S-1/A 1 d772825ds1a.htm AMENDMENT NO. 2 TO FORM S-1 Amendment No. 2 to Form S-1
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As filed with the Securities and Exchange Commission on December 4, 2014

Registration No. 333-200043

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

AMENDMENT NO. 2

TO

FORM S-1

REGISTRATION STATEMENT

Under

The Securities Act of 1933

 

 

ON DECK CAPITAL, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   6199   42-1709682

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

1400 Broadway, 25th Floor

New York, New York 10018

(888) 269-4246

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

 

Noah Breslow

Chief Executive Officer

1400 Broadway, 25th Floor

New York, New York 10018

(888) 269-4246

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

Copies to:

 

Larry W. Sonsini

Tony Jeffries

Damien Weiss

Wilson Sonsini Goodrich & Rosati, P.C.

650 Page Mill Road

Palo Alto, California 94304

(650) 493-9300

 

Cory Kampfer

General Counsel

1400 Broadway, 25th Floor

New York, New York 10018

(888) 269-4246

 

Christopher J. Austin

Andrew D. Thorpe

Stephen C. Ashley

Orrick, Herrington & Sutcliffe LLP

51 West 52nd Street

New York, New York 10019

(212) 506-5000

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after this registration statement becomes effective.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933 check the following box:  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   x  (do not check if a smaller reporting company)    Smaller reporting company   ¨

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of

Securities to be Registered

  Amount to be
Registered
  Proposed Maximum
Offering
Price Per Share
 

Proposed Maximum

Aggregate

Offering Price(1)

 

Amount of

Registration Fee(2)

Common Stock, par value $0.005 per share

  11,500,000   $18.00   $207,000,000   $24,054

 

 

(1) Estimated pursuant to 457(a) under the Securities Act of 1933, as amended. Includes offering price of shares that the underwriters have the option to purchase.
(2) The Registrant previously paid $17,430 in connection with the initial filing of the Registration Statement.

 

 

The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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The information in this preliminary prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell these securities and we are not soliciting offers to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

PROSPECTUS (Subject to Completion)

Issued December 4, 2014

10,000,000 Shares

 

LOGO

COMMON STOCK

 

 

On Deck Capital, Inc. is offering 10,000,000 shares of its common stock. This is our initial public offering and no public market currently exists for our shares. We anticipate that the initial public offering price of our common stock will be between $16.00 and $18.00 per share.

 

 

Our common stock has been approved for listing on the New York Stock Exchange under the symbol “ONDK.”

 

 

We are an “emerging growth company” under the federal securities laws and are therefore subject to reduced public company reporting requirements. Investing in our common stock involves risks. See “Risk Factors” beginning on page 14.

 

 

PRICE $             A SHARE

 

 

 

      

Price to
Public

      

Underwriting
Discounts
and
Commissions

      

Proceeds to
On Deck
Capital, Inc.

 

Per Share

       $                       $                       $               

Total

       $                              $                              $                      

We have granted the underwriters the right to purchase up to an additional 1,500,000 shares of common stock.

The Securities and Exchange Commission and state securities regulators have not approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The underwriters expect to deliver the shares of common stock to purchasers on                      , 2014.

 

 

 

MORGAN STANLEY  

BofA MERRILL LYNCH

  J.P. MORGAN   DEUTSCHE BANK SECURITIES   JEFFERIES
RAYMOND JAMES   STIFEL   NEEDHAM & COMPANY

                     , 2014


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LOGO


Table of Contents

TABLE OF CONTENTS

 

 

 

 

You should rely only on the information contained in this prospectus or contained in any free writing prospectus prepared by or on behalf of us. Neither we nor the underwriters have authorized anyone to provide you with information different from, or in addition to, that contained in this prospectus or any related free writing prospectus. This prospectus is an offer to sell only the shares offered hereby but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date, regardless of its delivery. Our business, financial condition, results of operations and prospects may have changed since that date.

For investors outside the United States: neither we nor any of the underwriters have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than the United States. You are required to inform yourselves about and to observe any restrictions relating to this offering and the distribution of this prospectus.

 

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PROSPECTUS SUMMARY

This summary overview of the key aspects of the offering identifies those aspects of the offering that are the most significant. This summary is qualified in its entirety by the more detailed information and financial statements included elsewhere in this prospectus. This summary may not contain all the information you should consider before investing in our common stock. You should carefully read this prospectus in its entirety before investing in our common stock, including the sections titled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this prospectus.

ON DECK CAPITAL, INC.

Our Company

We are a leading online platform for small business lending. We are seeking to transform small business lending by making it efficient and convenient for small businesses to access capital. Enabled by our proprietary technology and analytics, we aggregate and analyze thousands of data points from dynamic, disparate data sources to assess the creditworthiness of small businesses rapidly and accurately. Small businesses can apply for a term loan or line of credit on our website in minutes and, using our proprietary OnDeck Score, we can make a funding decision immediately and transfer funds as fast as the same day. We have originated more than $1.7 billion in loans and collected more than 4.4 million customer payments since we made our first loan in 2007. Our loan originations have increased at a compound annual growth rate of 127% from 2011 to 2013 and had a year-over-year growth rate of 171% for the nine months ended September 30, 2014.

The 28 million small businesses in the United States are integral to the U.S. economy and the vibrancy of local communities, employing approximately 50% of the private workforce. Small business growth depends on efficient and frictionless access to capital, yet small businesses face numerous challenges that make it difficult to secure such capital. Small business owners are time and resource constrained, but the traditional borrowing process is time consuming and burdensome. Small businesses surveyed by the Federal Reserve Bank of New York indicated that the traditional funding process required them, on average, to dedicate 26 hours, contact 2.6 financial institutions and submit 2.7 loan applications. These challenges exist in part because it is inherently difficult to assess the creditworthiness of small businesses. Small businesses are a diverse group spanning many different industries, stages in development, geographies, financial profiles and operating histories, historically making it difficult to assess their creditworthiness in a uniform manner, and there is no widely-accepted credit score for small businesses. In addition, small businesses often seek small, short-term loans to fund short-term projects and investments, but traditional lenders may only offer loan products that feature large loan sizes, longer durations and rigid collateral requirements that are not well suited to their needs.

The small business lending market is vast and underserved. According to the FDIC, there were $178 billion in business loan balances under $250,000 in the United States in the second quarter of 2014, across 21.7 million loans. Oliver Wyman, a management consulting firm and business unit of Marsh & McLennan, estimates that there is a potential $80 to $120 billion in unmet demand for small business lines of credit, and we believe that there is also substantial unmet demand for other credit-related products, including term loans. We also believe that the application of our technology to credit assessment can stimulate additional demand for our products and expand the total addressable market for small business credit.

To better meet the capital needs of small businesses, we are seeking to use technology to transform the way this capital is accessed. We built our integrated platform specifically to meet their financing needs. Our platform touches every aspect of the customer lifecycle and a potential customer can complete an online application 24 hours a day, 7 days a week. Our proprietary data and analytics engine aggregates and analyzes thousands of online and offline data attributes and the relationships among those attributes to assess the creditworthiness of a

 

 

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small business in real time. The data points include customer bank activity shown on bank statements, government filings, tax and census data. In addition, in certain instances we also analyze reputation and social data. We look at both individual data points and relationships among the data, with each transaction or action being a separate data point that we take into account. A key differentiator of our solution is the OnDeck Score, the product of our proprietary small business credit scoring system. Both our data and analytics engine and the algorithms powering the OnDeck Score undergo continuous improvement to automate and optimize the credit assessment process, enabling more rapid and predictive credit decisions. Each loan that we make involves our proprietary automated underwriting process, and approximately two-thirds of our loans are underwritten using a fully-automated underwriting process that does not require manual review. Our platform supports same-day funding and automated loan repayment. This technology-enabled approach provides small businesses with efficient, frictionless access to capital.

We believe that the differences between our approach and the approach adopted by traditional lenders are what have allowed us to better address the challenges of small business lending. In our approach, manual underwriting has largely been replaced by an automated, data-driven approach to credit assessment. Expensive branch networks have been replaced by an online website for applications and account management. Service of consumers and businesses of all sizes has been replaced by a singular focus on small business. In addition, we are subject to less regulation than traditional lenders because we do not make loans to consumers nor do we take deposits. We believe that differences in our loan products allow us to better meet the needs of small businesses. Small business owners typically seek small, short-term loans so we offer term loan products that range in size from $5,000 to $250,000 and feature terms of 3 to 24 months versus traditional lenders that offer larger and longer term loans. At September 30, 2014, our outstanding loans had original loan balances ranging from $5,000 to $250,000. We also offer a line of credit product that can be approved more quickly than comparable products offered by traditional lenders. We believe that small business owners prefer predictability so we offer fixed interest amounts and automated daily or weekly repayments compared to traditional lenders that offer both fixed and variable rate loans with monthly repayments. We also believe that small business owners value flexibility so we don’t have the rigid collateral requirements that are typical of traditional lenders. All or substantially all of our term loans and lines of credit are currently collateralized through a security interest in our customers’ assets, but we do not require a minimum amount of collateral to make a loan. We intend to transition to unsecured lines of credit in the near future.

We lend to a wide variety of small businesses across more than 700 industries and in all 50 U.S. states and have recently begun lending in Canada. The top five states in which we originated loans in 2013 and in the nine months ended September 30, 2014 were California, Florida, New York, Texas and New Jersey, representing approximately 14%, 10%, 8%, 8% and 4% of our total loan originations for the year ended December 31, 2013 and approximately 15%, 9%, 8%, 8% and 4% of our total loan originations for the nine months ended September 30, 2014, respectively. Our most frequent customers are professional services firms, retailers, restaurants and food service companies, healthcare specialists and wholesalers. We also lend to customers with a range of financial and operating histories: our customers have a median of $568,000 in annual revenue, with 90% of our customers having between $150,000 and $3.2 million in annual revenue, and have been in business for a median of 7.5 years, with 90% in business between 2 and 31 years.

We believe that our product pricing has historically fallen between traditional bank loans to small businesses and certain non-bank small business financing alternatives such as merchant cash advances. The weighted average pricing on our term loan originations has declined over time, as measured by both average “Cents on Dollar” borrowed per month and APR, as shown in the table below.

 

     Q1
2013
    Q2
2013
    Q3
2013
    Q4
2013
    Q1
2014
    Q2
2014
    Q3
2014
 

Average “Cents on Dollar”
Borrowed, per Month

     2.73 ¢      2.71 ¢      2.62 ¢      2.60 ¢      2.53 ¢      2.38 ¢      2.24 ¢ 

APR

     65.9     65.0     62.9     62.1     60.3     57.1     53.2

 

 

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We attribute this pricing shift to increased originations from our direct and strategic partner channels as a percentage of total originations, as well as our declining cost of funds rate. “Cents on Dollar” borrowed reflects the monthly interest paid by a customer to us for a loan, and does not include the loan origination fee and the repayment of the principal of the loan. Because many of our loans are short term in nature and APR is calculated on an annualized basis, we believe that small business customers tend to evaluate term loans primarily on a “Cents on Dollar” borrowed basis rather than APR.

We have a diverse and scalable set of funding sources. These include debt facilities, securitization of small business loans generated by OnDeck and the OnDeck Marketplace, a proprietary whole loan sale marketplace that allows institutional investors to directly purchase small business loans from us. We believe that having diverse sources of capital enables us to reduce our average cost of capital, provides multiple sources of capital in a variety of economic climates and provides increased flexibility as we seek to increase our loan originations. Affiliates of certain of our underwriters in this offering are participants in our various financing facilities and have acted in various administrative roles in connection with such facilities. For further information, see the section titled “Underwriters.”

Our business has grown rapidly. In 2013, we originated $458.9 million of loans, representing year-over-year growth of 165%, and in the first nine months of 2014, we originated $788.3 million of loans, representing year-over-year growth of 171%, all while maintaining consistent credit quality. In 2013, we recorded gross revenue of $65.2 million, representing year-over-year growth of 155%, and in the first nine months of 2014, we recorded gross revenue of $107.6 million, representing year-over-year growth of 156%. During 2013 and the three months ended September 30, 2014, our Adjusted EBITDA was $(16.3) million and $2.6 million, respectively, our (loss) income from operations was $(19.3) million and $0.7 million, respectively and our net (loss) income was $(24.4) million and $0.4 million, respectively. See the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for a discussion and reconciliation of Adjusted EBITDA to net (loss) income. As of December 31, 2013 and September 30, 2014, our total assets were $235.5 million and $466.0 million, respectively and the unpaid principal balance on loans outstanding was $216.0 million and $422.1 million, respectively.

Industry Background and Trends

 

    Small Businesses are an Enormous Driver of the U.S. Economy. According to the U.S. Small Business Administration, there are 28 million small businesses in the United States, contributing approximately 45% of U.S. non-agricultural gross domestic product and employing approximately 50% of the private workforce. These small businesses help build vibrant communities with local character.

 

    Small Businesses Need Capital to Survive and Thrive. We believe that small businesses depend on efficient and frictionless access to capital to purchase supplies and inventory, hire employees, market their businesses and invest in new potential growth opportunities.

 

    Small Businesses are Unique and Difficult to Assess. Credit assessment is inherently difficult because small business data is constantly changing as the business evolves and is scattered across a myriad of online and offline sources, unlike consumer credit assessment where a lender can generally look to scores provided by consumer credit bureaus.

 

    Small Businesses are not Adequately Served by Traditional Lenders. We believe traditional lenders face a number of challenges and limitations that make it difficult to address the capital needs of small businesses, such as:

 

    Organizational and Structural Challenges. The costly combination of physical branches and manually intensive underwriting procedures makes it difficult for traditional lenders to efficiently serve small businesses.

 

 

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    Technology Limitations. Many traditional lenders use legacy or third-party systems that are difficult to integrate or adapt to the shifting needs of small businesses.

 

    Loan Products not Designed for Small Businesses. Small businesses are not well served by traditional loan products. We believe that traditional lenders often offer products characterized by larger loan sizes, longer durations and rigid collateral requirements. By contrast, small businesses often seek small loans for short-term investments.

 

    Other Credit Products Have Significant Limitations. Certain additional products, including widely available business credit cards, provide small businesses with access to capital but may not be designed for their borrowing needs. For example, business credit cards may not have sufficient credit limits to handle the needs of the small business, particularly in the case of large, one-time projects such as capital improvements or expanding to a new location. In addition, certain business opportunities, such as discounts for paying with cash, and certain business expenses, such as payroll, rent or equipment leases, may not be payable with credit cards. Business credit cards are also typically not designed to fund many small business working capital needs.

As a result, we believe that small businesses feel underserved by traditional lenders. According to the FDIC, the percentage of commercial and industrial loans with a balance less than $250,000 has declined from 20% of total dollars borrowed in 2004 to 13% in the second quarter of 2014. According to Oliver Wyman, 75% of small businesses are looking to borrow less than $50,000. In addition, according to the third quarter 2014 Wells Fargo-Gallup Small Business Index, only 32% of small businesses reported that obtaining credit was easy.

Challenges for Small Business Owners

 

    Small Business Owners are Time and Resource Constrained. We believe that small business owners lack many of the resources available to larger businesses and have fewer staff on which to rely for critical business issues. Time spent inefficiently may mean lost sales, extra expenses and personal sacrifices.

 

    Traditional Lending is not Geared Towards Small Businesses. Traditional lenders do not meet the needs of small businesses for a number of reasons, including the following:

 

    Time-Consuming Process. According to a Harvard Business School study, the traditional borrowing process includes application forms which are time consuming to assemble and complete, long in-person meetings during business hours and manual underwriting procedures that delay decisions.

 

    Non-Tailored Credit Assessment. There is no widely-accepted credit score for small businesses. Traditional lenders frequently rely upon the small business owner’s personal credit as a primary indicator of the business’s creditworthiness, even though it is not necessarily indicative of the business’s credit profile.

 

    Product Mismatch. Small businesses are not well served by traditional loan products. We believe that they often seek small loans for short-term investments, but traditional lenders may only offer loan products characterized by larger loan sizes, longer durations and rigid collateral requirements.

 

    Alternatives to Traditional Bank Loans are Inadequate. Small businesses whose lending needs are not being met by traditional bank loans have historically resorted to a fragmented landscape of products, including merchant cash advances, credit cards, receivables factoring, equipment leases and home equity lines, each of which comes with its own challenges and limitations.

 

 

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Modernization of Small Businesses

 

    Small Businesses are Embracing Technology. Small businesses are increasingly using online services to manage their operations. According to a survey by the National Small Business Association, 85% of small businesses purchase supplies online, 83% manage bank accounts online, 82% maintain their own website, 72% pay bills online and 41% use tablets for their business. We believe small business owners expect a user-friendly online borrowing experience.

 

    The Digital Footprint of Small Businesses is Expanding. There is a vast amount of real-time digital data about small businesses that can be used to generate valuable insights that help better assess the creditworthiness of a small business.

Our Solution

Our mission is to power the growth of small business through lending technology and innovation. We are combining our passion for small business with technology and analytics to transform the way small businesses access capital. Our solution was built specifically to address small businesses’ capital needs and consists of our loan products, our end-to-end integrated platform and the OnDeck Score. We offer two products to small businesses to enable them to access capital: term loans and lines of credit. Our proprietary, end-to-end integrated platform includes: our website, which allows small businesses to apply for a loan in minutes, 24 hours a day, 7 days a week; our proprietary data and analytics engine that analyzes thousands of data attributes from disparate sources to assess the real-time creditworthiness of a small business; the technology that enables seamless funding of our loans; and our daily and weekly collections and ongoing servicing systems. A key differentiator of our solution is the OnDeck Score, the product of our proprietary small business credit-scoring system. The OnDeck Score aggregates and analyzes thousands of data elements and attributes related to a business and its owners that are reflective of the creditworthiness of the business as well as predictive of its credit performance. Our proprietary data and analytics engine and the algorithms powering the OnDeck Score undergo continuous improvement through machine learning and other statistical techniques to automate and optimize the credit assessment process.

Our customers choose us because we provide the following key benefits:

 

    Access. By combining technology with comprehensive and relevant data that captures the unique aspects of small businesses, we are able to better assess the creditworthiness of small businesses and approve more loans.

 

    Speed. Small businesses can submit an application online in as little as minutes. We are able to provide most loan applicants with a simple application process and an immediate approval decision and transfer funds as fast as the same day.

 

    Customer Experience. Our U.S.-based internal salesforce and customer service representatives provide high tech, high touch, personalized support to our applicants and customers. Our team answers questions and provides assistance throughout the application process and the life of the loan. Our representatives are available Monday through Saturday before, during and after regular business hours to accommodate the busy schedules of small business owners. We also offer our customers credit education and consulting services and other value added services. Our commitment to provide a great customer experience has helped us earn a 71 Net Promoter Score, a widely used system of measuring customer loyalty, and consistently achieve A+ ratings from the Better Business Bureau.

We generally require applicants to have been in business for at least one year and have revenue of at least $100,000 during the 12 months prior to submission of the application. We also consider a small business owner’s personal credit score, which we generally require to be 500 or higher, though once this criteria is met the personal credit score is not a significant component of the OnDeck Score. We do not consider a small business owner’s personal assets in deciding whether to approve an application.

 

 

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Our Competitive Strengths

We believe the following competitive strengths differentiate us and serve as barriers for others seeking to enter our market:

 

    Significant Scale. Since we made our first loan in 2007, we have funded more than $1.7 billion in loans across more than 700 industries in all 50 U.S. states and have recently begun lending in Canada.

 

    Proprietary Data and Analytics Engine. Our proprietary data and analytics engine and the OnDeck Score provide us with significant visibility and predictability in assessing the creditworthiness of small businesses and allow us to better serve more customers across more industries. With each loan application, each funded loan and each daily or weekly payment, our data set expands and our OnDeck Score improves.

 

    End-to-End Integrated Technology Platform. We built our integrated platform specifically to meet the financing needs of small businesses. Our platform touches every aspect of the customer lifecycle, including customer acquisition, sales, scoring and underwriting, funding, and servicing and collections. We use our platform to underwrite, process and service all of our small business loans, regardless of distribution channel.

 

    Diversified Distribution Channels. We are building brand awareness and enhancing distribution capabilities through diversified distribution channels, including direct marketing, strategic partnerships and funding advisors. Our direct marketing, strategic partner and funding advisor channels constituted 56.2%, 14.9% and 28.9% of our total number of loans, respectively, for the three months ended September 30, 2014, 54.4%, 13.4% and 32.3% of our total number of loans, respectively, for the nine months ended September 30, 2014 and 44.1%, 10.3% and 45.6% of our total number of loans, respectively, for the year ended December 31, 2013. Our internal salesforce contacts potential customers, responds to inbound inquiries from potential customers, and is available to assist all customers throughout the application process. Our loan underwriting generally includes the same process and stages without regard to loan origination channel. Our loan underwriting uses different parameters between the loan origination channels depending upon a variety of factors including, among many others, historical portfolio performance by loan origination channel and channel specific data availability.

 

    High Customer Satisfaction and Repeat Customer Base. Our strong value proposition has been validated by our customers. We had a Net Promoter Score, a widely used system of measuring customer loyalty, of 71 in 2013, and we believe that strong customer satisfaction has played an important role in repeat borrowing by our customers. In 2013, 43.5% of loan originations were by repeat customers, who either replaced their existing loan with a new, usually larger, loan or took out a new loan after paying off their existing OnDeck loan in full. Thirty percent of our origination volume from repeat customers in 2013 was due to unpaid principal balances rolled from existing loans directly into such repeat originations.

 

    Durable Business Model. Since we began lending in 2007, we have successfully operated our business through both strong and weak economic environments. Our real-time data, short duration loans, automated daily and weekly collection, risk management capabilities and unit economics enable us to react rapidly to changing market conditions and generate attractive financial results.

 

    Differentiated Funding Platform. We source capital through multiple channels, including debt facilities, securitization and the OnDeck Marketplace, our proprietary whole loan sale platform for institutional investors. This diversity provides us with multiple, scalable funding sources, long-term capital commitments and access to flexible funding for growth.

 

    100% Small Business-Focused. We are passionate about small businesses. We have developed significant expertise over our seven-year operating history exclusively focused on assessing and delivering credit to small businesses. We believe this passion, focus and small business credit expertise provides us with significant competitive advantages.

 

 

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Our Strategy for Growth

Our vision is to become the most trusted lender to small businesses, and to accomplish this, we intend to:

 

    Continue to Acquire Customers Through Direct Marketing and Sales. We plan to continue investing in direct marketing and sales to add new customers and increase our brand awareness.

 

    Broaden Distribution Capabilities Through Partners. We plan to expand our network of partners, including banks, payment processors, funding advisors and small business-focused service providers, and leverage their relationships with small businesses to acquire new customers.

 

    Enhance Data and Analytics Capabilities. We plan to make substantial investments in our data and analytics capabilities. Our data science team continually uncovers new insights about small businesses and their credit performance and considers new data sources for inclusion in our models, allowing us to evaluate and lend to more customers.

 

    Expand Product Offerings. Following the successful recent introduction of our line of credit and 24-month term loan products, over time we plan to expand our offerings by introducing new credit-related products for small businesses. We may fund the expansion of our product offerings in part from the proceeds we receive from our initial public offering, or IPO, but we have not yet finalized the specific products we will introduce or established a particular timeline to expand our product offerings.

 

    Extend Customer Lifetime Value. We believe we have an opportunity to increase revenue and loyalty from new and existing customers. We plan to introduce new features and product cross-sell capabilities to continue driving the increased use of our platform.

 

    Targeted International Expansion. We believe there are opportunities to expand our small business lending in select countries outside of the United States and Canada. We may fund our international expansion in part from the proceeds we receive from our IPO, but we have not yet committed to any specified location or established a particular timeline to pursue this opportunity.

Risks Affecting Us

Our business is subject to numerous risks and uncertainties, including those highlighted in the section titled “Risk Factors” beginning on page 14. These risks include, but are not limited to, the following:

 

    We have a limited operating history in an evolving industry, which makes it difficult to evaluate our future prospects and may increase the risk that we will not be successful.

 

    Our recent, rapid growth may not be indicative of our future growth and, if we continue to grow rapidly, we may not be able to manage our growth effectively.

 

    We have a history of losses and may not achieve consistent profitability in the future.

 

    Worsening economic conditions may result in decreased demand for our loans, cause our customers’ default rates to increase and harm our operating results.

 

    Many of our strategic partnerships are subject to termination options that, if terminated, could harm the growth of our customer base and negatively impact our financial performance.

 

    To the extent that Funding Advisor Program partners or direct sales agents mislead loan applicants or are engaged in disreputable behavior, our reputation may be harmed and we may face liability.

 

    Our business may be adversely affected by disruptions in the credit markets, including reduced access to credit.

 

    If the information provided by customers to us is incorrect or fraudulent, we may misjudge a customer’s qualifications to receive a loan and our operating results may be harmed.

 

    Our current level of interest rate spread may decline in the future. Any material reduction in our interest rate spread could reduce our profitability.

 

 

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    An increase in customer default rates may reduce our overall profitability and could also affect our ability to attract institutional funding. Further, historical default rates may not be indicative of future results.

 

    Our risk management efforts may not be effective.

 

    We rely on our proprietary credit-scoring model in the forecasting of loss rates. If we are unable to effectively forecast loss rates, it may negatively impact our operating results.

 

    Our allowance for loan losses is determined based upon both objective and subjective factors and may not be adequate to absorb loan losses.

 

    We face increasing competition and, if we do not compete effectively, our operating results could be harmed.

 

    The lending industry is highly regulated. Changes in regulations or in the way regulations are applied to our business could adversely affect our business.

We are planning to implement certain enhanced compliance-related measures related to our funding advisor channel in addition to our existing measures. For example, we plan to expand the extent to which our funding advisor partners are required to submit to and conduct background checks and strengthen our contractual control over our funding advisors. In addition, we plan to add certain additional risk and compliance review processes related to the funding advisor channel. We have also recently hired a senior compliance officer whose responsibilities will include overseeing compliance matters involving our funding advisor channel.

Corporate Information

Our principal executive offices are located at 1400 Broadway, 25th Floor, New York, New York 10018, and our telephone number is (888) 269-4246. Our website is www.ondeck.com. Information contained on, or that can be accessed through, our website is not incorporated by reference into this prospectus, and you should not consider information on our website to be part of this prospectus. We were incorporated in Delaware in May 2006.

OnDeck, the OnDeck logo, OnDeck Score, OnDeck Marketplace and other trademarks or service marks of OnDeck appearing in this prospectus are the property of OnDeck. Trade names, trademarks and service marks of other companies appearing in this prospectus are the property of their respective holders. We have omitted the ® and ™ designations, as applicable, for the trademarks used in this prospectus.

We are an emerging growth company as defined in the Jumpstart Our Business Startups Act of 2012 and are therefore subject to reduced public company reporting requirements. We will remain an emerging growth company until the earliest to occur of: the last day of the fiscal year in which we have more than $1.0 billion in annual revenue; the date we qualify as a “large accelerated filer” with at least $700 million of equity securities held by non-affiliates; the issuance, in any three-year period, by us of more than $1.0 billion in non-convertible debt securities; and the last day of the fiscal year ending after the fifth anniversary of our initial public offering.

Offering Related Conversion

Upon the completion of this offering, we will no longer have any shares of preferred stock or preferred stock warrants outstanding. Upon completion of this offering, 47,451,644 shares of our preferred stock will automatically convert into shares of common stock. Also at such time, all outstanding preferred stock warrants will automatically convert into common stock warrants and the related liability will be reclassified to additional paid-in capital. The consideration we received in respect of the preferred stock outstanding at September 30, 2014 ranged from $0.37 to $14.71 per share and averaged $3.84 per share. Each share of preferred stock will convert into one share of common stock without the payment of additional consideration. In addition, certain shares of preferred stock were already repurchased and retired in 2013, when we voluntarily redeemed certain shares of Series A and Series B preferred stock for an aggregate price that was approximately $5.3 million in excess of the carrying amount. The portion of the redemption in excess of the carrying amount was recorded as a reduction to additional paid-in capital and added to net loss to arrive at net loss attributable to common stockholders in the calculation of loss per common share.

 

 

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THE OFFERING

 

Common stock offered by us

  

10,000,000 shares

Common stock to be outstanding after this offering

  

66,160,636 shares

Option to purchase additional shares to be offered by us

  

1,500,000 shares

Use of proceeds

  

We intend to use the net proceeds from this offering for general corporate purposes, including working capital, sales and marketing activities, data and analytics enhancements, product development, capital expenditures and to fund a portion of the loans made to our customers. We also may use a portion of the net proceeds to invest in or acquire complementary technologies, solutions or businesses and for targeted international expansion. However, we have no present agreements or commitments for any such investments, acquisitions or expansion. See the section titled “Use of Proceeds.”

Concentration of ownership

  

Upon completion of this offering, the executive officers, directors and 5% stockholders of our company and their affiliates will beneficially own, in the aggregate, approximately 60.5% of our outstanding capital stock.

New York Stock Exchange trading symbol

  

“ONDK”

The number of shares of our common stock to be outstanding after this offering is based on 56,160,636 shares of our common stock outstanding on an as-converted basis as of September 30, 2014, and excludes:

 

    9,970,802 shares of common stock issuable upon the exercise of options outstanding as of September 30, 2014, with a weighted average exercise price of $3.75 per share and per share exercise prices ranging from $0.27 to $10.66;

 

    846,000 shares of common stock issuable upon the exercise of options granted after September 30, 2014, with a weighted average exercise price of $13.22 per share;

 

    7,200,000 shares of common stock reserved for issuance under our 2014 Equity Incentive Plan, which will become effective in connection with this offering;

 

    1,800,000 shares of common stock reserved for issuance under our 2014 Employee Stock Purchase Plan, which will become effective in connection with this offering;

 

    3,612,526 shares of common stock issuable upon the exercise of warrants outstanding as of September 30, 2014, with a weighted average exercise price of $6.94 per share and per share exercise prices ranging from $0.33 to $14.71; and

 

    2,000 shares of common stock issuable upon the exercise of one warrant issued after September 30, 2014, with an exercise price of $12.38 per share.

Unless otherwise noted, the information in this prospectus reflects and assumes the following:

 

    a 2-for-1 forward stock split of our common stock and redeemable convertible preferred stock effected on November 26, 2014;

 

 

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    the conversion of all outstanding shares of our redeemable convertible preferred stock as of September 30, 2014 into an aggregate of 47,451,644 shares of common stock immediately prior to the completion of this offering;

 

    the filing of our amended and restated certificate of incorporation in connection with the completion of this offering;

 

    no exercise of outstanding options or warrants; and

 

    no exercise of the underwriters’ option to purchase additional shares.

 

 

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SUMMARY CONSOLIDATED FINANCIAL DATA

The following tables summarize our consolidated financial data. You should read the summary consolidated financial data set forth below in conjunction with our consolidated financial statements, the notes to our consolidated financial statements and the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained elsewhere in this prospectus.

The consolidated statements of operations data for the years ended December 31, 2012 and 2013 are derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statements of operations data for the nine months ended September 30, 2013 and 2014 and balance sheet data as of September 30, 2014 are derived from our unaudited consolidated interim financial statements included elsewhere in this prospectus. The unaudited consolidated financial data for the nine months ended September 30, 2013 and 2014 and as of September 30, 2014 includes all adjustments, consisting only of normal recurring accruals, that are necessary in the opinion of our management for a fair presentation of our financial position and results of operations for these periods. Our historical results are not necessarily indicative of the results that may be expected in any future period.

 

     Year Ended December 31,     Nine Months Ended
September 30,
 
     2012     2013     2013     2014  
     (in thousands, except share and per share data)  

Consolidated Statements of Operations Data:

        

Revenue:

        

Interest income

   $ 25,273      $ 62,941      $ 41,073      $ 99,873   

Gain on sales of loans

            788               4,569   

Other revenue

     370        1,520        1,004        3,131   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

     25,643        65,249        42,077        107,573   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

        

Provision for loan losses

     12,469        26,570        16,300        47,011   

Funding costs

     8,294        13,419        9,400        12,531   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

     20,763        39,989        25,700        59,542   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     4,880        25,260        16,377        48,031   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

        

Sales and marketing

     6,633        18,095        13,566        21,799   

Technology and analytics

     5,001        8,760        6,090        11,357   

Processing and servicing

     2,919        5,577        3,746        5,928   

General and administrative

     6,935        12,169        9,158        13,968   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     21,488        44,601        32,560        53,052   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (16,608     (19,341     (16,183     (5,021
  

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

        

Interest expense

     (88     (1,276     (1,070     (274

Warrant liability fair value adjustment

     (148     (3,739     (1,496     (9,122
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

     (236     (5,015     (2,566     (9,396
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (16,844     (24,356     (18,749     (14,417

Provision for income taxes

                            
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (16,844     (24,356     (18,749     (14,417 )  

Series A and Series B preferred stock redemptions

            (5,254     (5,254       

Accretion of dividends on redeemable convertible preferred stock

     (3,440     (7,470     (5,414     (9,828
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders

   $ (20,284   $ (37,080   $ (29,417   $ (24,245
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share of common stock—basic and diluted

   $ (4.27   $ (8.64   $ (6.87   $ (4.24
  

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma net loss per share of common stock—basic and diluted(1)

     $ (0.60     $ (0.11
    

 

 

     

 

 

 

Weighted average shares of common stock used in computing net loss per share—basic and diluted

     4,750,440        4,292,026        4,285,136        5,715,742   
  

 

 

   

 

 

   

 

 

   

 

 

 

Weighted average shares of common stock used in computing pro forma net loss per share—basic and diluted(1)

       43,088,994          51,167,768   
    

 

 

     

 

 

 

 

 

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     Year Ended December 31,     Nine Months Ended
September 30,
 
     2012     2013     2013     2014  
     (in thousands, except share and per share data)  

Stock-based compensation expense included above:

        

Sales and marketing

   $ 47      $ 118      $ 71      $ 325   

Technology and analytics

     7        47        20        290   

Processing and servicing

     9        30        15        126   

General and administrative

     166        243        161        706   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total stock-based compensation expense

   $ 229      $ 438      $ 267      $ 1,447   
  

 

 

   

 

 

   

 

 

   

 

 

 

Other financial data:

        

Adjusted EBITDA(2)

   $ (14,834   $ (16,258   $ (14,152   $ (726

Adjusted net loss(3)

   $ (16,467   $ (20,179   $ (16,986   $ (3,848

 

(1) Pro forma basic and diluted net loss per share of common stock have been calculated assuming (i) the conversion of all outstanding shares of redeemable convertible preferred stock at December 31, 2013 and September 30, 2014 into an aggregate of 41,098,330 and 47,451,644 shares of common stock, respectively, as of the beginning of the applicable period or at the time of issuance, if later, (ii) the redemption of Series A and Series B preferred stock as of the beginning of the applicable period, and (iii) the reclassification of outstanding preferred stock warrants from liabilities to additional paid-in capital as of the beginning of the applicable period.
(2) Adjusted EBITDA is not a financial measure prepared in accordance with GAAP. Adjusted EBITDA represents our net loss, adjusted to exclude interest expense associated with debt used for corporate purposes, income tax expense, depreciation and amortization, stock-based compensation expense and warrant liability fair value adjustment. Adjusted EBITDA does not adjust for funding costs, which represent the interest expense associated with debt used for lending purposes. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for more information and for a reconciliation of Adjusted EBITDA to net loss, the most directly comparable financial measure calculated in accordance with GAAP.
(3) Adjusted net loss is not a financial measure prepared in accordance with GAAP. We define Adjusted net loss as net loss adjusted to exclude stock-based compensation expense and warrant liability fair value adjustment. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for more information and for a reconciliation of Adjusted net loss to net loss, the most directly comparable financial measure calculated in accordance with GAAP.

 

     As of September 30, 2014  
     Actual     Pro forma(1)      Pro forma as
adjusted(2)
 
     (in thousands)  

Consolidated Balance Sheet Data:

       

Cash and cash equivalents

   $ 22,642      $ 22,642       $ 176,742   

Restricted cash

     22,615        22,615         22,615   

Loans, net of allowance for loan losses

     393,635        393,635         393,635   

Loans held for sale

     2,653        2,653         2,653   

Total assets

     466,007        466,007         620,107   

Funding debt(3)

     347,204        347,204         347,204   

Corporate debt(4)

     3,000        3,000         3,000   

Total liabilities

     368,077        365,275         365,275   

Total redeemable convertible preferred stock

     218,363                  

Total stockholders’ (deficit) equity

     (120,433     100,732         254,832   

 

(1) The pro forma column reflects the conversion of all outstanding shares of convertible preferred stock at September 30, 2014 into 47,451,644 shares of common stock immediately prior to the closing of this offering. The consideration paid for each share of convertible preferred stock outstanding at September 30, 2014 ranged from $0.37 to $14.71 and averaged $3.84. Each share of preferred stock will convert into one share of common stock without the payment of additional consideration. The conversion of the convertible preferred stock and the warrant liability reduces total redeemable convertible preferred stock and total liabilities by $218.4 million and $2.8 million, respectively.

 

 

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(2) The pro forma as adjusted column reflects the pro forma adjustments described in footnote (1) above and the sale by us of shares of common stock in this offering at an assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the cover page of this prospectus, after deducting the underwriting discount and commissions and estimated offering expenses payable by us. A $1.00 increase (decrease) in the assumed initial public offering price of $17.00 per share would increase (decrease) each of pro forma as adjusted cash and cash equivalents, working capital, total assets and total stockholders’ equity by $9.3 million, assuming the number of shares we are offering, as set forth on the cover page of this prospectus, remains the same, after deducting the underwriting discount and commissions and estimated offering expenses payable by us. The pro forma as adjusted information is illustrative only, and we will adjust this information based on the actual initial public offering price, number of shares offered and other terms of this offering determined at pricing.
(3) Funding debt is used to fund loan originations and is non-recourse to On Deck Capital, Inc.
(4) Corporate debt is used to fund general corporate operations.

 

 

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RISK FACTORS

Investing in our common stock involves a high degree of risk. You should carefully consider the following risks and all other information contained in this prospectus, including our consolidated financial statements and the related notes, before investing in our common stock. The risks and uncertainties described below are not the only ones we face, but include the most significant factors currently known by us that make the offering speculative or risky. Additional risks and uncertainties that we are unaware of, or that we currently believe are not material, also may become important factors that affect us. If any of the following risks materialize, our business, financial condition and results of operations could be materially harmed. In that case, the trading price of our common stock could decline, and you may lose some or all of your investment.

We have a limited operating history in an evolving industry, which makes it difficult to evaluate our future prospects and may increase the risk that we will not be successful.

We have a limited operating history in an evolving industry that may not develop as expected. Assessing our business and future prospects is challenging in light of the risks and difficulties we may encounter. These risks and difficulties include our ability to:

 

    increase the number and total volume of term loans and lines of credit we extend to our customers;

 

    improve the terms on which we lend to our customers as our business becomes more efficient;

 

    increase the effectiveness of our direct marketing, as well as our strategic partner and funding advisor program customer acquisition channels;

 

    increase repeat borrowing by existing customers;

 

    successfully develop and deploy new products;

 

    successfully maintain our diversified funding strategy, including through the OnDeck Marketplace and future securitization transactions;

 

    favorably compete with other companies that are currently in, or may in the future enter, the business of lending to small businesses;

 

    successfully navigate economic conditions and fluctuations in the credit market;

 

    effectively manage the growth of our business;

 

    successfully expand our business into adjacent markets; and

 

    successfully expand internationally.

We may not be able to successfully address these risks and difficulties, which could harm our business and cause our operating results to suffer.

Our recent, rapid growth may not be indicative of our future growth and, if we continue to grow rapidly, we may not be able to manage our growth effectively.

Our gross revenue grew from $25.6 million in 2012 to $65.2 million in 2013 and from $42.1 million for the nine months ended September 30, 2013 to $107.6 million for the nine months ended September 30, 2014. We expect that, in the future, even if our revenue continues to increase, our rate of revenue growth will decline.

In addition, we expect to continue to expend substantial financial and other resources on:

 

    personnel, including significant increases to the total compensation we pay our employees as we grow our employee headcount;

 

    marketing, including expenses relating to increased direct marketing efforts;

 

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    product development, including the continued development of our platform and OnDeck Score;

 

    diversification of funding sources, including through OnDeck Marketplace;

 

    office space, as we increase the space we need for our growing employee base; and

 

    general administration, including legal, accounting and other compliance expenses related to being a public company.

In addition, our historical rapid growth has placed, and may continue to place, significant demands on our management and our operational and financial resources. Finally, our organizational structure is becoming more complex as we add additional staff, and we will need to improve our operational, financial and management controls as well as our reporting systems and procedures. If we cannot manage our growth effectively our financial results will suffer.

We have a history of losses and may not achieve consistent profitability in the future.

We generated net losses of $16.8 million, $24.4 million, $18.7 million and $14.4 million in 2012, 2013 and for the nine months ended September 30, 2013 and 2014, respectively. As of September 30, 2014, we had an accumulated deficit of $119.7 million. We will need to generate and sustain increased revenue levels in future periods in order to become profitable, and, even if we do, we may not be able to maintain or increase our level of profitability. We intend to continue to expend significant funds to expand our marketing and sales operations, increase our customer service and general loan servicing capabilities, meet the increased compliance requirements associated with our transition to and operation as a public company, lease additional space for our growing employee base, upgrade our data center infrastructure and expand into new markets. In addition, we record our loan loss provision as an expense to account for the possibility that all loans may not be repaid in full. Because we incur a given loan loss expense at the time that we issue the loan, we expect the aggregate amount of this expense to grow as we increase the number and total amount of loans we make to our customers.

Our efforts to grow our business may be more costly than we expect, and we may not be able to increase our revenue enough to offset our higher operating expenses. We may incur significant losses in the future for a number of reasons, including the other risks described in this prospectus, and unforeseen expenses, difficulties, complications and delays, and other unknown events. If we are unable to achieve and sustain profitability, the market price of our common stock may significantly decrease.

Worsening economic conditions may result in decreased demand for our loans, cause our customers’ default rates to increase and harm our operating results.

Uncertainty and negative trends in general economic conditions in the United States and abroad, including significant tightening of credit markets, historically have created a difficult environment for companies in the lending industry. Many factors, including factors that are beyond our control, may have a detrimental impact on our operating performance. These factors include general economic conditions, unemployment levels, energy costs and interest rates, as well as events such as natural disasters, acts of war, terrorism and catastrophes.

Our customers are small businesses. Accordingly, our customers have historically been, and may in the future remain, more likely to be affected or more severely affected than large enterprises by adverse economic conditions. These conditions may result in a decline in the demand for our loans by potential customers or higher default rates by our existing customers. If a customer defaults on a loan payable to us, the loan enters a collections process where our systems and collections teams initiate contact with the customer for payments owed. If a loan is subsequently charged off, we generally sell the loan to a third-party collection agency and receive only a small fraction of the remaining amount payable to us in exchange for this sale.

There can be no assurance that economic conditions will remain favorable for our business or that demand for our loans or default rates by our customers will remain at current levels. Reduced demand for our loans would

 

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negatively impact our growth and revenue, while increased default rates by our customers may inhibit our access to capital, hinder the growth of our OnDeck Marketplace and negatively impact our profitability. Furthermore, we have received a large number of applications from potential customers who do not satisfy the requirements for an OnDeck loan. If an insufficient number of qualified small businesses apply for our loans, our growth and revenue could decline.

Many of our strategic partnerships are nonexclusive and subject to termination options that, if terminated, could harm the growth of our customer base and negatively affect our financial performance. Additionally, these partners are concentrated and the departure of a significant partner could have a negative impact on our operating results.

We rely on strategic partners for referrals of an increasing portion of the customers, to whom we issue loans and our growth depends in part on the growth of these referrals. In 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, loans issued to customers referred to us by our strategic partners constituted 5.5%, 9.2%, 9.5% and 12.7% of our total loan originations, respectively. Many of our strategic partnerships do not contain exclusivity provisions that would prevent such partners from providing leads to competing companies. In addition, the agreements governing these partnerships contain termination provisions that, if exercised, would terminate our relationship with these partners. These agreements also contain no requirement that a partner refer us any minimum number of leads. There can be no assurance that these partners will not terminate our relationship with them or continue referring business to us in the future, and a termination of the relationship or reduction in leads referred to us would have a negative impact on our revenue and operating results.

In addition, a small number of strategic partners refer to us a significant portion of the loans made within this channel. In 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, loans issued to customers referred to us by our top 4 strategic partners constituted 4.7%, 6.8%, 6.8% and 9.4% of our total loan originations, respectively. In the event that one or multiple of these significant strategic partners terminated our relationship or reduced the number of leads provided to us, our business would be harmed.

To the extent that Funding Advisor Program partners or direct sales agents mislead loan applicants or are engaged in disreputable behavior, our reputation may be harmed and we may face liability.

We rely on third-party independent advisors, including business loan brokers, which we call Funding Advisor Program partners, or FAPs, for referrals of a substantial portion of the customers to whom we issue loans. In 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, loans issued to customers whose applications were submitted to us via the FAP channel constituted 75.1%, 56.4%, 56.8% and 44.3% of our total loan originations, respectively. Historically, our practice has been to conduct a personal criminal background check on one of the authorized representatives of all prospective FAPs as one element of the FAP application process; however, we have not performed such checks on all employees or agents of a FAP who might be involved in the marketing and sale of our products and we have not conducted any background checks with respect to any FAPs that joined the Funding Adviser Program before 2010 or who had an annual revenue greater than $15 million. Going forward, we plan to expand the extent to which our funding advisor partners are required to submit to and conduct background checks. Because FAPs earn fees on a commission basis, FAPs may have incentive to mislead loan applicants, facilitate the submission by loan applicants of false application data or engage in other disreputable behavior so as to earn additional commissions on those inaccurate loan applications. While we strictly prohibit, by policy and contract, all FAPs from charging customers any additional un-authorized fees, it is possible that some FAPs may attempt to charge such fees despite our prohibition. We also rely on our direct sales agents for customer acquisition in our direct marketing channel, and these sales agents may also engage in disreputable behavior to increase our customer base. If FAPs or our direct sales agents mislead our customers or engage in any other disreputable behavior, our customers are less likely to be satisfied with their experience and to become repeat customers, and we may be subject to costly and time-consuming litigation, each of which could harm our reputation and operating performance. We recently have been subject to negative publicity related to our FAP channel,

 

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including regarding the alleged backgrounds of certain of their employees. If we continue to experience such negative publicity, our ability to continue to increase our revenue could be impaired and our business could otherwise be materially and negatively impacted.

We are planning to implement certain enhanced contractual provisions and compliance-related measures related to our funding advisor channel, including enhanced screening procedures. While these measures are intended to improve certain aspects of how we work with funding advisors and how they work with our customers, we cannot assure you that the measures will be timely implemented, whether they will work as intended, that other compliance-related concerns will not emerge in the future, that the funding advisors will agree to and will comply with these measures, and that these measures will not negatively impact our business from this channel, including our financial performance, or have other unintended or negative impacts on our business.

We pay commissions to our strategic partners and FAPs upfront and generally do not recover them in the event the related loan or line of credit is eventually charged-off.

We pay commissions to strategic partners and FAPs on the term loans and lines of credit we originate through these channels. We pay these commissions at the time the term loan is funded or line of credit account is opened. However, we generally do not require that this commission be repaid to us in the event of a default on a term loan or line of credit. While we generally discontinue working with strategic partners and FAPs that refer customers to us that ultimately have unacceptably high levels of defaults, to the extent that our strategic partners and FAPs are not at risk of forfeiting their commissions in the event of defaults, they may to an extent be indifferent to the riskiness of the potential customers that they refer to us.

Our business may be adversely affected by disruptions in the credit markets, including reduced access to credit.

We depend on debt facilities and other forms of debt in order to finance most of the loans we make to our customers. However, we cannot guarantee that these financing sources will continue to be available beyond the current maturity date of each debt facility, on reasonable terms or at all. As the volume of loans that we make to customers on our platform increases, we may require the expansion of our borrowing capacity on our existing debt facilities and other debt arrangements or the addition of new sources of capital. The availability of these financing sources depends on many factors, some of which are outside of our control. We may also experience the occurrence of events of default or breaches of financial or performance covenants under our debt agreements, which could reduce or terminate our access to institutional funding. In addition, we began selling loans to third parties via our OnDeck Marketplace in October 2013 and completed our first securitization transaction in May 2014. There can be no assurance that investors will continue to purchase our loans via our OnDeck Marketplace or that we will be able to successfully access the securitization markets again. Furthermore, because we only recently began accessing these sources of capital, there is a greater possibility that these sources of capital may not be available in the future. In the event of a sudden or unexpected shortage of funds in the banking system, we cannot be sure that we will be able to maintain necessary levels of funding without incurring high funding costs, a reduction in the term of funding instruments or the liquidation of certain assets. If we were to be unable to arrange new or alternative methods of financing on favorable terms, we may have to curtail our origination of loans, which could have a material adverse effect on our business, financial condition, operating results and cash flow.

If the information provided by customers to us is incorrect or fraudulent, we may misjudge a customer’s qualification to receive a loan and our operating results may be harmed.

Our lending decisions are based partly on information provided to us by loan applicants. To the extent that these applicants provide information to us in a manner that we are unable to verify, the OnDeck Score may not accurately reflect the associated risk. In addition, data provided by third-party sources is a significant component of the OnDeck Score and this data may contain inaccuracies. Inaccurate analysis of credit data that could result from false loan application information could harm our reputation, business and operating results.

 

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In addition, we use identity and fraud checks analyzing data provided by external databases to authenticate each customer’s identity. There is a risk, however, that these checks could fail, and fraud may occur. We may not be able to recoup funds underlying loans made in connection with inaccurate statements, omissions of fact or fraud, in which case our revenue, operating results and profitability will be harmed. Fraudulent activity or significant increases in fraudulent activity could also lead to regulatory intervention, negatively impact our operating results, brand and reputation and require us to take steps to reduce fraud risk, which could increase our costs.

Our current level of interest rate spread may decline in the future. Any material reduction in our interest rate spread could reduce our profitability.

We earn a substantial majority of our revenues from interest payments on the loans we make to our customers. Financial institutions and other funding sources provide us with the capital to fund these term loans and lines of credit and charge us interest on funds that we draw down. In the event that the spread between the rate at which we lend to our customers and the rate at which we borrow from our lenders decreases, our financial results and operating performance will be harmed. The interest rates we charge to our customers and pay to our lenders could each be affected by a variety of factors, including access to capital based on our business performance, the volume of loans we make to our customers, competition and regulatory requirements. These interest rates may also be affected by a change over time in the mix of the types of products we sell to our customers and investors and a shift among our channels of customer acquisition. Interest rate changes may adversely affect our business forecasts and expectations and are highly sensitive to many macroeconomic factors beyond our control, such as inflation, recession, the state of the credit markets, changes in market interest rates, global economic disruptions, unemployment and the fiscal and monetary policies of the federal government and its agencies. Any material reduction in our interest rate spread could have a material adverse effect on our business, results of operations and financial condition.

If the choice of law provisions in our loan agreements are found to be unenforceable, we may be found to be in violation of state interest rate limit laws.

Although the federal government does not currently regulate the maximum interest rates that may be charged on private loan transactions, many states have enacted interest rate limit laws specifying the maximum legal interest rate at which loans can be made in the state. We apply Virginia law to the underlying agreement for loans that we originate because our loans are underwritten and entered into in the state of Virginia, where our underwriting, servicing, operations and collections teams are headquartered.

Virginia does not limit interest rates on commercial loans of $5,000 or more. Assuming a court were to recognize this choice of law provision, Virginia law would be applied to a dispute between the customer and us regardless of where the customer is located. We intend for Virginia law to control over state interest rate limit laws that would otherwise be applicable to these loans. We are not aware of any broad-based legal challenges to date to the applicability of Virginia law to these loans or the loans of other companies. However, many laws to which we are subject were adopted prior to the advent of the internet and related technologies and, as a result, do not expressly contemplate or address the unique issues of the internet such as the applicability of laws to online transactions, including in our case, the origination of loans. In addition, many laws that do reference the internet are being interpreted by the courts, but their applicability and scope remain uncertain. As a result, we cannot predict whether a court may seek to apply a different choice of law to our loans or to otherwise invalidate the applicability of Virginia law to our loans. If the applicability of Virginia law to these loans were challenged, and these loans were found to be governed by the laws of another state, and such other state has an interest rate limit law that prohibits the interest rate in effect with respect to such loans, the obligations of our customers to pay all or a portion of the interest and principal on these loans could be found unenforceable. A judgment that the choice of law provisions in our loan agreements is unenforceable also could result in costly and time-consuming litigation, penalties, damage to our reputation, trigger repurchase obligations, negatively impact the terms of our future loans and harm our operating results. Likewise, a judgment that the choice of law provision in other commercial loan agreements is unenforceable could result in challenges to our choice of law provision and that

 

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could result in costly and time-consuming litigation. In addition, it could cause us to incur substantial additional expense to comply with the laws of various states, including either our licensing as a lender in the various states, or requiring us to place more loans through our issuing bank partners.

Issuing bank partners with whom we have agreements lend to customers in certain states. If our relationships with issuing bank partners were to end, then we may have to comply with additional restrictions, and certain states may require us to obtain a lending license.

In states that do not require a license to make commercial loans, we make term loans directly to customers pursuant to Virginia law, which is the governing law we require in the underlying loan agreements with our customers. However, nine states and jurisdictions, namely Alaska, California, Maryland, Nevada, North Dakota, Rhode Island, South Dakota, Vermont, and Washington, D.C., require a license to make certain commercial loans and may not honor a Virginia choice of law. They assert either that their own licensing laws and requirements should generally apply to commercial loans made by nonbanks or apply to commercial loans made by nonbanks of certain principal amounts or with certain interest rates or other terms. In such states and jurisdictions and in some other circumstances, term loans are made by an issuing bank partner that is not subject to state licensing, primarily BofI Federal Bank (a federally chartered bank), and may be sold to us. For the years ended December 31, 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, loans made by issuing bank partners constituted 21.1%, 16.1%, 16.2% and 16.7%, respectively, of our total loan originations. These loans are not governed by Virginia law, but rather the laws of the issuing bank partner’s home state, California law in the case of BofI Federal Bank. The remainder of our term loans provide that they are to be governed by Virginia law. Our issuing bank partner currently originates all of our loans in California, Nevada, North Dakota, South Dakota and Vermont as well as some loans in other states and jurisdictions in addition to those listed above. Although such states and jurisdictions may have licensing requirements and/or interest rate caps that purport to apply to some or all commercial loans, all such licensing requirements and/or caps that would otherwise be applicable are federally preempted when these loans are originated by our federally chartered issuing bank partner. As a result, loans originated by our issuing bank partner are generally priced the same as loans originated by us under Virginia law. While the other 42 U.S. states where we originate loans currently honor our Virginia choice of law, future legal changes could result in any one or more of those states no longer honoring our Virginia choice of law. In that case, we could address the legal change in a manner similar to how we approach the nine states and jurisdictions that currently require licensing and may not honor a Virginia choice of law, or we could consider other approaches, including licensing.

If we were to seek to make loans directly in those states referenced in the paragraph above or if we were otherwise not able to work with an issuing bank partner, we would have to attempt to comply with the laws of these states in other ways, including through obtaining lending licenses. Compliance with the laws of such states could be costly, and if we are unable to obtain such licenses, our loan volume could substantially decrease and our revenues, growth and profitability would be harmed. In addition, if our activities under the current arrangement with issuing bank partners were deemed to constitute lending within any such jurisdiction, we could be found to have engaged in impermissible lending within such jurisdictions. As a result, we could be subjected to fines and other penalties, all or a portion of the principal and interest charged on the applicable loans could be found to be unenforceable and, to the extent it is determined that such loans were not originated in accordance with all applicable laws, we could be obligated to repurchase any loans from our debt facilities and OnDeck Marketplace participants that failed to comply with such legal requirements. Any finding that we engaged in lending in states in which we are unlicensed to do so could lead to litigation, harm our reputation and negatively impact our operating expenses and profitability.

An increase in customer default rates may reduce our overall profitability and could also affect our ability to attract institutional funding. Further, historical default rates may not be indicative of future results.

Customer default rates may be significantly affected by economic downturns or general economic conditions beyond our control and beyond the control of individual customers. In particular, loss rates on customer loans may

 

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increase due to factors such as prevailing interest rates, the rate of unemployment, the level of consumer and business confidence, commercial real estate values, the value of the U.S. dollar, energy prices, changes in consumer and business spending, the number of personal bankruptcies, disruptions in the credit markets and other factors. In addition, as of September 30, 2014, approximately 28.3% of our total loans outstanding related to customers with fewer than five years of operating history. While our OnDeck Score is designed to establish that, notwithstanding such limited operating and financial history, customers would be a reasonable credit risk, our loans may nevertheless be expected to have a higher default rate than loans made to customers with more established operating and financial histories. In addition, if default rates reach certain levels, the principal of our securitized notes may be required to be paid down, and we may no longer be able to borrow from our debt facilities to fund future loans. In addition, if customer default rates increase beyond forecast levels, returns for investors in our OnDeck Marketplace program will decline and demand by investors to participate in this program will decrease, each of which will harm our reputation, operating results and profitability.

Our risk management efforts may not be effective.

We could incur substantial losses and our business operations could be disrupted if we are unable to effectively identify, manage, monitor and mitigate financial risks, such as credit risk, interest rate risk, liquidity risk, and other market-related risk, as well as operational risks related to our business, assets and liabilities. To the extent our models used to assess the creditworthiness of potential customers do not adequately identify potential risks, the OnDeck Scores produced would not adequately represent the risk profile of such customers and could result in higher risk than anticipated. Our risk management policies, procedures, and techniques, including our use of our proprietary OnDeck Score technology, may not be sufficient to identify all of the risks we are exposed to, mitigate the risks that we have identified or identify concentrations of risk or additional risks to which we may become subject in the future.

We rely on our proprietary credit-scoring model in the forecasting of loss rates. If we are unable to effectively forecast loss rates, it may negatively impact our operating results.

In making a decision whether to extend credit to prospective customers, we rely heavily on our OnDeck Score, the credit score generated by our proprietary credit-scoring model and decisioning system, an empirically derived suite of statistical models built using third-party data, data from our customers and our credit experience gained through monitoring the performance of our customers over time. If our proprietary credit-scoring model and decisioning system fails to adequately predict the creditworthiness of our customers, or if our proprietary cash flow analytics system fails to assess prospective customers’ financial ability to repay their loans, or if any portion of the information pertaining to the prospective customer is false, inaccurate or incomplete, and our systems did not detect such falsities, inaccuracies or incompleteness, or any or all of the other components of the credit decision process described herein fails, we may experience higher than forecasted losses. Furthermore, if we are unable to access the third-party data used in our OnDeck Score, or our access to such data is limited, our ability to accurately evaluate potential customers will be compromised, and we may be unable to effectively predict probable credit losses inherent in our loan portfolio, which would negatively impact our results of operations.

Additionally, if we make errors in the development and validation of any of the models or tools we use to underwrite the loans that we securitize or sell to investors, these investors may experience higher delinquencies and losses and we may be subject to liability. Moreover, if future performance of our customers’ loans differs from past experience (driven by factors, including but not limited to, macroeconomic factors, policy actions by regulators, lending by other institutions and reliability of data used in the underwriting process), which experience has informed the development of the underwriting procedures employed by us, delinquency rates and losses to investors of our securitized debt from our customers’ loans could increase, thereby potentially subjecting us to liability. This inability to effectively forecast loss rates could also inhibit our ability to borrow from our debt facilities, which could further hinder our growth and harm our financial performance.

 

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Our allowance for loan losses is determined based upon both objective and subjective factors and may not be adequate to absorb loan losses.

We face the risk that our customers will fail to repay their loans in full. We reserve for such losses by establishing an allowance for loan losses, the increase of which results in a charge to our earnings as a provision for loan losses. We have established an evaluation process designed to determine the adequacy of our allowance for loan losses. While this evaluation process uses historical and other objective information, the classification of loans and the forecasts and establishment of loan losses are also dependent on our subjective assessment based upon our experience and judgment. Actual losses are difficult to forecast, especially if such losses stem from factors beyond our historical experience, and unlike traditional banks, we are not subject to periodic review by bank regulatory agencies of our allowance for loan losses. As a result, there can be no assurance that our allowance for loan losses will be comparable to that of traditional banks subject to regulatory oversight or sufficient to absorb losses or prevent a material adverse effect on our business, financial condition and results of operations.

We face increasing competition and, if we do not compete effectively, our operating results could be harmed.

We compete with other companies that lend to small businesses. These companies include traditional banks, merchant cash advance providers and newer, technology-enabled lenders. In addition, other technology companies that primarily lend to individual consumers have already begun to focus, or may in the future focus, their efforts on lending to small businesses.

In some cases, our competitors focus their marketing on our industry sectors and seek to increase their lending and other financial relationships with specific industries such as restaurants. In other cases, some competitors may offer a broader range of financial products to our clients, and some competitors may offer a specialized set of specific products or services. Many of these competitors have significantly more resources and greater brand recognition than we do and may be able to attract customers more effectively than we do.

When new competitors seek to enter one of our markets, or when existing market participants seek to increase their market share, they sometimes undercut the pricing and/or credit terms prevalent in that market, which could adversely affect our market share or ability to exploit new market opportunities. Our pricing and credit terms could deteriorate if we act to meet these competitive challenges. Further, to the extent that the commissions we pay to our strategic partners and funding advisors are not competitive with those paid by our competitors, whether on new loans or renewals or both, these partners and advisors may choose to direct their business elsewhere. All of the foregoing could adversely affect our business, results of operations, financial condition and future growth.

To date, we have derived our revenue from a limited number of products and markets. Our efforts to expand our market reach and product portfolio may not succeed and may reduce our revenue growth.

We offer term loans and lines of credit to our customers in the United States and term loans to our customers in Canada. Many of our competitors offer a more diverse set of products to small businesses and in additional international markets. While we intend to eventually broaden the scope of products that we offer to our customers, there can be no assurance that we will be successful in such efforts. Failure to broaden the scope of products we offer to potential customers may inhibit the growth of repeat business from our customers and harm our operating results. There also can be no guarantee that we will be successful with respect to our current efforts in Canada, as well as any further expansion beyond the United States and Canada, if we decide to attempt such expansion at all, which may also inhibit the growth of our business.

In connection with our sale of loans to our subsidiaries and through OnDeck Marketplace, we make representations and warranties concerning the loans we sell. If those representations and warranties are not correct, we could be required to repurchase the loans. Any significant required repurchases could have an adverse effect upon our ability to operate and fund our business.

In our asset-backed securitization facility and our other asset-backed revolving debt facilities, we transfer loans to our subsidiaries and make numerous representations and warranties concerning the loans we transfer including

 

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representations and warranties that the loans meet the eligibility requirements. We also make representations and warranties in connection with the loans we sell through OnDeck Marketplace. If those representations and warranties are incorrect, we may be required to repurchase the loans. We have not been required to repurchase any loans in connection with our asset-backed securitization facility. In connection with OnDeck Marketplace and our asset-backed revolving debt facilities, we have been required to repurchase an immaterial amount of loans. Failure to repurchase such loans when required would constitute an event of default under the securitization and other asset-backed facilities and may constitute a termination event under the applicable OnDeck Marketplace agreement. There is no assurance, however, that we would have adequate resources to make such repurchases or, if we did make the repurchases, that such event might not have a material adverse effect on our business.

We may not have adequate funding capacity in the event that an unforeseen number of customers to whom we have extended a line of credit decide to draw their lines at the same time.

Our current capacity to fund our customers’ line of credit through existing debt facilities is limited. Accordingly, we maintain cash available to fund our customers’ lines of credit based on the amount that we foresee these customers drawing down. For example, if we make available a line of credit for $15,000 to a small business, we may only reserve a portion of this amount at any given time for immediate drawdown. We base the amount that we reserve on our analysis of aggregate portfolio demand and the historical activity of customers using the line of credit product. However, if we inaccurately predict the number of customers that draw down on their lines of credit at a certain time, or if these customers draw down in greater amounts than we forecast, we may not have enough funds available to lend to them. Failure to provide funds drawn down by our customers on their lines of credit may expose us to liability, damage our reputation and inhibit our growth.

As a result of becoming a public company, we will be obligated to maintain proper and effective internal controls over financial reporting. We may not complete our analysis of our internal controls over financial reporting in a timely manner, or these internal controls may not be determined to be effective, which may adversely affect investor confidence in our company and, as a result, the value of our common stock.

Following this offering, we will be required to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting for the first fiscal year beginning after the effective date of this offering. This assessment will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our auditors have issued an attestation report on our management’s assessment of our internal controls.

We are currently evaluating our internal controls, identifying and remediating deficiencies in those internal controls and documenting the results of our evaluation, testing and remediation.

In connection with our preparation of the financial statements for the year ended December 31, 2013, which were issued on September 29, 2014, we identified four control deficiencies that did not rise to the level of a material weakness, on an individual basis or in the aggregate, but did represent significant deficiencies in our internal control over financial reporting. A control deficiency is considered a significant deficiency if it represents a deficiency, or a combination of deficiencies, in internal control over financial reporting that is less severe than a material weakness, yet important enough to merit attention by those responsible for oversight of a company’s financial reporting. The particular deficiencies related to the effectiveness of our information technology controls, the formalization of key controls in certain operations and finance processes relating to the retention, documentation and evidence of reviews and approvals, the timely reconciliation of certain sub-ledgers and ledgers, and the financial statement close process, specifically the process of recording prepaid assets and expenses accurately. We have taken steps to address these deficiencies, and the actions we plan to take are subject to ongoing senior management review and audit committee oversight.

We cannot assure you that the measures we have taken, or will take, to remediate these significant deficiencies will be effective or that we will be successful in implementing them. Moreover, we cannot assure you that we have

 

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identified all significant deficiencies or that we will not in the future have additional significant deficiencies or identify material weaknesses. Our independent registered public accounting firm has not evaluated any of the measures we have taken, or that we propose to take, to address these significant deficiencies discussed above.

In addition, because our business has grown and we are becoming a public company, we are seeking to transition to a more developed internal control environment that incorporates increased automation. In the course of preparing our third quarter 2014 financial statements, we identified additional control deficiencies that we are in the process of remediating. While we are taking steps to update our processes and remediate these control deficiencies, our independent registered public accounting firm has not evaluated these control deficiencies or any of the actions we have taken or propose to take to address them. We may continue to identify additional control deficiencies in the future.

We also may not be able to complete our evaluation, testing and any required remediation in a timely fashion. During the evaluation and testing process, if we identify one or more material weaknesses in our internal control over financial reporting that we are unable to remediate before the end of the same fiscal year in which the material weakness is identified or if we are otherwise unable to maintain effective internal controls over financial reporting, we will be unable to assert that our internal controls are effective. If we are unable to assert that our internal control over financial reporting is effective, or if our auditors are unable to attest to management’s report on the effectiveness of our internal controls, we could lose investor confidence in the accuracy and completeness of our financial reports, which would cause the price of our common stock to decline.

We will be required to disclose material changes made in our internal controls and procedures on a quarterly basis. However, our independent registered public accounting firm will not be required to formally attest to the effectiveness of our internal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act until the later of the year following our first annual report required to be filed with the SEC or the date we are no longer an “emerging growth company” as defined in the JOBS Act. To comply with the requirements of being a public company, we may need to undertake various actions, such as implementing new internal controls and procedures and hiring accounting or internal audit staff.

We will incur increased costs and demands upon management as a result of complying with the laws and regulations affecting public companies, which could harm our results of operations and our ability to attract and retain qualified executives and board members.

As a public company we will incur significant legal, accounting, and other expenses that we did not incur as a private company and these expenses will increase after we cease to be an “emerging growth company.” In addition, the Sarbanes-Oxley Act and rules subsequently implemented by the SEC and the New York Stock Exchange, or NYSE, impose various requirements on public companies, including requiring changes in corporate governance practices. Our management and other personnel will need to devote a substantial amount of time to these compliance initiatives. Moreover, these rules and regulations have increased, and will continue to increase, our legal, accounting and financial compliance costs and have made, and will continue to make, some activities more time consuming and costly. For example, we expect these rules and regulations to make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced policy limits and coverage or to incur substantial costs to maintain the same or similar coverage. These rules and regulations could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors or our board committees or as executive officers.

In addition, the Sarbanes-Oxley Act requires, among other things, that we assess the effectiveness of our internal control over financial reporting annually and the effectiveness of our disclosure controls and procedures quarterly. In particular, beginning with the year ending December 31, 2015, we will need to perform system and process evaluation and testing of our internal control over financial reporting to allow management to report on, and our independent registered public accounting firm potentially to attest to, the effectiveness of our internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act, or Section 404. As an

 

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“emerging growth company” we may elect to avail ourselves of the exemption from the requirement that our independent registered public accounting firm attest to the effectiveness of our internal control over financial reporting under Section 404. However, we may no longer avail ourselves of this exemption when we cease to be an “emerging growth company” and, when our independent registered public accounting firm is required to undertake an assessment of our internal control over financial reporting, the cost of our compliance with Section 404 will correspondingly increase. Our compliance with applicable provisions of Section 404 will require that we incur substantial accounting expense and expend significant management time on compliance-related issues as we implement additional corporate governance practices and comply with reporting requirements. Moreover, if we are not able to comply with the requirements of Section 404 applicable to us in a timely manner, or if we or our independent registered public accounting firm identifies deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, the market price of our stock could decline and we could be subject to sanctions or investigations by the SEC or other regulatory authorities, which would require additional financial and management resources.

Furthermore, investor perceptions of our company may suffer if deficiencies are found, and this could cause a decline in the market price of our stock. Irrespective of compliance with Section 404, any failure of our internal control over financial reporting could have a material adverse effect on our stated operating results and harm our reputation. We expect to have in place accounting, internal audit and other management systems and resources that will allow us to maintain compliance with the requirements of the Sarbanes-Oxley Act either at the time of the completion of this offering or at the end of any phase-in periods following the completion of this offering permitted by the NYSE, the SEC, and the JOBS Act. If we are unable to implement these changes effectively or efficiently, it could harm our operations, financial reporting or financial results and could result in an adverse opinion on internal control from our independent registered public accounting firm.

Competition for our employees is intense, and we may not be able to attract and retain the highly skilled employees whom we need to support our business.

Competition for highly skilled engineering and data analytics personnel is extremely intense, and we continue to face difficulty identifying and hiring qualified personnel in many areas of our business. We may not be able to hire and retain such personnel at compensation levels consistent with our existing compensation and salary structure. Many of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment. In particular, candidates making employment decisions, specifically in high-technology industries, often consider the value of any equity they may receive in connection with their employment. Any significant volatility in the price of our stock after this offering may adversely affect our ability to attract or retain highly skilled technical, financial and marketing personnel.

In addition, we invest significant time and expense in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training their replacements and the quality of our services and our ability to serve our customers could diminish, resulting in a material adverse effect on our business.

We rely on our management team and need additional key personnel to grow our business, and the loss of key employees or inability to hire key personnel could harm our business.

We believe our success has depended, and continues to depend, on the efforts and talents of our executives and employees, including Noah Breslow, our Chief Executive Officer. Our future success depends on our continuing ability to attract, develop, motivate and retain highly qualified and skilled employees. Qualified individuals are in high demand, and we may incur significant costs to attract and retain them. In addition, the loss of any of our senior management or key employees could materially adversely affect our ability to execute our business plan and strategy, and we may not be able to find adequate replacements on a timely basis, or at all. Our executive officers and other employees are at-will employees, which means they may terminate their employment relationship with us at any time, and their knowledge of our business and industry would be

 

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extremely difficult to replace. We cannot ensure that we will be able to retain the services of any members of our senior management or other key employees. If we do not succeed in attracting well-qualified employees or retaining and motivating existing employees, our business could be materially and adversely affected.

We may require additional capital to pursue our business objectives and respond to business opportunities, challenges or unforeseen circumstances. If capital is not available to us, our business, operating results and financial condition may be harmed.

Since our founding, we have raised substantial equity and debt financing to support the growth of our business. Because we intend to continue to make investments to support the growth of our business, we may require additional capital to pursue our business objectives and respond to business opportunities, challenges or unforeseen circumstances, including increasing our marketing expenditures to improve our brand awareness, developing new products or services or further improving existing products and services, enhancing our operating infrastructure and acquiring complementary businesses and technologies. Accordingly, we may need to engage in equity or debt financings to secure additional funds. However, additional funds may not be available when we need them, on terms that are acceptable to us, or at all. In addition, our agreements with our lenders contain restrictive covenants relating to our capital raising activities and other financial and operational matters, and any debt financing that we secure in the future could involve further restrictive covenants which may make it more difficult for us to obtain additional capital and to pursue business opportunities. Volatility in the credit markets may also have an adverse effect on our ability to obtain debt financing.

If we raise additional funds through further issuances of equity or convertible debt securities, our existing stockholders could suffer significant dilution, and any new equity securities we issue could have rights, preferences and privileges superior to those of holders of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us, when we require it, our ability to continue to pursue our business objectives and to respond to business opportunities, challenges or unforeseen circumstances could be significantly limited, and our business, operating results, financial condition and prospects could be adversely affected.

Our agreements with our lenders contain a number of early payment triggers and covenants. A breach of such triggers or covenants or other terms of such agreements could result in an early amortization, default, and/or acceleration of the related funding facilities which could materially impact our operations.

Primary funding sources available to support the maintenance and growth of our business include, among others, an asset-backed securitization facility, other asset-backed revolving debt facilities and corporate debt. Our liquidity would be materially adversely affected by our inability to comply with various covenants and other specified requirements set forth in our agreements with our lenders which could result in the early amortization, default and/or acceleration of our existing facilities. Such covenants and requirements include financial covenants, portfolio performance covenants and other events. For a description of these covenants, requirements and events, see the section titled “Description of Indebtedness – Covenants and Events of Default for Debt Facilities.”

During an early amortization period or occurrence of an event of default, principal collections from the loans in our asset-backed facilities would be applied to repay principal under such facilities rather than being available on a revolving basis to fund purchases of newly originated loans. During the occurrence of an event of default under any of our facilities, the applicable lenders could accelerate the related debt and such lenders’ commitments to extend further credit under the related facility would terminate. Our asset-backed securitization trust would not be able to issue future series out of such securitization. If we were unable to repay the amounts due and payable under such facilities, the applicable lenders could seek remedies, including against the collateral pledged under such facilities. A default under one facility could also lead to default under other facilities due to cross-acceleration or cross-default provisions.

An early amortization event or event of default would negatively impact our liquidity, including our ability to originate new loans, and require us to rely on alternative funding sources, which might increase our funding

 

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costs or which might not be available when needed. If we were unable to arrange new or alternative methods of financing on favorable terms, we might have to curtail the origination of loans, which could have a material adverse effect on our business, financial condition, operating results and cash flow, which in turn could have a material adverse effect on our ability to meet our obligations under our facilities.

We act as servicer with respect to our facilities. If we default in our servicing obligations, an early amortization event of default could occur with respect to the applicable facility and we could be replaced as servicer.

The lending industry is highly regulated. Changes in regulations or in the way regulations are applied to our business could adversely affect our business.

The regulatory environment in which lending institutions operate has become increasingly complex, and following the financial crisis of 2008, supervisory efforts to enact and apply relevant laws, regulations and policies have become more intense. Changes in laws or regulations or the regulatory application or judicial interpretation of the laws and regulations applicable to us could adversely affect our ability to operate in the manner in which we currently conduct business or make it more difficult or costly for us to originate or otherwise make additional loans, or for us to collect payments on loans by subjecting us to additional licensing, registration and other regulatory requirements in the future or otherwise. For example, if our loans were determined for any reason not to be commercial loans, we would be subject to many additional requirements, and our fees and interest arrangements could be challenged by regulators or our customers. A material failure to comply with any such laws or regulations could result in regulatory actions, lawsuits and damage to our reputation, which could have a material adverse effect on our business and financial condition and our ability to originate and service loans and perform our obligations to investors and other constituents.

A proceeding relating to one or more allegations or findings of our violation of such laws could result in modifications in our methods of doing business that could impair our ability to collect payments on our loans or to acquire additional loans or could result in the requirement that we pay damages and/or cancel the balance or other amounts owing under loans associated with such violation. We cannot assure you that such claims will not be asserted against us in the future. To the extent it is determined that the loans we make to our customers were not originated in accordance with all applicable laws, we would be obligated to repurchase from the entity holding the applicable loan any such loan that fails to comply with legal requirements. We may not have adequate resources to make such repurchases.

Financial regulatory reform relating to asset-backed securities has not been fully implemented and could have a significant impact on our ability to access the asset-backed market.

We rely upon asset-backed financing for a significant portion of our funds with which to carry on our business. Asset-backed securities and the securitization markets were heavily affected by the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, which was signed into law in 2010 and have also been a focus of increased regulation by the SEC. However, some of the regulations to be implemented under the Dodd-Frank Act have not yet been finalized and other asset-backed regulations that have been adopted by the SEC have delayed effective dates. For example, the Dodd-Frank Act mandates the implementation of rules requiring securitizers or originators to retain an economic interest in a portion of the credit risk for any asset that they securitize or originate. In October of this year, the SEC adopted final rules in relation to such risk retention, but such rules will not be effective with respect to our transactions until late in 2016. In addition, the SEC previously proposed separate rules which would affect the disclosure requirements for registered as well as unregistered issuances of asset-backed securities. The SEC has recently adopted final rules which affect the disclosure requirements for registered issuances of asset-backed securities backed by residential mortgages, commercial mortgages, auto loans, auto leases and debt securities. However, final rules that would affect the disclosure requirements for registered issuances of asset-backed securities backed by other types of collateral or for unregistered issuances of asset-backed securities have not been adopted. Any of such rules if implemented could adversely affect our ability to access the asset-backed market or our cost of accessing that market.

 

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Our success and future growth depend in part on our successful marketing efforts and increased brand awareness. Failure to effectively use our brand to convert sales may negatively affect our growth and our financial performance.

We believe that an important component of our growth will be continued market penetration through our direct marketing channel. To achieve this growth, we anticipate relying heavily on marketing and advertising to increase the visibility of the OnDeck brand with potential customers. The goal of this marketing and advertising is to increase the strength, recognition and trust in the OnDeck brand, drive more unique visitors to submit loan applications on our website, and ultimately increase the number of loans made to our customers. We incurred expenses of $18.1 million and $21.8 million on sales and marketing in the year ended December 31, 2013 and the nine months ended September 30, 2014, respectively.

Our business model relies on our ability to scale rapidly and to decrease incremental customer acquisition costs as we grow. If we are unable to recover our marketing costs through increases in website traffic and in the number of loans made by visitors to our platform, or if we discontinue our broad marketing campaigns, it could have a material adverse effect on our growth, results of operations and financial condition.

Customer complaints or negative publicity could result in a decline in our customer growth and our business could suffer.

Our reputation is very important to attracting new customers to our platform as well as securing repeat lending to existing customers. While we believe that we have a good reputation and that we provide our customers with a superior experience, there can be no assurance that we will continue to maintain a good relationship with our customers or avoid negative publicity. Any damage to our reputation, whether arising from our conduct of business, negative publicity, regulatory, supervisory or enforcement actions, matters affecting our financial reporting or compliance with SEC and New York Stock Exchange listing requirements, security breaches or otherwise could have a material adverse effect on our business.

Security breaches of customers’ confidential information that we store may harm our reputation and expose us to liability.

We store our customers’ bank information, credit information and other sensitive data. Any accidental or willful security breaches or other unauthorized access could cause the theft and criminal use of this data. Security breaches or unauthorized access to confidential information could also expose us to liability related to the loss of the information, time-consuming and expensive litigation and negative publicity. If security measures are breached because of third-party action, employee error, malfeasance or otherwise, or if design flaws in our software are exposed and exploited, and, as a result, a third party obtains unauthorized access to any of our customers’ data, our relationships with our customers will be severely damaged, and we could incur significant liability.

Because techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until they are launched against a target, we and our third-party hosting facilities may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, many states have enacted laws requiring companies to notify individuals of data security breaches involving their personal data. These mandatory disclosures regarding a security breach are costly to implement and often lead to widespread negative publicity, which may cause our customers to lose confidence in the effectiveness of our data security measures. Any security breach, whether actual or perceived, would harm our reputation and we could lose customers.

The collection, processing, storage, use and disclosure of personal data could give rise to liabilities as a result of governmental regulation, conflicting legal requirements or differing views of personal privacy rights.

We receive, transmit and store a large volume of personally identifiable information and other sensitive data from customers and potential customers. There are federal, state and foreign laws regarding privacy and the storing, sharing, use, disclosure and protection of personally identifiable information and sensitive data. Specifically, personally identifiable information is increasingly subject to legislation and regulations to protect the privacy of

 

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personal information that is collected, processed and transmitted. Any violations of these laws and regulations may require us to change our business practices or operational structure, address legal claims and sustain monetary penalties and/or other harms to our business.

The regulatory framework for privacy issues in the United States and internationally is constantly evolving and is likely to remain uncertain for the foreseeable future. The interpretation and application of such laws is often uncertain, and such laws may be interpreted and applied in a manner inconsistent with our current policies and practices or require changes to the features of our platform. If either we or our third party service providers are unable to address any privacy concerns, even if unfounded, or to comply with applicable laws and regulations, it could result in additional costs and liability, damage our reputation and harm our business.

Our ability to collect payment on loans and maintain accurate accounts may be adversely affected by computer viruses, physical or electronic break-ins, technical errors and similar disruptions.

The automated nature of our platform may make it an attractive target for hacking and potentially vulnerable to computer viruses, physical or electronic break-ins and similar disruptions. Despite efforts to ensure the integrity of our platform, it is possible that we may not be able to anticipate or to implement effective preventive measures against all security breaches of these types, in which case there would be an increased risk of fraud or identity theft, and we may experience losses on, or delays in the collection of amounts owed on, a fraudulently induced loan. In addition, the software that we have developed to use in our daily operations is highly complex and may contain undetected technical errors that could cause our computer systems to fail. Because each loan that we make involves our proprietary automated underwriting process, and approximately two-thirds of our loans are underwritten using a fully-automated underwriting process that does not require manual review, any failure of our computer systems involving our automated underwriting process and any technical or other errors contained in the software pertaining to our automated underwriting process could compromise our ability to accurately evaluate potential customers, which would negatively impact our results of operations. Furthermore, any failure of our computer systems could cause an interruption in operations and result in disruptions in, or reductions in the amount of, collections from the loans we make to our customers.

Additionally, if a hacker were able to access our secure files, he or she might be able to gain access to the personal information of our customers. While we have taken steps to prevent such activity from affecting our platform, if we are unable to prevent such activity, we may be subject to significant liability, negative publicity and a material loss of customers, all of which may negatively affect our business.

Our business depends on our ability to collect payment on and service the loans we make to our customers.

We rely on unaffiliated banks for the Automated Clearing House, or ACH, transaction process used to disburse the proceeds of newly originated loans to our customers and to automatically collect scheduled payments on the loans. As we are not a bank, we do not have the ability to directly access the ACH payment network, and must therefore rely on an FDIC-insured depository institution to process our transactions, including loan payments. Although we have built redundancy between these banks’ services, if we cannot continue to obtain such services from our current institutions or elsewhere, or if we cannot transition to another processor quickly, our ability to process payments will suffer. If we fail to adequately collect amounts owing in respect of the loans, as a result of the loss of direct debiting or otherwise, then payments to us may be delayed or reduced and our revenue and operating results will be harmed.

We rely on data centers to deliver our services. Any disruption of service at these data centers could interrupt or delay our ability to deliver our service to our customers.

We currently serve our customers from two third-party data center hosting facilities in Piscataway, New Jersey and Denver, Colorado. The continuous availability of our service depends on the operations of these facilities, on a variety of network service providers, on third-party vendors and on data center operations staff. In

 

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addition, we depend on the ability of our third-party facility providers to protect the facilities against damage or interruption from natural disasters, power or telecommunications failures, criminal acts and similar events. If there are any lapses of service or damage to the facilities, we could experience lengthy interruptions in our service as well as delays and additional expenses in arranging new facilities and services. Even with current and planned disaster recovery arrangements, our business could be harmed.

We designed our system infrastructure and procure and own or lease the computer hardware used for our services. Design and mechanical errors, failure to follow operations protocols and procedures could cause our systems to fail, resulting in interruptions in our platform. Any such interruptions or delays, whether as a result of third-party error, our own error, natural disasters or security breaches, whether accidental or willful, could harm our relationships with customers and cause our revenue to decrease and/or our expenses to increase. Also, in the event of damage or interruption, our insurance policies may not adequately compensate us for any losses that we may incur. These factors in turn could further reduce our revenue and subject us to liability, which could materially adversely affect our business.

Demand for our loans may decline if we do not continue to innovate or respond to evolving technological changes.

We operate in a nascent industry characterized by rapidly evolving technology and frequent product introductions. We rely on our proprietary technology to make our platform available to customers, determine the creditworthiness of loan applicants, and service the loans we make to customers. In addition, we may increasingly rely on technological innovation as we introduce new products, expand our current products into new markets, and continue to streamline the lending process. The process of developing new technologies and products is complex, and if we are unable to successfully innovate and continue to deliver a superior customer experience, customers’ demand for our loans may decrease and our growth and operations may be harmed.

It may be difficult and costly to protect our intellectual property rights, and we may not be able to ensure their protection.

Our ability to lend to our customers depends, in part, upon our proprietary technology, including our use of the OnDeck Score. We may be unable to protect our proprietary technology effectively which would allow competitors to duplicate our products and adversely affect our ability to compete with them. A third party may attempt to reverse engineer or otherwise obtain and use our proprietary technology without our consent. The pursuit of a claim against a third party for infringement of our intellectual property could be costly, and there can be no guarantee that any such efforts would be successful.

In addition, our platform may infringe upon claims of third-party intellectual property, and we may face intellectual property challenges from such other parties. We may not be successful in defending against any such challenges or in obtaining licenses to avoid or resolve any intellectual property disputes. The costs of defending any such claims or litigation could be significant and, if we are unsuccessful, could result in a requirement that we pay significant damages or licensing fees, which would negatively impact our financial performance. Furthermore, our technology may become obsolete, and there is no guarantee that we will be able to successfully develop, obtain or use new technologies to adapt our platform to compete with other lending platforms as they develop. If we cannot protect our proprietary technology from intellectual property challenges, or if the platform becomes obsolete, our ability to maintain our platform, make loans or perform our servicing obligations on the loans could be adversely affected.

Some aspects of our platform include open source software, and any failure to comply with the terms of one or more of these open source licenses could negatively affect our business.

We incorporate open source software into our proprietary platform and into other processes supporting our business. Such open source software may include software covered by licenses like the GNU General Public License and the Apache License. The terms of various open source licenses have not been interpreted by U.S. courts, and there is a risk that such licenses could be construed in a manner that limits our use of the software, inhibits certain aspects of the platform and negatively affects our business operations.

 

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Some open source licenses contain requirements that we make available source code for modifications or derivative works we create based upon the type of open source software we use. If portions of our proprietary platform are determined to be subject to an open source license, or if the license terms for the open source software that we incorporate change, we could be required to publicly release the affected portions of our source code, re-engineer all or a portion of our platform or change our business activities. In addition to risks related to license requirements, the use of open source software can lead to greater risks than the use of third-party commercial software, as open source licensors generally do not provide warranties or controls on the origin of the software. Many of the risks associated with the use of open source software cannot be eliminated, and could adversely affect our business.

We may evaluate, and potentially consummate, acquisitions, which could require significant management attention, disrupt our business, and adversely affect our financial results.

Our success will depend, in part, on our ability to grow our business. In some circumstances, we may determine to do so through the acquisition of complementary businesses and technologies rather than through internal development. The identification of suitable acquisition candidates can be difficult, time-consuming, and costly, and we may not be able to successfully complete identified acquisitions. We also have never acquired a business before and therefore lack experience in integrating new technology and personnel. The risks we face in connection with acquisitions include:

 

    diversion of management time and focus from operating our business to addressing acquisition integration challenges;

 

    coordination of technology, product development and sales and marketing functions;

 

    transition of the acquired company’s customers to our platform;

 

    retention of employees from the acquired company;

 

    cultural challenges associated with integrating employees from the acquired company into our organization;

 

    integration of the acquired company’s accounting, management information, human resources and other administrative systems;

 

    the need to implement or improve controls, procedures and policies at a business that prior to the acquisition may have lacked effective controls, procedures and policies;

 

    potential write-offs of loans or intangibles or other assets acquired in such transactions that may have an adverse effect our operating results in a given period;

 

    liability for activities of the acquired company before the acquisition, including patent and trademark infringement claims, violations of laws, commercial disputes, tax liabilities and other known and unknown liabilities; and

 

    litigation or other claims in connection with the acquired company, including claims from terminated employees, customers, former stockholders or other third parties.

Our failure to address these risks or other problems encountered in connection with our future acquisitions and investments could cause us to fail to realize the anticipated benefits of these acquisitions or investments, cause us to incur unanticipated liabilities and harm our business generally. Future acquisitions could also result in dilutive issuances of our equity securities, the incurrence of debt, contingent liabilities, amortization expenses or the write-off of goodwill, any of which could harm our financial condition. Also, the anticipated benefits of any acquisitions may not materialize.

We may not be able to utilize a significant portion of our net operating loss carryforwards, which could harm our results of operations.

We had U.S. federal net operating loss carryforwards of approximately $47.5 million as of December 31, 2013. These net operating loss carryforwards will begin to expire at various dates beginning in 2027. As of December 31, 2013, we recorded a full valuation allowance of $26.2 million against our net deferred tax asset.

 

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The Internal Revenue Code of 1986, as amended, or the Code, imposes substantial restrictions on the utilization of net operating losses and other tax attributes in the event of an “ownership change” of a corporation. Events which may cause limitation in the amount of the net operating losses and other tax attributes that are able to be utilized in any one year include, but are not limited to, a cumulative ownership change of more than 50% over a three-year period, which has occurred as a result of historical ownership changes. Accordingly, our ability to use pre-change net operating loss and certain other attributes are limited as prescribed under Sections 382 and 383 of the Code. Therefore, if we earn net taxable income in the future, our ability to reduce our federal income tax liability with our existing net operating losses is subject to limitation. Although we believe that this offering may result in another cumulative ownership change under Sections 382 and 383 of the Code, we do not believe that any resulting limitation will further limit our ability to ultimately utilize our net operating loss carryforwards and other tax attributes in a material way. Future offerings, as well as other future ownership changes that may be outside our control could potentially result in further limitations on our ability to utilize our net operating loss and tax attributes. Accordingly, achieving profitability may not result in a full release of the valuation allowance.

Our business is subject to the risks of earthquakes, fire, power outages, flood, and other catastrophic events, and to interruption by man-made problems such as terrorism.

Events beyond our control may damage our ability to accept our customers’ applications, underwrite loans, maintain our platform or perform our servicing obligations. In addition, these catastrophic events may negatively affect customers’ demand for our loans. Such events include, but are not limited to, fires, earthquakes, terrorist attacks, natural disasters, computer viruses and telecommunications failures. Despite any precautions we may take, system interruptions and delays could occur if there is a natural disaster, if a third-party provider closes a facility we use without adequate notice for financial or other reasons, or if there are other unanticipated problems at our leased facilities. As we rely heavily on our servers, computer and communications systems and the Internet to conduct our business and provide high-quality customer service, such disruptions could harm our ability to run our business and cause lengthy delays which could harm our business, results of operations and financial condition. We currently are not able to switch instantly to our backup center in the event of failure of the main server site. This means that an outage at one facility could result in our system being unavailable for a significant period of time. Our business interruption insurance may not be sufficient to compensate us for losses that may result from interruptions in our service as a result of system failures. A system outage or data loss could harm our business, financial condition and results of operations.

Risks Related to this Offering, the Securities Markets and Ownership of Our Common Stock

The price of our common stock may be volatile and the value of your investment could decline.

Technology stocks have historically experienced high levels of volatility. The trading price of our common stock following this offering may fluctuate substantially. Following the completion of this offering, the market price of our common stock may be higher or lower than the price you pay, depending on many factors, some of which are beyond our control and may not be related to our operating performance. These fluctuations could cause you to lose all or part of your investment in our common stock. Factors that could cause fluctuations in the trading price of our common stock include the following:

 

    announcements of new products, services or technologies, relationships with strategic partners, acquisitions or other events by us or our competitors;

 

    changes in economic conditions;

 

    changes in prevailing interest rates;

 

    price and volume fluctuations in the overall stock market from time to time;

 

    significant volatility in the market price and trading volume of technology companies in general and of companies in our industry;

 

    fluctuations in the trading volume of our shares or the size of our public float;

 

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    actual or anticipated changes in our operating results or fluctuations in our operating results;

 

    quarterly fluctuations in demand for our loans;

 

    whether our operating results meet the expectations of securities analysts or investors;

 

    actual or anticipated changes in the expectations of investors or securities analysts;

 

    regulatory developments in the United States, foreign countries or both;

 

    major catastrophic events;

 

    sales of large blocks of our stock; or

 

    departures of key personnel.

In addition, if the market for technology stocks or the stock market in general experiences loss of investor confidence, the trading price of our common stock could decline for reasons unrelated to our business, operating results or financial condition. The trading price of our common stock might also decline in reaction to events that affect other companies in our industry even if these events do not directly affect us. In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been brought against that company. If our stock price is volatile, we may become the target of securities litigation. Securities litigation could result in substantial costs and divert our management’s attention and resources from our business. This could have a material adverse effect on our business, operating results and financial condition.

Sales of substantial amounts of our common stock in the public markets, or the perception that they might occur, could reduce the price that our common stock might otherwise attain and may dilute your voting power and your ownership interest in us.

Sales of a substantial number of shares of our common stock in the public market after this offering, or the perception that these sales could occur, could adversely affect the market price of our common stock and may make it more difficult for you to sell your common stock at a time and price that you deem appropriate. Based on the total number of outstanding shares of our common stock as of September 30, 2014, upon completion of this offering, we will have 66,160,636 shares of common stock outstanding, assuming no exercise of our outstanding options or warrants. All of the shares of common stock sold in this offering will be freely tradable without restrictions or further registration under the Securities Act of 1933, as amended, or the Securities Act, except for any shares held by our affiliates as defined in Rule 144 under the Securities Act.

Subject to certain exceptions described under the section titled “Underwriters,” we and all of our directors and officers and substantially all of our equity holders have agreed not to offer, sell or agree to sell, directly or indirectly, any shares of common stock without the permission of Morgan Stanley & Co. LLC and Merrill Lynch, Pierce, Fenner & Smith Incorporated for a period of 180 days from the date of this prospectus. When the lock-up period expires, we and our locked-up security holders will be able to sell our shares in the public market. In addition, the underwriters may, in their sole discretion, release all or some portion of the shares subject to lock-up agreements prior to the expiration of the lock-up period. See the section titled “Shares Eligible for Future Sale” for more information. Sales of a substantial number of such shares upon expiration, or the perception that such sales may occur, or early release of the lock-up, could cause our share price to fall or make it more difficult for you to sell your common stock at a time and price that you deem appropriate.

Upon completion of this offering, the holders of an aggregate of 56,863,660 shares of our common stock (including shares issuable pursuant to the exercise of warrants to purchase common stock), or their permitted transferees, will have rights, subject to some conditions, to require us to file registration statements covering the sale of their shares or to include their shares in registration statements that we may file for ourselves or other stockholders. We also intend to register the offer and sale of all shares of common stock that we may issue under our equity compensation plans.

 

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We may issue our shares of common stock or securities convertible into our common stock from time to time in connection with a financing, acquisition, investments or otherwise. Any such issuance could result in substantial dilution to our existing stockholders and cause the trading price of our common stock to decline.

Insiders will continue to have substantial control over us after this offering, which could limit your ability to influence the outcome of key transactions, including a change of control.

Our directors, executive officers and each of our stockholders who own greater than 5% of our outstanding common stock and their affiliates, in the aggregate, will beneficially own approximately 60.5% of the outstanding shares of our common stock after this offering, based on the number of shares outstanding as of September 30, 2014. As a result, these stockholders, if acting together, will be able to influence or control matters requiring approval by our stockholders, including the election of directors and the approval of mergers, acquisitions or other extraordinary transactions. They may also have interests that differ from yours and may vote in a way with which you disagree and which may be adverse to your interests. This concentration of ownership may have the effect of delaying, preventing or deterring a change of control of our company, could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of our company and might ultimately affect the market price of our common stock.

We cannot assure you that a market will develop for our common stock or what the market price of our common stock will be.

Although we have been approved to list our common stock on the New York Stock Exchange, we cannot assure you that an active trading market for our common stock will develop on that exchange or elsewhere or, if developed, that any market will be sustained. We cannot predict the prices at which our common stock will trade. The initial public offering price of our common stock was determined by negotiations with the underwriters and may not bear any relationship to the market price at which our common stock will trade after this offering or to any other established criteria of the value of our business.

We have broad discretion in the use of the net proceeds that we receive in this offering.

The principal purposes of this offering are to increase our capitalization and financial flexibility, create a public market for our stock and thereby enable access to the public equity markets by our employees and stockholders, obtain additional capital and increase our visibility in the marketplace. We have not yet determined the specific allocation of the net proceeds that we receive in this offering. Rather, we intend to use the net proceeds we receive from this offering for general corporate purposes, including working capital, sales and marketing activities, product development, including the use of our own capital to finance new product originations, investment in our technology and analytics, general and administrative matters and capital expenditures. We also may use a portion of the net proceeds to fund continued originations growth or to acquire complementary businesses, products, services or technologies. Accordingly, our management will have broad discretion over the specific use of the net proceeds that we receive in this offering and might not be able to obtain a significant return, if any, on investment of these net proceeds. Investors in this offering will need to rely upon the judgment of our management with respect to the use of proceeds. If we do not use the net proceeds that we receive in this offering effectively, then our business, operating results and financial condition could be harmed.

We do not intend to pay dividends for the foreseeable future.

We have never declared or paid any dividends on our common stock. We intend to retain any earnings to finance the operation and expansion of our business, and we do not anticipate paying any cash dividends in the future. As a result, you may only receive a return on your investment in our common stock if the market price of our common stock increases.

 

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The requirements of being a public company may strain our resources, divert management’s attention and affect our ability to attract and retain qualified board members.

As a public company, we will be subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, or the Exchange Act, the listing standards of the New York Stock Exchange and other applicable securities rules and regulations. Compliance with these rules and regulations will increase our legal and financial compliance costs, make some activities more difficult, time-consuming or costly, and increase demand on our systems and resources, particularly after we are no longer an “emerging growth company” as defined in the recently enacted Jumpstart Our Business Startups Act of 2012, or the JOBS Act. Among other things, the Exchange Act requires that we file annual, quarterly and current reports with respect to our business and operating results and maintain effective disclosure controls and procedures and internal control over financial reporting. In order to maintain and, if required, improve our disclosure controls and procedures and internal control over financial reporting to meet this standard, significant resources and management oversight may be required. As a result, management’s attention may be diverted from other business concerns, which could harm our business and operating results. Although we have already hired additional employees to comply with these requirements, we may need to hire even more employees in the future, which will increase our costs and expenses.

In addition, changing laws, regulations and standards relating to corporate governance and public disclosure are creating uncertainty for public companies, increasing legal and financial compliance costs and making some activities more time consuming. These laws, regulations and standards are subject to varying interpretations, in many cases due to their lack of specificity, and, as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. We intend to invest resources to comply with evolving laws, regulations and standards, and this investment may result in increased general and administrative expense and a diversion of management’s time and attention from revenue-generating activities to compliance activities. If our efforts to comply with new laws, regulations and standards differ from the activities intended by regulatory or governing bodies, regulatory authorities may initiate legal proceedings against us and our business may be harmed.

However, for so long as we remain an “emerging growth company” as defined in the JOBS Act, we may take advantage of certain exemptions from various requirements that are applicable to public companies that are not “emerging growth companies,” including not being required to comply with the independent auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. We may take advantage of these exemptions until we are no longer an “emerging growth company.”

We would cease to be an “emerging growth company” upon the earliest of: (i) the first fiscal year following the fifth anniversary of this offering, (ii) the first fiscal year after our annual gross revenues are $1 billion or more, (iii) the date on which we have, during the previous three-year period, issued more than $1 billion in non-convertible debt securities, or (iv) as of the end of any fiscal year in which the market value of our common stock held by non-affiliates exceeded $700 million as of the end of the second quarter of that fiscal year.

We also expect that being a public company and these new rules and regulations will make it more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to obtain coverage. These factors could also make it more difficult for us to attract and retain qualified members of our board of directors, particularly to serve on our Audit Committee, Compensation Committee, Risk Management Committee and as qualified executive officers.

 

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We are an “emerging growth company,” and we cannot be certain if the reduced disclosure requirements applicable to emerging growth companies will make our common stock less attractive to investors.

We are an “emerging growth company,” as defined in the JOBS Act, and we may take advantage of certain exemptions from various reporting requirements that are applicable to public companies that are not “emerging growth companies,” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and shareholder approval of any golden parachute payments not previously approved. We cannot predict if investors will find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock, and our stock price may be more volatile and may decline.

In addition, Section 107 of the JOBS Act also provides that an “emerging growth company” can take advantage of an extended transition period for complying with new or revised accounting standards. However, we are choosing to “opt out” of such extended transition period, and as a result, we will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for non-emerging growth companies. Our decision to opt out of the extended transition period for complying with new or revised accounting standards is irrevocable.

Because the initial public offering price of our common stock will be substantially higher than the pro forma net tangible book value per share of our outstanding common stock following this offering, new investors will experience immediate and substantial dilution.

The initial public offering price will be substantially higher than the pro forma net tangible book value per share of our common stock immediately following this offering based on the total value of our tangible assets less our total liabilities. Therefore, if you purchase shares of our common stock in this offering, you will experience immediate dilution of $13.38 per share, the difference between the price per share you pay for our common stock and its pro forma net tangible book value per share as of September 30, 2014, after giving effect to the issuance of shares of our common stock in this offering. See the section titled “Dilution” for more information.

If securities or industry analysts do not publish research or reports about our business, or publish inaccurate or unfavorable research reports about our business, our share price and trading volume could decline.

The trading market for our common stock will, to some extent, depend on the research and reports that securities or industry analysts publish about us or our business. We do not have any control over these analysts. If one or more of the analysts who cover us should downgrade our shares or change their opinion of our shares, our share price would likely decline. If one or more of these analysts should cease coverage of our company or fail to regularly publish reports on us, we could lose visibility in the financial markets, which could cause our share price or trading volume to decline.

Our charter documents and Delaware law could discourage takeover attempts and lead to management entrenchment.

Our amended and restated certificate of incorporation and amended and restated bylaws that will be in effect upon completion of this offering contain provisions that could delay or prevent a change in control of our company. These provisions could also make it difficult for stockholders to elect directors that are not nominated by the current members of our board of directors or take other corporate actions, including effecting changes in our management. These provisions include:

 

    a classified board of directors with three-year staggered terms, which could delay the ability of stockholders to change the membership of a majority of our board of directors;

 

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    the ability of our board of directors to issue shares of preferred stock and to determine the price and other terms of those shares, including preferences and voting rights, without stockholder approval, which could be used to significantly dilute the ownership of a hostile acquiror;

 

    the exclusive right of our board of directors to elect a director to fill a vacancy created by the expansion of our board of directors or the resignation, death or removal of a director, which prevents stockholders from being able to fill vacancies on our board of directors;

 

    a prohibition on stockholder action by written consent, which forces stockholder action to be taken at an annual or special meeting of our stockholders;

 

    the requirement that a special meeting of stockholders may be called only by the chairman of our board of directors, our president, our secretary or a majority vote of our board of directors, which could delay the ability of our stockholders to force consideration of a proposal or to take action, including the removal of directors;

 

    the requirement for the affirmative vote of holders of at least 66 23% of the voting power of all of the then outstanding shares of the voting stock, voting together as a single class, to amend the provisions of our amended and restated certificate of incorporation relating to the issuance of preferred stock and management of our business or our amended and restated bylaws, which may inhibit the ability of an acquiror to effect such amendments to facilitate an unsolicited takeover attempt;

 

    the ability of our board of directors, by majority vote, to amend the bylaws, which may allow our board of directors to take additional actions to prevent an unsolicited takeover and inhibit the ability of an acquiror to amend the bylaws to facilitate an unsolicited takeover attempt; and

 

    advance notice procedures with which stockholders must comply to nominate candidates to our board of directors or to propose matters to be acted upon at a stockholders’ meeting, which may discourage or deter a potential acquiror from conducting a solicitation of proxies to elect the acquiror’s own slate of directors or otherwise attempting to obtain control of us.

In addition, as a Delaware corporation, we are subject to Section 203 of the Delaware General Corporation Law. These provisions may prohibit large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combining with us for a certain period of time.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND INDUSTRY DATA

This prospectus contains forward-looking statements that are based on our management’s beliefs and assumptions and on information currently available to our management. The forward-looking statements are contained principally in “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business.” Forward-looking statements include information concerning our strategy, future operations, future financial position, future revenue, projected expenses, prospects and plans and objectives of management. Forward-looking statements include all statements that are not historical facts and can be identified by terms such as “anticipate,” “believe,” “could,” “seek,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict, “project,” “should,” “will,” “would” or similar expressions and the negatives of those terms. Forward-looking statements contained in this prospectus include, but are not limited to, statements about:

 

    our ability to attract potential customers to our platform;

 

    the degree to which potential customers apply for, are approved for and actually borrow via a loan;

 

    our future financial performance, including our expectations regarding our revenue, cost of revenue, gross profit or gross margin, operating expenses, ability to generate cash flow, and ability to achieve, and maintain, future profitability;

 

    anticipated trends, growth rates and challenges in our business and in the markets in which we operate;

 

    the status of customers and the ability of customers to repay loans;

 

    our plans to implement certain compliance-related measures related to our funding advisor channel and their potential impact;

 

    our ability to anticipate market needs and develop new and enhanced products and services to meet those needs, and our ability to successfully monetize them;

 

    interest rates and origination fees on loans;

 

    maintaining and expanding our customer base;

 

    the impact of competition in our industry and innovation by our competitors;

 

    our anticipated growth and growth strategies and our ability to effectively manage that growth;

 

    our ability to sell our products and expand;

 

    our failure to anticipate or adapt to future changes in our industry;

 

    our ability to hire and retain necessary qualified employees to expand our operations;

 

    the impact of any failure of our solutions;

 

    our reliance on our third-party service providers;

 

    the evolution of technology affecting our products, services and markets;

 

    our compliance with applicable local, state and federal laws;

 

    our compliance with applicable regulatory developments and regulations that currently apply or become applicable to our business;

 

    our ability to adequately protect our intellectual property;

 

    the anticipated effect on our business of litigation to which we are a party;

 

    our ability to stay abreast of new or modified laws;

 

    the increased expenses and administrative workload associated with being a public company;

 

    failure to maintain an effective system of internal controls necessary to accurately report our financial results and prevent fraud;

 

    our liquidity and working capital requirements and our plans for the net proceeds from this offering;

 

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    the estimates and estimate methodologies used in preparing our consolidated financial statements;

 

    the future trading prices of our common stock and the impact of securities analysts’ reports on these prices; and

 

    our ability to prevent security breaks, disruption in service and comparable events that could compromise the personal and confidential information held in our data systems, reduce the attractiveness of the platform or adversely impact our ability to service the loans.

We caution you that the foregoing list may not contain all of the forward-looking statements made in this prospectus.

Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. We discuss these risks in greater detail in “Risk Factors” and elsewhere in this prospectus. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Also, forward-looking statements represent our management’s beliefs and assumptions only as of the date of this prospectus. You should read this prospectus and the documents that we have filed as exhibits to the registration statement, of which this prospectus is a part, completely and with the understanding that our actual future results may be materially different from what we expect.

Except as required by law, we assume no obligation to update these forward-looking statements publicly, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

 

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INDUSTRY AND MARKET DATA

This prospectus contains estimates, statistical data, and other information concerning our industry, including market size and growth rates, that are based on industry publications, surveys and forecasts, including those by Civic Economics, Oliver Wyman, Gallup, National Small Business Association and other publicly available sources. The industry and market information included in this prospectus involves a number of assumptions and limitations, and you are cautioned not to give undue weight to such information.

The sources of industry and market data contained in this prospectus are listed below:

 

    Civic Economics, Indie Impact Study Series: A National Comparative Survey with the American Booksellers Association, October 2012.

 

    eVoice, 25 Hour Day Survey, March 2012.

 

    FDIC, Loans to Small Businesses and Farms, FDIC-Insured Institutions 1995-2014, Q2 2014.

 

    Federal Reserve Bank of New York, Small Business Credit Survey Q4 2013, February 2014.

 

    Gallup, Wells Fargo Small Business Survey Topline, Quarter 3, 2014.

 

    National Small Business Association, 2013 Small Business Technology Survey, September 2013.

 

    Karen Gordon Mills and Brayden McCarthy, The State of Small Business Lending: Credit Access during the Recovery and How Technology May Change the Game, Harvard Business School, July 22, 2014.

 

    Oliver Wyman, Financing Small Businesses, 2013.

 

    Oliver Wyman, Small Business Banking, 2013.

 

    U.S. Small Business Administration, Small Business GDP: Update 2002-2010, January 2012.

 

    U.S. Small Business Administration, United States Small Business Profile, 2014.

The industry in which we operate is subject to a high degree of uncertainty and risk due to a variety of factors, including those described in the section titled “Risk Factors” and elsewhere in this prospectus. These and other factors could cause our actual results to differ materially from those expressed in the estimates made by the independent parties and by us.

 

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USE OF PROCEEDS

We estimate that the net proceeds from our sale of 10,000,000 shares of common stock in this offering at an assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses, will be approximately $154.1 million, or $177.8 million if the underwriters’ option to purchase additional shares is exercised in full. A $1.00 increase (decrease) in the assumed initial public offering price would increase (decrease) the net proceeds to us from this offering by $9.3 million, assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions.

We currently intend to use the net proceeds to us from this offering primarily for general corporate purposes, including working capital, sales and marketing activities, data and analytics enhancements, product development, capital expenditures and to fund a portion of the loans made to our customers. We may also use a portion of the net proceeds to invest in or acquire technologies, solutions or businesses that complement our business and for targeted international expansion. However, we have no present agreements or commitments for any such investments, acquisitions or expansion. We will have broad discretion over the uses of the net proceeds in this offering. Pending these uses, we intend to invest the net proceeds from this offering in short-term, investment-grade interest-bearing securities such as money market accounts, certificates of deposit, commercial paper and guaranteed obligations of the U.S. government.

DIVIDEND POLICY

We have never declared or paid cash dividends on our common stock. We currently intend to retain all available funds and any future earnings for use in the operation of our business and do not anticipate paying any dividends on our common stock in the foreseeable future. Any future determination to declare dividends will be made at the discretion of our board of directors and will depend on our financial condition, operating results, capital requirements, general business conditions and other factors that our board of directors may deem relevant.

 

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CAPITALIZATION

The following table sets forth our consolidated cash and cash equivalents and capitalization as of September 30, 2014 on:

 

    an actual basis;

 

    on a pro forma basis to give effect to:

 

    the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into 47,451,644 shares of our common stock upon the completion of this offering; and

 

    the reclassification of the remaining preferred stock warrant liability to additional paid in capital upon the automatic conversion of our preferred stock warrants into common stock warrants upon the completion of this offering.

 

    on a pro forma as adjusted basis to reflect our receipt of the net proceeds from our sale of 10,000,000 shares of common stock in this offering at an assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses.

The information below is illustrative only and our capitalization following the completion of this offering will be adjusted based on the actual initial public offering price and other terms of this offering determined at pricing. You should read this table together with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and the related notes appearing elsewhere in this prospectus.

 

     As of September 30, 2014  
         Actual              Pro forma              Pro forma as    
adjusted(1)
 
     (in thousands, except share and per share data)  

Cash and cash equivalents

   $ 22,642       $ 22,642       $ 176,742   
  

 

 

    

 

 

    

 

 

 

Corporate debt(2)

   $ 3,000       $ 3,000       $ 3,000   

Warrant liability

     2,802                   

Capital lease obligations

     436         436         436   
  

 

 

    

 

 

    

 

 

 

Capital liabilities

     6,238         3,436         3,436   
  

 

 

    

 

 

    

 

 

 

Redeemable convertible preferred stock:

        

Series A preferred stock, par value $0.005, 4,438,662 shares authorized, issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     2,657                   

Series B preferred stock, par value $0.005, 11,263,702 shares authorized, issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     29,860                   

Series C preferred stock, par value $0.005, 9,735,538 shares authorized, issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     25,975                   

Series C-1 preferred stock, par value $0.005, 2,586,440 shares authorized, 2,311,440 shares issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     12,932                   

Series D preferred stock, par value $0.005, 14,467,756 shares authorized, issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     66,326                   

Series E preferred stock, par value $0.005, 5,400,000 shares authorized, 5,234,546 shares issued and outstanding at September 30, 2014, no shares issued and outstanding pro forma

     80,613                   
  

 

 

    

 

 

    

 

 

 

Total redeemable convertible preferred stock

     218,363                   
  

 

 

    

 

 

    

 

 

 

 

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     As of September 30, 2014  
         Actual             Pro forma             Pro forma as    
adjusted(1)
 
     (in thousands, except share and per share data)  

Stockholders’ (deficit) equity:

      

Common stock, par value $0.005, 80,000,000 shares authorized and 8,708,992 shares issued and outstanding, actual; 80,000,000 shares authorized and 56,160,636 shares issued and outstanding, pro forma; and 1,000,000,000 shares authorized and 66,160,636 shares issued and outstanding, pro forma as adjusted

     59        296        346   

Treasury stock—at cost

     (5,656     (5,656     (5,656

Additional paid-in capital

     4,885        225,813        379,863   

Accumulated deficit

     (119,721     (119,721     (119,721
  

 

 

   

 

 

   

 

 

 

Total stockholders’ (deficit) equity

     (120,433     100,732        254,832   
  

 

 

   

 

 

   

 

 

 

Total capitalization

   $ 104,168      $ 104,168      $ 258,268   
  

 

 

   

 

 

   

 

 

 

 

(1) Each $1.00 increase or decrease in the assumed initial public offering price of $17.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, would increase or decrease each of cash and cash equivalents, additional paid in capital, total stockholders’ equity and total capitalization by approximately $9.3 million, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same, and after deducting estimated underwriting discounts and commissions. Similarly, each increase or decrease of one million shares in the number of shares offered by us in this offering would increase or decrease, as applicable, cash and cash equivalents, additional paid in capital, total stockholders’ equity and total capitalization by approximately $15.8 million, assuming an initial public offering price of $17.00 per share, which is the midpoint of the estimated offering price range set forth on the cover page of this prospectus, and after deducting estimated underwriting discounts and commissions.
(2) Corporate debt is used to fund general corporate operations and excludes $347.2 million of funding debt, which is used to fund loan originations and is non-recourse to On Deck Capital, Inc.

The number of shares of our common stock set forth in the table above excludes:

 

    9,970,802 shares of common stock issuable upon the exercise of options outstanding as of September 30, 2014, with a weighted average exercise price of $3.75 per share and per share exercise prices ranging from $0.27 to $10.66;

 

    846,000 shares of common stock issuable upon the exercise of options granted after September 30, 2014, with a weighted average exercise price of $13.22 per share;

 

    7,200,000 shares of common stock reserved for issuance under our 2014 Equity Incentive Plan, which will become effective in connection with this offering;

 

    1,800,000 shares of common stock reserved for issuance under our 2014 Employee Stock Purchase Plan, which will become effective in connection with this offering;

 

    3,612,526 shares of common stock issuable upon the exercise of warrants outstanding as of September 30, 2014, with a weighted average exercise price of $6.94 per share and per share exercise prices ranging from $0.33 to $14.71; and

 

    2,000 shares of common stock issuable upon the exercise of one warrant issued after September 30, 2014, with an exercise price of $12.38 per share.

 

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DILUTION

If you invest in our common stock, your interest will be diluted to the extent of the difference between the amount per share paid by purchasers of shares of common stock in this initial public offering and the pro forma as adjusted net tangible book value per share of common stock immediately after this offering.

As of September 30, 2014, our pro forma net tangible book value was approximately $100.7 million, or $1.67 per share of common stock. Pro forma net tangible book value per share represents the amount of our total tangible assets less our total liabilities, divided by the shares of common stock outstanding at September 30, 2014, assuming the conversion of all outstanding shares of our redeemable convertible preferred stock into common stock and the exercise of all vested options and warrants.

After giving effect to our sale of 10,000,000 shares of common stock in this offering at an assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses, our pro forma as adjusted net tangible book value at September 30, 2014 would have been approximately $254.8 million, or $3.62 per share of common stock. This represents an immediate increase in pro forma as adjusted net tangible book value of $1.95 per share to existing stockholders and an immediate dilution of $13.38 per share to new investors purchasing shares in this offering.

The following table illustrates this dilution:

 

Assumed initial public offering price per share

      $ 17.00   

Pro forma net tangible book value per share as of September 30, 2014

   $ 1.67      

Increase per share attributable to this offering

     1.95      
  

 

 

    

Pro forma as adjusted net tangible book value per share after this offering

        3.62   
     

 

 

 

Net tangible book value dilution per share to new investors in this offering

      $ 13.38   
     

 

 

 
     

A $1.00 increase (decrease) in the assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, would increase (decrease) our pro forma net tangible book value, as adjusted to give effect to this offering, by $0.13 per share and the dilution in pro forma as adjusted net tangible book value per share to new investors in this offering by $0.87 per share, assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses.

If the underwriters exercise their option to purchase additional shares in full, the following will occur:

 

    the pro forma net tangible book value per share of our common stock after giving effect to this offering would be $3.88 per share;

 

    the pro forma as adjusted percentage of shares of our common stock held by existing stockholders will decrease to approximately 78.2% of the total number of pro forma as adjusted shares of our common stock outstanding after this offering;

 

    the pro forma as-adjusted number of shares of our common stock held by investors participating in this offering will increase to 11,500,000, or approximately 16.0% of the total pro forma as-adjusted number of shares of our common stock outstanding after this offering; and

 

    the dilution in net tangible book value per share to new investors in this offering would be $13.12 per share.

The following table summarizes, on a pro forma as adjusted basis as of September 30, 2014, assuming the conversion of all outstanding shares of our redeemable convertible preferred stock into common stock and the exercise of all vested options and warrants, the total number of shares of common stock purchased from us, the

 

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total consideration paid to us, and the average price per share paid to us by existing stockholders and by new investors purchasing shares in this offering at the initial public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, before deducting estimated underwriting discounts and commissions and estimated offering expenses:

 

     Shares Purchased     Total Consideration     Weighted
Average
Price
Per Share
 
     Number      Percent     Amount      Percent    

Existing stockholders

     56,160,636         79.8   $ 183,260,799         51.4   $ 3.26   

Exercised options and warrants

     4,195,862         6.0        3,385,868         0.9      $ 0.81   

New investors

     10,000,000         14.2        170,000,000         47.7      $ 17.00   
  

 

 

    

 

 

   

 

 

    

 

 

   

Total

     70,356,498         100.0   $ 356,646,667         100.0   $ 5.07   
  

 

 

    

 

 

   

 

 

    

 

 

   

Each $1.00 increase (decrease) in the assumed public offering price of $17.00 per share, the midpoint of the price range set forth on the front cover of this prospectus, would increase (decrease) total consideration paid by new investors, total consideration paid by all stockholders and the average price per share paid by all stockholders by $10.0 million, $10.0 million and $0.14, respectively, assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses.

The foregoing discussion and tables exclude:

 

    7,200,000 shares of common stock reserved for issuance under our 2014 Equity Incentive Plan, which will become effective in connection with this offering; and

 

    1,800,000 shares of common stock reserved for issuance under our 2014 Employee Stock Purchase Plan, which will become effective in connection with this offering.

The foregoing discussion and tables assume the following:

 

    a 2-for-1 forward stock split of our common stock and redeemable convertible preferred stock effected on November 26, 2014;

 

    the conversion of all outstanding shares of our redeemable convertible preferred stock into an aggregate of 47,451,644 shares of common stock immediately prior to the completion of this offering with original issuance prices ranging from $0.37 to $14.71 and averaging $3.84;

 

    the filing of our amended and restated certificate of incorporation in connection with the completion of this offering;

 

    an IPO price per share in excess of our highest option and warrant exercise prices;

 

    the exercise of vested options to purchase 2,794,832 shares of common stock outstanding as of September 30, 2014 with exercise prices ranging from $0.27 to $10.66 and averaging $0.68 per share;

 

    the exercise of vested warrants to purchase 1,401,030 shares of common stock outstanding as of September 30, 2014 (including warrants to purchase our redeemable convertible preferred stock that will automatically convert to warrants to purchase common stock upon the completion of this offering) with exercise prices ranging from $0.33 to $14.71 and averaging $1.06 per share; and

 

    no exercise of the underwriters’ option to purchase additional shares.

To the extent that any options and warrants become exercisable, new investors will experience further dilution. In addition, we may grant more options and warrants in the future.

 

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SELECTED CONSOLIDATED FINANCIAL DATA

You should read the following selected consolidated financial data below in conjunction with the section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements, related notes and other financial information included elsewhere in this prospectus.

The consolidated statements of operations data for the years ended December 31, 2012 and 2013 are derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statements of operations data for the nine months ended September 30, 2013 and 2014 and balance sheet data as of September 30, 2014 are derived from our unaudited consolidated interim financial statements included elsewhere in this prospectus. The unaudited consolidated financial data for the nine months ended September 30, 2013 and 2014 and as of September 30, 2014 includes all adjustments, consisting only of normal recurring accruals, that are necessary in the opinion of our management for a fair presentation of our financial position and results of operations for these periods. Our historical results are not necessarily indicative of the results that may be expected in any future period.

 

    Year Ended
December 31,
    Nine Months Ended
September 30,
 
    2012     2013     2013     2014  
    (in thousands, except share and per share data)  

Consolidated Statements of Operations Data:

   

Revenue:

   

Interest income

  $ 25,273      $ 62,941      $ 41,073      $ 99,873   

Gain on sales of loans

           788               4,569   

Other revenue

    370        1,520        1,004        3,131   
 

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

    25,643        65,249        42,077        107,573   
 

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

   

Provision for loan losses

    12,469        26,570        16,300        47,011   

Funding costs

    8,294        13,419        9,400        12,531   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

    20,763        39,989        25,700        59,542   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

    4,880        25,260        16,377        48,031   
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

   

Sales and marketing

    6,633        18,095        13,566        21,799   

Technology and analytics

    5,001        8,760        6,090        11,357   

Processing and servicing

    2,919        5,577        3,746        5,928   

General and administrative

    6,935        12,169        9,158        13,968   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    21,488        44,601        32,560        53,052   
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

    (16,608     (19,341     (16,183     (5,021
 

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

   

Interest expense

    (88     (1,276     (1,070     (274

Warrant liability fair value adjustment

    (148     (3,739     (1,496     (9,122
 

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

    (236     (5,015     (2,566     (9,396
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

    (16,844     (24,356     (18,749     (14,417

Provision for income taxes

                           
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

    (16,844     (24,356     (18,749     (14,417

Series A and Series B redeemable convertible preferred stock redemptions

           (5,254     (5,254       

Accretion of dividends on redeemable convertible preferred stock

    (3,440     (7,470     (5,414     (9,828
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders

  $ (20,284   $ (37,080   $ (29,417   $ (24,245
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share of common stock—basic and diluted

  $ (4.27   $ (8.64   $ (6.87   $ (4.24
 

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma net loss per share of common stock—basic and diluted(1)

    $ (0.60     $ (0.11
   

 

 

     

 

 

 

Weighted average shares of common stock used in computing net loss per share—basic and diluted

    4,750,440        4,292,026        4,285,136        5,715,742   
 

 

 

   

 

 

   

 

 

   

 

 

 

Weighted average shares of common stock used in computing pro forma net loss per share—basic and diluted(1)

      43,088,994          51,167,768   
   

 

 

     

 

 

 

Stock-based compensation expense included above:

       

Sales and marketing

  $ 47      $ 118      $ 71      $ 325   

Technology and analytics

    7        47        20        290   

Processing and servicing

    9        30        15        126   

General and administrative

    166        243        161        706   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total stock-based compensation expense

  $ 229      $ 438      $ 267      $ 1,447   
 

 

 

   

 

 

   

 

 

   

 

 

 

Other financial data:

       

Adjusted EBITDA(2)

  $ (14,834   $ (16,258   $ (14,152   $ (726

Adjusted net loss(3)

  $ (16,467   $ (20,179   $ (16,986   $ (3,848

 

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(1) Pro forma basic and diluted net loss per share of common stock have been calculated assuming (i) the conversion of all outstanding shares of redeemable convertible preferred stock at December 31, 2013 and September 30, 2014 into an aggregate of 41,098,330 and 47,451,644 shares of common stock, respectively, as of the beginning of the applicable period or at the time of issuance, if later, (ii) the redemption of Series A and Series B preferred stock as of the beginning of the applicable period, and (iii) the reclassification of outstanding preferred stock warrants from liabilities to additional paid-in capital as of the beginning of the applicable period.
(2) Adjusted EBITDA is not a financial measure prepared in accordance with GAAP. Adjusted EBITDA represents our net loss, adjusted to exclude interest expense associated with debt used for corporate purposes, income tax expense, depreciation and amortization, stock-based compensation expense and warrant liability fair value adjustment. Adjusted EBITDA does not adjust for funding costs, which represent the interest expense associated with debt used for lending purposes. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for more information and for a reconciliation of Adjusted EBITDA to net loss, the most directly comparable financial measure calculated in accordance with GAAP.
(3) Adjusted net loss is not a financial measure prepared in accordance with GAAP. We define Adjusted net loss as net loss adjusted to exclude stock-based compensation expense and warrant liability fair value adjustment. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for more information and for a reconciliation of Adjusted net loss to net loss, the most directly comparable financial measure calculated in accordance with GAAP.

 

     As of December 31,     As of September 30, 2014  
     2012     2013     Actual     Pro forma(1)      Pro forma as
adjusted(2)
 
                 (in thousands)  

Consolidated Balance Sheet Data:

      

Cash and cash equivalents

   $ 7,386      $ 4,670      $ 22,642      $ 22,642       $ 176,742   

Restricted cash

     9,195        14,842        22,615        22,615         22,615   

Loans, net of allowance for loan losses

     81,687        203,078        393,635        393,635         393,635   

Loans held for sale

            1,423        2,653        2,653         2,653   

Total assets

     106,510        235,450        466,007        466,007         620,107   

Funding debt(3)

     96,297        188,297        347,204        347,204         347,204   

Corporate debt(4)

     8,000        15,000        3,000        3,000         3,000   

Total liabilities

     110,443        216,587        368,077        365,275         365,275   

Total redeemable convertible preferred stock

     53,226        118,343        218,363                  

Total stockholders’ (deficit) equity

     (57,159     (99,480     (120,433     100,732         254,832   

 

(1) The pro forma column reflects the conversion of all outstanding shares of convertible preferred stock at September 30, 2014 into 47,451,644 shares of common stock immediately prior to the closing of this offering. The consideration paid for each share of convertible preferred stock outstanding at September 30, 2014 ranged from $0.37 to $14.71 and averaged $3.84. Each share of preferred stock will convert into one share of common stock without the payment of additional consideration. The conversion of the convertible preferred stock and the warrant liability reduces total redeemable convertible preferred stock and total liabilities by $218.4 million and $2.8 million, respectively.
(2) The pro forma as adjusted column reflects the pro forma adjustments described in footnote (1) above and the sale by us of shares of common stock in this offering at an assumed initial public offering price of $17.00 per share, the midpoint of the price range set forth on the cover page of this prospectus, after deducting the underwriting discount and commissions and estimated offering expenses payable by us. A $1.00 increase (decrease) in the assumed initial public offering price of $17.00 per share would increase (decrease) each of pro forma as adjusted cash and cash equivalents, working capital and total assets and total stockholders’ equity by $9.3 million, assuming the number of shares we are offering, as set forth on the cover page of this prospectus, remains the same, after deducting the underwriting discount and commissions and estimated offering expenses payable by us. The pro forma as adjusted information is illustrative only, and we will adjust this information based on the actual initial public offering price, number of shares offered and other terms of this offering determined at pricing.
(3) Funding debt is used to fund loan originations and is non-recourse to On Deck Capital, Inc.
(4) Corporate debt is used to fund general corporate operations.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and the related notes and other financial information included elsewhere in this prospectus. Some of the information contained in this discussion and analysis, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. You should review the “Risk Factors” section of this prospectus for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Overview

We are a leading online platform for small business lending. We are seeking to transform small business lending by making it efficient and convenient for small businesses to access capital. Enabled by our proprietary technology and analytics, we aggregate and analyze thousands of data points from dynamic, disparate data sources to assess the creditworthiness of small businesses rapidly and accurately. Small businesses can apply for a term loan or line of credit on our website in minutes and, using our proprietary OnDeck Score, we can make a funding decision immediately and transfer funds as fast as the same day. We have originated more than $1.7 billion in loans and collected more than 4.4 million customer payments since we made our first loan in 2007. Our loan originations have increased at a compound annual growth rate of 127% from 2011 to 2013 and had a year-over-year growth rate of 171% for the nine months ended September 30, 2014.

We generate the majority of our revenue through interest income and fees earned on the term loans we retain. Our term loans are obligations of small businesses with fixed dollar repayments, in principal amounts ranging from $5,000 to $250,000 and with maturities of 3 to 24 months. In September 2013, we expanded our product offerings by launching a line of credit product with line sizes currently ranging from $10,000 to $20,000, repayable within six months of the date of the latest funds draw. We earn interest on the balance outstanding and charge a monthly fee as long as the line of credit is available. In October 2013, we also began generating revenue by selling some of our term loans to third-party institutional investors through our OnDeck Marketplace. The balance of our revenue comes from our servicing and other fee income, which primarily consists of fees we receive for servicing loans we have sold to third-party institutional investors and marketing fees from issuing bank partners. For the years ended December 31, 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, loans originated via issuing bank partners constituted 21.1%, 16.1%, 16.2% and 16.7% of our total loan originations, respectively.

We rely on a diversified set of funding sources for the capital we lend to our customers. Our primary source of this capital has historically been debt facilities with various financial institutions. As of September 30, 2014, we had $172.2 million outstanding and $312.6 million total borrowing capacity under such debt facilities. In October 2013, we began selling term loans to third-party institutional investors through our OnDeck Marketplace. We have sold approximately $92.5 million in loans to OnDeck Marketplace investors through September 30, 2014. In addition, we completed our first securitization transaction in May 2014, pursuant to which we issued debt that is secured by a revolving pool of OnDeck small business loans. We raised approximately $175.0 million from this securitization transaction. We have also used proceeds from our preferred stock financings and operating cash flow to fund loans in the past and continue to finance a portion of our outstanding loans with these funds. As of September 30, 2014, 44% of total principal outstanding under our term loan and line of credit products that are subject to external funding or sale to OnDeck Marketplace investors were financed via proceeds raised from our securitization transaction, while 46% were funded via our debt facilities and 10% were funded via OnDeck Marketplace.

We originate loans through direct marketing, including direct mail, social media, and other online marketing channels. We also originate loans through referrals from our strategic partners, including banks, payment processors and small business-focused service providers, and through funding advisors who advise small businesses on available funding options.

 

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The following table summarizes the percentage of loans originated by our three distribution channels for the periods indicated:

 

     Year Ended
December 31,

2012
    Year Ended
December 31,
2013
    9 Months Ended
September 30,
2014
    3 Months Ended
September 30,
2014
 
Percentage of Originations (Number of Loans)         

Direct

     23.4     44.1     54.3     56.2

Strategic Partner

     8.0     10.3     13.4     14.9

Funding Advisor

     68.6     45.6     32.3     28.9

Percentage of Originations (Dollars)

        

Direct

     19.4     34.4     43.0     46.8

Strategic Partner

     5.5     9.2     12.7     13.8

Funding Advisor

     75.1     56.4     44.3     39.4

We have achieved the following significant milestones:

 

    We made our first small business loan in August 2007, which we believe was one of the first commercial loans requiring automatic daily payback from customers’ bank accounts via Automated Clearing House, or ACH.

 

    We have maintained an A+ rating from the Better Business Bureau since May 2008.

 

    We introduced the first generation of the OnDeck Score in February 2009, which analyzed over 200 data attributes relevant to a small business’s creditworthiness.

 

    In September 2009, we began automatic collection of external bank data to accelerate our loan application and underwriting processes.

 

    We introduced the third generation of the OnDeck Score in February 2012, which analyzed over 800 data attributes.

 

    Google Ventures invested in our Series D Preferred Stock financing in April 2013.

 

    We introduced the fourth generation of the OnDeck Score in August 2013, which analyzed over 2,000 data attributes.

 

    In September 2013, we introduced a line of credit product.

 

    In October 2013, we launched the OnDeck Marketplace.

 

    Tiger Global invested in our Series E Preferred Stock financing in February 2014.

 

    We surpassed $1 billion in cumulative loan originations in March 2014.

 

    In May 2014, we completed our first securitization transaction.

 

    We made our first loan in Canada in May 2014.

 

    We introduced the fifth generation of the OnDeck Score in August 2014, which analyzes thousands of data attributes and enables us to score over 99% of applicants successfully.

We generated gross revenue of $25.6 million and $65.2 million during the years ended December 31, 2012 and 2013, respectively, representing an increase of 155%. During the nine months ended September 30, 2013 and 2014, we generated gross revenue of $42.1 million and $107.6 million, respectively, representing an increase of 156%. To date, substantially all of our revenue has been generated in the United States, although we have recently begun offering our products in Canada.

Our Adjusted EBITDA, which is described in further detail in the section below titled “—Key Financial and Operating Metrics,” was $(14.8) million, $(16.3) million, $(14.2) million and $(0.7) million for the years ended December 31, 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, respectively. We incurred net losses of $16.8 million, $24.4 million, $18.7 million and $14.4 million for the years ended

 

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December 31, 2012 and 2013 and for the nine months ended September 30, 2013 and 2014, respectively. In the three months ended September 30, 2014, we generated Adjusted EBITDA of $2.6 million, income from operations of $0.7 million and net income of $0.4 million.

Key Financial and Operating Metrics

We regularly monitor a number of metrics in order to measure our current performance and project our future performance. These metrics aid us in developing and refining our growth strategies and making strategic decisions.

 

     As of or for the Year Ended
December 31,
    As of or for the Nine Months
Ended September 30,
 
             2012                     2013                     2013                     2014          
     (dollars in thousands)  

Originations

   $ 173,246      $ 458,917      $ 290,932      $ 788,306   

Unpaid Principal Balance

   $ 90,276      $ 215,966      $ 173,805      $ 422,050   

Average Loans

   $ 61,352      $ 147,398      $ 128,618      $ 323,539   

Effective Interest Yield

     41.2     42.7     42.6     41.2

Average Funding Debt Outstanding

   $ 62,043      $ 124,238      $ 108,223      $ 252,152   

Cost of Funds Rate

     13.4     10.8     11.6     6.6

Provision Rate

     7.2     6.0     5.6     6.6

Reserve Ratio

     10.3     9.0     8.5     9.4

15+ Day Delinquency Ratio

     8.9     7.6     6.9     5.4

Adjusted EBITDA

   $ (14,834   $ (16,258   $ (14,152   $ (726

Adjusted Net Loss

   $ (16,467   $ (20,179   $ (16,986   $ (3,848

Originations

Originations represent the total principal amount of the term loans we made during the period, plus the total amount drawn on lines of credit during the period. Originations exclude any fees paid to us by the customer in connection with the origination of a term loan or maintenance of a line of credit. Many of our repeat customers renew their loans before their existing loan is fully repaid. For originations, such repeat loans are calculated as the full renewal loan principal, rather than the net funded amount, which is the renewal loan’s principal net of the unpaid principal balance on the existing loan. We treat loans referred to, and funded by, our issuing bank partners and later purchased by us as part of our originations. We have originated approximately 48,000 total loans since inception and for the years ended December 31, 2012 and 2013, and the nine months ended September 30, 2014, we originated 5,444, 13,059 and 18,658 total loans, respectively. For the years ended December 31, 2012 and 2013, and the nine months ended September 30, 2013 and 2014, the rate of originations from repeat customers as a percentage of total originations during the period was 43.8%, 43.5%, 43.6% and 49.2%, respectively. The number of weekends and holidays in a period can impact our business. Many small businesses tend to apply for loans on weekdays, and their businesses may be closed at least part of a weekend and on holidays. In addition, our loan fundings and automated loan paybacks only occur on weekdays (other than bank holidays).

Unpaid Principal Balance

Unpaid Principal Balance represents the total amount of principal outstanding for term loans held for investment and amounts outstanding under lines of credit at the end of the period. It excludes net deferred origination costs, allowance for loan losses and any loans sold or held for sale at the end of the period.

Average Loans

Average Loans for the period is the simple average of Total Loans outstanding as of the beginning of the period and as of the end of each quarter in the period. Total Loans represents the Unpaid Principal Balance, plus net deferred origination costs.

 

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Effective Interest Yield

Effective Interest Yield is the rate of return we achieve on loans outstanding during a period, which is our annualized interest income divided by Average Loans.

Net deferred origination costs in Total Loans consist of deferred origination fees and costs. Deferred origination fees include fees paid up front by customers when loans are funded and decrease the carrying value of loans, thereby increasing the Effective Interest Yield earned. Deferred origination costs are limited to costs directly attributable to originating loans such as commissions, vendor costs and personnel costs directly related to the time spent by the personnel performing activities related to loan origination and increase the carrying value of loans, thereby decreasing the Effective Interest Yield earned.

Average Funding Debt Outstanding

Funding debt outstanding is the debt that we use for our lending activities and does not include our corporate operating debt. Average Funding Debt Outstanding for the period is the simple average of the funding debt outstanding as of the beginning of the period and as of the end of each quarter in the period.

Cost of Funds Rate

Cost of Funds Rate is our funding cost, which is the interest expense, fees, and amortization of deferred issuance costs we incur in connection with our lending activities across all of our debt facilities, divided by the Average Funding Debt Outstanding, then annualized.

Provision Rate

Provision Rate equals the provision for loan losses divided by the new originations volume of loans held for investment in a period. Because we reserve for probable credit losses inherent in the portfolio upon origination, this rate is significantly impacted by the period’s originations volume. This rate may also be impacted by changes in loss expectations for loans originated prior to the commencement of the period.

Reserve Ratio

Reserve Ratio is our allowance for loan losses as of the end of the period divided by the Unpaid Principal Balance as of the end of the period.

15+ Day Delinquency Ratio

15+ Day Delinquency Ratio equals the aggregate Unpaid Principal Balance for our loans that are 15 or more calendar days past due as of the end of the period as a percentage of the Unpaid Principal Balance for such period. The majority of our loans require daily repayments, excluding weekends and holidays, and therefore may be deemed delinquent more quickly than loans from traditional lenders that require only monthly payments.

15+ Day Delinquency Ratio is not annualized, but reflects balances as of the end of the period.

Non-GAAP Financial Measures

We believe that the provision of non-GAAP metrics in this prospectus can provide a useful measure for period-to-period comparisons of our core business and useful information to investors and others in understanding and evaluating our operating results. However, non-GAAP metrics are not a measure calculated in accordance with United States generally accepted accounting principles, or GAAP, and should not be considered an alternative to any measures of financial performance calculated and presented in accordance with GAAP. Other companies may calculate these non-GAAP metrics differently than we do.

 

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Adjusted EBITDA

Adjusted EBITDA represents our net (loss) income, adjusted to exclude interest expense associated with debt used for corporate purposes (rather than funding costs associated with lending activities), income tax expense, depreciation and amortization, stock-based compensation expense and warrant liability fair value adjustment.

EBITDA is impacted by changes from period to period in the fair value of the liability related to preferred stock warrants. Management believes that adjusting EBITDA to eliminate the impact of the changes in fair value of these warrants is useful to analyze the operating performance of the business, unaffected by changes in the fair value of preferred stock warrants which are not relevant to the ongoing operations of the business. All such preferred stock warrants will convert to common stock warrants upon our public offering.

Our use of Adjusted EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are:

 

    although depreciation and amortization are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future, and Adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditure requirements;

 

    Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;

 

    Adjusted EBITDA does not reflect the potentially dilutive impact of equity-based compensation;

 

    Adjusted EBITDA does not reflect interest associated with debt used for corporate purposes or tax payments that may represent a reduction in cash available to us;

 

    Adjusted EBITDA does not reflect the potential costs we would incur if certain of our warrants were settled in cash.

The following table presents a reconciliation of net (loss) income to Adjusted EBITDA for each of the periods indicated:

 

     Year Ended
December 31,
    Nine Months Ended
September 30,
    Three Months
Ended
September 30,
 
     2012     2013     2013     2014     2014  
     (in thousands)  

Adjusted EBITDA

          

Net (loss) income

   $ (16,844   $ (24,356   $ (18,749   $ (14,417   $ 354   

Adjustments:

          

Corporate interest expense

     88        1,276        1,070        274        55   

Income tax expense

                                   

Depreciation and amortization

     1,545        2,645        1,764        2,848        1,093   

Stock-based compensation expense

     229        438        267        1,447        809   

Warrant liability fair value adjustment

     148        3,739        1,496        9,122        300   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

   $ (14,834   $ (16,258   $ (14,152   $ (726   $ 2,611   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted Net (Loss) Income

Adjusted net (loss) income represents our net loss adjusted to exclude stock-based compensation expense and warrant liability fair value adjustment, each on the same basis and with the same limitations as described above for Adjusted EBITDA.

 

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The following table presents a reconciliation of net (loss) income to Adjusted Net (Loss) Income for each of the periods indicated:

 

     Year Ended
December 31,
    Nine Months Ended
September 30,
    Three Months
Ended
September 30,
 
           2012                 2013                 2013                 2014           2014  
     (in thousands)        

Adjusted Net (Loss) Income:

          

Net (loss) income

   $ (16,844   $ (24,356   $ (18,749   $ (14,417   $ 354   

Adjustments:

          

Stock-based compensation expense

     229        438        267        1,447        809   

Warrant liability fair value adjustment

     148        3,739        1,496        9,122        300   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted net (loss) income

   $ (16,467   $ (20,179   $ (16,986   $ (3,848   $ 1,463   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Understanding an OnDeck Term Loan and Line of Credit

The following examples illustrate the key terms of our term loans and lines of credit, including how interest rates are calculated, and how we believe our customers evaluate the costs of our loans.

We constructed the following term loan example based on a hypothetical term loan with principal amount of $50,000, term of nine months, loan origination fees assessed by us of $1,250 and direct costs for us to originate of $1,750.

 

Term Loan Example:       

Loan Principal

   $ 50,000   

Origination Fee (2.5% of principal)

   $ 1,250   

“Cents on Dollar” Payback Rate

   $ 1.17   

Total Payback

   $ 58,500   

Term (months)

     9   

# of Daily Payments (based on 252 payments in a calendar year)

     189   

Daily Payment

   $ 309.52   

OnDeck Costs:

  

Direct Origination Costs

   $ 1,750   

Interest Rate Metrics:

  

Effective Interest Yield

     40.0%   

Annualized Percentage Rate (APR)

     50.0%   

From our perspective, the amount of this loan is reflected as an asset on our balance sheet of $50,500. This reflects the $50,000 principal amount of the loan, plus the $1,750 direct origination costs we incurred on the loan, less the $1,250 origination fees paid to us by the customer in connection with the loan. Direct origination costs are costs directly attributable to originating loans such as commissions paid to our internal salesforce, strategic partners and funding advisors, as well as vendor costs and personnel costs directly related to the time spent by the personnel performing activities related to loan origination. Based on our internal data, the 3.5% of direct origination costs shown above reflects an approximation of the direct origination costs across all three of our channels. The direct origination costs of loans originated via funding advisors, strategic partners and our direct channel average approximately 7.5%, 2.5% and 1.0% of loan principal, respectively. Our effective interest yield, which takes into account the $50,500 asset on our books and the loan’s total payback of $58,500 over 9 months, equals 40.0%. The annual percentage rate, or APR, on the loan is calculated in a similar manner but does not take into account the impact of the direct origination costs. As such, the APR on the example loan equals 50.0%. The actual weighted

 

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average APR of our term loans for the third quarter of 2014 was 53.2%. Small business customers are permitted to repay their term loan at any time; however, they are responsible for the full payback amount on the term loan regardless of when it is repaid. To the extent that a customer prepays a term loan in connection with taking out a new term loan from us, we generally do not collect the remaining outstanding interest on the original term loan.

In this example, APR information is included to provide supplemental information to investors for illustrative purposes only. Because many of our loans are short term in nature and APR is calculated on an annualized basis, we do not believe that APR as applied to our loans is meaningful for measuring the expected returns to us or costs to our customer. We do not use APR as an internal metric to evaluate the performance of our business or as a basis to compensate our employees or to measure their performance.

We believe that a customer would likely evaluate this term loan primarily on a “Cents on Dollar” Payback Rate basis, meaning that the customer would view the loan as an obligation to repay $1.17 for every $1.00 it receives from us (or, in aggregate, a repayment of $58,500 for the $50,000 loaned to the customer, before the origination fee). The customer would analyze this cost against the potential return on investment from the loan or other benefits of the loan to its business.

The interest on commercial business loans is also tax deductible as permitted by law, as compared to typical personal loans which do not provide a tax deduction. APR does not give effect to the small business customer’s possible tax deductions and cash savings associated with business related interest expenses.

APR and, for purposes of this example, Effective Interest Yield, are annualized based on 252 periods per year, which reflects the typical number of payment days for our loans over a calendar year.

We constructed the following line of credit example based on a hypothetical credit limit of $15,000 of which the customer drew $8,000 and then repaid the principal and interest over a six-month period, with no additional draws, assuming a 36% annual interest rate, $20 per month in monthly fees and $150 of direct costs for us to originate this line of credit.

 

Line of Credit Example:       

Credit Limit

   $ 15,000   

Balance Drawn

   $ 8,000   

Annual Interest Rate

     36%   

Monthly Fee

   $ 20   

Total Interest + Principal

   $ 8,769   

Total Monthly Fees

   $ 120   

Total Payback

   $ 8,889   

Repayment Period (months)

     6   

# of Weekly Payments

     26   

Weekly Payment

   $ 337.28   

OnDeck Costs:

  

Direct Origination Costs

   $ 150   

Interest Rate Metrics:

  

Effective Interest Yield

     28.6%   

Annualized Percentage Rate (APR)

     36.0%   

From our perspective, the amount of this line of credit is reflected as an asset on our balance sheet of $8,150. This reflects the $8,000 drawn from the line of credit, plus the $150 of direct origination costs we incurred on the line of credit. Direct origination costs are costs directly attributable to originating lines of credit such as commissions paid to our internal salesforce and strategic partners, as well as vendor costs and personnel

 

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costs directly related to the time spent by the personnel performing activities related to line of credit origination. The $150 of direct origination costs shown above reflects our typical flat rate commission paid on lines of credit, plus other costs, for both our strategic partner and our direct channels. We do not currently originate lines of credit via funding advisors. Our effective interest yield, which takes into account the $8,150 asset on our books and the line of credit’s total interest and principal payback of $8,769 repaid in 26 weekly payments, equals 28.6%. The APR on the line of credit is calculated in a similar manner except it does not take into account the impact of the direct origination costs. APR does not include the $20 monthly fee. As such, the APR on the example line of credit is 36.0%. Customers are able to repay and draw from their lines of credit as required by their business needs, and as such may pay a lower payback than illustrated in this example.

As with term loans, the interest on the line of credit is tax deductible, as permitted by law, as compared to typical personal loans which do not provide a tax deduction. APR does not give effect to the small business customer’s possible tax deductions and cash savings associated with business related interest expenses.

Key Factors Affecting Our Performance

Investment in Long-Term Growth

The core elements of our growth strategy include acquiring new customers, broadening our distribution capabilities through strategic partners, enhancing our data and analytics capabilities, expanding our product offerings, extending customer lifetime value and expanding internationally. We plan to continue to invest significant resources to accomplish these goals, and we anticipate that our operating expenses will continue to increase for the foreseeable future, particularly our sales and marketing and technology and analytics expenses. These investments are intended to contribute to our long-term growth, but they may affect our near term profitability.

Originations

Our revenues have grown since 2012 primarily as a result of growth in originations. Growth in originations has been driven by the addition of new customers, increasing business from existing and previous customers, and increasing average loan size, as other factors such as effective interest yields and annual loan loss rates have remained relatively constant over this time.

We anticipate that our future growth will continue to depend in part on attracting new customers. We plan to increase our sales and marketing spending to attract these customers as well as continuing to increase our analytics spending to better identify potential customers. We have historically relied on all three of our channels for customer acquisition but have become increasingly focused on growing our direct and strategic partner channels. Originations through our direct and strategic partner channels increased as a percentage of total originations from 24.9% in 2012 to 43.6% in 2013 and from 43.2% during the nine months ended September 30, 2013 to 55.7% during the nine months ended September 30, 2014.

We believe the behavior of our repeat customers will be important to our future growth. For the year ended December 31, 2013 and the nine months ended September 30, 2014, total originations from our repeat customers was 43.5% and 49.2%. We believe our significant number of repeat customers is primarily due to our high levels of customer service and continued improvement in products and services. The extent to which we generate repeat business from our customers will be an important factor in our continued revenue growth and our visibility into future revenue. In conjunction with repeat borrowing activity, our customers also tend to increase their subsequent loan size compared to their initial loan size. Customers who took out an initial loan between 2011 and 2013, on average increased their second loan size by 24.5% and increased their third loan size by 48.8% when compared to their initial loan size.

Customer Acquisition Costs

Our customer acquisition costs, or CACs, differ depending upon the acquisition channel. CACs in our direct channel include the commissions paid to our internal salesforce and expenses associated with items such as direct

 

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mail, social media, and other online marketing activities. CACs in our strategic partner channel include commissions paid to our internal salesforce and strategic partners. CACs in our funding advisor channel include commissions paid to our internal salesforce and funding advisors. Since 2012, our CACs in the strategic partner channel have declined slightly as a percentage of originations from that channel, while our CACs in our funding advisor channel have remained stable as a percentage of originations from that channel. Our direct channel CACs have declined as a percentage of originations as a result of the increasing scale of our operations, improvements in customer targeting, our introduction of our line of credit product and the addition of pre-approvals to our marketing outreach and underwriting process, which has increased our conversion rate. During the nine months ended September 30, 2013 and nine months ended September 30, 2014, the average customer acquisition cost as a percentage of principal from all initial and repeat loan originations in each respective channel was 8.3% and 3.9% in our direct marketing channel, 4.4% and 3.4% in our strategic partner channel and 8.6% and 8.2% in our funding advisor channel.

Customer Lifetime Value

The ongoing lifetime value of our customers will be an important component of our future performance. We analyze customer lifetime value not only by tracking the “contribution” (as defined following the table below) of customers over their lifetime with us, but also by comparing this contribution to the acquisition costs incurred in connection with originating such customers’ initial loans.

For illustration, we consider customers that took their first ever loan from us during the first quarter of 2013, which we refer to as our Q1 2013 cohort, and look at all of their borrowing and transaction history from that date through September 30, 2014. We selected this cohort because it contains sufficient periods to demonstrate contribution after initial acquisition, and we believe that the trends reflected by this cohort are representative of the value of our other customers proximate in time. The borrowing characteristics of the Q1 2013 cohort through September 30, 2014 include:

 

    Average number of loans per customer during the measurement period: 2.2

 

    Average initial loan size: $30,818

 

    Average repeat loan size: $45,390

 

    Total borrowings: $116.5 million

 

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Below, for customers in the Q1 2013 cohort, we compare the contribution generated through September 30, 2014 with their initial customer acquisition costs.

Q1 2013 Cohort Acquisition Cost and Customer Lifetime Value

 

LOGO

For the Q1 2013 cohort, we estimate the initial customer acquisition cost was $5.0 million.

We define the contribution to include the interest income and fees collected on a cohort of customers’ initial and repeat loans less acquisition costs for their repeat loans, estimated third party processing and servicing expenses for their initial and repeat loans, estimated funding costs (excluding any cost of equity capital) for their initial and repeat loans, and charge-offs of their initial and repeat loans. For the Q1 2013 cohort, the contribution was $2.8 million during the quarter of acquisition and an aggregate of $13.9 million through September 30, 2014. This $13.9 million aggregate contribution represents a return of approximately 2.8 times on the initial $5.0 million acquisition investment.

We expect the customer value of our Q1 2013 cohort and the return on our initial acquisition cost for this cohort to continue to increase as $4.1 million of interest payments remain due in future months, primarily on loans made to repeat customers who are in this cohort, and we believe customers from this cohort will continue to take additional repeat loans from us in the future.

In the future, we may incur greater marketing expenses to acquire new customers, we may decide to offer term loans with lower interest rates, our charge-offs may increase and our customers’ repeat purchase behavior may change, any of which could adversely impact our customers’ lifetime values to us and our operating results.

Economic Conditions

Changes in the overall economy may impact our business in several ways, including demand for our products, credit performance, and funding costs.

 

   

Demand for Our Products. In a strong economic climate, demand for our products may increase as consumer spending increases and small businesses seek to expand. In addition, more potential customers may meet our underwriting requirements to qualify for a loan. At the same time, small businesses may experience improved cash flow and liquidity resulting in fewer customers requiring

 

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loans to manage their cash flows. Traditional lenders may also approve loans for a higher percentage of our potential customers. In a weakening economic climate or recession, the opposite may occur.

 

    Credit Performance. In a strong economic climate, our customers may experience improved cash flow and liquidity, which may result in lower loan losses. In a weakening economic climate or recession, the opposite may occur. We factor economic conditions into our loan underwriting analysis and reserves for loan losses, but changes in economic conditions, particularly sudden changes, may affect our actual loan losses. These effects may be partly mitigated by the short-term nature of our loans, which should allow us to react more quickly than if the terms of our loans were longer.

 

    Loan Losses. Our underwriting process is designed to limit our loan losses to levels compatible with our business strategy and financial model. Our aggregate loan loss rates since 2012 have been consistent with our financial targets. Our overall loan losses are affected by a variety of factors, including external factors such as prevailing economic conditions, general small business sentiment and unusual events such as natural disasters, as well as internal factors such as the accuracy of the OnDeck Score, the effectiveness of our underwriting process and the introduction of new products, such as our line of credit, with which we have less experience to draw upon when forecasting their loss rates. Our loan loss rates may vary in the future.

Historical Charge-Offs

We illustrate below our historical loan losses by providing information regarding our net lifetime charge-off ratios by cohort. Net lifetime charge-offs are gross loans charged off less recoveries of loans previously charged off, and a given cohort’s net lifetime charge-off ratio equals the cohort’s net lifetime charge-offs through September 30, 2014 divided by the cohort’s total original loan volume. Loans are typically charged off after 90 days of nonpayment. Loans originated and charged off between January 1, 2012 and September 30, 2014 were on average charged off near the end of their loan term. The chart immediately below includes all term loan originations, regardless of funding source, including loans sold through our OnDeck Marketplace or held for sale on our balance sheet.

Net Charge-off Ratios by Cohort Through September 30, 2014

 

LOGO

The following charts display the historical lifetime cumulative net charge-off ratios, by origination year. The charts reflect all term loan originations, regardless of funding source, including loans sold through our OnDeck Marketplace or held for sale on our balance sheet. The data is shown as a static pool for annual cohorts, illustrating how the cohort has performed given equivalent months of seasoning.

 

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The 2014 cohort reflects originations for the nine months ended September 30, 2014. Given the most recent originations in this cohort were not yet one month seasoned as of September 30, 2014, the 2014 cohort reflects a lifetime charge-off ratio of approximately 0% in each of the new customer, repeat customer and total loans charts below. This differs from the net charge-off ratios by cohort chart above, which reflects aggregate charge-offs as of September 30, 2014 regardless of how many months have elapsed since each loan was originated. Further, given our loans are typically charged off after 90 days of nonpayment, all cohorts reflect approximately 0% for the first four months in the below charts.

Net Cumulative Lifetime Charge-off Ratios

New Loans

LOGO

 

Originations (in thousands)

     2012        2013        2014  

New term loans

     $ 97,367         $ 256,343         $ 367,807   

Net Cumulative Lifetime Charge-off Ratios

Repeat Loans

 

LOGO

 

Originations (in thousands)

     2012        2013        2014  

Repeat term loans

     $ 75,880         $ 199,587         $ 388,147   

 

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Net Cumulative Lifetime Charge-off Ratios

All Loans

LOGO

 

Originations (in thousands)

     2012        2013        2014  

All term loans

     $ 173,246         $ 455,931         $ 755,953   

 

    Funding Costs. Changes in macroeconomic conditions may affect generally prevailing interest rates, and such effects may be amplified or reduced by other factors such as fiscal and monetary policies, economic conditions in other markets and other factors. Interest rates may also change for reasons unrelated to economic conditions. To the extent that interest rates rise, our funding costs will increase and the spread between our effective interest yield and our funding costs may narrow to the extent we cannot correspondingly increase the payback rates we charge our customers. As we have grown, we have been able to lower our funding costs by negotiating more favorable interest rates on our debt and accessing new sources of funding, such as the OnDeck Marketplace and the securitization markets. While we will continue to seek to lower our funding costs, we do not expect that our funding costs will decline meaningfully in the foreseeable future.

Components of Our Results of Operations

Revenue

Interest Income. We generate revenue primarily through interest and origination fees earned on the term loans we originate and hold to maturity, and to a lesser extent, interest earned on lines of credit. Our interest and origination fee revenue is amortized over the term of the loan using the effective interest method. Origination fees collected but not yet recognized as revenue are netted with direct origination costs and recorded as a component of loans on our consolidated balance sheet and recognized over the term of the loan. Direct origination costs include costs directly attributable to originating a loan, including commissions, vendor costs and personnel costs directly related to the time spent by those individuals performing activities related to loan origination.

Gain on Sales of Loans. In October 2013, we began selling term loans to third-party institutional investors through our OnDeck Marketplace. We recognize a gain or loss on the sale of such loans as the difference between the proceeds received from the purchaser and the carrying value of the loan on our books.

Other Revenue. Our other revenue consists of servicing income from loans sold to third-party institutional investors, the monthly fees we charge for our line of credit product, and marketing fees earned from our issuing bank partners. We treat loans referred to, and funded by, our issuing bank partners and later purchased by us as part of our originations.

 

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Cost of Revenue

Provision for Loan Losses. Provision for loan losses consists of amounts charged to income during the period to maintain an allowance for loan losses, or ALLL, estimated to be adequate to provide for probable credit losses inherent in our existing loan portfolio. Our ALLL represents our estimate of the expected credit losses inherent in our portfolio of term loans and lines of credit and is based on a variety of factors, including the composition and quality of the portfolio, loan specific information gathered through our collection efforts, delinquency levels, our historical charge-off and loss experience, and general economic conditions. We expect our aggregate provision for loan losses to increase in absolute dollars as the amount of term loans and lines of credit we originate increases. The reserve ratio at September 30, 2014 was 9.4%. We define reserve ratio as our ALLL as of the end of the period divided by the Unpaid Principal Balance as of the end of the period.

Funding Costs. Funding costs consist of the interest expense we pay on the debt we incur to fund our lending activities, certain fees and the amortization of deferred debt issuance costs incurred in connection with obtaining this debt, such as banker fees, origination fees and legal fees. Such costs are expensed immediately upon early extinguishment of the related debt. We expect funding costs to continue to increase in absolute dollars in the near future as we incur additional debt to support future term loan and line of credit originations. In addition, funding costs as a percentage of gross revenue will fluctuate based on the applicable interest rates payable on the debt we incur to fund our lending activities, our effective interest yield and our OnDeck Marketplace revenue mix. We do not expect that the interest rates at which we borrow will decline meaningfully in the foreseeable future.

Operating Expenses

Operating expenses consist of sales and marketing, technology, processing and servicing, and general and administrative expenses. Salaries and personnel-related costs, including benefits, bonuses and stock-based compensation expense, comprise a significant component of each of these expense categories. We expect our stock-based compensation expense to increase in the future to the extent the fair market value of our common stock increases relative to prior periods. The number of employees related to these operating expense categories grew from 155 at December 31, 2012 to 251 at December 31, 2013, and from 220 at September 30, 2013 to 369 at September 30, 2014. We expect to continue to hire new employees in order to support our growth strategy. All operating expense categories also include an allocation of overhead, such as rent and other overhead, which is based on employee headcount.

Sales and Marketing. Sales and marketing expense consists of salaries and personnel-related costs of our sales and marketing and business development employees, as well as direct marketing and advertising costs, online and offline customer acquisition costs (such as direct mail, paid search and search engine optimization costs), public relations, radio and television advertising, promotional event programs, corporate communications and allocated overhead. The number of employees in our sales and marketing functions grew from 68 at December 31, 2012 to 160 at September 30, 2014, and we expect our sales and marketing expense to increase in absolute dollars and as a percentage of gross revenue in the foreseeable future as we further increase the number of sales and marketing professionals and increase our marketing activities in order to continue to expand our direct customer acquisition efforts and build our brand. Future sales and marketing expense may include the expense associated with warrants issued to a strategic partner if performance conditions are met as described in Note 6 of Notes to Unaudited Consolidated Financial Statements elsewhere in this prospectus.

Technology and Analytics. Technology and analytics expense consists primarily of the salaries and personnel-related costs of our engineering and product employees as well as our credit and analytics employees who develop our proprietary credit-scoring models. Additional expenses include third-party data acquisition expenses, professional services, consulting costs, expenses related to the development of new products and technologies and maintenance of existing technology assets, amortization of capitalized internal-use software costs related to our technology platform, and allocated overhead. The number of employees in technology and analytics functions increased from 35 at December 31, 2012 to 94 at September 30, 2014. We believe continuing to invest in technology is essential to maintaining our competitive position, and we expect these costs to rise in the near term on an absolute basis and as a percentage of gross revenue.

 

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Processing and Servicing. Processing and servicing expense consists primarily of salaries and personnel-related costs of our credit analysis, underwriting, funding, fraud detection, customer service and collections employees. Additional expenses include vendor costs associated with third-party credit checks, lien filing fees and other costs to evaluate, close, and fund loans and overhead costs. The number of employees in processing and servicing functions increased from 36 at December 31, 2012 to 74 at September 30, 2014. We anticipate that our processing and servicing expense will rise in absolute dollars as we grow originations.

General and Administrative. General and administrative expense consists primarily of salary and personnel-related costs for our executive, finance and accounting, legal and people operations employees. Additional expenses include consulting and professional fees, insurance, legal, occupancy, other corporate expenses and travel. The number of employees in general and administrative functions increased from 16 at December 31, 2012 to 41 at September 30, 2014, and we expect our general and administrative expenses to increase in absolute dollars as a result of our preparation to become and operate as a public company. After the completion of this offering, these expenses will also include costs associated with compliance with the Sarbanes-Oxley Act and other regulations governing public companies, increased directors’ and officers’ liability insurance, increased accounting, legal and other professional services fees and an enhanced investor relations function.

Other (Expense) Income

Interest Expense. Interest expense consists of interest expense and amortization of deferred debt issuance costs incurred on debt associated with our corporate activities. It does not include interest expense incurred on debt associated with our lending activities. Interest expense decreased by $0.8 million, from $1.1 million for the nine months ended September 30, 2013 to $0.3 million for the nine months ended September 30, 2014. Interest expense increased by $1.2 million, from $0.1 million for the year ended December 31, 2012 to $1.3 million for the year ended December 31, 2013. In February 2013, we recognized $1.0 million of non-cash interest expense related to a beneficial conversion feature associated with the conversion of an outstanding convertible note into preferred stock.

Warrant Liability Fair Value Adjustment. We issued warrants to purchase shares of our Series B and C-1 redeemable convertible preferred stock in connection with the Loan and Security Agreements entered into with Lighthouse Capital and SF Capital in 2010 and 2012, respectively. Additionally, we issued warrants to purchase shares of our Series E redeemable convertible preferred stock in connection with certain consulting and commercial agreements in 2014. As the warrant holders have the right to demand that their redeemable convertible preferred stock be settled in cash after the passage of time, we recorded the warrants as liabilities on our consolidated balance sheet. The fair values of our redeemable convertible preferred stock warrant liabilities are re-measured at the end of each reporting period and any changes in fair values are recognized in other (expense) income. During July, August, and September 2014, a majority of these warrants were exercised, eliminating the associated warrant liabilities. Upon completion of this offering, the remaining outstanding warrants will automatically, in accordance with their terms, become warrants to purchase common stock, which will result in the reclassification of the warrant liability to additional paid-in-capital, and no further changes in fair value will be recognized in other (expense) income. Future warrant liability fair value adjustment may include adjustments associated with warrants issued to a strategic partner as described in Note 6 of Notes to Unaudited Consolidated Financial Statements elsewhere in this prospectus.

Provision for Income Taxes

Provision for income taxes consists of U.S. federal, state and foreign income taxes, if any. To date, we have not been required to pay U.S. federal or state income taxes because of our current and accumulated net operating losses. As of December 31, 2013, we had $47.5 million of federal net operating loss carryforwards and $47.2 million of state net operating loss carryforwards available to reduce future taxable income, unless limited due to historical or future ownership changes. The federal net operating loss carryforwards will begin to expire at various dates beginning in 2027.

 

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The Internal Revenue Code of 1986, as amended, or the Code, imposes substantial restrictions on the utilization of net operating losses and other tax attributes in the event of an “ownership change” of a corporation. Events which may cause limitation in the amount of the net operating losses and other tax attributes that are able to be utilized in any one year include, but are not limited to, a cumulative ownership change of more than 50% over a three-year period, which has occurred as a result of historical ownership changes. Accordingly, our ability to use pre-change net operating loss and certain other attributes are limited as prescribed under Sections 382 and 383 of the Code. Therefore, if we earn net taxable income in the future, our ability to reduce our federal income tax liability with our existing net operating losses is subject to limitation. Although we believe that this offering may result in another cumulative ownership change under Sections 382 and 383 of the Code, we do not believe that any resulting limitation will further limit our ability to ultimately utilize our net operating loss carryforwards and other tax attributes in a material way. Future offerings, as well as other future ownership changes that may be outside our control could potentially result in further limitations on our ability to utilize our net operating loss and tax attributes. Accordingly, achieving profitability may not result in a full release of the valuation allowance.

As of December 31, 2013, a full valuation allowance of $26.2 million was recorded against our net deferred tax assets.

Results of Operations

The following table sets forth our consolidated statements of operations data for each of the periods indicated.

 

     Year Ended
December 31,
    Nine Months Ended
September 30,
 
     2012     2013     2013     2014  
     (in thousands)  

Revenue:

        

Interest income

   $ 25,273      $ 62,941      $ 41,073      $ 99,873   

Gain on sales of loans

            788               4,569   

Other revenue

     370        1,520        1,004        3,131   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

     25,643        65,249        42,077        107,573   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

        

Provision for loan losses

     12,469        26,570        16,300        47,011   

Funding costs

     8,294        13,419        9,400        12,531   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

     20,763        39,989        25,700        59,542   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     4,880        25,260        16,377        48,031   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

        

Sales and marketing

     6,633        18,095        13,566        21,799   

Technology and analytics

     5,001        8,760        6,090        11,357   

Processing and servicing

     2,919        5,577        3,746        5,928   

General and administrative

     6,935        12,169        9,158        13,968   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     21,488        44,601        32,560        53,052   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (16,608     (19,341     (16,183     (5,021
  

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

        

Interest expense

     (88     (1,276     (1,070     (274

Warrant liability fair value adjustment

     (148     (3,739     (1,496     (9,122
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

     (236     (5,015     (2,566     (9,396
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (16,844     (24,356     (18,749     (14,417

Provision for income taxes

                            
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

   $ (16,844   $ (24,356   $ (18,749   $ (14,417
  

 

 

   

 

 

   

 

 

   

 

 

 

 

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The following table sets forth our consolidated statements of operations data as a percentage of gross revenue for each of the periods indicated.

 

     Year ended
December 31,
    Nine Months Ended
September 30,
 
       2012         2013         2013         2014    
     (as a percentage of gross revenue)  

Revenue:

        

Interest income

     98.6     96.5     97.6     92.9

Gain on sales of loans

            1.2               4.2   

Other revenue

     1.4        2.3        2.4        2.9   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

     100.0        100.0        100.0        100.0   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

        

Provision for loan losses

     48.6        40.7        38.7        43.7   

Funding costs

     32.3        20.6        22.3        11.6   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

     81.0        61.3        61.1        55.4   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     19.0        38.7        38.9        44.6   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

        

Sales and marketing

     25.9        27.7        32.2        20.3   

Technology and analytics

     19.5        13.4        14.5        10.6   

Processing and servicing

     11.4        8.5        8.9        5.5   

General and administrative

     27.0        18.7        21.8        13.0   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     83.8        68.4        77.4        49.3   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (64.8     (29.6     (38.5     (4.7
  

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

        

Interest expense

     (0.3     (2.0     (2.5     (0.3

Warrant liability fair value adjustment

     (0.6     (5.7     (3.6     (8.5
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

     (0.9     (7.7     (6.1     (8.7
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (65.7     (37.3     (44.6     (13.4

Provision for income taxes

                            
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (65.7 )%      (37.3 )%      (44.6 )%      (13.4 )% 
  

 

 

   

 

 

   

 

 

   

 

 

 

 

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Comparison of Nine Months Ended September 30, 2013 and 2014

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount     Percentage of
Revenue
    Amount     Percentage of
Revenue
    Amount     Percentage  
     (dollars in thousands)  

Revenue:

            

Interest income

   $ 41,073        97.6   $ 99,873        92.9   $ 58,800        143.2

Gain on sales of loans

                   4,569        4.2        4,569        *   

Other revenue

     1,004        2.4        3,131        2.9        2,127        211.9   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

     42,077        100.0        107,573        100.0        65,496        155.7   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

            

Provision for loan losses

     16,300        38.7        47,011        43.7        30,711        188.4   

Funding costs

     9,400        22.3        12,531        11.6        3,131        33.3   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

     25,700        61.1        59,542        55.4        33,842        131.7   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     16,377        38.9        48,031        44.6        31,654        193.3   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

            

Sales and marketing

     13,566        32.2        21,799        20.3        8,233        60.7   

Technology and analytics

     6,090        14.5        11,357        10.6        5,267        86.5   

Processing and servicing

     3,746        8.9        5,928        5.5        2,182        58.2   

General and administrative

     9,158        21.8        13,968        13.0        4,810        52.5   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     32,560        77.4        53,052        49.3        20,492        62.9   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (16,183     (38.5     (5,021     (4.7     11,162        (69.0
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

            

Interest expense

     (1,070     (2.5     (274     (0.3     796        (74.4

Warrant liability fair value adjustment

     (1,496     (3.6     (9,122     (8.5     (7,626     *   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

     (2,566     (6.1     (9,396     (8.7     (6,830     *   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (18,749     (44.6     (14,417     (13.4     4,332        (23.1

Provision for income taxes

                                          
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

   $ (18,749     (44.6 )%    $ (14,417     (13.4 )%    $ 4,332        (23.1 )% 
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

* not meaningful

Revenue

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Revenue:

               

Interest income

   $ 41,073         97.6   $ 99,873         92.9   $ 58,800         143.2

Gain on sales of loans

                    4,569         4.2        4,569         *   

Other revenue

     1,004         2.4        3,131         2.9        2,127         211.9   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Gross revenue

   $ 42,077         100.0   $ 107,573         100.0   $ 65,496         155.7
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

* not meaningful

 

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Gross revenue increased by $65.5 million, or 156%, from $42.1 million for the nine months ended September 30, 2013 to $107.6 million for the nine months ended September 30, 2014. This growth in gross revenue was primarily attributable to a $58.8 million, or 143%, increase in interest income, which was primarily driven by increases in the average total loans outstanding in the later period and the addition of line of credit originations in the nine months ended September 30, 2014. During the nine months ended September 30, 2014, our average total loans outstanding increased 152% to $323.5 million from $128.6 million during the nine months ended September 30, 2013. We began offering lines of credit in September 2013, and $32.4 million was drawn thereunder for the nine months ended September 30, 2014. The increase in originations was partially offset by a decline in our effective interest yield on loans outstanding from 42.6% to 41.2% in the later period.

In addition, during the nine months ended September 30, 2014, we realized gains of $4.6 million through the sale of $75.0 million of term loans through our OnDeck Marketplace. We launched OnDeck Marketplace in October 2013.

Cost of Revenue

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Cost of revenue:

               

Provision for loan losses

   $ 16,300         38.7   $ 47,011         43.7   $ 30,711         188.4

Funding costs

     9,400         22.3        12,531         11.6        3,131         33.3   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total cost of revenue

   $ 25,700         61.1   $ 59,542         55.4   $ 33,842         131.7
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Provision for Loan Losses. Provision for loan losses increased by $30.7 million, or 188%, from $16.3 million for the nine months ended September 30, 2013 to $47.0 million for the nine months ended September 30, 2014. The increase in provision for loan losses was primarily attributable to the increase in originations of term loans and lines of credit. Under GAAP, we recognize revenue on loans over their term, but provide for probable credit losses on the loans at the time they are originated and then adjust periodically based on actual performance and changes in loss expectations. As a result, we believe that analyzing provision for loan losses as a percentage of originations, rather than as a percentage of gross revenue, provides more useful insight into our operating performance. The Provision Rate increased from 5.6% for the nine months ended September 30, 2013 to 7.0% for the nine months ended September 30, 2014. The increase was primarily due to the longer average term of loan originations and the increase of originations of our line of credit product.

Funding Costs. Funding costs increased by $3.1 million, or 33.3%, from $9.4 million for the nine months ended September 30, 2013 to $12.5 million for the nine months ended September 30, 2014. The increase in funding costs was primarily attributable to the increases in our aggregate outstanding borrowings. The average balance of our funding debt facilities during the nine months ended September 30, 2014 was $252.2 million as compared to the average balance of $108.2 million during the nine months ended September 30, 2013, an increase of 133%. In addition, we experienced a $0.5 million increase in amortization of debt issuance costs during the nine months ended September 30, 2014 as compared to the nine months ended September 30, 2013, primarily related to our securitization transaction in May 2014. As a percentage of gross revenue, funding costs decreased from 22.3% for the nine months ended September 30, 2013 to 11.6% for the nine months ended September 30, 2014. The decrease in funding costs as a percentage of gross revenue was primarily the result of more favorable interest rates on our debt facilities associated with our lending activities and the creation of the OnDeck Marketplace, as loans sold to the OnDeck Marketplace do not incur funding costs from our debt facilities used to fund our loans.

 

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Operating Expenses

Sales and Marketing

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
    

(dollars in thousands)

 

Sales and Marketing

   $ 13,566         32.2   $ 21,799         20.3   $ 8,233         60.7

Sales and marketing expense increased by $8.2 million, or 60.7%, from $13.6 million for the nine months ended September 30, 2013 to $21.8 million for the nine months ended September 30, 2014. The increase in sales and marketing expense was in part attributable to a $3.8 million increase in salaries and personnel-related costs and consultant expenses. The number of sales and marketing employees increased from 96 at September 30, 2013 to 160 at September 30, 2014 to support our business growth. In addition, we experienced a $4.3 million increase in direct marketing, general marketing and advertising costs as we expanded our marketing programs to drive increased customer acquisition and brand awareness. As a percentage of gross revenue, sales and marketing expense decreased from 32.2% for the nine months ended September 30, 2013 to 20.3% for the nine months ended September 30, 2014.

Technology and Analytics

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
    

(dollars in thousands)

 

Technology and analytics

   $ 6,090         14.5   $ 11,357         10.6   $ 5,267         86.5

Technology and analytics expense increased by $5.3 million, or 86.5%, from $6.1 million for the nine months ended September 30, 2013 to $11.4 million for the nine months ended September 30, 2014. The increase in technology expense was primarily attributable to a $3.8 million increase in salaries and personnel-related costs, as we increased the number of technology personnel developing our platform, as well as analytics personnel to further improve upon algorithms underlying the OnDeck Score. The number of technology and analytics employees increased from 44 at September 30, 2013 to 94 at September 30, 2014. In addition, we experienced a $1.4 million increase in amortization of capitalized internal-use software costs related to our technology platform, expenses related to our new data center facility, technology licenses and other costs to support our larger employee base. As a percentage of gross revenue, technology and analytics expense decreased from 14.5% for the nine months ended September 30, 2013 to 10.6% for the nine months ended September 30, 2014.

Processing and Servicing

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Processing and Servicing

   $ 3,746         8.9   $ 5,928         5.5   $ 2,182         58.2

Processing and servicing expense increased by $2.2 million, or 58.2%, from $3.7 million for the nine months ended September 30, 2013 to $5.9 million for the nine months ended September 30, 2014. The increase

 

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in processing and servicing expense was primarily attributable to a $1.3 million increase in salaries and personnel-related costs, as we increased the number of processing and servicing personnel to support the increased volume of loan applications and approvals and increased loan servicing requirements. The number of processing and servicing employees increased from 58 at September 30, 2013 to 74 at September 30, 2014. In addition, we experienced a $0.9 million increase in third-party processing costs, credit information and filing fees as a result of the increased volume of loan applications and originations. As a percentage of gross revenue, processing and servicing expense decreased from 8.9% for the nine months ended September 30, 2013 to 5.5% for the nine months ended September 30, 2014.

General and Administrative

 

     Nine Months Ended September 30,     Period-to-Period
Change
 
     2013     2014    
     Amount      Percentage of
Revenue
    Amount      Percentage of
Revenue
    Amount      Percentage  
    

(dollars in thousands)

 

General and Administrative

   $ 9,158         21.8   $ 13,968         13.0   $ 4,810         52.5

General and administrative expense increased by $4.8 million, or 52.5%, from $9.2 million for the nine months ended September 30, 2013 to $14.0 million for the nine months ended September 30, 2014. The increase in general and administrative expense was primarily attributable to a $4.6 million increase in consulting, legal, recruiting, accounting and other miscellaneous expenses. This increase was partially offset by a $0.6 million decrease in salaries and personnel-related costs. While we increased the number of general and administrative personnel during the nine months ended September 30, 2014 to support the growth of our business, the overall decrease in personnel-related costs reflects a $1.0 million severance expense incurred during the nine months ended September 30, 2013 in connection with the departure of an executive, which did not recur in the nine months ended September 30, 2014. The number of general and administrative employees increased from 22 at September 30, 2013 to 41 at September 30, 2014. As a percentage of gross revenue, general and administrative expense decreased from 21.8% for the nine months ended September 30, 2013 to 13.0% for the nine months ended September 30, 2014.

 

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Comparison of Years Ended December 31, 2012 and 2013

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount     Percentage of
Gross
Revenue
    Amount     Percentage of
Gross
Revenue
    Amount     Percentage  
     (dollars in thousands)  

Revenue:

            

Interest income

   $ 25,273        98.6   $ 62,941        96.5   $ 37,668        149.0

Gain on sales of loans

                   788        1.2        788        *   

Other revenue

     370        1.4        1,520        2.3        1,150        310.8   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

     25,643        100.0        65,249        100.0        39,606        154.5   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

            

Provision for loan losses

     12,469        48.6        26,570        40.7        14,101        113.1   

Funding costs

     8,294        32.3        13,419        20.6        5,125        61.8   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

     20,763        81.0        39,989        61.3        19,226        92.6   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenue

     4,880        19.0        25,260        38.7        20,380        417.6   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

            

Sales and marketing

     6,633        25.9        18,095        27.7        11,462        172.8   

Technology and analytics

     5,001        19.5        8,760        13.4        3,759        75.2   

Processing and servicing

     2,919        11.4        5,577        8.5        2,658        91.1   

General and administrative

     6,935        27.0        12,169        18.7        5,234        75.5   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     21,488        83.8        44,601        68.4        23,113        107.6   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (16,608     (64.8     (19,341     (29.6     (2,733     16.5   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

            

Interest expense

     (88     (0.3     (1,276     (2.0     (1,188     *   

Warrant liability fair value adjustment

     (148     (0.6     (3,739     (5.7     (3,591     *   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

     (236     (0.9     (5,015     (7.7     (4,779     *   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (16,844     (65.7     (24,356     (37.3     (7,512     44.6   

Provision for income taxes

                                          
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

   $ (16,844     (65.7 )%    $ (24,356     (37.3 )%    $ (7,512     44.6
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

* not meaningful

 

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Table of Contents

Revenue

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Revenue:

               

Interest income

   $ 25,273         98.6   $ 62,941         96.5   $ 37,668         149.0

Gain on sales of loans

                    788         1.2        788         *   

Other revenue

     370         1.4        1,520         2.3        1,150         310.8   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Gross revenue

   $ 25,643         100.0   $ 65,249         100.0   $ 39,606         154.5
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

* not meaningful

Revenue. Gross revenue increased by $39.6 million, or 155%, from $25.6 million for the year ended December 31, 2012 to $65.2 million for the year ended December 31, 2013. This growth was primarily attributable to a $37.7 million, or 149%, increase in interest income during the year ended December 31, 2013 as compared to the year ended December 31, 2012. This increase was driven primarily by increases in the average loans outstanding between these years. During the year ended December 31, 2013, we had average loans outstanding of $147.4 million, compared to $61.4 million of average loans outstanding during the year ended December 31, 2012, representing an increase of 140%. There was also a slight increase in our effective interest yield from 41.2% to 42.7% between these periods.

In addition, during the year ended December 31, 2013, we sold $17.5 million of loans to third-party institutional investors through our OnDeck Marketplace, resulting in gains of $0.8 million during the period. We launched OnDeck Marketplace in October 2013.

We also experienced an increase of $1.2 million, or 311%, in other revenue during the year ended December 31, 2013 as compared to the year ended December 31, 2012. This increase was primarily attributable to an increase in marketing fees from our issuing bank partners.

Cost of Revenue

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Cost of revenue:

               

Provision for loan losses

   $ 12,469         48.6   $ 26,570         40.7   $ 14,101         113.1

Funding costs

     8,294         32.3        13,419         20.6        5,125         61.8   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total cost of revenue

   $ 20,763         81.0   $ 39,989         61.3   $ 19,226         92.6
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Provision for Loan Losses. Provision for loan losses increased by $14.1 million, or 113%, from $12.5 million for the year ended December 31, 2012 to $26.6 million for the year ended December 31, 2013. The increase in provision for loan losses was primarily attributable to the increase in origination volume of term loans during the year ended December 31, 2013 compared to the year ended December 31, 2012. Under GAAP, we recognize revenue on loans over their term, but provide for probable credit losses on the loans at the time they are originated and then adjust periodically based on actual performance and changes in loss expectations. As a

 

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result, we believe that analyzing the provision for loan losses as a percentage of originations, rather than as a percentage of gross revenue, provides more useful insight into our operating performance. The Provision Rate decreased from 7.2% for the year ended December 31, 2012 to 6.0% for the year ended December 31, 2013, attributable to an improvement in credit quality of our loan originations and a $0.9 million reduction in the provision resulting from our first sale of charged-off receivables to a third-party purchaser.

Funding Costs. Funding costs increased by $5.1 million, or 61.8%, from $8.3 million for the year ended December 31, 2012 to $13.4 million for the year ended December 31, 2013. The increase in funding costs was primarily attributable to an increase in our aggregate outstanding borrowings during the year ended December 31, 2013 compared to the year ended December 31, 2012. The average balance of our funding debt facilities during the year ended December 31, 2013 was $124.2 million as compared to the average balance of $62.0 million during the year ended December 31, 2012, an increase of 100%. In addition, we experienced a $1.1 million increase in amortization of debt issuance costs during the year ended December 31, 2013 as compared to the year ended December 31, 2012, primarily as a result of issuance fees incurred in July 2012 related to a debt facility, as well as the addition of two additional debt facilities in August 2013 and October 2013, respectively. As a percentage of gross revenue, funding costs decreased from 32.3% for the year ended December 31, 2012 to 20.6% for the year ended December 31, 2013. The decrease in funding costs as a percentage of gross revenue was primarily the result of more favorable interest rates on our new debt facilities.

Operating Expenses

Sales and Marketing

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Sales and marketing

   $ 6,633         25.9   $ 18,095         27.7   $ 11,462         172.8

Sales and marketing expense increased by $11.5 million, or 173%, from $6.6 million for the year ended December 31, 2012 to $18.1 million for the year ended December 31, 2013. The increase in sales and marketing expense was primarily attributable to a $7.4 million increase in direct marketing and advertising as we expanded our marketing programs to drive increased customer acquisition. In addition, salaries and personnel-related costs increased by $3.9 million, as we increased the number of sales and marketing personnel to support the growth of our business. The number of sales and marketing employees increased from 68 at December 31, 2012 to 110 at December 31, 2013. As a percentage of gross revenue, sales and marketing expense increased from 25.9% for the year ended December 31, 2012 to 27.7% for the year ended December 31, 2013.

Technology and Analytics

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Technology and analytics

   $ 5,001         19.5   $ 8,760         13.4   $ 3,759         75.2

Technology and analytics expense increased by $3.8 million, or 75.2%, from $5.0 million for the year ended December 31, 2012 to $8.8 million for the year ended December 31, 2013. The increase in expense was primarily attributable to a $1.8 million increase in salaries and personnel-related costs. During 2013, we increased the

 

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number of technology and analytics personnel to continue developing our technology platform and improve upon the algorithms underlying the OnDeck Score. The number of technology and analytics employees increased from 35 at December 31, 2012 to 54 at December 31, 2013. In addition, we experienced a $0.9 million increase in amortization of capitalized internal-use software costs related to our technology platform, and a $0.7 million increase in hardware, software, technology licenses and other costs to support our growth in loan originations and employees. As a percentage of gross revenue, technology and analytics expense decreased from 19.5% for the year ended December 31, 2012 to 13.4% for the year ended December 31, 2013.

Processing and Servicing

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

Processing and servicing

   $ 2,919         11.4   $ 5,577         8.5   $ 2,658         91.1

Processing and servicing expense increased by $2.7 million, or 91.1%, from $2.9 million for the year ended December 31, 2012 to $5.6 million for the year ended December 31, 2013. The increase in processing and servicing expense was primarily attributable to a $1.3 million increase in salaries and personnel-related costs, as we increased the number of processing and servicing personnel to support the increased volume of loan applications and loan servicing requirements. The number of processing and servicing employees increased from 36 at December 31, 2012 to 64 at December 31, 2013. In addition, we experienced a $1.5 million increase in third-party processing costs, credit information and filing fees during the year ended December 31, 2013 related to the higher volume of term loan and line of credit applications and originations processed. As a percentage of gross revenue, processing and servicing expense decreased from 11.4% for the year ended December 31, 2012 to 8.5% for the year ended December 31, 2013.

General and Administrative

 

     Year Ended December 31,     Period-to-Period
Change
 
     2012     2013    
     Amount      Percentage of
Gross
Revenue
    Amount      Percentage of
Gross
Revenue
    Amount      Percentage  
     (dollars in thousands)  

General and administrative

   $ 6,935         27.0   $ 12,169         18.7   $ 5,234         75.5

General and administrative expense increased by $5.2 million, or 75.5%, from $6.9 million for the year ended December 31, 2012 to $12.2 million for the year ended December 31, 2013. The increase in general and administrative expense was primarily attributable to a $2.8 million increase in salaries and personnel-related costs, as we increased the number of general and administrative personnel to support our growing business. The number of general and administrative employees increased from 16 at December 31, 2012 to 23 at December 31, 2013. These 2013 personnel-related costs also included a $1.0 million severance expense incurred in connection with the departure of an executive. Furthermore, we experienced a $2.2 million increase in consulting, legal and other general and administrative expenses during the year ended December 31, 2013. As a percentage of gross revenue, general and administrative expense decreased from 27.0% for the year ended December 31, 2012 to 18.7% for the year ended December 31, 2013.

Quarterly Results of Operations

The following tables show our unaudited consolidated quarterly statement of operations data for each of our eight most recently completed quarters, as well as the percentage of revenue for each line item shown. This

 

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information has been derived from our unaudited consolidated financial statements, which, in the opinion of management, have been prepared on the same basis as our audited consolidated financial statements and include all adjustments, consisting of normal recurring adjustments and accruals, necessary for the fair presentation of the financial information for the quarters presented. Historical results are not necessarily indicative of the results to be expected in future periods, and operating results for a quarterly period are not necessarily indicative of the operating results for a full year. This information should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this prospectus.

 

    Three Months Ended  
    Dec. 31,
2012
    March 31,
2013
    June 30,
2013
    Sept. 30,
2013
    Dec. 31,
2013
    March 31,
2014
    June 30,
2014
    Sept. 30,
2014
 
    (dollars in thousands)  

Revenue:

               

Interest income

  $ 8,553      $ 10,434      $ 13,251      $ 17,388      $ 21,868      $ 26,348      $ 32,864      $ 40,661   

Gain on sales of loans

                                788        1,343        1,584        1,642   

Other revenue

    191        237        358        409        516        871        1,054        1,206   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

    8,744        10,671        13,609        17,797        23,172        28,562        35,502        43,509   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

               

Provision for loan losses

    6,681        5,131        5,468        5,701        10,270        16,579        13,073        17,359   

Funding costs

    2,693        2,868        2,867        3,665        4,019        4,640        3,801        4,090   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

    9,374        7,999        8,335        9,366        14,289        21,219        16,874        21,449   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (cost of revenue) revenue

    (630     2,672        5,274        8,431        8,883        7,343        18,628        22,060   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

               

Sales and marketing

    2,210        3,778        4,625        5,163        4,529        6,361        7,113        8,325   

Technology and analytics

    1,535        1,825        1,904        2,361        2,670        2,909        3,799        4,649   

Processing and servicing

    800        1,113        1,264        1,369        1,831        1,609        2,084        2,235   

General and administrative

    2,744        2,368        3,910        2,880        3,011        3,392        4,434        6,142   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    7,289        9,084        11,703        11,773        12,041        14,271        17,430        21,351   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income from operations

    (7,919     (6,412     (6,429     (3,342     (3,158     (6,928     1,198        709   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other (expense) income:

               

Interest expense

    (16     (948     (2     (120     (206     (157     (62     (55

Warrant liability fair value adjustment

           71        34        (1,601     (2,243     (6,632     (2,190     (300
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other (expense) income

    (16     (877     32        (1,721     (2,449     (6,789     (2,252     (355
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Loss) income before provision for income taxes

    (7,935     (7,289     (6,397     (5,063     (5,607     (13,717     (1,054     354   

Provision for income taxes

                                                       
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (loss) income

  $ (7,935   $ (7,289   $ (6,397   $ (5,063   $ (5,607   $ (13,717   $ (1,054   $ 354   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Originations

  $ 61,203      $ 75,220      $ 93,441      $ 122,271      $ 167,985      $ 227,350      $ 248,067      $ 312,889   

Unpaid Principal Balance

  $ 90,276      $ 112,850      $ 136,994      $ 173,805      $ 215,966      $ 280,117      $ 338,815      $ 422,050   

Average Loans

  $ 80,626      $ 101,551      $ 123,604      $ 155,684      $ 199,404      $ 256,044      $ 319,122      $ 391,034   

Effective Interest Yield

    42.4     41.1     42.9     44.7     43.9     41.2     41.2     41.6

Average Funding Debt Outstanding

  $ 83,457      $ 94,690      $ 100,112      $ 121,756      $ 162,334      $ 199,545      $ 236,553      $ 304,758   

Cost of Funds Rate

    12.9     12.1     11.5     12.0     9.9     9.3     6.4     5.4

Provision Rate

    10.9     6.8     5.9     4.7     6.9     8.4     5.8     6.0

Reserve Ratio

    10.3     9.2     8.7     8.5     9.0     9.9     9.4     9.4

15+ Day Delinquency Ratio

    8.9     7.8     6.9     6.9     7.6     7.2     6.1     5.4

Adjusted EBITDA

  $ (7,431   $ (5,921   $ (5,702   $ (2,529   $ (2,106   $ (5,817   $ 2,480      $ 2,611   

Adjusted Net (Loss) Income

  $ (7,858   $ (7,297   $ (6,336   $ (3,353   $ (3,193   $ (6,852   $ 1,541      $ 1,463   

 

-72-


Table of Contents
    Three Months Ended  
    Dec. 31,
2012
    March 31,
2013
    June 30,
2013
    Sept. 30,
2013
    Dec. 31,
2013
    March 31,
2014
    June 30,
2014
    Sept. 30,
2014
 
   

(as a percentage of gross revenue)

 

Revenue:

               

Interest income

    97.8     97.8     97.4     97.7     94.4     92.3     92.5     93.4

Gain on sales of loans

                                3.4        4.7        4.5        3.8   

Other revenue

    2.2        2.2        2.6        2.3        2.2        3.0        3.0        2.8   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross revenue

    100.0        100.0        100.0        100.0        100.0        100.0        100.0        100.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue:

               

Provision for loan losses

    76.4        48.1        40.2        32.0        44.3        58.0        36.8        39.9   

Funding costs

    30.8        26.9        21.1        20.6        17.3        16.2        10.7        9.4   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue

    107.2        75.0        61.3        52.6        61.6        74.2        47.5        49.3   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net (cost of revenue) revenue

    (7.2     25.0        38.7        47.4        38.4        25.8        52.5        50.7   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

               

Sales and marketing

    25.3        35.4        34.0        29.0        19.5        22.3        20.0        19.1   

Technology and analytics

    17.6        17.1        14.0        13.3        11.5        10.2