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MICROSTRATEGY INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) FORWARD-LOOKING INFORMATION This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). For this purpose, any statements contained herein that are not statements of historical fact, including without limitation, certain statements regarding industry prospects and our results of operations or financial position, may be deemed to be forward-looking statements. Without limiting the foregoing, the words "believes," "anticipates," "plans," "expects," and similar expressions are intended to identify forward-looking statements. The important factors discussed under "Part II. Item 1A. Risk Factors," among others, could cause actual results to differ materially from those indicated by forward-looking statements made herein and presented elsewhere by management from time to time. Such forward-looking statements represent management's current expectations and are inherently uncertain. Investors are warned that actual results may differ from management's expectations. Overview MicroStrategy® is a leading worldwide provider of enterprise software platforms. The Company's mission is to provide the most flexible, powerful, scalable, and user-friendly platforms for analytics, mobile, identity, and loyalty, offered either on premises or in the cloud. The MicroStrategy Analytics Platform™ enables organizations to analyze vast amounts of data and distribute actionable business insight throughout an enterprise. Our analytics platform delivers reports and dashboards, and enables users to conduct ad hoc analysis and share insights anywhere, anytime, via mobile devices or the Web. It also combines the agility and productivity of self-service visual data discovery with the security, scalability, and governance features of enterprise-grade business intelligence. The MicroStrategy Analytics Platform is compatible with MicroStrategy Analytics Desktop™, a standalone desktop tool, available free of charge and designed to enable business users to analyze and understand their data. With MicroStrategy Analytics Desktop, business users can create stunning data visualizations and dashboards that provide new insight and new understanding in just minutes. MicroStrategy Mobile is designed to allow organizations to rapidly build information-rich applications that combine multimedia, transactions, analytics, and custom workflows. The powerful code-free platform approach is designed to reduce the costs of development and enable organizations to get powerful mobile business apps quickly and cost-effectively. MicroStrategy Mobile is an easy, fast, and cost-effective way to mobilize an organization's information systems, including its data warehouses, business intelligence, ERP, CRM, and Web applications that are currently accessible only on the desktop. Using MicroStrategy Mobile, customers can transform their entire workforce into a connected and more productive mobile workforce with mobile apps that are significantly more robust than their Web-only counterparts. With mobile access to critical corporate data and systems that drive the business, employees can have a virtual office in their hands at all times. MicroStrategy Cloud brings together enterprise analytics, analytical databases, and data integration capabilities in a high performance integrated environment. MicroStrategy Cloud offers on-demand access to the full breadth of the MicroStrategy Analytics Platform and MicroStrategy Mobile capabilities and is optimized for a variety of enterprise applications. Compared to traditional on-premises approaches, MicroStrategy Cloud is quicker to deploy, is more flexible, delivers consistent high-level performance and offers significant financial advantages. We offer MicroStrategy Cloud as a managed service to organizations that want the power of enterprise analytics and the ability to quickly build and deliver enterprise mobile apps that harness the potential of Big Data analytics. The MicroStrategy Loyalty Platform, branded as MicroStrategy Alert, is a next-generation mobile customer loyalty and engagement solution. It is designed to help retailers harness the power of mobile technology by providing a mobile engagement channel to their customers for targeted marketing, commerce, and loyalty. MicroStrategy Alert is offered as a subscription-based service. It includes a consumer-facing branded mobile app; a campaign management system to create and launch targeted campaigns and publish content; an intelligence module to analyze app activity and campaign performance, as well as design target segments; and a library of content connectors to synchronize content from customers' existing Websites and social pages with the MicroStrategy Alert-powered mobile app. 19 -------------------------------------------------------------------------------- Table of Contents The MicroStrategy Identity Platform, branded as MicroStrategy Usher, is a mobile identity solution that can deliver biometric-enhanced security to applications and business processes across an enterprise. MicroStrategy Usher can replace ID cards, key cards, employee badges, and passwords with a single mobile identity that is biometrically linked to its owner, cryptographically linked to its owner's phone, and dynamically linked to the enterprise's existing identity repositories. MicroStrategy Usher's architecture leverages three-factor authentication, out-of-band channels, time-limited codes, and bidirectional public key infrastructure encryption to offer enterprises increased protection against fraud and cybercrime. MicroStrategy Usher is designed to allow users to log in to applications, unlock doors, validate one another's identity, and authorize transactions more securely, using their MicroStrategy Usher mobile identities. Furthermore, MicroStrategy Usher uses the MicroStrategy Analytics Platform to support behavior monitoring and the detection of abnormal activity for even greater security. MicroStrategy Usher is offered as a subscription-based service. The MicroStrategy Analytics Platform, MicroStrategy Mobile, and MicroStrategy Cloud together with related product and support services, continue to generate the vast majority of our revenue. During each of the three and six months ended June 30, 2014 and 2013, we did not generate significant revenues from the MicroStrategy Loyalty Platform or the MicroStrategy Identity Platform. The following table sets forth certain operating highlights (in thousands) for the three and six months ended June 30, 2014 and 2013: Three Months Ended Six Months Ended June 30, June 30, 2014 2013 2014 2013 RevenuesProduct licenses and subscription services $ 35,266 $ 33,373 $ 67,563 $ 64,196 Product support 74,569 68,439 146,050 133,789 Other services 32,018 36,093 66,144 70,103 Total revenues 141,853 137,905 279,757 268,088 Cost of revenues Product licenses and subscription services 7,006 5,558 13,241 10,918 Product support 3,475 4,254 7,018 8,455 Other services 25,132 26,634 48,363 52,974 Total cost of revenues 35,613 36,446 68,622 72,347 Gross profit 106,240 101,459 211,135 195,741 Operating expenses Sales and marketing 60,956 52,686 119,833 103,400 Research and development 32,748 24,227 60,810 50,044 General and administrative 25,262 26,594 51,565 53,006 Total operating expenses 118,966 103,507 232,208 206,450 Loss from continuing operations $ (12,726 ) $ (2,048 ) $ (21,073 ) $ (10,709 ) The analytics market is highly competitive and our results of operations depend on our ability to market and sell offerings that provide customers with greater value than those offered by our competitors. Within the analytics space we predominantly compete with two categories of vendors: 1) megavendors (IBM, SAP AG, and Oracle) that provide one or more analytics products as part of their enterprise product portfolio and typically compete for larger opportunities; and 2) independent data discovery vendors like Tableau Software, TIBCO Spotfire, and QlikTech that mainly compete for small to medium-size opportunities. Our success depends on the effectiveness with which we can differentiate our product from both the megavendors and the independent vendors across large, mid-sized, and small opportunities. 20 -------------------------------------------------------------------------------- Table of Contents Organizations have sought, and we expect may continue to seek, to standardize their various analytics applications around a single software platform. This trend presents both opportunities and challenges for our business. It offers us the opportunity to increase the size of transactions with new customers and to expand the size of our analytics installations with existing customers. On the other hand, it presents the challenge that we may not be able to penetrate accounts that a competitor has penetrated or in which a competitor is the incumbent analytics provider. The market for mobile business apps is rapidly changing, highly competitive, and complex with many competitors and different offerings ranging from fully custom-coded applications to plug-and-play solutions. While organizations vary greatly in their approach to, and pace of adoption of, mobile solutions, they are increasingly accelerating the transition of their businesses onto mobile devices, such as tablets and smartphones. Over the next few years, we expect that organizations will continue to construct their information and systems to take advantage of the efficiencies and cost savings of mobile computing. Ultimately, we expect that the majority of routine business tasks and workflows will become available as mobile-optimized touch-enabled apps. In addition, there is increased market demand for analysis of a wider variety of data sources, including sensor data, social data, web log data, and other data types. These new data sources are driving massive increases in the volume of data that can potentially be analyzed ("Big Data"), which in turn is accelerating development of new storage technologies like Hadoop and NoSQL databases. The demand for analytics on Big Data represents an opportunity for MicroStrategy, as it opens up new potential applications and use cases for our technology. It also creates a challenge as we will need to continually enhance our technology to support emerging data sources; deliver faster performance necessary to support analysis against large scale data sets; and support analysis of a wider variety of data types, such as unstructured, semi-structured, and streaming data. We have undertaken a number of initiatives to address these opportunities and challenges, including: • a major simplification of our product packaging structure aimed at delivering the best end-to-end customer and partner experience, making it easier to acquire and deploy the MicroStrategy platform, and delivering free upgrades to premium capabilities for existing customers, empowering new and existing clients to realize the full potential of their analytical applications; • enhancement of our ability to support new enterprise-scale requirements for analytics, where we are currently a technology leader, with a focus on supporting more varied database platforms, providing higher performance, and providing greater ability to manage and administer large-scale analytics operations, such as our introduction of MicroStrategy PRIME™, a massively scalable, cloud-based, in-memory analytics service designed to deliver high performance for complex analytical applications that have the largest data sets and highest user concurrency; • extension of the analytic breadth of our technology with greater statistical and predictive capabilities through integration with the "R" open source project, a widely-used statistical programming language; • extension of our technology to provide greater support for the latest trend in self-service analytics, which is often referred to as "visual data discovery" or "agile analytics," by adding new user interface flows, new visualizations, new exploration features, and new capabilities for the importation of end user data; • introduction of new channels to enable customers to access our analytics capabilities in the form of MicroStrategy Analytics Desktop and MicroStrategy Analytics Express; 21 -------------------------------------------------------------------------------- Table of Contents • enhancement of our mobile application platform for creating and deploying analytics applications to the expanding community of mobile device users; • expansion of our offerings to include platforms derived from our software technology base, such as the MicroStrategy Loyalty Platform and the MicroStrategy Identity Platform; • increased sales and marketing activities to enhance corporate branding, obtain new customers, expand and strengthen our existing customer base, and establish MicroStrategy as a solution for mobile apps that extends significantly beyond mobile analytics, while retaining all of the benefits of our analytics platform heritage; • maintenance of a dedicated performance engineering team and conduct of research and development focused on providing our customers with the highest levels of performance for analytics applications of all sizes; • investment in software engineering to further enhance the MicroStrategy Mobile product suite to empower our customers with a toolset to enable them to build consequential and durable mobile business apps; and • continued investment in the company's differentiated cloud offerings of business intelligence, data hosting, and data integration capabilities, enabling a robust selection of self-managed and fully-managed cloud offerings in five continents and over 10 global data centers allowing us to penetrate new markets and customer bases. As part of these initiatives, we invested significantly in our research and development capabilities during 2013 and continued to make additional investments during the first half of 2014. In 2014, we expect the level of investments and related expenses to be higher than in 2013. We generated a loss from continuing operations, net of tax, for each of the three and six months ended June 30, 2014. If our revenues are not sufficient to offset increased operating expenses or we are unable to adjust our operating expenses in response to any shortfall in anticipated revenue in a timely manner, we may continue to incur operating losses on a quarterly or annual basis. We believe that effective recruiting, education, and nurturing of human resources are critical to our success, and we have traditionally made investments in these areas in order to differentiate ourselves from our competition, increase employee loyalty, and create a culture conducive to creativity, cooperation, and continuous improvement. As of June 30, 2014, we had a total of 3,411 employees, of whom 1,534 were based in the United States and 1,877 were based internationally. Of our 3,411 employees, 920 were engaged in sales and marketing, 1,101 in research and development, 927 in subscription, product support, consulting, and education services, and 463 in finance, administration, and corporate operations. As of December 31, 2013, we were leasing approximately 190,000 square feet of office space at a location in Northern Virginia that began serving as our corporate headquarters in October 2010. In April 2014, we leased an additional 43,000 square feet of office space at our corporate headquarters location. The term of the amended lease expires in December 2020. We recognize lease expense ratably over the term of the lease. As discussed in Note 10, Share-based Compensation, to the Consolidated Financial Statements, we have outstanding stock options to purchase shares of our class A common stock under our amended 2013 Stock Incentive Plan (the "2013 Plan"). Share-based compensation expense (in thousands) from these stock option awards was recognized in the following operating expense line items in our Consolidated Statements of Operations for the periods indicated: 22-------------------------------------------------------------------------------- Table of Contents Three Months Ended Six Months Ended June 30, June 30, 2014 2013 2014 2013 Sales and marketing $ 124 $ 0 $ 124 $ 0 Research and development 352 0 618 0 General and administrative 2,608 0 3,940 0 Total share-based compensation expense $ 3,084 $ 0 $ 4,682 $ 0 We estimate that approximately $54.1 million of additional share-based compensation expense for options granted under the 2013 Plan will be recognized over a remaining weighted average period of 3.6 years. We base our internal operating expense forecasts on expected revenue trends and strategic objectives. Many of our expenses, such as office leases and certain personnel costs, are relatively fixed. We may be unable to adjust spending quickly enough in any particular period to offset any unexpected revenue shortfall in that period. Accordingly, any shortfall in revenue may cause significant variation in our operating results. We therefore believe that quarter-to-quarter comparisons of our operating results may not be a good indication of our future performance. In July 2014, we announced that we are developing a restructuring plan to streamline our workforce and spending to better align our cost structure with our business strategy. We expect to finalize the restructuring plan and to implement a substantial portion of the plan in the third quarter of 2014, with the remaining portion to be implemented in the fourth quarter of 2014. The restructuring plan is expected to deliver annualized pre-tax savings of at least $40.0 million. The total charges resulting from this plan are expected to be approximately $3.0 million to $5.0 million. Non-GAAP Financial Measures We are providing a supplemental financial measure for loss from continuing operations that excludes the impact of our share-based compensation arrangements. This financial measure is not a measurement of financial performance under generally accepted accounting principles in the United States ("GAAP") and, as a result, this financial measure may not be comparable to similarly titled measures of other companies. Management uses this non-GAAP financial measure internally to help understand, manage, and evaluate our business performance and to help make operating decisions. We believe that this non-GAAP financial measure is also useful to investors and analysts in comparing our performance across reporting periods on a consistent basis because it excludes a significant non-cash expense that we believe is not reflective of the Company's general business performance. In addition, accounting for share-based compensation arrangements requires significant management judgment and the resulting expense could vary significantly in comparison to other companies. Therefore, we believe the use of this non-GAAP financial measure can also facilitate comparison of our operating results to those of our competitors. Non-GAAP financial measures are subject to material limitations as they are not in accordance with, or a substitute for, measurements prepared in accordance with GAAP. For example, we expect that share-based compensation expense, which is excluded from our non-GAAP financial measure, will continue to be a significant recurring expense over the next four years and is an important part of the compensation provided to certain executives and directors. Our non-GAAP financial measure is not meant to be considered in isolation and should be read only in conjunction with our Consolidated Financial Statements, which have been prepared in accordance with GAAP. We rely primarily on such Consolidated Financial Statements to understand, manage, and evaluate our business performance, and use the non-GAAP financial measure only supplementally. The following is a reconciliation of our non-GAAP financial measure to its most directly comparable GAAP measure (in thousands) for the periods indicated: Three Months Ended Six Months Ended June 30, June 30, 2014 2013 2014 2013 Reconciliation of non-GAAP loss from continuing operations: Loss from continuing operations $ (12,726 ) $ (2,048 ) $ (21,073 ) $ (10,709 ) Share-based compensation expense 3,084 0 4,682 0 Non-GAAP loss from continuing operations $ (9,642 ) $ (2,048 ) $ (16,391 ) $ (10,709 ) 23 -------------------------------------------------------------------------------- Table of Contents Critical Accounting Policies Our discussion and analysis of our financial condition and results of operations are based upon our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of our Consolidated Financial Statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, and equity and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates, particularly estimates relating to revenue recognition, allowance for doubtful accounts, valuation of property and equipment, litigation and contingencies, valuation of net deferred tax assets, share-based compensation, and fair value measurements of our derivative financial instruments have a material impact on our financial statements and are discussed in detail throughout our analysis of the results of operations discussed below. In some cases, changes in accounting estimates are reasonably likely to occur from period to period. In addition to evaluating estimates relating to the items discussed above, we also consider other estimates and judgments, including, but not limited to, software development costs, provision for income taxes, and other contingent liabilities, including liabilities that we deem not probable of assertion. We base our estimates on historical experience and various other assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets, liabilities, and equity that are not readily apparent from other sources. Actual results and outcomes could differ from these estimates and assumptions. We do not have any material ownership interest in any special purpose or other entities that are not wholly-owned and/or consolidated into our Consolidated Financial Statements. Additionally, we do not have any material related party transactions. The section "Critical Accounting Policies" included in Item 7 and the section "Summary of Significant Accounting Policies" (Note 2) included in Item 15 of our Annual Report on Form 10-K for the year ended December 31, 2013 provide a more detailed explanation of the judgments made in these areas and a discussion of our accounting estimates and policies. There have been no significant changes in such estimates and policies since December 31, 2013. 24-------------------------------------------------------------------------------- Table of Contents Impact of Foreign Currency Exchange Rate Fluctuations on Results of Operations We conduct a significant portion of our business in currencies other than the U.S. dollar, the currency in which we report our Consolidated Financial Statements. As currency rates change from quarter to quarter and year over year, our results of operations may be impacted. The table below summarizes the impact (in thousands) of fluctuations in foreign currency exchange rates on certain components of our Consolidated Statements of Operations by showing the increase (decrease) in revenues or expenses, as applicable, from the same period in the prior year. The term "international" refers to operations outside of the United States and Canada. Three Months Ended Six Months Ended June 30, June 30, 2014 2013 2014 2013 International product licenses and subscription services revenues $ (73 ) $ (519 ) $ (284 ) $ (897 ) International product support revenues 508 (260 ) 295 (725 ) International other services revenues 289 (241 ) 194 (573 ) Cost of product support revenues 46 (41 ) 53 (81 ) Cost of other services revenues 337 (65 ) 316 (145 ) Sales and marketing expenses 329 (376 ) 87 (786 ) Research and development expenses 96 123 300 161 General and administrative expenses 109 (49 ) (37 ) (140 ) For example, if there had been no change to foreign currency exchange rates from 2013 to 2014, international product licenses and subscription services revenues would have been $13.8 million rather than $13.7 million and $28.0 million rather than $27.8 million for the three and six months ended June 30, 2014, respectively. If there had been no change to foreign currency exchange rates from 2013 to 2014, sales and marketing expenses would have been $60.6 million rather than $61.0 million and $119.7 million rather than $119.8 million for the three and six months ended June 30, 2014, respectively. 25-------------------------------------------------------------------------------- Table of Contents Results of Operations Comparison of the three and six months ended June 30, 2014 and 2013 Revenues Except as otherwise indicated herein, the term "domestic" refers to operations in the United States and Canada, and the term "international" refers to operations outside of the United States and Canada. Product licenses and subscription services revenues. The following table sets forth product licenses and subscription services revenues (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Product Licenses and Subscription Services Revenues: Product Licenses Domestic $ 16,408 $ 18,250 -10.1 % $ 30,877 $ 34,806 -11.3 % International 12,975 12,355 5.0 % 26,362 24,167 9.1 % Total product licenses revenues 29,383 30,605 -4.0 % 57,239 58,973 -2.9 % Subscription Services 5,883 2,768 112.5 % 10,324 5,223 97.7 % Total product licenses and subscription services revenues $ 35,266 $ 33,373 5.7 % $ 67,563 $ 64,196 5.2 % The following table sets forth a summary, grouped by size, of the number of recognized product licenses transactions for the periods indicated: Three Months Ended Six Months Ended June 30, June 30, 2014 2013 2014 2013 Product Licenses Transactions with Recognized Licenses Revenue in the Applicable Period: More than $1.0 million in licenses revenue recognized 2 3 6 6 Between $0.5 million and $1.0 million in licenses revenue recognized 7 11 12 19 Total 9 14 18 25 Domestic: More than $1.0 million in licenses revenue recognized 2 3 6 5 Between $0.5 million and $1.0 million in licenses revenue recognized 4 7 5 13 Total 6 10 11 18 International: More than $1.0 million in licenses revenue recognized 0 0 0 1 Between $0.5 million and $1.0 million in licenses revenue recognized 3 4 7 6 Total 3 4 7 7 26 -------------------------------------------------------------------------------- Table of Contents The following table sets forth the recognized revenue (in thousands) attributable to product licenses transactions, grouped by size, and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Product Licenses Revenue Recognized in the Applicable Period: More than $1.0 million in licenses revenue recognized $ 3,720 $ 3,224 15.4 % $ 9,437 $ 7,058 33.7 % Between $0.5 million and $1.0 million in licenses revenue recognized 4,529 6,737 -32.8 % 7,605 12,685 -40.0 % Less than $0.5 million in licenses revenue recognized 21,134 20,644 2.4 % 40,197 39,230 2.5 % Total 29,383 30,605 -4.0 % 57,239 58,973 -2.9 % Domestic: More than $1.0 million in licenses revenue recognized 3,720 3,224 15.4 % 9,437 5,981 57.8 % Between $0.5 million and $1.0 million in licenses revenue recognized 2,733 4,390 -37.7 % 3,430 8,614 -60.2 % Less than $0.5 million in licenses revenue recognized 9,955 10,636 -6.4 % 18,010 20,211 -10.9 % Total 16,408 18,250 -10.1 % 30,877 34,806 -11.3 % International: More than $1.0 million in licenses revenue recognized 0 0 0.0 % 0 1,077 -100.0 % Between $0.5 million and $1.0 million in licenses revenue recognized 1,796 2,347 -23.5 % 4,175 4,071 2.6 % Less than $0.5 million in licenses revenue recognized 11,179 10,008 11.7 % 22,187 19,019 16.7 % Total $ 12,975 $ 12,355 5.0 % $ 26,362 $ 24,167 9.1 % Product licenses revenues decreased $1.2 million and $1.7 million for the three and six months ended June 30, 2014, respectively, as compared to the same period in the prior year. For the three months ended June 30, 2014 and 2013, product licenses transactions with more than $0.5 million in recognized revenue represented 28.1% and 32.5%, respectively, of our product licenses revenues. For the six months ended June 30, 2014, our top three product licenses transactions totaled $5.9 million in recognized revenue, or 10.3% of total product licenses revenues, compared to $3.9 million, or 6.6% of total product licenses revenues, for the six months ended June 30, 2013. Domestic product licenses revenues. Domestic product licenses revenues decreased $1.8 million for the three months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a decrease in the number of transactions with recognized revenue between $0.5 million and $1.0 million and a decrease in the average deal size of transactions with less than $0.5 million in recognized revenue, partially offset by an increase in average deal size of transactions with more than $1.0 million in recognized revenue. Domestic product licenses revenues decreased $3.9 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a decrease in the number of transactions with recognized revenue between $0.5 million and $1.0 million and a decrease in the average deal size of transactions with less than $0.5 million in recognized revenue, partially offset by an increase in the number and average deal size of transactions with more than $1.0 million in recognized revenue. International product licenses revenues. International product licenses revenues increased $0.6 million for the three months ended June 30, 2014, as compared to the same period in the prior year, primarily due to an increase in the number and average deal size of transactions with less than $0.5 million in recognized revenue, partially offset by a decrease in the number of transactions with recognized revenue between $0.5 million and $1.0 million. International product licenses revenues increased $2.2 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to an increase in the number and average deal size of transactions with less than $0.5 million in recognized revenue and an increase in the number of transactions with recognized revenue between $0.5 million and $1.0 million, partially offset by the fact that we did not recognize revenue on any transaction in excess of $1.0 million during the three months ended June 30, 2014. 27 -------------------------------------------------------------------------------- Table of Contents Subscription services revenues. Subscription services revenues are derived primarily from MicroStrategy Cloud services offerings that are recognized on a subscription basis over the service period of the contract. Subscription services revenues increased $3.1 million and $5.1 million for the three and six months ended June 30, 2014, respectively, as compared to the same periods in the prior year, primarily due to the recognition of $1.0 million in previously deferred revenue for one large customer and an increase in the number of new customers as our MicroStrategy Cloud business has continued to grow. Product support revenues. The following table sets forth product support revenues (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Product Support Revenues: Domestic $ 42,973 $ 39,632 8.4 % $ 84,379 $ 77,358 9.1 % International 31,596 28,807 9.7 % 61,671 56,431 9.3 % Total product support revenues $ 74,569 $ 68,439 9.0 % $ 146,050 $ 133,789 9.2 % Product support revenues are derived from providing technical software support and software updates and upgrades to customers. Product support revenues are recognized ratably over the term of the contract, which is generally one year. Product support revenues increased $6.1 million and $12.3 million for the three and six months ended June 30, 2014, respectively, as compared to the same periods in the prior year, primarily due to an increase in the number of new product support contracts and more timely renewals at quarter-end. Other services revenues. The following table sets forth other services revenues (in thousands) and related percentage changes in these revenues for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Other Services Revenues: Consulting Domestic $ 15,746 $ 20,400 -22.8 % $ 34,269 $ 38,877 -11.9 % International 12,564 11,646 7.9 % 24,429 23,155 5.5 % Total consulting revenues 28,310 32,046 -11.7 % 58,698 62,032 -5.4 % Education 3,708 4,047 -8.4 % 7,446 8,071 -7.7 % Total other services revenues $ 32,018 $ 36,093 -11.3 % $ 66,144 $ 70,103 -5.6 % Consulting revenues. Consulting revenues are derived from helping customers plan and execute the deployment of our software. Consulting revenues decreased for the three and six months ended June 30, 2014, as compared to the same periods in the prior year, primarily due to a decrease in billable hours with customers in the domestic and Latin America regions, partially offset by an increase in billable hours with customers in the EMEA region. Education revenues. Education revenues are derived from the education and training that we provide to our customers to enhance their ability to fully utilize the features and functionality of our software. These offerings include self-tutorials, custom course development, joint training with customers' internal staff, and standard course offerings, with pricing dependent on the specific offering delivered. Education revenues decreased for the three and six months ended June 30, 2014, as compared to the same periods in the prior year, primarily due to lower overall contract values, a decrease in private and custom courses delivered, and shifting demand from traditional classroom training to virtual training in the domestic and Latin America regions. 28 -------------------------------------------------------------------------------- Table of Contents Costs and Expenses Cost of revenues. The following table sets forth cost of revenues (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Cost of Revenues: Product licenses and subscription services: Product licenses $ 2,086 $ 1,621 28.7 % $ 3,914 $ 3,214 21.8 % Subscription services 4,920 3,937 25.0 % 9,327 7,704 21.1 % Total product licenses and subscription services 7,006 5,558 26.1 % 13,241 10,918 21.3 % Product support 3,475 4,254 -18.3 % 7,018 8,455 -17.0 % Other services: Consulting 23,266 25,024 -7.0 % 44,989 49,660 -9.4 % Education 1,866 1,610 15.9 % 3,374 3,314 1.8 % Total other services 25,132 26,634 -5.6 % 48,363 52,974 -8.7 % Total cost of revenues $ 35,613 $ 36,446 -2.3 % $ 68,622 $ 72,347 -5.1 % Cost of product licenses revenues. Cost of product licenses revenues consists of amortization of capitalized software development costs and the costs of product manuals, media, and royalties paid to third-party software vendors. Capitalized software development costs are generally amortized over a useful life of three years. Cost of product licenses revenues increased $0.5 million for the three months ended June 30, 2014, as compared to the same period in the prior year, due to a $0.5 million increase in referral fees related to channel partners. Cost of product licenses revenues increased $0.7 million for the six months ended June 30, 2014, as compared to the same period in the prior year, due to a $0.9 million increase in amortization of capitalized software development costs related to the release of MicroStrategy 9.4 in October 2013 and a $0.5 million increase in referral fees related to channel partners, partially offset by a $0.4 million decrease in amortization of capitalized software development costs related to MicroStrategy Mobile, which became fully amortized in June 2013, and a $0.3 million decrease in amortization of capitalized software development costs related to MicroStrategy 9.2, which became fully amortized in March 2014. We expect to amortize the remaining balance of our products' capitalized software development costs as of June 30, 2014 ratably over the applicable remaining amortization periods as follows: Capitalized Software Development Costs, Net, Remaining as of June 30, 2014 Amortization Period (in thousands) (in months) MicroStrategy 9.3 $ 3,298 15 MicroStrategy 9.4 4,078 27 Total capitalized software development costs $ 7,376 All of the above software now form part of the MicroStrategy Analytics Platform. Cost of subscription services revenues. Cost of subscription services revenues consists of equipment, facility and other related support costs, and personnel and related overhead costs. Cost of subscription services revenues increased $1.0 million for the three months ended June 30, 2014, as compared to the same period in the prior year, due to a $1.0 million increase in compensation and related costs due to an increase in staffing levels and a $0.1 million increase in facility and other related support costs, partially offset by a $0.1 million decrease in consulting and advisory costs. Subscription services headcount increased 96.7% to 59 at June 30, 2014 from 30 at June 30, 2013. Cost of subscription services revenues increased $1.6 million for the six months ended June 30, 2014, as compared to the same period in the prior year, due to a $1.4 million increase in compensation and related costs due to an increase in staffing levels and a $0.4 million increase in facility and other related support costs, partially offset by a $0.2 million decrease in consulting and advisory costs. 29 -------------------------------------------------------------------------------- Table of Contents Cost of product support revenues. Cost of product support revenues consists of product support personnel and related overhead costs. Cost of product support revenues decreased $0.8 million for the three months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $0.5 million decrease in compensation and related costs due to a decrease in staffing levels, a $0.1 million decrease in facility and other related support costs, and a $0.1 million decrease in consulting and advisory costs. Product support headcount decreased 17.4% to 142 at June 30, 2014 from 172 at June 30, 2013. Cost of product support revenues decreased $1.4 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $1.0 million decrease in compensation and related costs due to a decrease in staffing levels, a $0.2 million decrease in facility and other related support costs, and a $0.1 million decrease in travel and entertainment expenditures. Cost of consulting revenues. Cost of consulting revenues consists of personnel and related overhead costs. Cost of consulting revenues decreased $1.8 million for the three months ended June 30, 2014, as compared to the same period in the prior year, due to a $1.7 million decrease in compensation and related costs due to a decrease in staffing levels, a $0.3 million decrease in facility and other related support costs, and a $0.2 million decrease in travel and entertainment expenditures, partially offset by a $0.4 million increase in consulting and advisory costs. Consulting headcount decreased 9.8% to 683 at June 30, 2014 from 757 at June 30, 2013. Cost of consulting revenues decreased $4.7 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $3.1 million decrease in compensation and related costs due to a decrease in staffing levels, a $1.0 million decrease in travel and entertainment expenditures, a $0.4 million decrease in facility and other related support costs, and a $0.1 million decrease in consulting and advisory costs. Cost of education revenues. Cost of education revenues consists of personnel and related overhead costs. Cost of education revenues increased $0.3 million for the three months ended June 30, 2014, as compared to the same period in the prior year, due to a $0.2 million increase in consulting and advisory costs and a $0.1 million increase in compensation and related costs due to a slight increase in staffing levels. Education headcount increased 2.4% to 43 at June 30, 2014 from 42 at June 30, 2013. Cost of education revenues increased $0.1 million for the six months ended June 30, 2014, as compared to the same period in the prior year, due to a $0.1 million increase in consulting and advisory costs. Sales and marketing expenses. Sales and marketing expenses consists of personnel costs, commissions, office facilities, travel, advertising, public relations programs, and promotional events, such as trade shows, seminars, and technical conferences. The following table sets forth sales and marketing expenses (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Sales and marketing expenses $ 60,956 $ 52,686 15.7 % $ 119,833 $ 103,400 15.9 % Sales and marketing expenses increased $8.3 million for the three months ended June 30, 2014, as compared to the same period in 2013, due to a $4.3 million increase in compensation and related costs, a $1.8 million increase in marketing and advertising costs, a $0.6 million increase in travel and entertainment expenditures, a $0.6 million increase in recruiting costs, a $0.5 million increase in consulting and advisory costs, a $0.4 million increase in facility and other related support costs, and a $0.1 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan. Sales and marketing headcount increased 14.7% to 920 at June 30, 2014 from 802 at June 30, 2013. 30 -------------------------------------------------------------------------------- Table of Contents As a result of stock options granted under the 2013 Plan, we expect that share-based compensation expense, a portion of which is recognized as sales and marketing expense, will continue to be a recurring expense. We estimate that approximately $3.0 million of additional share-based compensation expense will be recognized as sales and marketing expense over a remaining weighted average period of 3.9 years. See "Overview" and Note 10, Share-based Compensation, to the Consolidated Financial Statements for further information regarding the 2013 Plan and related share-based compensation expense. Sales and marketing expenses increased $16.4 million for the six months ended June 30, 2014, as compared to the same period in 2013, due to a $8.8 million increase in compensation, variable compensation, and related costs, a $2.9 million increase in marketing and advertising costs, a $1.4 million increase in travel and entertainment expenditures, a $1.3 million increase due to previously disputed variable compensation, a $0.8 million increase in facility and other related support costs, a $0.6 million increase in consulting and advisory costs, a $0.5 million increase in recruiting costs, and a $0.1 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan. General and administrative expenses. General and administrative expenses consists of personnel and related overhead costs, and other costs of our executive, finance, human resources, information systems, and administrative departments, as well as third-party consulting, legal, and other professional fees. The following table sets forth general and administrative expenses (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change General and administrative expenses $ 25,262 $ 26,594 -5.0 % $ 51,565 $ 53,006 -2.7 % General and administrative expenses decreased $1.3 million for the three months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $1.5 million decrease in variable compensation primarily due to the fact that variable compensation in the prior year included additional amounts incurred as a result of the sale of Angel.com, a $1.4 million decrease in legal, consulting, and other advisory costs, a $0.5 million decrease in facility and other related support costs, and a $0.3 million decrease in travel and entertainment expenditures, partially offset by a $2.6 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan. General and administrative headcount decreased 2.3% to 463 at June 30, 2014 from 474 at June 30, 2013. We do not expect to increase general and administrative headcount significantly in the near term. As a result of stock options granted under the 2013 Plan, we expect that share-based compensation expense, a portion of which is recognized as general and administrative expense, will continue to be a significant recurring expense. We estimate that approximately $45.7 million of additional share-based compensation expense will be recognized as general and administrative expense over a remaining weighted average period of 3.6 years. See "Overview" and Note 10, Share-based Compensation, to the Consolidated Financial Statements for further information regarding the 2013 Plan and related share-based compensation expense. General and administrative expenses decreased $1.4 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $2.8 million decrease in legal, consulting, and other advisory costs, a $2.8 million decrease in variable compensation primarily due to the fact that variable compensation in the prior year included additional amounts incurred as a result of the sale of Angel.com, and a $0.6 million decrease in facility and other related support costs, partially offset by a $3.9 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan and a $1.1 million increase in compensation and related costs due to an increase in average staffing levels. 31-------------------------------------------------------------------------------- Table of Contents Research and development expenses. Research and development expenses consists of the personnel costs for our software engineering personnel, depreciation of equipment, and other related costs. The following table summarizes research and development expenses and amortization of capitalized software development costs (in thousands) and related percentage changes for the periods indicated: Three Months Ended Six Months Ended June 30, % June 30, % 2014 2013 Change 2014 2013 Change Gross research and development expenses before capitalized software development costs $ 32,748 $ 25,963 26.1 % $ 60,810 $ 51,780 17.4 % Capitalized software development costs 0 (1,736 ) -100.0 % 0 (1,736 ) -100.0 % Total research and development expenses $ 32,748 $ 24,227 35.2 % $ 60,810 $ 50,044 21.5 % Amortization of capitalized software development costs included in cost of product licenses revenues $ 1,295 $ 1,353 -4.3 % $ 2,919 $ 2,706 7.9 % Research and development expenses, before capitalization of software development costs, increased $6.8 million for the three months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $5.7 million increase in compensation and related costs due to an increase in staffing levels, a $0.7 million increase in recruiting costs, and a $0.4 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan, partially offset by a $0.2 million decrease in consulting and advisory costs. Research and development headcount increased 21.1% to 1,101 at June 30, 2014 from 909 at June 30, 2013. As a result of stock options granted under the 2013 Plan, we expect that share-based compensation expense, a portion of which is recognized as research and development expense, will continue to be a recurring expense. We estimate that approximately $5.4 million of additional share-based compensation expense will be recognized as research and development expense over a remaining weighted average period of 3.4 years. See "Overview" and Note 10, Share-based Compensation, to the Consolidated Financial Statements for further information regarding the 2013 Plan and related share-based compensation expense. Research and development expenses, before capitalization of software development costs, increased $9.0 million for the six months ended June 30, 2014, as compared to the same period in the prior year, primarily due to a $8.2 million increase in compensation and related costs due to an increase in staffing levels, a $1.2 million increase in recruiting costs, and a $0.6 million increase in share-based compensation expense related to the grant of stock options under the 2013 Plan, partially offset by a $1.2 million decrease in consulting and advisory costs. For the six months ended June 30, 2014, our research and development effort was focused on the following: 68.7% on the MicroStrategy Analytics Platform, MicroStrategy Mobile, MicroStrategy Cloud, and internal information technology initiatives and 31.3% on other research and development, including the MicroStrategy Loyalty Platform and the MicroStrategy Identity Platform. Other (Expense) Income, Net Other (expense) income, net is comprised primarily of realized gains and losses on our foreign currency forward contracts and foreign currency transaction gains and losses. For the three months ended June 30, 2014, other expense, net, of $0.5 million was comprised of $0.3 million in realized losses from the settlement of certain foreign currency forward contracts and $0.3 million in impairment losses related to software developed for internal use, offset by $0.1 million in foreign currency transaction net gains, arising mainly from the revaluation of U.S. dollar denominated cash balances held at international locations. For the six months ended June 30, 2014, other expense, net, of $1.6 million was comprised of $0.7 million in foreign currency transaction net losses, arising mainly from the revaluation of U.S. dollar denominated cash balances held at international locations, $0.6 million in realized losses from the settlement of certain foreign currency forward contracts, and $0.3 million in impairment losses related to software developed for internal use. 32-------------------------------------------------------------------------------- Table of Contents Provision for Income Taxes We have estimated an annual effective tax rate for the full fiscal year 2014 and applied that rate to the loss from continuing operations before income taxes in determining the benefit for income taxes for the six months ended June 30, 2014. We also record discrete items in each respective period as appropriate. The estimated effective tax rate is subject to fluctuation based upon the level and mix of earnings and losses by tax jurisdiction, foreign tax rate differentials, and the relative impact of permanent book to tax differences (e.g., non-deductible expenses). Each quarter, a cumulative adjustment is recorded for any fluctuations in the estimated annual effective tax rate as compared to the prior quarter. As a result of these factors, and due to potential changes in our period to period results, fluctuations in our effective tax rate and respective tax provisions or benefits may occur. The effective tax rate for the six months ended June 30, 2013 was calculated based on the actual benefit for income taxes for the six months ended June 30, 2013 (i.e. the "cut-off" method) because we determined that we were unable to make a reliable estimate of the annual effective tax rate as relatively small changes in the projected income or loss produced significant variances in the annual effective tax rate. For the six months ended June 30, 2014, we recorded a benefit for income taxes from continuing operations of $5.8 million that resulted in an effective tax rate of 25.5%, as compared to a benefit for income taxes from continuing operations of $2.3 million that resulted in an effective tax rate of 25.4% for the six months ended June 30, 2013. The change in the effective tax rate is mainly due to the change in the proportion of U.S. versus foreign income, offset by the release of liability for certain unrecognized tax benefits in the second quarter of 2013 and the 2012 U.S. research and development tax credit that was retrospectively reinstated and taken as a benefit in the first quarter of 2013. As of June 30, 2014, we estimated that we had U.S. federal net operating loss carryforwards of $15.2 million and foreign net operating loss carryforwards of $5.3 million. As of June 30, 2014, we estimated that we had U.S. and foreign net operating loss carryforwards, other temporary differences and carryforwards, and credits that resulted in deferred tax assets, net of valuation allowances and deferred tax liabilities, of $25.2 million. As of June 30, 2014, we had a valuation allowance of $0.3 million primarily related to certain foreign net operating loss carryforwards that, in our present estimation, more likely than not will not be realized. Over the course of 2013 and the first half of 2014, we increased our headcount as part of our initiatives to focus on specific research and development as well as increased sales and marketing efforts. As a result of these initiatives, our operating expenses have increased. If our revenues in the future are not sufficient to offset these operating expenses, or we are unable to adjust our operating expenses in a timely manner in response to any shortfall in anticipated revenue, we may incur additional operating losses. If we are unable to achieve profitability in the near future, particularly relating to our U.S. operations, we may be required to increase the valuation allowance against our deferred tax assets. We will continue to regularly assess the realizability of deferred tax assets. Discontinued Operations On March 15, 2013, we completed the sale of our equity interest in our Angel.com business and received consideration of approximately $111.2 million, resulting in a net cash inflow of $100.7 million after $10.5 million in transaction costs. The sale resulted in a gain of $57.4 million, net of tax. On our Consolidated Statement of Operations, we classified operations of the Angel.com business as Loss from Discontinued Operations, net of tax, because we have no continuing involvement with or cash flows from this business following its divestiture. 33 -------------------------------------------------------------------------------- Table of Contents Deferred Revenue and Advance Payments Deferred revenue and advance payments represent product support, subscription services, and other services fees that are collected in advance and recognized over the contract service period and product licenses revenues relating to multiple-element software arrangements that include future deliverables. The following table summarizes deferred revenue and advance payments (in thousands), as of: June 30, December 31, June 30, 2014 2013 2013 Current: Deferred product licenses revenue $ 14,487 $ 14,538 $ 11,125 Deferred subscription services revenue 11,174 10,923 8,880 Deferred product support revenue 156,018 167,771 149,280 Deferred other services revenue 14,696 17,056 13,700 Gross current deferred revenue and advance payments 196,375 210,288 182,985 Less: unpaid deferred revenue (64,052 ) (96,632 ) (74,830 ) Net current deferred revenue and advance payments $ 132,323 $ 113,656 $ 108,155 Non-current: Deferred product licenses revenue $ 7,431 $ 4,401 $ 3,306 Deferred subscription services revenue 949 1,161 1,004 Deferred product support revenue 6,696 5,877 6,709 Deferred other services revenue 1,061 1,175 1,537 Gross non-current deferred revenue and advance payments 16,137 12,614 12,556 Less: unpaid deferred revenue (3,116 ) (3,644 ) (3,102 ) Net non-current deferred revenue and advance payments $ 13,021 $ 8,970 $ 9,454 We offset our accounts receivable and deferred revenue for any unpaid items included in deferred revenue and advance payments. Total gross deferred revenue and advance payments decreased $10.4 million as of June 30, 2014, as compared to December 31, 2013, primarily due to the recognition of previously deferred product support and other services revenues, partially offset by deferred revenue from new product licenses contracts. Total gross deferred revenue and advance payments increased $17.0 million as of June 30, 2014, as compared to June 30, 2013, due to an increase in deferred revenue from new product licenses, subscription services, product support, and other services contracts. We expect to recognize approximately $196.4 million of deferred revenue and advance payments over the next 12 months. However, the timing and ultimate recognition of our deferred revenue and advance payments depend on our performance of various service obligations, and the amount of deferred revenue and advance payments at any date should not be considered indicative of revenues for any succeeding period. As of June 30, 2014, we had entered into certain additional agreements that include future minimum commitments by our customers to purchase products, subscription services, product support, or other services through 2019 totaling approximately $123.0 million. Revenue relating to such future commitments by our customers is not included in our deferred revenue balances. Revenue relating to such agreements will be recognized during the period in which all revenue recognition criteria are met. The timing and ultimate recognition of any revenue from such customer purchase commitments depend on our customers' meeting their future purchase commitments and our meeting our associated performance obligations related to those purchase commitments. 34-------------------------------------------------------------------------------- Table of Contents Liquidity and Capital Resources Liquidity. Our principal sources of liquidity are cash and cash equivalents and on-going collection of our accounts receivable. Cash and cash equivalents include holdings in bank demand deposits and U.S. Treasury securities. We also periodically invest a portion of our excess cash in short-term investments with stated maturity dates between three months and one year from the purchase date. As of June 30, 2014 and December 31, 2013, the amount of cash and cash equivalents and short-term investments held by U.S. entities were $134.1 million and $160.5 million, respectively, and by non-U.S. entities were $233.4 million and $196.9 million, respectively. We earn a significant amount of our revenues outside the U.S. and, except for Subpart F deemed dividends, we intend to indefinitely reinvest undistributed earnings of certain non-U.S. entities. We do not anticipate needing to repatriate the cash or cash equivalents held by non-U.S. entities to the U.S. to finance our U.S. operations. However, if we were to elect to repatriate these amounts, we would generate U.S. taxable income to the extent of our undistributed foreign earnings, which amounted to $192.7 million at December 31, 2013. Although the tax impact of repatriating these earnings is difficult to determine and our effective tax rate could increase as a result of any such repatriation, we would not expect the maximum effective tax rate that would be applicable to such repatriation to exceed the U.S. statutory rate of 35.0%, after considering applicable foreign tax credits. We believe that existing cash and cash equivalents and short-term investments held by us and cash and cash equivalents anticipated to be generated by us are sufficient to meet working capital requirements, anticipated capital expenditures, and contractual obligations for at least the next 12 months. The following table sets forth a summary of our cash flows from continuing operations (in thousands) and related percentage changes for the periods indicated: Six Months Ended June 30, % 2014 2013 ChangeNet cash provided by (used in) operating activities from continuing operations $ 14,370 $ (15,950 ) -190.1 % Net cash used in investing activities from continuing operations $ (122,677 ) $ (139,784 ) -12.2 % Net cash (used in) provided by financing activities from continuing operations $ (341 ) $ 23,597 -101.4 % Net Cash Provided by (Used in) Operating Activities from Continuing Operations. The primary source of our cash provided by operating activities from continuing operations is cash collections of our accounts receivable from customers following the sales and renewals of our software licenses, technical software support, software updates and upgrades, as well as consulting, education, and subscription services. Our primary uses of cash in operating activities from continuing operations are for personnel related expenditures for software development, personnel related expenditures for providing consulting, education, and subscription services, and for sales and marketing costs, general and administrative costs, and income taxes. Net cash provided by operating activities from continuing operations was $14.4 million for the six months ended June 30, 2014. Net cash used in operating activities from continuing operations was $16.0 million for the six months ended June 30, 2013. The increase in net cash provided by operating activities from continuing operations during the six months ended June 30, 2014, as compared to the same period in the prior year, was primarily due to a $27.7 million increase from changes in non-cash items and a $12.7 million change in operating assets and liabilities, partially offset by a $10.1 million increase in loss from continuing operations, net of tax. Non-cash items primarily consist of depreciation and amortization, bad debt expense, deferred taxes, release of liabilities for unrecognized tax benefits, share-based compensation expense, and excess tax benefits from share-based compensation arrangements. 35-------------------------------------------------------------------------------- Table of Contents Net Cash Used in Investing Activities from Continuing Operations. The changes in net cash used in investing activities from continuing operations primarily relate to purchases and redemptions of short-term investments, expenditures on property and equipment, and capitalized software development costs. Net cash used in investing activities from continuing operations was $122.7 million and $139.8 million for the six months ended June 30, 2014 and 2013, respectively. The decrease in net cash used in investing activities from continuing operations for the six months ended June 30, 2014, as compared to the same period in the prior year, was primarily due to a $93.2 million increase in proceeds from the redemption of U.S. Treasury securities, a $4.7 million decrease in purchases of property and equipment, comprised primarily of decreases in expenditures for computer equipment and software, and a $1.7 million decrease in capitalized software development costs, partially offset by a $82.6 million increase in purchases of short-term investments. Net Cash (Used in) Provided by Financing Activities from Continuing Operations. The changes in net cash (used in) provided by financing activities from continuing operations primarily relate to the exercise of employee stock options. Net cash used in financing activities from continuing operations was $0.3 million for the six months ended June 30, 2014. Net cash provided by financing activities from continuing operations was $23.6 million for the six months ended June 30, 2013. The increase in net cash used in financing activities from continuing operations for the six months ended June 30, 2014, as compared to the same period in the prior year, was due to a $23.6 million decrease in excess tax benefits, generated primarily from stock option exercises in previous years, that were recognized in 2013 due to the taxable gain arising from the sale of Angel.com, and a $0.3 million decrease in proceeds from the exercise of employee stock options. Contractual Obligations. As disclosed in Note 7, Commitments and Contingencies, to the Consolidated Financial Statements, we lease office space and computer and other equipment under operating lease agreements. We also lease certain computer and other equipment under capital lease agreements and license certain software under other financing arrangements. Under the lease agreements, in addition to base rent, we are generally responsible for certain taxes, utilities and maintenance costs, and other fees; and several leases include options for renewal or purchase. The following table shows future minimum rent payments under noncancellable operating and capital leases and agreements with initial terms of greater than one year, net of total future minimum rent payments to be received under noncancellable sublease agreements (in thousands), based on the expected due dates of the various installments as of June 30, 2014: Payments due by period ended June 30, Total 2015 2016-2017 2018-2019 Thereafter Contractual Obligations: Operating leases $ 142,160 $ 27,859 $ 47,738 $ 37,042 $ 29,521 Capital leases and other financing arrangements 3,630 2,235 1,395 0 0 Total $ 145,790 $ 30,094 $ 49,133 $ 37,042 $ 29,521 Unrecognized Tax Benefits. As of June 30, 2014, we had $1.7 million of total gross unrecognized tax benefits, including interest accrued. The unrecognized tax benefits have been netted against deferred tax assets upon adoption of Accounting Standards Update No. 2013-11, Income Taxes (Topic 740), and are recorded in other long-term liabilities. The timing of any payments that could result from these unrecognized tax benefits will depend on a number of factors, and accordingly the amount and period of any future payments cannot be estimated. We do not expect a significant tax payment related to these obligations during 2014. Off-Balance Sheet Arrangements. As of June 30, 2014, we did not have any off-balance sheet arrangements that had or were reasonably likely to have a current or future material impact on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources. 36-------------------------------------------------------------------------------- Table of Contents Recent Accounting Standards In July 2013, the FASB issued Accounting Standards Update No. 2013-11, Income Taxes (Topic 740) ("ASU 2013-11"), which requires the financial statement presentation of an unrecognized tax benefit in a particular jurisdiction, or a portion thereof, as a reduction to a deferred tax asset for a net operating loss ("NOL") carryforward, a similar tax loss, or a tax credit carryforward, unless the uncertain tax position is not available to reduce, or would not be used to reduce, the NOL or carryforward under the tax law in the same jurisdiction; otherwise, the unrecognized tax benefit should be presented as a gross liability and should not be combined with a deferred tax asset. The Company adopted ASU 2013-11 on January 1, 2014. As a result, liabilities for unrecognized tax benefits of $0.9 million were netted against deferred tax assets, as of June 30, 2014. The adoption of this guidance did not have a material effect on the Company's consolidated results of operations or cash flows. In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606) ("ASU 2014-09"), which supersedes nearly all existing revenue recognition guidance. The standard's core principle is that an entity should recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard creates a five-step model to achieve its core principle: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the separate performance obligations in the contract, and (5) recognize revenue when (or as) the entity satisfies a performance obligation. In addition, entities must disclose sufficient information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. Qualitative and quantitative disclosures are required about: (1) the entity's contracts with customers, (2) the significant judgments, and changes in judgments, made in applying the guidance to those contracts, and (3) any assets recognized from the costs to obtain or fulfill a contract with a customer. ASU 2014-09 is effective for interim and annual periods beginning January 1, 2017. Early adoption is not permitted. The standard allows entities to apply the standard retrospectively to each prior reporting period presented ("full retrospective adoption") or retrospectively with the cumulative effect of initially applying the standard recognized at the date of initial application ("modified retrospective adoption"). The Company is currently evaluating the impact of this guidance on its consolidated financial position, results of operations, and cash flows. 37-------------------------------------------------------------------------------- Table of Contents |