our industry, may calculate Non-GAAP Net Loss and Non-GAAP Operating Loss differently, which reduces their usefulness as comparative measures. Because of these limitations, you should consider Non-GAAP Net Loss and Non-GAAP Operating Loss alongside other financial performance measures, including various cash flow metrics, net loss and our other GAAP results. We compensate for these limitations by also reviewing our GAAP financial statements. Reconciliations of Non-GAAP Net Loss to net loss and Non-GAAP Operating Loss to operating loss are provided below: Year Ended January 31, 2014 2013 2012 (in thousands) Net loss $ (43,123 ) $ (27,857 ) $ (16,790 ) Stock-based compensation expense 9,149 2,604 820 Non-GAAP Net Loss $ (33,974 ) $ (25,253 ) $ (15,970 ) Operating loss $ (42,569 ) $ (27,764 ) $ (16,787 ) Stock-based compensation expense 9,149 2,604 820 Non-GAAP Operating Loss $ (33,420 ) $ (25,160 ) $ (15,967 ) Components of Operating Results Revenue Our total revenue is comprised of the following: Product Revenue. We generate the substantial majority of our product revenue from the sales of our storage products. It is our practice to identify a direct customer or an end-customer from our VARs and distributors prior to shipment. Products are typically shipped directly to the direct customer or the end-customers of our VARs and distributors. Assuming all other revenue recognition criteria have been met, we generally recognize revenue on sales upon shipment, as title and risk of loss are transferred at that time. For certain VARs and distributors, title and risk of loss is transferred upon delivery to the end-customers and revenue is recognized after delivery has been completed. Our arrangements with VARs and distributors do not contain rights of return, subsequent price discounts, price protection or other allowances for shipments completed. Support and Service Revenue. We generate our support and service revenue primarily from support and service contracts, which include our automated support and management platform. The 43-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements majority of our product sales are bundled with support and service contracts with terms ranging from one to five years. We recognize revenue from support and service contracts over the contractual service period. As a percentage of total revenue, we expect our support and service revenue to increase as we add new customers and renew existing support and service contracts. See "-Critical Accounting Policies and Estimates, Revenue Recognition" for further information on our revenue recognition policy. Cost of Revenue Our total cost of revenue is comprised of the following: Cost of Product Revenue. Cost of product revenue primarily includes costs paid to our third-party contract manufacturers, which includes the costs of our components, and personnel costs associated with our manufacturing operations. Personnel costs consist of salaries, benefits, bonuses and stock-based compensation. Our cost of product revenue also includes warranty costs, freight and allocated overhead costs. Overhead costs consist of certain facilities, depreciation, benefits and IT costs. We expect our cost of product revenue to increase as our product revenue increases. Cost of Support and Service Revenue. Cost of support and service revenue includes personnel costs associated with our global customer support organization, operation and administration of our service depots, cost from service inventory reserves and allocated overhead costs. Personnel costs consist of salaries, benefits, bonuses and stock-based compensation. Overhead costs consist of certain facilities, depreciation, benefits and IT costs. We expect our cost of support and service revenue to increase as our installed end-customer base grows. Gross Margin Gross margin, or gross profit as a percentage of total revenue, has been and will continue to be affected by a variety of factors, including the average sales price of our storage products and related support and service contracts, manufacturing and overhead costs, component costs, the mix of products sold, and our ability to leverage our existing infrastructure as we continue to grow. We expect our gross margins to fluctuate over time depending on the factors described above. Operating Expenses Our operating expenses consist of research and development, sales and marketing, and general and administrative expense. Personnel costs are the most significant component of operating expenses. Research and Development. Research and development expense consists primarily of personnel costs and allocated overhead and also includes depreciation expense from property and equipment purchases, consulting and other costs to support our development activities. To date, we have expensed all research and development costs as incurred. We expect research and development expense to continue to increase in absolute dollars as we continue to invest in our research and product development efforts to enhance our product capabilities and access new customer markets, although such expense may fluctuate as a percentage of total revenue. Sales and Marketing. Sales and marketing expense consists primarily of personnel costs, sales commission costs and allocated overhead. We expense sales commission costs as incurred. Sales and marketing expense also includes costs for recruiting and training channel partners, market development programs, promotional and other marketing activities, travel, office equipment, depreciation of proof-of-concept evaluation units and outside consulting costs. We expect sales and marketing expense to continue to increase in absolute dollars as we expand our sales and marketing headcount in all markets and expand our international operations, although such expense may fluctuate as a percentage of total revenue. 44-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements General and Administrative. General and administrative expense consists of personnel costs, professional services and allocated overhead. General and administrative personnel include our executive, finance, human resources, administrative, IT, facilities and legal organizations. Professional services consist primarily of legal, auditing, accounting and other consulting costs. We expect general and administrative expense to continue to increase in absolute dollars as we have recently incurred, and expect to continue to incur, additional general and administrative expenses as we grow our operations and operate as a public company, including higher legal, corporate insurance and accounting expenses. Interest Income and Other Expense, Net Interest income consists of interest earned on our cash and cash equivalent balances. We have historically invested our cash in money-market funds. We expect interest income, which has not been historically significant to our operations, to vary each reporting period depending on our average investment balances during the period, types and mix of investments and market interest rates. Other expense, net consists primarily of gains and losses from foreign currency transactions. Provision for Income Taxes Provision for income taxes consists primarily of state income taxes in the United States and income taxes in certain foreign jurisdictions in which we conduct business. We provide a full valuation allowance for deferred tax assets, which includes net operating loss, or NOL, carryforwards and tax credits related primarily to research and development. We expect to maintain this full valuation allowance for the foreseeable future as it is more likely than not that the assets will not be realized based on our history of losses. At January 31, 2014, we had federal and state NOL carryforwards of $73.2 million and $55.7 million that expire in 2034. Under Section 382 of the U.S. Internal Revenue Code of 1986, or the Code, a corporation that undergoes an "ownership change" is subject to limitations on its ability to utilize its pre-change NOLs to offset future taxable income. In September 2013, we completed an analysis to evaluate whether there are any limitations of our NOLs and concluded no limitations currently exist. While we do not believe that we have experienced an ownership change that would result in limitations, regulatory changes, such as suspension on the use of NOLs, could result in the expiration of our NOLs or otherwise cause them to be unavailable to offset future income tax liabilities. 45-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Results of Operations The following tables summarize our consolidated results of operations for the periods presented and as a percentage of our total revenue for those periods. The period-to-period comparison of results is not necessarily indicative of results for future periods. Year Ended January 31, 2014 2013 2012 (in thousands) Consolidated Statements of Operations Data: Revenue: Product $ 112,812 $ 49,765 $ 13,113 Support and service 12,921 4,075 900 Total revenue 125,733 53,840 14,013 Cost of revenue: Product(1) 36,231 17,266 5,233 Support and service(1) 7,980 3,184 1,045 Total cost of revenue 44,211 20,450 6,278 Total gross profit 81,522 33,390 7,735 Operating expenses: Research and development(1) 35,247 16,135 7,903 Sales and marketing(1) 75,107 39,851 12,863 General and administrative(1) 13,737 5,168 3,756 Total operating expenses 124,091 61,154 24,522 Loss from operations (42,569 ) (27,764 ) (16,787 ) Interest income, net 21 32 6 Other expense, net (150 ) (26 ) (4 ) Loss before provision for income taxes (42,698 ) (27,758 ) (16,785 ) Provision for income taxes 425 99 5 Net loss $ (43,123 ) $ (27,857 ) $ (16,790 ) (1) Includes stock-based compensation expense as follows: Year Ended January 31, 2014 2013 2012 (in thousands) Cost of product revenue $ 232 $ 48 $ 10 Cost of support and service revenue 468 114 31 Research and development 3,049 874 268 Sales and marketing 3,674 1,029 244 General and administrative 1,726 539 267 Total stock-based compensation expense $ 9,149 $ 2,604 $ 820 46 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Year Ended January 31, 2014 2013 2012 Revenue: Product 90 % 92 % 94 % Support and service 10 8 6 Total revenue 100 100 100 Cost of revenue: Product 29 32 37 Support and service 6 6 8 Total cost of revenue 35 38 45 Total gross profit 65 62 55 Operating expenses: Research and development 28 30 56 Sales and marketing 60 74 92 General and administrative 11 10 27 Total operating expenses 99 114 175 Loss from operations (34 ) (52 ) (120 ) Interest income, net - - - Other expense, net - - - Loss before provision for income taxes (34 ) (52 ) (120 ) Provision for income taxes - - - Net loss (34 )% (52 )% (120 )% Comparison of the Years Ended January 31, 2014 and 2013 Revenue Year Ended January 31, 2014 2013 Change Amount Amount Amount % (dollars in thousands) Revenue: Product $ 112,812 $ 49,765 $ 63,047 127 % Support and service 12,921 4,075 8,846 217 Total revenue $ 125,733 $ 53,840 $ 71,893 134 % Total revenue increased by $71.9 million, or 134%, during the year ended January 31, 2014 compared to the year ended January 31, 2013. The revenue growth reflects increased demand for our storage products and related support and service. The increase in product revenue was driven by higher sales of our storage products to 1,550 new end-customers and increased sales to existing customers from 25% in the year ended January 31, 2013 to 34% in the year ended January 31, 2014. During the year ended January 31, 2014, the total number of orders received greater than $100,000 increased by 236 from 130 in the year ended January 31, 2013 to 366 in the year ended January 31, 2014, which represented an increase of 182%. The increase in support and service revenue was driven by higher product sales and the resulting expansion of our installed base. 47 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Cost of Revenue and Gross Margin Year Ended January 31, 2014 2013 Change Amount Amount Amount % (dollars in thousands) Cost of revenue: Product $ 36,231 $ 17,266 $ 18,965 110 % Support and service 7,980 3,184 4,796 151 Total cost of revenue $ 44,211 $ 20,450 $ 23,761 116 % Gross margin 64.8 % 62.0 % Cost of revenue increased by $23.8 million, or 116%, during the year ended January 31, 2014 compared to the year ended January 31, 2013. The increase in cost of product revenue was driven primarily by higher product sales. The increase in cost of product revenue was also impacted by higher costs of $2.3 million in our manufacturing operations, primarily driven by personnel costs associated with increased headcount. The increase in cost of support and service revenue was primarily attributable to higher costs of $3.7 million in our global customer support organization primarily driven by personnel costs associated with increased headcount and increased investments in our service depots, which are physical warehouse locations that hold service inventory in support of our customer service agreements. Gross margin increased from 62.0% during the year ended January 31, 2013 to 64.8% during the year ended January 31, 2014 primarily as a result of higher product gross margin. Product gross margin increased by 2.6 percentage points from 65.3% to 67.9% during the year ended January 31, 2014 compared to the year ended January 31, 2013, primarily driven by our mix of products sold, lower average standard component costs from higher volume discounts and benefit from economies of scale as we improved the utilization of our existing infrastructure. Support and service gross margin increased by 16.3 percentage points from 21.9% to 38.2% during the year ended January 31, 2014 compared to the year ended January 31, 2013, due to increased recognition of deferred support and service revenue resulting from the increase in our installed base. Operating Expenses Year Ended January 31, 2014 2013 Change % of % of Total Total Amount Revenue Amount Revenue Amount % (dollars in thousands) Operating expenses: Research and development $ 35,247 28 % $ 16,135 30 % $ 19,112 118 % Sales and marketing 75,107 60 39,851 74 35,256 88 General and administrative 13,737 11 5,168 10 8,569 166 Total operating expenses $ 124,091 99 % $ 61,154 114 % $ 62,937 103 % Includes stock-based compensation expense of: Research and development $ 3,049 $ 874 $ 2,175 249 % Sales and marketing 3,674 1,029 2,645 257 General and administrative 1,726 539 1,187 220 Total $ 8,449 $ 2,442 $ 6,007 246 % 48 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Research and Development Research and development expense increased by $19.1 million, or 118%, during the year ended January 31, 2014 compared to the year ended January 31, 2013. The increase was primarily due to a $14.9 million increase in personnel costs, including stock-based compensation, resulting from headcount growth to support further development of our storage products, $2.4 million increase in allocated overhead resulting from higher facilities utilization, and $0.9 million increase in depreciation expense from property and equipment purchases as we further invest in our laboratory and test infrastructure. Sales and Marketing Sales and marketing expense increased by $35.3 million, or 88%, during the year ended January 31, 2014 compared to the year ended January 31, 2013. The increase was primarily due to a $21.0 million increase in personnel costs, including stock-based compensation, resulting from headcount growth, a $3.7 million increase in commission expense related to higher sales, a $3.3 million increase in travel and entertainment expenses and a $1.7 million increase in advertising and tradeshow expenses. General and Administrative General and administrative expense increased by $8.6 million, or 166%, during the year ended January 31, 2014 compared to the year ended January 31, 2013. The increase was primarily due to a $5.9 million increase in personnel costs, including stock-based compensation, resulting from headcount growth and a $2.7 million increase in spending on consulting resources and professional services. Interest Income and Other Income (Expense), Net Year Ended January 31, Change 2014 2013 Amount % (dollars in thousands) Interest income, net $ 21 $ 32 $ (11) (34 )% Other expense, net (150 ) (26 ) (124) (477 )% The decrease in interest income, net was primarily due to the commitment fee for the line of credit during the year ended January 31, 2014, partially offset by an increase in interest income, primarily due to higher cash and cash equivalent balances. Other expense, net consisted primarily of foreign currency remeasurement losses as a result of the US dollar strengthening during the year ended January 31, 2014. This resulted in remeasurement losses on our foreign currency denominated assets. Provision for Income Taxes Year Ended January 31, 2014 2013 (in thousands) Provision for income taxes $ 425 $ 99 The increase in the provision for income taxes during the year ended January 31, 2014 compared to the year ended January 31, 2013 was primarily due to an increase in foreign taxes related to intercompany cost plus agreements with our international sales offices. 49 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Comparison of the Years Ended January 31, 2013 and 2012 Revenue Year Ended January 31, 2013 2012 Change Amount Amount Amount % (dollars in thousands) Revenue: Product $ 49,765 $ 13,113 $ 36,652 280 % Support and service 4,075 900 3,175 353 Total revenue $ 53,840 $ 14,013 $ 39,827 284 % Total revenue increased by $39.8 million, or 284%, during the year ended January 31, 2013 compared to the year ended January 31, 2012. The revenue growth reflects increased demand for our storage products and related support and service. The increase in product revenue was driven by higher sales of our storage products to 819 new end-customers and increased sales to existing customers from 19% in the year ended January 31, 2012 to 25% in the year ended January 31 2013. During the year ended January 31, 2013, the total number of product orders received greater than $100,000 increased by 98 from 32 in the year ended January 31, 2012 to 130 in the year ended January 31, 2013, which represented an increase of 306%. The increase in support and service revenue was driven by higher product sales and the renewal of existing support and service contracts from our installed base. Cost of Revenue and Gross Margin Year Ended January 31, 2013 2012 Change Amount Amount Amount % (dollars in thousands) Cost of revenue: Product $ 17,266 $ 5,233 $ 12,033 230 % Support and service 3,184 1,045 2,139 205 Total cost of revenue $ 20,450 $ 6,278 $ 14,172 226 % Gross margin 62.0 % 55.2 % Total cost of revenue increased by $14.2 million, or 226%, during the year ended January 31, 2013 compared to the year ended January 31, 2012. The increase in cost of product revenue was driven primarily by the higher product sales. The increase in cost of product revenue was also impacted by higher costs of $1.0 million in our manufacturing operations, primarily driven by personnel costs associated with increased headcount, a $0.7 million increase in warranty expense and a $0.7 million increase in freight costs. The increase in cost of support and service revenue was primarily attributable to higher costs of $2.0 million in our global customer support organization primarily driven by personnel costs associated with increased headcount and increased investments in our service depots. Gross margin increased from 55.2% during the year ended January 31, 2012 to 62.0% during the year ended January 31, 2013. Product gross margin increased by 5.2 percentage points from 60.1% to 65.3% during the year ended January 31, 2013 compared to the year ended January 31, 2012, primarily driven by higher sales volume, our mix of products sold, lower average standard component costs from higher volume discounts and benefit from economies of scale as we improved the utilization of our existing infrastructure. Support and service gross margin increased by 38.0 percentage points due to increased recognition of deferred support and service revenue. 50 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Operating Expenses Year Ended January 31, 2013 2012 Change % of % of Total Total Amount Revenue Amount Revenue Amount % (dollars in thousands) Operating expenses: Research and development $ 16,135 30 % $ 7,903 56 % $ 8,232 104 % Sales and marketing 39,851 74 12,863 92 26,988 210 General and administrative 5,168 10 3,756 27 1,412 38 Total operating expenses $ 61,154 114 % $ 24,522 175 % $ 36,632 149 % Includes stock-based compensation expense of: Research and development $ 874 $ 268 $ 606 226 % Sales and marketing 1,029 244 785 322 General and administrative 539 267 272 102 Total $ 2,442 $ 779 $ 1,663 213 % Research and Development Research and development expense increased by $8.2 million, or 104%, during the year ended January 31, 2013 compared to the year ended January 31, 2012. The increase was primarily due to a $6.3 million increase in personnel costs, including stock-based compensation, resulting from headcount growth to support further development of our storage products. Sales and Marketing Sales and marketing expense increased by $27.0 million, or 210%, during the year ended January 31, 2013 compared to the year ended January 31, 2012. The increase was primarily due to an $11.4 million increase in personnel costs, including stock-based compensation, resulting from headcount growth, a $10.0 million increase in commission expense related to higher sales, a $2.0 million increase in travel and entertainment expenses and a $1.1 million increase in advertising and tradeshow expenses. General and Administrative General and administrative expense increased by $1.4 million, or 38%, during the year ended January 31, 2013 compared to the year ended January 31, 2012. The increase was primarily due to a $2.2 million increase in personnel costs, including stock-based compensation, resulting from headcount growth, offset by $0.9 million in certain legal costs in the year ended January 31, 2012. Interest Income and Other Income (Expense), Net Year Ended January 31, Change 2013 2012 Amount % (dollars in thousands) Interest income, net $ 32 $ 6 $ 26 433 % Other expense, net (26 ) (4 ) (22 ) 550 The increase in interest income resulted from higher average cash and cash equivalents balances during the year ended January 31, 2013 compared to the year ended January 31, 2012. The increase in other income (expense), net was due to fluctuations in the British pound sterling. 51-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements Provision for Income Taxes Year Ended January 31, 2013 2012 (in thousands) Provision for income taxes $ 99 $ 5 The increase in provision for income taxes during the year ended January 31, 2013 compared to the year ended January 31, 2012 was primarily due to an increase in foreign taxes related to intercompany cost plus agreements with our international sales offices. Liquidity and Capital Resources As of January 31, 2014 2013 2012 (in thousands) Cash and cash equivalents $ 208,486 $ 49,205 $ 28,796 Year Ended January 31, 2014 2013 2012 (dollars in thousands) Cash used in operating activities $ (6,742 ) $ (18,754 ) $ (14,841 ) Cash used in investing activities (17,486 ) (3,554 ) (1,283 ) Cash provided by financing activities 183,501 42,700 25,935 Foreign exchange impact on cash and cash equivalents 8 17 - Net increase in cash and cash equivalents $ 159,281 $ 20,409 $ 9,811 Other Financial and Operational Metrics: Days Sales Outstanding 39 53 65 Days Sales Inventory(1) 41 55 62 (1) Average number of days we hold our inventory before sale. At January 31, 2014, our cash and cash equivalents were $208.5 million, of which approximately $0.6 million was held outside of the United States and not immediately available to fund domestic operations and obligations. We do not enter into investments for trading or speculative purposes. In October 2013, we entered into an agreement with Wells Fargo Bank, National Association, or Wells Fargo, to provide a secured revolving credit facility that allows us to borrow up to $15.0 million for general corporate purposes. Amounts outstanding under the credit facility will bear interest at Wells Fargo's prime rate with accrued interest payable on a monthly basis. In addition, we are obligated to pay a commitment fee of 0.20% per annum on the unused portion of the credit facility, with such fee payable on a quarterly basis. The credit facility expires in October 2014. As part of the credit facility, we granted to Wells Fargo a first priority lien in our accounts receivable and other corporate assets, agreed to not pledge our intellectual property to other parties and became subject to certain reporting and financial covenants, including: (1) maintaining specified quarterly levels of EBITDA, which is defined as net income before tax plus interest expense (net of capitalized interest expense), depreciation expense and non-cash stock compensation expense; and (2) maintaining a monthly ratio of not less than 1.25 to 1.00, based on the aggregate of our cash and net accounts receivable divided by total current liabilities minus current deferred revenue. As of January 31, 2014, no amounts had been drawn against the credit facility. In December 2013, we completed an initial public offering of common stock, raising net proceeds of $176.7 million. 52-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements We believe that our existing cash and cash equivalents will be sufficient to meet our anticipated cash needs for at least the next 12 months. Our future capital requirements will depend on many factors, including our growth rate, the timing and extent of spending to support development efforts, the expansion of sales and marketing activities, the introduction of new and enhanced product and service offerings, and the continuing market acceptance of our products. In the event that additional financing is required from outside sources, we may not be able to raise such financing on terms acceptable to us or at all. If we are unable to raise additional capital when desired, our business, operating results and financial condition would be adversely affected. Operating Activities During the year ended January 31, 2014, cash used in operating activities was $6.7 million. The primary factors affecting our cash flows from operations during this period were our net loss of $43.1 million, partially offset by non-cash charges of $9.1 million for stock-based compensation and $4.2 million for depreciation of our property and equipment, and net cash flows of $22.6 million provided by changes in our operating assets and liabilities. The primary driver of the changes in operating assets and liabilities was a $22.6 million increase in deferred revenue. The increase in deferred revenue was due to a greater number of support and service contracts related to the growth in our storage product sales and increased renewal of existing support and service contracts associated with our larger installed product base. Changes in our operating assets and liabilities were also significantly affected by a $7.5 million increase in accounts payable and accrued liabilities, a $4.1 million increase in accounts receivable, a $2.2 million increase in prepaid expenses and a $1.3 million increase in inventories. The increase in accounts payable and accrued liabilities was primarily attributable to increased personnel costs to support the overall growth of our business and higher third-party professional fees for consulting and audit services as a result of our initial public offering. The increase in accounts receivable was attributable to increased sales, partially offset by improved cash collections from our customers as supported by the decrease in days sales outstanding, or DSO, as compared to the year ended January 31, 2013. The increase in inventories was primarily due to increased purchases from our contract manufacturers and the higher overall demand for our storage products. We expect operating cash flows to continue to be affected by timing of sales and timing of collections. During the year ended January 31, 2013, cash used in operating activities was $18.8 million. The primary factors affecting our cash flows during this period were our net loss of $27.9 million, partially offset by non-cash charges of $2.6 million for stock-based compensation, and $1.1 million for depreciation of our property and equipment, and net cash flows of $5.0 million provided by changes in our operating assets and liabilities. The primary drivers of the changes in operating assets and liabilities were a $9.2 million increase in accounts receivable, partially offset by an $8.9 million increase in deferred revenue. The increase in accounts receivable was attributable to increased sales, partially offset by improved cash collections from our customers as supported by the year over year decrease in DSO. We expect operating cash flows to continue to be affected by timing of sales and timing of collections. The increase in deferred revenue was due to a greater number of support and service contracts related to the growth in our storage product sales and increased renewal of existing support and service contracts associated with our larger installed product base. Changes in our operating assets and liabilities were also significantly affected by an $8.9 million increase in accounts payable and accrued liabilities and a $3.0 million increase in inventories. The increase in accounts payable and accrued liabilities was primarily attributable to increased personnel costs to support the overall growth of our business and higher third-party professional fees for consulting and audit services as we prepared for our initial public offering. The increase in inventories was primarily due to increased purchases from our contract manufacturers to support the development of new storage products in the third quarter of the year ended January 31, 2013 and the higher overall demand for our storage products. 53-------------------------------------------------------------------------------- Table of Contents Index to Financial Statements During the year ended January 31, 2012, cash used in operating activities was $14.8 million. The primary factors affecting our cash flows during this period were our net loss of $16.8 million, partially offset by a non-cash charge of $0.8 million for stock-based compensation, and net cash flows of $0.8 million provided by changes in certain of our operating assets and liabilities. The primary drivers of the changes in operating assets and liabilities were a $4.5 million increase in accounts payable and accrued liabilities, partially offset by a $3.5 million increase in accounts receivable. The increase in accounts payable and accrued liabilities was primarily attributable to increased personnel costs to support our first full year of production. The increase in accounts receivable was due to increased sales from our first full year of production, partially offset by improved cash collections from customers as reflected in the year over year decrease in DSO. Investing Activities Cash used in investing activities during the year ended January 31, 2014 was $17.5 million, primarily resulting from $13.6 million used to purchase property and equipment due to an increase in leasehold improvements related our new corporate headquarters, and the increase in expansion of our research and development infrastructure. Cash used in investing activities was also impacted by a $3.9 million increase in restricted cash related to a condition of our facility lease agreement of our new corporate headquarters that requires us to maintain a letter of credit, with the landlord named as the beneficiary. Cash used in investing activities for the years ended January 31, 2013 and 2012 was $3.6 million and $1.3 million, primarily resulting from the purchase of property and equipment. We expect to continue to make such purchases to support continued growth of our business. Financing Activities During the year ended January 31, 2014, financing activities provided $183.5 million in cash. In December 2013, we completed our initial public offering, which generated net proceeds of $176.7 million. We received $5.2 million of proceeds from the exercise of stock options, net of repurchases of unvested early exercised shares, and $1.6 million of proceeds from the repayment of two stockholder loans. During the year ended January 31, 2013, financing activities provided $42.7 million in cash, primarily from $40.6 million of net proceeds received from the issuance of Series E redeemable convertible preferred stock and $2.1 million of proceeds from the exercise of stock options, net of repurchases of unvested early exercised shares. During the year ended January 31, 2012, financing activities provided $25.9 million in cash, primarily from $24.9 million of net proceeds received from the issuance of Series D redeemable convertible preferred stock and $1.0 million of proceeds from the exercise of stock options, net of repurchases of unvested early exercised shares. Contractual Obligations and Commitments The following summarizes our contractual obligations and commitments as of January 31, 2014: Payments Due by Period Less More Than 1 - 3 3 - 5 Than Total 1 Year Years Years 5 Years (in thousands)Operating leases(1) $ 36,780 $ 4,052 $ 9,293 $ 9,538 $ 13,897 Purchase commitments(2) 11,333 11,333 - - - License commitments(3) 2,830 2,080 750 - - Asset retirement obligations(4) 342 - - - 342 Total $ 51,285 $ 17,465 $ 10,043 $ 9,538 $ 14,239 54 -------------------------------------------------------------------------------- Table of Contents Index to Financial Statements (1) We have several operating leases in the US and at various international locations. This includes a 96-month lease commenced on November 1, 2013 for a 164,608 square foot facility in San Jose, California. Future minimum commitments under these operating leases are as follows (in thousands): Years ending January 31: 2015 $ 4,052 2016 4,603 2017 4,690 2018 4,710 2019 4,828 Thereafter 13,897 $ 36,780 (2) During the year ended January 31, 2014, we entered into purchase commitments of $11.3 million to fulfill inventory requirements. (3) During the year ended January 31, 2013, we entered into two non-cancelable three-year software license and service agreements for the internal use of software and services for customer relationship management and desktop applications. During the year ended January 31, 2014, we entered into two additional non-cancelable two to three years software license and service agreements for internal use of software and services for human resource and inventory forecasting applications. (4) During the year ended January 31, 2014, we incurred asset retirement obligations of $0.3 million associated with our facility lease in California, which expires in October 2021. This obligation is included in other noncurrent liabilities in the consolidated balance sheet as of January 31, 2014. As of January 31, 2014, we had $2.0 million of unrecognized tax benefits, including interest and penalties, related to uncertain tax positions. Because of the high degree of uncertainty regarding the settlement of these liabilities, we are unable to estimate the years in which future cash outflows may occur. As a result, this amount is not included in the table above. Off-Balance Sheet Arrangements As of January 31, 2014 and 2013, we did not have any relationships with unconsolidated entities or financial partnerships, such as structured finance or special purpose entities that were established for the purpose of facilitating off-balance sheet arrangements or other purposes. Segment InformationWe have one primary business activity and operate in one reportable segment. |