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As filed with the Securities and Exchange Commission on March 28, 2014

Registration No. 333-            

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

Mercury Payment Systems, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   7389   46-4255974

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

Tech Center Plaza

10 Burnett Court, Suite 300

Durango, Colorado 81301

(970) 247-5557

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

 

Matt Taylor

Chief Executive Officer

Mercury Payment Systems, Inc.

Tech Center Plaza

10 Burnett Court, Suite 300

Durango, Colorado 81301

(970) 247-5557

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

 

With copies to:

 

William H. Hinman, Jr.

Daniel N. Webb

Simpson Thacher & Bartlett LLP

2475 Hanover Street

Palo Alto, California 94304

(650) 251-5000

 

Ross Agre

Chief Legal Officer and Secretary

Mercury Payment Systems, Inc.

Tech Center Plaza

10 Burnett Court, Suite 300

Durango, Colorado 81301

(970) 247-5557

 

Julie H. Jones

Ryan Murr

Ropes & Gray LLP

Three Embarcadero Center

San Francisco, California 94111

(415) 315-6300

 

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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

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

  Proposed
Maximum
Aggregate
Offering Price(1)(2)
  Amount of
Registration Fee

Class A common stock, $0.001 par value per share

  $100,000,000   $12,880

 

 

(1) Estimated solely for the purpose of computing the amount of the registration fee pursuant to Rule 457(o) under the Securities Act of 1933, as amended.
(2) Includes offering price of shares that the underwriters have the option to purchase.

 

 

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 Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


Table of Contents

The information in this preliminary prospectus is not complete and may be changed. These securities may not be sold until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell nor does it seek an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

Subject to Completion. Dated March 28, 2014.

            Shares

 

LOGO

Mercury Payment Systems, Inc.

Class A Common Stock

 

 

This is an initial public offering of shares of Class A common stock of Mercury Payment Systems, Inc. We are offering all of the shares in this offering. We intend to use the net proceeds from this offering to acquire interests in our business from our existing owners.

Prior to this offering, there has been no public market for our shares. We estimate the initial public offering price per share will be between $         and $        . We have applied to have our shares listed on the Nasdaq Global Select Market (the “Nasdaq”) under the symbol “MPS.”

After the completion of this offering, affiliates of Silver Lake Group, L.L.C. and affiliates of certain members of our board of directors will continue to beneficially own a majority of the voting power of all outstanding shares of our common stock. As a result, we will be a “controlled company” within the meaning of the corporate governance standards of the Nasdaq. See “Principal Stockholders.”

We are an “emerging growth company” as defined under the federal securities laws and, as such, may elect to comply with certain reduced public company reporting requirements for future filings.

 

 

See “Risk Factors” beginning on page 23 to read about factors you should consider before buying shares of our Class A common stock.

 

 

Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

 

     Per Share      Total  

Initial public offering price

   $                    $                

Underwriting discount(1)

   $         $     

Proceeds, before expenses, to Mercury Payment Systems, Inc.

   $         $     

 

(1) In addition, upon completion of this offering, we will pay a fee for certain financial consulting services to a broker-dealer that is not part of the underwriting syndicate. We have also agreed to reimburse the underwriters for certain expenses. See “Underwriting.”

We have granted the underwriters an option for a period of 30 days to purchase up to              additional shares of Class A common stock.

 

 

The underwriters expect to deliver the shares against payment in New York, New York on or about                     , 2014.

 

J.P. Morgan   Barclays   Morgan Stanley

 

 

                    , 2014


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LOGO

See “Prospectus Summary—Key Operating Metrics” and “Industry Data and Operating Metrics” for definitions and additional information.


Table of Contents

TABLE OF CONTENTS

Prospectus

 

     Page  

Prospectus Summary

     1   

Risk Factors

     23   

Forward-Looking Statements

     54   

Industry Data and Operating Metrics

     55   

Organizational Structure

     56   

Use of Proceeds

     61   

Dividend Policy

     62   

Capitalization

     63   

Dilution

     65   

Unaudited Pro Forma Consolidated Financial Statements

     67   

Selected Consolidated Financial Data

     71   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     72   

Business

     95   

Management

     128   

Executive Compensation

     137   

Certain Relationships and Related Party Transactions

     152   

Principal Stockholders

     160   

Description of Capital Stock

     163   

Shares Eligible for Future Sale

     172   

Certain United States Federal Income and Estate Tax Consequences to Non-U.S. Holders

     174   

Underwriting

     178   

Legal Matters

     188   

Experts

     188   

Where You Can Find Additional Information

     188   

Index to Consolidated Financial Statements

     F-1   

 

 

Through and including                     , 2014 (the 25th day after the date of this prospectus), all dealers effecting transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to a dealer’s obligation to deliver a prospectus when acting as an underwriter and with respect to an unsold allotment or subscription.

We and the underwriters have not authorized anyone to provide any information or to make any representations other than those contained in this prospectus or in any free writing prospectuses we have prepared. We and the underwriters take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. 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.

We and the underwriters have not done anything that would permit a public offering of the shares of our Class A common stock or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of Class A common stock and the distribution of this prospectus outside of the United States.

 

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PROSPECTUS SUMMARY

This summary highlights information contained in greater detail elsewhere in this prospectus and does not contain all of the information that you should consider in making your investment decision. Before investing in our Class A common stock, you should carefully read this entire prospectus, including our financial statements and the related notes included in this prospectus and the information set forth under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Unless otherwise indicated in this prospectus, “Mercury,” “we,” “us” and “our” refer (1) prior to the reorganization transactions, as described under “Organizational Structure—Offering Transactions,” to Mercury Payment Systems, LLC and, where appropriate, its subsidiaries, and (2) after the reorganization transactions to Mercury Payment Systems, Inc. and, where appropriate, its subsidiaries.

Overview

Mercury was founded in 2001 with the vision that small- and medium-sized businesses (“SMBs”) would require seamless and adaptable payments services to accompany their increasing adoption of a new class of sophisticated point-of-sale (“POS”) technology solutions. We created our innovative Mercury Model that combines our payments technology with our robust partner distribution and support network to create a differentiated payments experience for our merchants. We believe this model has disrupted the merchant acquiring market, enabling our rise from the 45th largest merchant acquirer in the U.S. in 2004 to the 11th largest in 2013, measured by purchase transactions according to the Nilson Report. Based on this data, our purchase transactions grew at a 57% compound annual growth rate, ranking us as the fastest organically growing merchant acquirer in the U.S. during this period. In 2013, we had approximately 88,700 merchants, our systems processed over $34 billion in payments volume and we generated $237.3 million in net revenue, an increase in revenue of more than 16% year-over-year.

Mercury is a leading provider of payments technology and services in the U.S. and Canada and empowers merchants to accept a broad range of traditional and emerging electronic payments. We embed our payments technology into third-party software applications used by SMB merchants, enabling them to benefit from the combination of payments and business management functionality. We refer to this class of POS technology solutions as “Integrated Point-of-Sale” or “IPOS.” We utilize an efficient and scalable go-to-market strategy, which involves partnering with the many providers who develop and sell IPOS systems. This network of partners, which we call the Mercury Network, includes Developers, who create software for IPOS systems with functionality tailored for specific business requirements, and Dealers, who sell IPOS systems and provide technology, services and support to merchants.

A growing number of SMB merchants are adopting IPOS systems to take advantage of the declining cost of computers and the availability of new form factors such as tablets and high-quality, industry-specific software applications to better manage their businesses. In 2012, approximately 45% of point-of-sale devices were IPOS-capable, up from 39% in 2010 according to data on single-location SMBs (U.S. and Canada) from IHL, an industry research firm. Over time we expect IPOS adoption by SMBs to continue to grow and more closely reflect the adoption by the largest merchant category tracked by IHL (1,000+ store chains), where IPOS has already grown to represent over 90% of installed POS devices. We anticipate further growth in this category because IPOS solutions are becoming increasingly affordable and feature-rich, resulting in a more attractive value proposition for SMBs in comparison to stand-alone POS systems. Additionally, many SMB merchants will have an opportunity to upgrade their existing POS systems to IPOS as their legacy systems become obsolete or as they require more features and functionality.

 

 

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SMB merchants often have limited financial and operational resources due to their lower sales volume compared to larger merchants. As a result, SMB merchants typically lack the in-house technical capabilities and personnel to configure and support their IPOS systems and manage integrated payments. Thus, they often rely on a local Dealer to help them select an IPOS system and configure and support their retail technology environment. In the Mercury Model, we incentivize our Dealers to refer Mercury for payment processing services by offering recurring commissions and specialized IPOS customer support for them and their merchants. Since our Developers’ and Dealers’ primary focus is creating and selling IPOS systems, they are generally not well-positioned to handle the complexities of integrated payments functionality. Mercury serves as a single, value-added resource point for the entire ecosystem with respect to payments capabilities. We believe the Mercury Model benefits from powerful network effects, which drive significant benefits to all participants in our ecosystem, increase the value of our network and help sustain our growth.

We believe Mercury’s role has become increasingly important due to the continued adoption and innovation of IPOS technology over the last 10 years and lack of sufficient solutions from traditional merchant acquirers. These trends provide Mercury a large and growing addressable market. We have penetrated less than 10% of the over 1 million merchants in the installed base of our current Mercury Network partners, based on management estimates, and approximately 1% of the 7.2 million SMB merchants estimated to be in the U.S. by First Annapolis. We believe we are well-positioned to capitalize on this large market opportunity as merchants upgrade to IPOS systems.

We generate revenues primarily on a per transaction basis from fees paid by our merchants. For the year ended December 31, 2013, we reported net revenue of $237.3 million and GAAP net income of $42.7 million, an increase of 16.7% and a decrease of 8.4%, respectively, over the prior year. Also for the year ended December 31, 2013, we reported adjusted EBITDA of $92.9 million and adjusted net income of $57.1 million, increases of 22.9% and 14.9%, respectively, over the prior year. For a reconciliation of adjusted EBITDA and adjusted net income to GAAP net income, see “—Adjusted EBITDA and Adjusted Net Income.”

Industry Background

Overview of Electronic Payments

Electronic payments represent a large and growing market that is fueled by a powerful secular shift towards the use and acceptance of card-based payments, such as credit and debit cards, and away from paper-based payments like checks and cash. According to the Nilson Report, purchase volume on credit and debit cards in the U.S. was $4.6 trillion in 2012 and is projected to reach $7.3 trillion by 2017, a compound annual growth rate of 9.5%.

Overview of the Traditional Merchant Acquiring Industry

To facilitate the adoption and acceptance of card-based payments at the POS, banks began providing payments services to their local merchants in the 1950s. Providers of these services, both divisions of banks and independent companies, became known as merchant acquirers. Since that time, the merchant acquiring industry has grown and expanded significantly. The merchant acquiring industry now includes thousands of providers in the U.S., primarily comprised of banks, non-bank payment processors and third-party independent sales organizations (ISOs).

Traditional merchant acquirers sell their payment processing services to merchants of all sizes, but many focus on SMBs. SMBs are attractive customers because they tend to have higher growth rates and lower price sensitivity than larger merchants, given their smaller size and greater number of new business starts.

 

 

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Methods of Electronic Payments Acceptance

As electronic payments have gained widespread adoption, the technologies used to accept and process these payments (“POS technologies”) have evolved significantly. Historically, merchants chose stand-alone payments technologies to facilitate basic acceptance of electronic payments from their customers. Based on a number of trends in the industry, including advancements in electronic cash register and POS technologies, many merchants are choosing to integrate payment functionality with their other business management systems.

Stand-Alone POS Technologies

From the 1950s to the 1980s, merchants accepted card-based payments using a carbon paper-based imprinting method to capture customers’ card information. This method was replaced by the introduction of electronic card readers that captured the same information stored on a magnetic stripe on the payment cards. Stand-alone devices enable merchants to swipe a card or manually enter the account information on the card, but typically have limited functionality beyond accepting card payments.

Integrated POS Technologies

In the 1990s, advancements in electronic cash register and PC-based POS software technologies allowed for payments functionality to be embedded in these systems, creating an IPOS class of POS technologies. Larger merchants were early adopters of IPOS systems, and this technology is spreading into SMBs across many industry verticals. The technology is also evolving with mobile- and tablet-based software and hardware innovations.

Accelerating SMB Shift to IPOS Solutions

There is an accelerating shift among SMB merchants toward IPOS systems, displacing traditional stand-alone card technologies that lack the integrated, multi-purpose functionality that is available in IPOS systems. In 2012, approximately 45% of all POS devices were IPOS-capable, up from 39% in 2010 according to data on single-location SMBs (U.S. and Canada) from IHL, an industry research firm. In addition, this research indicates that in 2012, 69% of all new POS device shipments to SMB merchants were IPOS-capable, compared to 94% for the largest merchants. We believe this shift is due to a number of trends, including the decreasing costs of IPOS systems, demand for more payment options, vertical specialization of IPOS software, new security standards and the penetration of tablet and SaaS-based IPOS systems.

Increasing Adoption of New Payments Technologies and Services by SMBs

In addition to the significant advancement and adoption of IPOS, there has been substantial innovation and investment in the payments and POS industries over the last several years. As a result, numerous new payments products and services, such as rewards programs and mobile payments, are being promoted and increasingly adopted by SMB merchants. While these capabilities represent significant opportunities for SMB merchants to level the playing field with larger retailers, the wide spectrum of new choices, their technology requirements and their impact on other areas of merchants’ businesses can be overwhelming and risky. In addition, if these new payments technologies and services are not integrated with a SMB merchant’s POS technology, these emerging solutions can be nearly unusable by them. This presents an attractive opportunity for technology and service providers, including IPOS Developers and Dealers, to bundle, simplify and integrate these services into an IPOS solution.

 

 

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Traditional Merchant Acquirers’ Fragmented Approach to IPOS

When working with a traditional merchant acquirer, merchants using an IPOS system are typically required to use a number of different providers, each using separate, disjointed processes. The value chain can be complicated and expensive, involving the use of up to four different product and service providers, including a Developer, a Dealer, a payment gateway or middleware provider and a merchant acquirer. In this situation, merchants typically pay fees to both their merchant acquirer and the payment gateway or middleware provider due to the lack of a direct integration to their POS system. Furthermore, the complicated and fragmented nature of the value chain involved in setting up and utilizing IPOS solutions with traditional acquirers makes it difficult to diagnose the source of payments related support issues, which costs merchants both time and money to resolve.

Rapid Rate of Change and Complexity in the Payments and IPOS Sectors Creates New Opportunities

We believe many merchants are adopting sophisticated POS solutions to enhance the efficiency of their business and to help them attract customers and generate revenue. Payments integration is a critical and increasingly complex component of the overall solution, which is made more difficult by the numerous disparate technologies and specialized IPOS systems in the market. Based on our industry experience, we believe that neither the merchants, who frequently lack the IT expertise, nor the traditional merchant acquiring sales and support representatives, who typically are not familiar with the integrated payments landscape, are well-positioned to successfully navigate these solutions. As a result, we believe SMB merchants look for IPOS technology and payments providers who can help them navigate this complex market. Additionally, we believe IPOS Developers and Dealers may increasingly depend on, and are looking for, payments technology service partners who can (1) understand their unique needs and technologies, (2) help them embed payment processing solutions into their systems, (3) help them navigate the complexity and regulatory burdens of the payments industry and (4) provide high-quality support for these services.

The Mercury Model

The shift to IPOS requires a specialized approach to effectively and efficiently serve merchants and the technology and service providers upon which they rely. Mercury has built proprietary and differentiated payments technology and services to meet the specialized needs of Developers, Dealers and SMB merchants. For over 10 years, we have been successfully entering into partnerships and selling our services to meet these demands through a superior, disruptive business model that is gaining market share.

Overview of the Mercury Model

Mercury pioneered a new business and go-to-market model focused on IPOS Developers and Dealers. This model creates a differentiated merchant experience and a highly efficient distribution, customer acquisition and monetization engine. We developed the Mercury Model to meet the converging demands of Developers, Dealers and merchants. The four key elements of the Mercury Model are:

 

  (1)

The Use of IPOS Channel Distribution—We pioneered the distribution of payments technology and services through IPOS Developers and Dealers who embed, bundle and cross-sell our payments services in their own solutions, and in return, earn recurring commissions for each merchant they refer to Mercury. We are able to access SMB merchants through the Mercury Network of approximately 600 Developers and 2,430 Dealers (as of

 

 

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  December 31, 2013), and, based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate there are over 13,000 employees at our Dealers who advise merchants on the selection and use of payments services. These employees provide key sales and marketing services for us in lieu of a direct sales force.

 

  (2) Differentiated Technology and Solutions—We built our proprietary technology to enable us to connect to and process transactions from IPOS systems more efficiently and cost effectively without the need for a third-party gateway or middleware, which many other merchant acquirers would require to offer integrated payments. We work with our Developers to embed our technology into their software so that it comes pre-integrated in the IPOS system.

 

  (3) Deep IPOS Domain Expertise—Over the past 10 years, we have developed deep domain expertise in serving the IPOS ecosystem of Developers, Dealers and merchants. We have used this experience to create proprietary technology solutions to meet their specific needs and build customized integrations into their varied and disparate technology systems. Our domain expertise has also enabled us to create a powerful culture of specialized customer service that other traditional merchant acquirers with less experience and dedication to serving the IPOS channel frequently lack.

 

  (4) Software-as-a-Service (SaaS) Delivery Model—We use a SaaS delivery model that enables us to provide our solutions with substantial scale and efficiency. This SaaS delivery combines our cloud-based technologies and Developer integration tools to provide automated updates through efficient methods of access to our proprietary technology platform. This model reduces cost for both Mercury and our partners because it allows us to provide new features and functionality to disparate systems without the need for on-premise updates to Mercury’s software.

The Mercury Model’s Disruption of the Traditional Merchant Acquiring Industry

The applicability of the Mercury Model to today’s SMB payments landscape has enabled us to disrupt the traditional merchant acquiring approach. We believe the following attributes of the Mercury Model, in conjunction with increasing IPOS adoption, have enabled us to capture market share and grow faster than traditional merchant acquirers:

 

    Seamless technology integration—Our numerous payment integration options are designed to seamlessly embed our payments services within our Developers’ IPOS systems. This enables us to provide dedicated customer service that is able to understand and support our partners’ IPOS solutions and provide easier upgrades to and development of new functionality.

 

    The strong relationships and economic alignment with our partners—We believe our Developers and Dealers are highly incentivized to promote our services due to the value we provide to their IPOS solutions, the strong customer support we provide both to them and to our shared merchants, as well as the valuable, recurring commissions that we provide as their merchants process more transactions. We believe our model is aligned with our distribution partners and is designed to avoid the channel conflicts created by many of our competitors, who use multiple, competing, direct and indirect sales channels.

 

    Attractive economics—Our highly efficient distribution model is designed to provide attractive economics through high merchant retention and recurring revenue, low cost of merchant acquisitions, minimal up-front commission expenses and low price sensitivity due to the delivery of our services as a bundled offering with the IPOS system.

 

 

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    The stickiness of our solutions—Our bundled technology offering is designed to be highly valuable to our distribution partners and to provide greater convenience and functionality to our merchants. We believe this creates a joint value proposition that is designed to be greater than the sum of its parts. As a result, our services can be harder to replace by a competing provider that lacks this connectivity and integration. Ultimately, we believe this results in high merchant and revenue retention.

We believe the Mercury Model’s combination of economic efficiency, network effects and benefits to participants has disrupted the merchant acquiring industry and serves as a foundation for Mercury’s strategy. Furthermore, we believe that our momentum with emerging technologies, such as integrations with tablet IPOS Developers, will position us strongly as the landscape evolves.

Our Competitive Strengths

We believe we have attributes that differentiate us from our competitors and provide us with significant competitive advantages. The combination of these individual advantages produces a synergistic network effect that further differentiates the Mercury Model. We believe that the Mercury Model creates meaningful barriers to entry for other merchant acquirers attempting to reach the same scale with Developers and Dealers.

Market Leadership Established Through Early-Mover Advantage

We believe we have established ourselves as a leading provider of payments technology services to the IPOS ecosystem by pioneering the integration and distribution of our services through a network of over 3,000 IPOS Developers and Dealers, which management estimates is the largest network of IPOS Developers and Dealers among providers of payment processing services in the U.S. and Canada. We believe this enables us to build deep technology relationships and create strong economic bonds through our recurring commissions with our Developers and Dealers. We believe our leadership position attracts new business and reduces the likelihood of existing partners and merchants switching to other vendors.

Large, Integrated Network of IPOS Developers and Dealers

We have built a network of approximately 600 Developers and 2,430 Dealers as of December 31, 2013, which we believe is the largest ecosystem of IPOS partners in the U.S. and Canada. Based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate there are over 13,000 employees at our Dealers who advise merchants on the selection and use of payments services, which we believe is substantially larger than any direct sales force of payments related services in the U.S. and Canada. Furthermore, our partners provide broad merchant reach with minimal concentration.

Deep and Proprietary Expertise in Ecosystem Management

We have invested over 10 years exclusively focused on optimizing the methodologies, processes and systems required to manage our channel relationships. Leveraging these relationships with our partners and powered by our technology platform, we are able to obtain, store and utilize information within the ecosystem and have developed a differentiated domain expertise in serving the IPOS Developer, Dealer and merchant community. We believe these capabilities are difficult to replicate in part and as a whole system.

 

 

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IPOS Integration Technology and Support

We have developed proprietary technology, processes and tools for embedding payments in a variety of POS technology environments. Over the past 10 years, Developers have integrated our services into over 2,500 unique versions and sub-versions of IPOS software. This expertise enables us to address emerging technologies and form factors as they arise, as evidenced by our traction in establishing partnerships with approximately 30 tablet IPOS Developers, which we expect to grow.

Proprietary Technology Platform and SaaS Delivery Model

We have a single, proprietary platform that enables us to integrate with over 2,500 IPOS software versions and sub-versions and provide a broad range of transaction processing services, including front- and back-end merchant processing systems, a stored value card processing system and CRM, reporting and other support systems. We use a SaaS delivery model that enables us to provide our solutions with substantial scale and efficiency.

Differentiated Suite of Products & Services

We believe the breadth and functionality of our products and services is a differentiator in the marketplace. We offer our distribution partners a comprehensive suite of technologies and services that enable the development, integration and utilization of our payments, stored value and security solutions across numerous IPOS systems and merchant industry verticals. We offer merchants a comprehensive suite of solutions for accepting both traditional and emerging payment types, managing stored value programs, reporting and providing omni-channel commerce services.

Deep-Rooted Culture Focused on Merchant and Partner Service

Our culture is deeply rooted in providing a differentiated merchant and partner service that leverages our IPOS domain expertise, technical knowledge and the enterprise-wide belief that we only succeed if our partners and merchants succeed.

Powerful Network Effects and Barriers to Entry

The large reach of the Mercury Network increases our merchant base, which helps us develop a broad set of products, services and support capabilities to meet this diverse community’s needs. These capabilities help us recruit additional Developers and Dealers to join the network, in order to offer a more competitive solution to their current and prospective merchants. This growing ecosystem then attracts other types of partners, like PayPal, who can provide additional functionality and services to SMB merchants at scale.

The powerful network effects combined with our other competitive strengths create barriers to entry that have impeded other merchant acquirers from reaching the same scale of channel distribution through Developers and Dealers that we have achieved.

Our Growth Strategies

Our large and scalable distribution capabilities, innovative technologies, and attractive products and services make us well positioned to pursue a variety of growth strategies. We plan to drive growth through the following strategies and expand the reach of the Mercury Network and the value we provide to our entire ecosystem.

 

 

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Continue to Penetrate the Mercury Network’s Installed Base of Merchants

We will continue to aggressively pursue the merchant installed base of our Developer and Dealer partners in the U.S and Canada. We believe many merchants who use one of our partners’ IPOS systems or POS terminals have not switched to using Mercury as their payments technology provider because they either have not been proactively approached or have not faced a catalyst that provides an opportunity to switch. Based on management estimates, less than 10% of our partners’ installed base of approximately 1 million merchants is currently served by Mercury. We believe selling to this installed base of merchants will be a significant driver of our growth in the near-term.

Expand the Mercury Network of Developers and Dealers

We plan to continue to expand the Mercury Network of Developers and Dealers to maximize our coverage of IPOS SMB merchants in the U.S. and Canada. We will strategically target Developers and Dealers that enable us to penetrate or consolidate our market leadership in specific industry verticals. We believe we have an addressable opportunity of over 3,000 Developers and over 5,000 Dealers in the markets we currently serve. Additionally, we expect the prevalence of new IPOS form factors, such as tablets, and the proliferation of consumer payment options to continue to support a large and diverse set of Developers and Dealers serving the SMB market.

Expand and Enhance Our Suite of Products & Services

We intend to maintain our leadership position in the industry by providing best-of-breed payments solutions to our Developers, Dealers and merchants. We will continue to leverage our single, proprietary platform and processing capabilities to promote innovation and expand our suite of products and services to meet the needs of our Developers, Dealers and merchants.

Expand and Promote Omni-Channel Commerce

SMB merchants are increasingly looking to sell through various channels, including brick-and-mortar stores and mobile and online channels, to increase sales and create a convenient customer experience. Today, approximately 8% of our merchants utilize our services for online or mobile commerce payments, and we expect this percentage to grow. We believe our disruptive business model is well suited to address the growing demands for omni-channel commerce, and we plan to pursue incremental growth opportunities.

Expand into New Verticals and Markets

In addition to the significant growth opportunities in our current markets, which today cover over 190 standard industrial classification (“SIC”) codes, we will continue to evaluate opportunities in new industry verticals and merchant categories as IPOS solutions gain adoption. Our business model and single, proprietary technology platform, further enhanced with new capabilities from our in-house processing investment, are highly flexible and can serve a variety of new merchant sizes, categories and locations.

Selectively Pursue Strategic Acquisitions

Given the large size and attractive growth trends of our current addressable market, we are primarily focused on growing our business organically. However, we may selectively pursue strategic acquisitions as opportunities arise.

 

 

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Our Solutions

We offer a comprehensive range of products and services to Developers, Dealers and merchants that enable the development, integration and utilization of our payment functionality within IPOS solutions, and provide opportunities for our Mercury Network partners to grow their portfolio of merchants with us. For merchants, these include solutions for accepting both traditional and emerging payment types, managing stored value programs, reporting and omni-channel commerce services. For distribution partners, these include methods for integrating payment acceptance capabilities into IPOS systems and a range of security, reporting and operational tools.

Summary of Risk Factors

Our business is subject to numerous risks, which are described under “Risk Factors” beginning on page 23. You should carefully consider these risks before making an investment. In particular, the following considerations, among others, may offset our competitive strengths or have a negative effect on our business strategy, which could cause a decline in the price of our Class A common stock and result in a loss of all or a portion of your investment:

 

    competition with larger firms that have greater financial resources;

 

    dependence on non-exclusive Developers and Dealers to market our services;

 

    liability resulting from unauthorized disclosure or impermissible use of data or disruptions to our services;

 

    our need to keep pace with rapid developments in our industry and provide new products and services;

 

    consolidation or restructuring of the IPOS software industry;

 

    technical, operational and regulatory risks due to our new in-house processing initiative and with to respect our third-party providers’ systems and our other information technology systems;

 

    reliance on third parties for significant services;

 

    exposure to economic conditions affecting consumer and commercial spending;

 

    degradation of the quality of our products, services and support;

 

    our ability to increase our market share, expand into new markets and compete with new entrants;

 

    compliance with and changes to government regulations and payment network rules and standards;

 

    our ability to successfully manage our intellectual property;

 

    our substantial level of indebtedness and increases in our indebtedness and operating and financial restrictions imposed by our senior secured credit facilities; and

 

    the other factors set forth under “Risk Factors.”

 

 

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Our History and Investment by Silver Lake

Mercury was founded by Jeff Katz and Marc Katz in Brewster, New York in 2001 to provide tech-enabled products and services that help small- and medium-sized merchants compete and thrive. The company moved to Durango, Colorado in 2002, where it is currently headquartered. Jeff and Marc developed the Mercury Model, and Larry Stone, an early investor and partner in the company, took an active role in helping the business grow. In 2013, Jeff and Marc were inducted into the Retail Solutions Providers Associations Hall of Fame, recognized as the “Pioneers of Integrated Point of Sale” as a result of their work with Mercury. Jeff Katz, Marc Katz and Larry Stone are sometimes referred to collectively in this prospectus as the “Founders.”

Mercury Payment Systems, LLC was formed in 2010, in connection with an investment by Silver Lake, to hold the assets relating to our business. In April 2010, SL Quicksilver LLC (“SL Quicksilver”), an affiliate of Silver Lake, acquired Class A units representing a majority interest in Mercury Payment Systems, LLC from Mercury Payment Systems, LLC and from certain existing holders for an aggregate of approximately $450.6 million. As of December 31, 2013, SL Quicksilver held approximately 62% of the outstanding membership interests of Mercury Payment Systems, LLC.

Our Structure

Immediately following this offering, Mercury Payment Systems, Inc. will be a holding company, and its sole material asset will be a controlling equity interest in Mercury Payment Systems, LLC. As the sole managing member of Mercury Payment Systems, LLC, Mercury Payment Systems, Inc. will operate and control all of the business and affairs of Mercury Payment Systems, LLC and, through Mercury Payment Systems, LLC and its subsidiaries, conduct our business. Mercury Payment Systems, Inc. will consolidate Mercury Payment Systems, LLC in its consolidated financial statements and will report a noncontrolling interest related to the Holdings Units held by certain of our existing owners on its consolidated financial statements.

Before the completion of this offering, the limited liability company agreement of Mercury Payment Systems, LLC will be amended and restated to, among other things, modify its capital structure to create a single new class of units that we refer to as “Holdings Units.” We and certain of our existing owners will also enter into an exchange agreement under which they will have the right, subject to the terms of the exchange agreement, to exchange their Holdings Units for shares of our Class A common stock on a one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends, reclassifications and other similar transactions. See “Organizational Structure” and “Certain Relationships and Related Party Transactions—Exchange Agreement.”

Following the reorganization transactions described in “Organizational Structure,” each of our existing owners that continues to hold Holdings Units and that held voting units prior to the reorganization transactions will also hold shares of Class B common stock of Mercury Payment Systems, Inc. The shares of Class B common stock have no economic rights but entitle the holder to one vote per share on matters presented to stockholders of Mercury Payment Systems, Inc.

 

 

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The diagram below depicts our organizational structure immediately following this offering assuming no exercise by the underwriters of their option to purchase additional shares of Class A common stock.

 

LOGO

 

 

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Our Sponsor

Silver Lake is a global investment firm focused on the technology, technology-enabled and related growth industries with offices in Silicon Valley, New York, London, Hong Kong, Shanghai and Tokyo. Silver Lake was founded in 1999 and has over $20 billion in combined assets under management and committed capital across its large-cap private equity, middle-market private equity, growth equity and credit investment strategies.

After the completion of this offering, Silver Lake and affiliates of the Founders will continue to control a majority of the voting power of all outstanding shares of our voting stock. For a discussion of certain risks, potential conflicts and other matters associated with control by Silver Lake and the Founders, see “Risk Factors—Risks Related to Our Company and Our Organizational Structure—We are controlled by affiliates of Silver Lake and the Founders, whose interests may be different than the interests of other holders of our securities” and “Description of Capital Stock.”

Corporate Information

Mercury Payment Systems, Inc. was incorporated in Delaware in December 2013 under the name Mercury Payment Systems Holdings, Inc. In March 2014, we changed our name to “Mercury Payment Systems, Inc.” Our principal executive offices are located at Tech Center Plaza, 10 Burnett Court, Suite 300, Durango, Colorado 81301. Our telephone number is (970) 247-5557. Our website address is www.mercurypay.com. Information contained on, or that can be accessed through, our website does not constitute part of this prospectus, and inclusions of our website address in this prospectus are inactive textual references only.

Trademarks and Trade Names

We own or have rights to trademarks or trade names that we use in conjunction with the operation of our business. In addition, our name, logo and website name and address are our service marks or trademarks. Some of the more important trademarks that we use include Mercury®, Mercury Payment Systems®, MercuryPay®, MercuryGift®, MercuryAnyware®, MercuryMailTM, MercuryLoyaltyTM and MercuryActivateTM. This prospectus contains additional trade names, trademarks and service marks of other companies. We do not intend our use or display of other companies’ trade names, trademarks or service marks to imply relationships with, or endorsement or sponsorship of us by, these other companies.

 

 

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The Offering

 

Class A common stock offered by us

             shares

 

Class A common stock outstanding after giving effect to this offering

             shares (or              shares if all then outstanding exchangeable Holdings Units were exchanged for newly-issued shares of Class A common stock on a one-for-one basis).

 

Class B common stock outstanding after giving effect to this offering

             shares

 

Option to purchase additional shares of Class A common stock from us

The underwriters have been granted an option to purchase up to              additional shares of Class A common stock from us at any time within 30 days from the date of this prospectus.

 

Voting power held by holders of Class A common stock after giving effect to this offering

    % (or 100% if all then outstanding exchangeable Holdings Units were exchanged for newly-issued shares of Class A common stock on a one-for-one basis).

 

Voting power held by holders of Class B common stock after giving effect to this offering

    % (or 0% if all then outstanding exchangeable Holdings Units were exchanged for newly-issued shares of Class A common stock on a one-for-one basis).

 

Use of proceeds

We estimate that the proceeds to us from this offering, after deducting underwriting discounts and commissions and estimated offering expenses payable by us, will be approximately $         million, based on the assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus. Mercury Payment Systems, LLC will bear or reimburse Mercury Payment Systems, Inc. for all of the expenses of this offering, which we estimate will be approximately $         million.

 

  We intend to use the net proceeds from this offering, or $         million, to purchase Holdings Units and shares of Class A common stock from our existing owners, as described under “Organizational Structure—Offering Transactions.” Accordingly, we will not retain any of these proceeds. See “Principal Stockholders” for information regarding the economic interest of certain of our related parties in MPS 1, Inc., and Mercury Payment Systems II, LLC, two of the existing owners from which we intend to purchase Holdings Units with proceeds from this offering. See also “Use of Proceeds.”

 

 

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Voting rights

Each share of our Class A common stock entitles its holder to one vote on all matters to be voted on by stockholders generally.

 

  Following the reorganization transactions, each of our existing owners that continues to hold Holdings Units and that held voting units prior to the reorganization transactions will hold a number of shares of Class B common stock equal to the number of Holdings Units held by such person. The shares of Class B common stock have no economic rights but entitle the holder to one vote per share on matters presented to stockholders of Mercury Payment Systems, Inc. See “Description of Capital Stock—Capital Stock—Common Stock—Class B Common Stock.”

 

  Holders of our Class A common stock and Class B common stock vote together as a single class on all matters presented to our stockholders for their vote or approval, except as otherwise required by applicable law.

 

Dividend policy

We do not intend to pay dividends on our Class A common stock in the foreseeable future.

 

  Immediately following this offering, Mercury Payment Systems, Inc. will be a holding company, and its sole material asset will be a controlling equity interest in Mercury Payment Systems, LLC. We intend to cause Mercury Payment Systems, LLC to make distributions to Mercury Payment Systems, Inc. in an amount sufficient to cover cash dividends, if any, declared by us. If Mercury Payment Systems, LLC makes such distributions to Mercury Payment Systems, Inc., the other holders of Holdings Units will be entitled to receive pro rata distributions.

 

  Our ability to pay dividends on our Class A common stock is effectively limited by the covenants of the senior secured credit facilities of Mercury Payment Systems, LLC (the “Credit Facilities”) and may be further restricted by the terms of any future debt or preferred securities incurred or issued by us or our subsidiaries. See “Dividend Policy” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Senior Secured Credit Facilities.”

 

Exchange agreement

Prior to this offering, we will enter into an exchange agreement with our existing owners that will continue to hold Holdings Units following the reorganization transactions so that they may, subject to the terms of the exchange agreement, exchange their Holdings Units for shares of Class A common stock on a one-for-one basis, subject to customary conversion rate adjustments for

 

 

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stock splits, stock dividends, reclassifications and other similar transactions. When a Holdings Unit is exchanged by an existing owner who held shares of Class B common stock, a corresponding share of Class B common stock will be cancelled.

 

Tax receivable agreements

Our purchase of Holdings Units in connection with this offering and future offerings and future exchanges of Holdings Units for shares of our Class A common stock are expected to produce favorable tax attributes for us, as is the SLP Corp Merger described under “Organizational Structure.” These tax attributes would not be available to us in the absence of those transactions. Upon the closing of this offering, we will be a party to two tax receivable agreements. Under the first of those agreements, we generally will be required to pay to our existing owners that will continue to hold Holdings Units following the reorganization transactions 85% of the applicable cash savings, if any, in U.S. federal and state income tax that we actually realize (or are deemed to realize in certain circumstances) as a result of (1) certain tax attributes of their Holdings Units sold to us or exchanged and that are created as a result of the sales or exchanges of their Holdings Units for shares of our Class A common stock, (2) tax benefits related to imputed interest and (3) payments under such tax receivable agreement. Under the second tax receivable agreement, we generally will be required to pay to the sole stockholder of SLP III Quicksilver Feeder Corp. (“SLP Corp”), an affiliate of Silver Lake, 85% of the amount of cash savings, if any, in U.S. federal and state income tax that we actually realize (or are deemed to realize in certain circumstances) as a result of (1) the tax attributes of the Holdings Units we acquire in the SLP Corp Merger, (2) net operating losses available as a result of the SLP Corp Merger and (3) tax benefits related to imputed interest. Under both agreements, we generally will retain the benefit of the remaining 15% of the applicable tax savings. However, the sole stockholder of SLP Corp, the other affiliates of Silver Lake and affiliates of the Founders will be entitled to elect, starting in 2020, to accelerate our obligations under their respective tax receivable agreements and receive a lump sum payment equal to the present value of 100% of the anticipated future cash savings in respect of the applicable tax benefits, determined based on certain assumptions. See “Certain Relationships and Related Party Transactions—Tax Receivable Agreements” and “Organizational Structure.”

 

Controlled company

Upon the completion of this offering, affiliates of Silver Lake and affiliates of the Founders will control approximately         % of the voting power of our outstanding common stock (or approximately         % if the underwriters exercise in full their option to purchase additional shares). As a result, we will be a “controlled company” under the Nasdaq corporate governance

 

 

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standards. Under these standards, a company of which more than 50% of the voting power is held by an individual, group or another company is a “controlled company” and may elect not to comply with certain corporate governance standards. See “Management—Controlled Company Exemption.”

 

Proposed Nasdaq symbol

“MPS”

In this prospectus, unless otherwise indicated, the number of shares of our Class A common stock outstanding and the other information based thereon does not reflect:

 

                 shares of Class A common stock issuable upon exchange of              Holdings Units (or, if the underwriters exercise in full their option to purchase additional shares of Class A common stock,              shares of Class A common stock issuable upon exchange of              Holdings Units) that will be held by certain of our existing owners immediately following this offering;

 

                     shares of Class A common stock issuable upon exercise of options outstanding on the date of this prospectus at a weighted average exercise price of $         per share under our 2010 Incentive Plan (which will become subject to our 2014 Stock Award Plan in connection with this offering); and

 

                 additional shares of Class A common stock reserved for future issuance under the Mercury Payment Systems, Inc. 2014 Stock Award Plan, including                  shares of Class A common stock issuable upon the exercise of options expected to be granted in connection with this offering with an exercise price equal to the initial public offering price.

Except as otherwise indicated, all information in this prospectus assumes:

 

    no exercise of options subsequent to December 31, 2013;

 

    no exercise by the underwriters of their option to purchase up to              additional shares of Class A common stock from us; and

 

    the filing and effectiveness of our amended and restated certificate of incorporation and the effectiveness of our amended and restated bylaws in connection with the closing of this offering.

 

 

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Summary Consolidated Financial Data

The following summary consolidated financial and other data of Mercury Payment Systems, LLC should be read in conjunction with “Organizational Structure,” “Use of Proceeds,” “Capitalization,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” our audited consolidated financial statements and unaudited consolidated financial statements and the related notes included elsewhere in this prospectus. Mercury Payment Systems, LLC will be considered our predecessor for accounting purposes, and its consolidated financial statements will be our historical financial statements following this offering.

The income statement data set forth below for the years ended December 31, 2011, 2012 and 2013 are derived from the audited consolidated financial statements of Mercury Payment Systems, LLC that are included elsewhere in this prospectus. The historical results presented below are not necessarily indicative of financial results to be achieved in future periods.

The unaudited pro forma income statement data set forth below for the year ended December 31, 2013 present our consolidated results of operations giving pro forma effect to the reorganization transactions and the use of the estimated net proceeds from this offering, as if such transactions had occurred on January 1, 2013. The unaudited pro forma balance sheet data set forth below as of December 31, 2013 presents our consolidated financial position giving pro forma effect to the reorganization transactions and the use of the estimated net proceeds from this offering, as if such transactions had occurred on December 31, 2013. The pro forma adjustments are based on available information and upon assumptions that our management believes are reasonable in order to reflect, on a pro forma basis, the impact of these transactions on the historical financial information of Mercury Payment Systems, LLC. The unaudited pro forma consolidated financial data is included for informational purposes only and does not purport to reflect the results of operations or financial position of Mercury Payment Systems, Inc. that would have occurred had we operated as a public company during the periods presented. The unaudited pro forma financial data presented below are not necessarily indicative of financial results to be achieved in future periods.

 

 

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    Year Ended     Pro Forma  
    December 31,
2011
    December 31,
2012
    December 31,
2013
    Year Ended
December 31,
2013
 

Income Statement Data (in thousands):

       

Net Revenue

  $ 154,703      $ 203,277      $ 237,259      $                

Cost of services and sales

    48,336        62,536        74,088     

Operating expenses

    55,428        78,951        100,796     
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    50,939        61,790        62,375     

Total other income (expense)

    (7,946     (15,249     (19,722  

Income taxes

    —          —          —       
 

 

 

   

 

 

   

 

 

   

 

 

 

Net Income (loss)

    42,993        46,541        42,653     
 

 

 

   

 

 

   

 

 

   

 

 

 

Other Financial Data (in thousands)(1):

       

Adjusted EBITDA

  $ 61,169      $ 75,569      $ 92,894      $                

Adjusted net income

    45,348        49,647        57,066     

Selected Operational Data(2):

       

Developers

    490        555        600     

Dealers

    2,080        2,200        2,430     

Merchants

    63,300        75,800        88,700     

Volume of Transactions (in millions)

  $ 23,961      $ 29,370      $ 34,307     

Number of Transactions (in millions)

    828        1,026        1,189     

 

(1) See “—Adjusted EBITDA and Adjusted Net Income.”
(2) Approximation. See “—Key Operating Metrics” and “Industry Data and Operating Metrics.”

 

    As of December 31, 2013  
        Actual         Pro Forma(1)  
    (in thousands)  

Balance Sheet Data (at end of period):

 

Cash and cash equivalents

  $ 20,905      $                

Total assets

    130,512     

Total liabilities

    319,744     

Long-term debt, including current portion, net of discount

    290,770     

Total equity (deficit)

    (189,232  

 

(1) Pro forma balance sheet data presents balance sheet data on a pro forma basis for Mercury Payment Systems, Inc. after giving effect to the reorganization transactions as described in “Organizational Structure” and after giving effect to this offering and the application of the proceeds from this offering as described in “Use of Proceeds,” assuming an initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus. A $1.00 increase or decrease in the assumed initial public offering price would increase or decrease, as applicable, cash and cash equivalents, total assets and total equity by $        , assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same and after deducting assumed underwriting discounts and commissions and the estimated offering expenses payable by us. An increase or decrease of 100,000 shares in the number of shares sold in this offering by us would increase or decrease, as applicable, cash and cash equivalents, total assets and total equity by $        , assuming an initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus, and after deducting assumed underwriting discounts and commissions and the estimated offering expenses payable by us.

 

 

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Adjusted EBITDA and Adjusted Net Income

Adjusted net income is calculated as net income plus costs related to the restructuring in connection with this offering, share-based compensation expense, non-cash write-offs, organizational restructuring-related severance and compensation and headquarters construction expense. Adjusted EBITDA is equal to adjusted net income plus gross interest expense, income taxes and depreciation and amortization.

Adjusted EBITDA and adjusted net income eliminate the effects of items that we do not consider indicative of our core operating performance. As a result, we consider adjusted EBITDA and adjusted net income to be important indicators of our operational strength and the performance of our business. Management believes the use of adjusted EBITDA and adjusted net income are appropriate to provide additional information to investors about certain material non-cash items and about unusual items that we do not expect to continue at the same level in the future. By providing these non-GAAP financial measures, together with a reconciliation to GAAP results, we believe we are enhancing investors’ understanding of our business and our results of operations, as well as assisting investors in evaluating how well we are executing strategic initiatives. We believe adjusted EBITDA and adjusted net income are used by investors as a supplemental measure to evaluate the overall operating performance of companies in our industry.

Adjusted EBITDA and adjusted net income are not measures determined in accordance with GAAP and should not be considered as an alternative to, or more meaningful than, net income (as determined in accordance with GAAP) as a measure of our operating results or net cash provided by operating activities (as determined in accordance with GAAP) as a measure of our liquidity. Adjusted EBITDA and adjusted net income as presented by us may not be comparable to similarly titled measures reported by other companies. In particular, adjusted EBITDA has significant limitations as an analytical tool because it excludes certain material costs. For example, it does not include interest expense, which has been a necessary element of our costs. Because of our use of certain property, equipment and software, depreciation expense is a necessary element of our costs and ability to generate revenue. In addition, the omission of amortization expense associated with our intangible assets further limits the usefulness of this measure. Because adjusted EBITDA does not account for these expenses, its utility as a measure of our operating performance has material limitations. Because of these limitations, management does not view adjusted EBITDA in isolation and also uses other measures, such as net revenue, gross margin, cost of services and sales and net income to measure operating performance.

 

 

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The reconciliation of our adjusted EBITDA and adjusted net income to net income is as follows:

 

    Year Ended     Pro Forma  
    December 31,
2011
    December 31,
2012
    December 31,
2013
    Year Ended
December 31,
2013
 
          (in thousands)        

Net income

  $ 42,993      $ 46,541      $ 42,653      $                

Percentage of net revenue

    28     23     18       

Plus:

       

Formation and reorganization expenses(a)

    —          —          838     

Share-based compensation (non-cash)

    1,456        1,858        1,959     

Share-based compensation due to options modifications (cash)

    899        790        —       

Non-cash technology and other write-off(b)

    —          —          7,817     

Organizational restructuring expense(c)

    —          —          3,008     

Headquarters construction expense(d)

    —          458        791     
 

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted net income

  $ 45,348      $ 49,647      $ 57,066      $     

Percentage of net revenue

    29     24     24       

Plus:

       

Interest expense, gross

    8,019        15,314        19,279     

Income taxes

    —          —          —       

Depreciation and amortization, net of debt discount and fee amortization

    7,802        10,608        16,549     
 

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA

  $ 61,169      $ 75,569      $ 92,894      $     

Percentage of net revenue

    40     37     39       

 

(a) Includes costs associated with forming Mercury Payment Systems, Inc. and other expenses directly related to the reorganization transactions and this offering.
(b) Non-cash technology write-offs of $7,162 are defined as the disposal of systems which we had anticipated we would use to process transactions for our merchants, but which we later elected to source from a supplier under a long-term agreement. Another write-off is related to land that is held for sale in the amount of $655.
(c) Organizational restructuring expense is made up of the one-time severance expense and outplacement expenses we incurred when we re-organized and decreased our workforce in 2013, plus the compensation associated with those employees affected who we do not anticipate replacing.
(d) Headquarters construction expense is the one-time expense associated with building our headquarters, which was incurred between construction inception in 2012 and will continue through construction completion in the third quarter of 2014.

 

 

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Key Operating Metrics

Below are charts that show growth over time in:

 

    the number of Developers in our ecosystem,

 

    the number of Dealers in our ecosystem,

 

    the number of merchants processing with us,

 

    the dollar volume of payments our merchants process through us, and

 

    the number of transactions our merchants process with us.

We use these metrics to evaluate our performance, as described below under “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operating Metrics.” However, investors should not rely on historical growth rates in our operating metrics as an indication of future growth rates, as we do not expect to sustain the rates of growth we experienced in growing from a small enterprise to our current scale. See “Industry Data and Operating Metrics.”

 

LOGO

 

 

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Developers—Developers are also known as independent software vendors in our industry. We define a Developer as a software and/or hardware vendor that has successfully integrated its products with our payment processing technology for at least one of our merchants. However, prior to 2012, we did not track specifically when a Developer first integrated its products with our payment technology. Accordingly, Developer numbers for periods before 2012 reflect our estimate based on company information with respect to Developer relationships recorded during the relevant period. See “Industry Data and Operating Metrics” for further detail. We focus on Developers of IPOS software and hardware because having our payment processing functionality embedded in Developers’ products allows us to provide our services to their merchant customers.

Dealers—We define a Dealer as an entity that referred a merchant to us within the past twelve months. Dealers are also known as value-added resellers in our industry. Developers who directly sell to merchants are also counted as Dealers if they have referred a merchant to us within the last 12 months. We focus on Dealers of IPOS software and systems because they source potential merchant customers for us.

Merchants—We define a merchant as a merchant location that is actively paying us fees. Our merchant count also includes a small number of merchants that pay us fees intermittently or are otherwise considered active from a customer relations perspective. See “Industry Data and Operating Metrics” for more detail. We focus on merchants because they are our principal source of revenue.

Volume—We define volume as the dollar value of Visa, MasterCard, Discover and other nominal non-American Express transactions processed by our merchants. We also allow our merchants to process American Express transactions, but due to the nature of our relationship with American Express, we do not include these transactions in volume metrics. We focus on volume, because it is a reflection of the scale and economic activity of our merchant base and because a significant part of our revenue is derived as a percentage of our merchants’ dollar volume receipts.

Transactions—We define a transaction as a Visa, MasterCard, Discover or other nominal non-American Express transaction processed by our merchants. For the reasons discussed above, we do not include American Express transactions. We focus on transactions, because it is a reflection of the scale and economic activity of our merchant base and because a significant part of our revenue is derived on a per transaction basis.

 

 

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RISK FACTORS

Investing in our Class A common stock involves a high degree of risk. You should carefully consider the following risk factors, as well as the other information in this prospectus, before deciding whether to invest in shares of our Class A common stock. The occurrence of any of the events described below could materially adversely affect our business, financial condition and results of operations. In such an event, the trading price of our Class A common stock could decline, and you could lose part or all of your investment.

Risks Related to Our Business

The payment processing industry is highly competitive, and we compete with certain firms that are larger and that have greater financial resources. Such competition could adversely affect the fees we receive from merchants and the compensation we pay to Developers and Dealers, and as a result, our margins, business, financial condition and results of operations.

The market for payment processing services is highly competitive. Other providers of payment processing services have established a sizable market share in the merchant acquiring sector and service more small- and medium-sized merchants than we do. Our growth will depend on a combination of the continued growth of electronic payments and our ability to increase our market share.

Our competitors include traditional merchant acquirers such as financial institutions, affiliates of financial institutions and well-established payment processing companies that target SMB merchants directly, including Bank of America Merchant Services, Chase Paymentech, Elavon, Inc. (a subsidiary of U.S. Bancorp), First Data Corporation, Heartland Payment Systems, Inc., Vantiv, Inc. and WorldPay US, Inc. In addition, we compete with vendors that are specifically targeting independent software vendors and value-added resellers as distribution partners for their merchant acquiring services, such as Accelerated Payments (owned by Global Payments Inc. (“Global Payments”)), PayPros (owned by Global Payments) and Merchant Warehouse.

Many of our competitors have substantially greater financial, technological and marketing resources than we have. Accordingly, if these competitors specifically target our business model, they may be able to offer more attractive fees or payment terms and advances to our current and prospective merchants and more attractive compensation to our Developer and Dealer partners. They also may be able to offer and provide services that we do not offer. Competition may influence the fees we receive from merchants and the compensation that we pay to our partners. If competition causes us to reduce the fees we charge or the compensation we pay to our partners, we will need to aggressively control our costs to maintain our profit margins. Competition could also result in a loss of existing Developers, Dealers and merchants and greater difficulty attracting new Developers, Dealers and merchants, which we may not be able to do. One or more of these factors could have a material adverse effect on our business, financial condition and results of operations.

To acquire and retain merchant accounts, we depend on Developers and Dealers that do not serve us exclusively and whose role in the payments industry could be diminished by changes in how IPOS software or payment services are provided to merchants.

We rely primarily on the efforts of Developers and Dealers to market our services to merchants seeking to establish an account with a payment processor. As a component of their businesses, Developers and Dealers seek to introduce both newly-established and existing SMB merchants, including retailers, restaurants and service providers, such as physicians, to providers of transaction payment processing services like us. Generally, our agreements with Developers and Dealers that refer merchants to us are non-exclusive in that they have the right to refer merchants to other service providers. If a Developer or Dealer switches some or all of their referrals to another payment

 

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processor, ceases operations or enters the processing business themselves, we may no longer receive new merchant referrals from them, and we risk losing existing merchants that were originally enrolled by them. If we fail to maintain our relationships with dealers in our network, or to recruit and establish relationships with new Developers and Dealers, we may experience increased merchant attrition and find it more difficult to attract new merchants, which could adversely affect our revenues.

The role of the IPOS distribution channels on which we rely to gain access to merchants could be negatively impacted by competition with other participants in the payments marketplace or by structural changes in the methods by which IPOS software or payments services are sold or made available to end users. The resulting impact on our channel partners could directly impact our ability to retain existing merchants and attract new merchants.

Unauthorized disclosure, destruction or modification of data, through cybersecurity breaches, computer viruses or otherwise or disruption of our services could expose us to liability, protracted and costly litigation and damage our reputation.

We are responsible for certain third parties under the rules and regulations established by the payment networks, such as Visa, Mastercard, Discover and American Express, and debit networks. These third parties include merchants, Dealers, third-party service providers and other agents, which we refer to collectively as “associated participants.” We and certain of our associated participants collect, process, store and transmit sensitive data, such as names, addresses, social security numbers, credit or debit card numbers and expiration dates, driver’s license numbers and bank account numbers, and we have ultimate liability to the payment networks and member financial institutions that register us with the payment networks for our failure, or the failure of our associated participants, to protect this data in accordance with payment network requirements. The loss, destruction or unauthorized modification of merchant or cardholder data by us or our associated participants or through systems we provide could result in significant fines, sanctions and proceedings or actions against us by the payment networks, governmental bodies, consumers or others, which could have a material adverse effect on our business, financial condition and results of operations. Any such proceeding or action, and any related indemnification obligation, could hurt our reputation, force us to incur significant expenses in defense of these proceedings, distract our management, increase our costs of doing business and may result in the imposition of monetary liability.

Threats may derive from human error, fraud or malice on the part of employees or third parties, or may result from accidental technological failure. Concerns about security are increased when we transmit information. Electronic transmissions can be subject to attack, interception or loss. Also, computer viruses can be distributed and spread rapidly over the Internet and could infiltrate our systems or those of our associated participants. Denial of service or other attacks could be launched against us for a variety of purposes, including interfering with our services or to create a diversion for other malicious activities. These types of actions and attacks and others could disrupt our delivery of services or make them unavailable. Any such actions or attacks against us or our associated participants could hurt our reputation, force us to incur significant expenses in remediating the resulting impacts, expose us to uninsured liability, subject us to lawsuits, fines or sanctions, distract our management or increase our costs of doing business.

We and our associated participants could be subject to breaches of security by hackers. Our encryption of data and other protective measures may not prevent unauthorized access or use of sensitive data. A breach of our system or that of one of our associated participants may subject us to material losses or liability, including payment network fines, assessments and claims for unauthorized purchases with misappropriated credit, debit or card information, impersonation or other similar fraud claims. A misuse of such data or a cybersecurity breach could harm our reputation and deter merchants from using electronic payments generally and our services specifically, thus reducing our

 

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revenue. In addition, any such misuse or breach could cause us to incur costs to correct the breaches or failures, expose us to uninsured liability, increase our risk of regulatory scrutiny, subject us to lawsuits, result in the imposition of material penalties and fines under state and federal laws or by the payment networks. While we maintain insurance coverage that may, subject to policy terms and conditions, cover certain aspects of cyber risks, such insurance coverage may be insufficient to cover all losses. In addition, a significant cybersecurity breach of our systems or communications could result in payment networks prohibiting us from processing transactions on their networks or the loss of our financial institution sponsorship that facilitates our participation in the payment networks, either of which could materially impede our ability to conduct business.

We cannot assure that there are written agreements in place with every associated participant or that such written agreements will prevent the unauthorized use, modification, destruction or disclosure of data or allow us to seek reimbursement from associated participants. In addition, many of our associated participants are small- and medium-sized merchants that have limited competency regarding data security and handling requirements and may thus experience data losses. Any unauthorized use, modification, destruction or disclosure of data could result in protracted and costly litigation, which could have a material adverse effect on our business, financial condition and results of operations.

If we cannot keep pace with rapid developments and changes in our industry, the use of our products and services could decline, causing a reduction in our revenues.

The electronic payments market is subject to constant and significant changes. This market is characterized by rapid technological evolution, new product and service introductions, evolving industry standards, changing customer needs and the entrance of non-traditional competitors. To remain competitive, we continually pursue initiatives to develop new products and services to compete with these new market entrants, including ecommerce services, the development of mobile payment applications, near field communication applications, stored value card offerings and other new and emerging offerings in the electronic payments industry. These projects carry risks, such as cost overruns, delays in delivery, performance problems and lack of customer acceptance. Any delay in the delivery of new products and services or the failure to differentiate our products and services or to accurately predict and address market demand could render our products and services less desirable, or even obsolete, to our merchants and to our Developer and Dealer partners. Furthermore, even though the market for alternative payment processing products and services is evolving, it may develop too rapidly or not rapidly enough for us to recover the costs we have incurred in developing new products and services targeted at this market.

For example, “EMV” is a credit and debit card authentication methodology that Visa, MasterCard, American Express and Discover mandated that U.S. processors be able to support as of April 2013 and that merchants be able to support by October 2015. We have invested, and will continue to invest, significant resources to become EMV compliant and to assist our merchants and the Developers providing POS systems used by such merchants to become EMV compliant before the applicable deadlines. We are not certain if or when our merchants will use or accept the methodology, or if and when issuers will provide EMV cards to consumers in significant volumes. As a result, we may not be able to recoup our costs associated with the development and support of this methodology.

In addition, the products and services we deliver are designed to process very complex transactions and provide reports and other information on those transactions, all at very high volumes and processing speeds. Any failure to deliver an effective, reliable and secure service or any performance issue that arises with a new product or service could result in significant processing or reporting errors or other losses. If a promised new product or service is not timely delivered to our merchants or partners or does not perform as anticipated, our development efforts could result in increased costs and a loss in business

 

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that could reduce our earnings and cause a loss of revenue. We also rely in part on third parties, including some of our competitors and potential competitors, for the development of and access to new technologies, including software and hardware. Our future success will depend in part on our ability to develop or adapt to technological changes and evolving industry standards. If we are unable to develop, adapt to or access technological changes or evolving industry standards on a timely and cost effective basis, our business, financial condition and results of operations would be materially adversely affected.

The IPOS software industry may be subject to consolidation or restructuring in ways that could limit our ability to maintain a competitive position, which could reduce our ability to retain existing merchants and attract new merchants.

The IPOS software industry is a dynamic and rapidly evolving marketplace. Consolidation among developers of IPOS software and systems could result in a market shift that may limit our ability to add new developers to our network or increase attrition rates among our existing Developers. Restructuring of the IPOS software industry, either in the nature of the participants or the way in which developers deliver their products and services, could also negatively impact our competitive position. For example, a significant concentration or reduction of Developers or Dealers, or a shift by Developers to selling directly rather than selling through Dealers, could negatively impact the fees that we are able to charge to merchants, the compensation we are required to pay to our Developer and Dealer partners and our ability to retain existing merchants and board new merchants.

Our in-house processing initiative presents new technical, operational and regulatory risks that could harm our business.

Previously, Global Payments provided all of our back-end processing and the majority of our front-end processing functions. We are migrating certain front-end and back-end processing functions from Global Payments to systems that we manage. Converting merchants to our in-house front-end system presents a range of new technical and operational risks, including system performance and accuracy. In performing back-end processing functions, we will commence a different type of business relationship with Global Payments. This presents new technical and operational risks, including the deployment of new business processes between our companies and risks associated with the interactions of our separate systems. Furthermore, in connection with our transition to our own direct bank sponsorship, we will take on new regulatory and compliance obligations and risks. In addition to these risks, we face competition from existing payment processors, including Global Payments, within this market who may have more experience and resources. If we cannot successfully address the new challenges and compete effectively against the existing providers of these services, our results of operations may suffer. We may also be unsuccessful in implementing, utilizing and maintaining our in-house processing systems and functions, which could materially adversely affect our results of operations.

We rely on affiliates of Global Payments for significant services. If they fail or discontinue providing such services, we would be unable to provide payments processing services to merchants until we obtained a suitable replacement, which would result in an adverse effect on our business, financial condition and results of operations.

We rely on agreements with affiliates of Global Payments, a large payment technology organization, to provide a range of services that enable us to provide services to our merchants. Under a contract that expires in July 2018 pursuant to which we are an independent sales organization of Global Payments, Global Payments provides front- and back-end services, including bank card authorization, data capture, settlement and merchant accounting services and access to various reporting tools for the merchants we serve. This contract automatically renews for one-year periods after the initial term unless either party provides 90 days’ notice of its intention not to renew. Either party may, subject to certain exceptions and cure rights, terminate this contract if the other party

 

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defaults in the performance of its obligations. We also use Global Payments’ services in connection with our in-house processing initiative pursuant to a separate contract, also expiring in July 2018, whereby Global Payments provides certain back-end services, including settlement, merchant accounting and certain reporting and other services, in conjunction with our own front-end processing systems. This contract automatically renews for two-year periods after the initial term unless either party provides one year’s notice of its intention not to renew. Each party may, subject to specified cure periods and materiality thresholds, terminate this contract in the event that the other party fails to perform specified obligations, including those related to payment of fees, compliance and confidentiality, the breach of a party’s systems that adversely impacts the other party or upon certain insolvency related events involving the other party. In addition, we have the right, subject to the payment of a specified termination fee, to terminate the contract in connection with our sale to a third party or the movement of our processing volume to our internal systems.

While we are in the process of migrating certain processing services in-house, the termination of either of these contracts with Global Payments, or Global Payments’ failure to perform its services securely and effectively, would directly limit our ability to provide services to our merchants and adversely affect our relationships with our merchants, and, if we are unable to find alternate providers quickly, may cause those merchants to terminate their processing agreements with us. In addition, a data breach or similar event impacting Global Payments’ systems or our data on their systems could negatively impact our business and reputation and, as a result, cause a loss of existing, or difficulty in attracting new Developers, Dealers and merchants. Global Payments directly or indirectly sells payment processing services to companies in competition with us and competes directly with us in its pursuit of new Developers, Dealers and merchants. In addition, we are subject to credit risk of Global Payments related to the monthly payments they make to us in respect of residual payments based on rates charged to merchants. Before the initiation of our in-house processing initiative in 2013, amounts representing virtually all of our net revenues were remitted to us by Global Payments. When our in-house processing initiative has been fully implemented, we anticipate that amounts representing a small minority of our net revenues will be remitted to us by Global Payments under such arrangements. Finally, if Global Payments were to experience a prolonged outage or terminate the services it provides to us, our business, financial condition and results of operations would be materially adversely affected.

We rely on other service and technology providers. If they fail or discontinue providing their services or technology generally or to us specifically, our ability to provide services to merchants may be interrupted, and, as a result, our business, financial condition and results of operations could be adversely impacted.

We rely on other third parties for specific services such as organizing and accumulating daily transaction data on a merchant-by-merchant and card issuer-by-card issuer basis and forwarding the accumulated data to the relevant payment network. We also rely on third parties for specific software and hardware used in providing our products and services. Some of these organizations and service providers are our competitors or provide similar services and technology to our competitors, and we do not have long-term or exclusive contracts with them. Typically, our contracts with these third parties are for initial terms of up to three years with automatic one-year renewals and are subject to cancellation upon limited notice by either party.

If these contracts are canceled or we are unable to renew them on commercially reasonable terms or at all, our business, financial condition and results of operation could be adversely impacted. The termination by our service or technology providers of their arrangements with us or their failure to perform their services efficiently and effectively may adversely affect our relationships with our merchants and, if we cannot find alternate providers quickly, may cause those merchants to terminate their processing agreements with us.

 

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We are subject to economic and political risk, the business cycles of our merchants and partners and the overall level of consumer and commercial spending, which could negatively impact our business, financial condition and results of operations.

The electronic payments industry depends heavily on the overall level of consumer and commercial spending. We are exposed to general economic conditions that affect consumer confidence, consumer spending, consumer discretionary income and changes in consumer purchasing habits. A sustained deterioration in general economic conditions, particularly in the United States and Canada, or increases in interest rates could adversely affect our financial performance by reducing the number or aggregate volume of transactions made using electronic payments. A reduction in the amount of consumer spending could result in a decrease in our revenue and profits. If our merchants make fewer sales of their products and services using electronic payments, or consumers spend less money through electronic payments, we will have fewer transactions to process at lower dollar amounts, resulting in lower revenue.

A weakening in the economy could have a negative impact on our merchants, as well as their customers who purchase products and services using our payment processing systems, which could, in turn, negatively impact our business, financial condition and results of operations, particularly if economic conditions disproportionately affect some of the discretionary market segments that represent a larger portion of our payment processing volume. In addition, a weakening in the economy could force retailers to close at higher than historical rates, resulting in exposure to potential credit losses and future transaction declines. We also have a certain amount of fixed and semi-fixed costs, including rent, debt service, contractual minimums and salaries, which could limit our ability to quickly adjust costs and respond to changes in our business and the economy.

Our systems and our third-party technology vendors’ systems may fail due to factors beyond our control, which could interrupt our service, cause us to lose business and increase our costs.

We depend on the efficient and uninterrupted operation of numerous systems, including our computer systems, software, data centers and telecommunications networks, as well as the systems and software of third parties. Our systems and operations or those of our third-party technology vendors could be exposed to damage or interruption from, among other things, fire, natural disaster, power loss, telecommunications failure, unauthorized entry, computer viruses, denial-of-service attacks, acts of terrorism, human error, vandalism or sabotage, financial insolvency and similar events. Our property and business interruption insurance may not be adequate to compensate us for all losses or failures that may occur. Likewise, while we have disaster recovery policies and arrangements in place, they have not been tested under actual disasters or similar events. Defects in our systems or those of third parties, errors or delays in the processing of payment transactions, telecommunications failures or other difficulties could result in:

 

    loss of revenues;

 

    loss of Developers, Dealers and merchants;

 

    loss of merchant and cardholder data;

 

    fines imposed by payment networks;

 

    harm to our business or reputation resulting from negative publicity;

 

    exposure to fraud losses or other liabilities;

 

    additional operating and development costs; or

 

    diversion of management, technical and other resources.

 

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We continue to expand and improve our information technology systems. If these implementations are not successful, our business and operations could be disrupted and our operating results could be harmed.

We are currently expanding and improving our information technology systems to assist us in the management of our business. In particular, our continued growth and the deployment of our in-house processing initiative will necessitate the improvement, design and development of more advanced information technology systems, including our data and workflow management systems and security systems, to support our operations. The implementation of new software management platforms and the addition of these platforms at new locations require significant management time, support and cost. Moreover, there are inherent risks associated with developing, improving and expanding our core systems, including operability with our current systems or other new systems, operational challenges, potential security issues and cost overruns. We cannot be sure that these expanded systems will be fully or effectively implemented on a timely basis, if at all. If we are not successful in the implementation of our expansion and improvement projects, our operations may be disrupted and our operating results could be harmed. In addition, the new systems may not operate as we expect them to, and we may be required to expend significant resources to correct problems or find alternative sources for performing these functions.

Degradation of the quality of the products and services we offer, including support services, could adversely impact our ability to attract and retain merchants and partners.

Our Developers, Dealers and merchants expect a consistent level of quality in the provision of our products and services. The support services that we provide are also a key element of the value proposition to our Developers, Dealers and merchants. If the reliability or functionality of our products and services is compromised or the quality of those products or services is otherwise degraded, or if we fail to continue to provide a high level of support, we could lose existing Developers, Dealers and merchants and find it harder to attract new merchants and partners. If we are unable to scale our support functions to address the growth of our merchant and partner network, the quality of our support may decrease, which could adversely affect our ability to attract and retain merchants and partners.

We may face increasing competition to the Mercury Network in the payments market by new entrants and existing participants that are utilizing a combination of IPOS and acquiring services to compete with Developers and Dealers for merchants. These competitors may impact our ability to maintain our existing relationships and grow new relationships with Developers, as well as impair our ability to retain and attract merchants.

We are facing new competition emerging from non-traditional competitors entering the payments market as well as traditional competitors offering alternative payment distribution methods. Certain of these competitors utilize proprietary software and service solutions, such as Intuit, PayPal and Square, and others partner with traditional merchant acquirers to provide a combination of tablet-based IPOS solutions with payment processing services, such as Clover, which is owned by First Data, and Leaf, which is owned in part by Heartland Payments. Certain of these competitors or potential competitors have significant financial resources and robust networks; if they gain a greater share of total electronic payments transactions, it could have a material adverse effect on our business, financial condition and results of operations. These competitors may not only impact our ability to retain and grow our relationships with Developers, but also may compete in ways that minimize or remove the role of traditional POS software in the electronic payments process.

We may not be able to continue to expand our share of the existing payment processing markets or expand into new markets.

Our future growth and profitability depend, in part, upon our continued penetration of the merchant installed base of our Developer and Dealer partners, the further expansion of this partner network, the

 

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emergence of IPOS in other payment processing markets and our ability to penetrate these markets. Future growth and profitability of our business may depend upon our ability to penetrate new verticals and markets for payment processing. You should not rely on historical growth rates in our operating metrics as an indication of future growth rates, as we do not expect to sustain the rates of growth we experienced in growing from a small enterprise to our current scale.

Our expansion into new verticals and markets is also dependent upon our ability to adapt our existing technology or to develop new technologies to meet the particular needs of each new vertical or market. We may not have adequate financial or technological resources to develop effective and secure services or distribution channels that will satisfy the demands of these new verticals or markets. Penetrating these new verticals or markets may also prove to be more challenging or costly or take longer than we may anticipate. If we fail to expand into new and existing payment processing markets, we may not be able to continue to grow our revenues and earnings.

A decline in the use of credit, debit or stored value cards as a payment mechanism for consumers or adverse developments with respect to the payment processing industry in general could have a material adverse effect on our business, financial condition and results of operations.

If consumers do not continue to use credit, debit or stored value cards as a payment mechanism for their transactions or if there is a change in the mix of payments among cash, credit, debit and stored value cards that is adverse to us, our business, financial condition and results of operations could be materially adversely affected. Consumer credit risk may also make it more difficult or expensive for consumers to gain access to credit facilities. Regulatory changes may also result in financial institutions seeking to charge their customers additional fees for use of credit or debit cards. Such fees may result in decreased use of credit or debit cards by cardholders. In each case, our business, financial condition and results of operations may be adversely affected. In December 2013, the U.S. District Court for the Eastern District of New York issued a final order approving a definitive class settlement agreement resolving the plaintiffs’ claims in a merchant class multi-district interchange litigation against Visa, MasterCard and the named member banks. According to the settlement agreement, the settlement consists of two funds, including (1) a cash fund of approximately $6.05 billion (which has been reduced by 25%, to approximately $4.5 billion, to account for merchants who excluded themselves from the class of plaintiffs), to pay valid claims of merchants who accepted Visa or MasterCard credit or debit cards and paid interchange fees between January 1, 2004 and November 28, 2012, and (2) a second fund of approximately $1.2 billion to compensate merchants who accepted Visa or MasterCard credit cards and paid interchange fees during the eight-month period beginning July 29, 2013. Among other terms, the settlement agreement provides for the modification of Visa’s and MasterCard’s rules to allow merchants to impose a surcharge on credit card transactions at the point of sale under certain conditions, to accept Visa or MasterCard credit or debit cards at some but not all of a merchant’s stores and to offer discounts to customers who make payments through methods that carry lower fees than Visa or MasterCard credit or debit cards. These provisions or other provisions in the final settlement agreement, which has been appealed by certain plaintiffs, could ultimately result in decreased use of credit cards, demands for lower fees for our services or have other adverse impacts that are not readily known and that we may not know for some time. To increase and maintain our profitability consistently, consumers and businesses must continue to use electronic payment methods including credit, debit and stored value cards. Moreover, if there is an adverse development in the payments industry in general, such as new legislation or regulation that makes it more difficult or more expensive for our merchants to do business or for us to change processing fees or limit the amount of our fees, our business, financial condition and results of operations may be adversely affected.

 

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If we or our merchants fail to comply with the applicable requirements of the payment networks, those payment networks could seek to fine us or could suspend or terminate our registrations through our financial institution sponsors, which could impair our ability to conduct our business.

A significant source of our revenue comes from processing transactions through the payment networks, including Visa, Mastercard, Discover and American Express. The payment networks routinely update and modify their requirements. Changes in the requirements may impact our ongoing cost of doing business and we may not always be able to pass through such costs to our merchants or associated participants. Furthermore, if we do not comply with the payment network requirements, the payment networks could seek to fine us, suspend us or terminate our registrations through our financial institution sponsors which allow us to process transactions on their networks. On occasion, we have received notices of merchant non-compliance and related fines, which have typically related to excessive chargebacks by a merchant or data security failures on the part of a merchant. If we are unable to recover fines from, or pass through costs to, our merchants or other associated participants, we would experience a financial loss. The termination of our registration or any changes in the payment network rules that would impair our registration could require us to stop providing payment network services to the applicable payment network, which would have a material adverse effect on our business, financial condition and results of operations.

Changes in payment network rules or standards could adversely affect our business, financial condition and results of operations.

To provide our transaction processing services, we are registered through our bank sponsorship with Visa and MasterCard and certain other payment networks as service providers for member institutions and directly with other payment networks, including Discover and American Express. As such, we and many of our merchants are subject to payment network rules, including the Payment Card Industry Data Security Standard (“PCI DSS”), that could subject us or our associated participants and merchants to a variety of fines or penalties that may be levied by the payment networks for certain acts or omissions by us or our associated participants. Payment network rules are established and changed from time to time by each payment network as they may determine in their sole discretion and with or without advance notice to their participants. Payment networks generally establish their rules to allocate responsibilities among the payment networks’ participants and generally structure and change such rules for any number of reasons, including as a result of changes in the regulatory environment, to maintain or attract new participants or to serve their own strategic initiatives. In some cases, payment networks compete with us and their ability to modify and enhance their rules in their sole discretion may provide them an advantage in selling or developing their own services that may compete directly or indirectly with our services. The termination of our member registration or our status as a certified service provider or any changes in payment network rules or standards, including interpretation and implementation of the rules or standards, that increase our cost of doing business or limit our ability to provide transaction processing services to or through our merchants, could have a material adverse effect on our business, financial condition and results of operations.

If we cannot pass increases in interchange, assessment, transaction and other fees from payment networks along to our merchants, our operating margins will be reduced.

We pay interchange and other fees set by the payment networks to the card issuing financial institution and the payment networks for each transaction we process. From time to time, the payment networks increase the interchange fees and other fees that they charge payment processors and the financial institution sponsors. At their sole discretion, our financial institution sponsors have the right to pass any increases in interchange and other fees on to us, and they have consistently done so in the past. We are generally permitted under the contracts into which we enter, and in the past we have been able to, pass these fee increases along to our merchants through corresponding increases in our

 

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processing fees, subject to the right of Wells Fargo Bank, N.A. (“Wells Fargo”) as our BIN sponsor to approve any increase in the fees we charge our merchants, as further described below, and, for transactions outside our in-house processing initiative, subject to the right of Global Payments (and, indirectly, of Wells Fargo, as Global Payments’ BIN sponsor) to approve any increase in fees. However, if we are unable to pass through these and other fees in the future, it could have a material adverse effect on our business, financial condition and results of operations.

We rely on a financial institution sponsor, which has substantial discretion with respect to certain elements of our business practices, and financial institution clearing service providers, to process electronic payment transactions. If this sponsorship or these clearing services are terminated and we are unable to secure new bank sponsors or financial institutions, we will not be able to conduct our business. Even if our sponsorship agreement remains intact, issues could arise in our relationship with our sponsor that could negatively impact our business.

Because we are not a bank, we are not eligible for membership in certain payment networks, including Visa and MasterCard. The operating regulations of certain payment networks, including Visa and MasterCard, require us to be sponsored by a member bank to process electronic payment transactions. In our capacity as an independent sales organization of Global Payments, we are indirectly sponsored by Wells Fargo through Global Payments’ registration with certain payment networks, including Visa and MasterCard. In connection with our transition to our own direct bank sponsorship, we are registered with certain payment networks, including Visa and MasterCard, through Wells Fargo as well. We may in the future enter into similar sponsorship arrangements with one or more other banks.

The agreements with Wells Fargo give Wells Fargo substantial discretion in approving certain aspects of our business practices and our agreements with merchants, including our solicitation, application and qualification procedures for merchants, and the pricing and other terms of our agreements with merchants, including the ability to cause us to make certain amendments to such agreements. In addition, in our capacity as an independent service organization of Global Payments, any increase in the prices we charge our merchants must be approved by Global Payments and, indirectly, Wells Fargo, as Wells Fargo’s and Global Payments’ ability to influence the prices we charge our merchants and other discretionary actions they may take under these agreements could have a material adverse effect on our business, financial condition and results of operations. We also rely, either directly or through Global Payments, on various financial institutions to provide clearing services in connection with our settlement activities. If this sponsorship or these clearing services agreements are terminated and we are unable to secure another bank sponsor or clearing service provider, we will not be able to process Visa, MasterCard and certain other payment network transactions or settle transactions, which would have a material adverse effect on our business, financial condition and results of operations.

Issues could also arise in our relationship with Wells Fargo that could adversely affect our sponsorship arrangements and our ability to conduct certain aspects of our business. We compete with affiliates of Wells Fargo for merchant acquiring business, and our sponsorship relationship gives Wells Fargo direct access to many of our merchants. Such direct access could increase competitive activity and diminish our ability to board and retain merchants, which would negatively impact our revenues. Additionally, competition for merchant acquiring business with affiliates of Wells Fargo could complicate our sponsorship relationship, which could reduce our ability to perform our merchant acquiring activities effectively, resulting in a material adverse impact on our business, financial condition and results of operations.

 

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We have business systems that do not have full redundancy.

While much of our processing infrastructure is located in multiple, redundant data centers, we have some core business systems that are located in only one facility and do not have redundancy. An adverse event with respect to such systems or the facilities in which they are located could impact our ability to conduct business and perform critical functions, which could negatively impact our financial condition and results of operations.

Fraud by merchants, our partners, employees or others could have a material adverse effect on our business, financial condition and results of operations.

We face potential liability for fraudulent electronic payment transactions or credits initiated by merchants or others. Examples of merchant fraud include when a merchant or other party knowingly uses a stolen or counterfeit credit, debit or stored value card, card number or other credentials to record a false sales transaction, processes an invalid card or intentionally fails to deliver the merchandise or services sold in an otherwise valid transaction. Criminals are using increasingly sophisticated methods to engage in illegal activities such as counterfeiting and fraud. Fraudulent activities could also be perpetrated by our employees or agents. It is possible that incidents of fraud could increase in the future. Failure to effectively manage risk and prevent fraud would increase our chargeback liability or other liability, which could have a material adverse effect on our business, financial condition and results of operations.

Our risk management policies and procedures may not be fully effective in mitigating our risk exposure in all market environments or against all types of risks.

We operate in a rapidly changing industry, and we have experienced significant growth in recent years, growing from approximately 75,800 merchants at the end of 2012 to approximately 88,700 merchants at the end of 2013. Accordingly, our risk management policies and procedures may not be fully effective to identify, monitor, manage and remediate our risks. Some of our risk evaluation methods depend upon information provided by others and public information regarding markets, merchants or other matters that are otherwise inaccessible by us. In some cases, that information may not be accurate, complete or up-to-date. If our policies and procedures are not fully effective or we are not always successful in capturing all risks to which we are or may be exposed, we may suffer harm to our reputation or be subject to litigation or regulatory actions that could have a material adverse effect on our business, financial condition and results of operations.

We are subject to extensive government regulation, and any new laws and regulations, industry standards or revisions made to existing laws, regulations or industry standards affecting the electronic payments industry and other industries in which we operate may have an unfavorable impact on our business, financial condition and results of operations.

Our business is impacted by laws and regulations that affect our industry. The number of new and proposed regulations has increased significantly, particularly pertaining to interchange fees on credit and debit card transactions, which are paid to the card issuing financial institution. In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) was signed into law. The Dodd-Frank Act and the related rules and regulations have resulted in significant changes to the regulation of the financial services industry. Changes impacting the payment processing industry include providing merchants with the ability to set minimum dollar amounts for the acceptance of credit cards and to offer discounts or incentives to entice consumers to pay with cash, checks, debit cards or credit cards, as the merchant prefers. New rules also contain certain prohibitions on payment network exclusivity and merchant routing restrictions. These restrictions could negatively affect the number of debit transactions, and prices charged per transaction, which would negatively affect our business. The Dodd-Frank Act also created the Consumer Financial Protection Bureau (the “CFPB”), which has

 

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assumed responsibility for most federal consumer protection laws, and the Financial Stability Oversight Council, which has the authority to determine whether any non-bank financial company, such as us, should be supervised by the Board of Governors of the Federal Reserve System (the “Federal Reserve”) because it is systemically important to the U.S. financial system. Any such designation would result in increased regulatory burdens on our business, which increases our risk profile and may have an adverse impact on our business, financial condition and results of operations.

Additionally, the Durbin Amendment to the Dodd-Frank Act provides that the interchange fees that certain issuing financial institutions charge merchants for debit transactions will be regulated by the Federal Reserve and must be “reasonable and proportional” to the cost incurred by the card issuer in authorizing, clearing and settling the transactions. Rules released by the Federal Reserve in July 2011 to implement the Durbin Amendment mandate a cap on debit transaction interchange fees for card issuers with assets of $10 billion or greater. Since October 2011, (1) a card payment network may not prohibit a card issuer from contracting with any other card payment network for the processing of electronic debit transactions involving the issuer’s debit cards and (2) card issuing financial institutions and card payment networks may not inhibit the ability of merchants to direct the routing of debit card transactions over any card payment networks that can process the transactions. Since April 2012, most debit card issuers have been required to enable at least two unaffiliated card payment networks on each debit card. The interchange fee cap has the potential to alter the type or volume of card based transactions that we process on behalf of our merchants. These new regulations could result in the need for us to make capital investments to modify our services to facilitate our existing merchants’ and potential merchants’ compliance and reduce the fees we are able to charge our merchants. These new regulations also could result in greater pricing transparency and increased price-based competition leading to lower margins and higher rates of merchant attrition. Furthermore, the requirements of the new regulations and the timing of their effective dates could result in changes in our merchants’ business practices that may alter their delivery of their products and services to consumers and the timing of their investment decisions, which could change the demand for our services and alter the type or volume of transactions that we process on behalf of our merchants. Any new rules or regulations implemented by the CFPB or the Financial Stability Oversight Council or in connection with the Dodd-Frank Act that are applicable to us, or any changes that are adverse to us resulting from litigation brought by third parties challenging such rules and regulations, could increase our cost of doing business or limit permissible activities.

The Credit Card Accountability Responsibility and Disclosure Act of 2009 (the “Card Act”) created new requirements applicable to general-use prepaid gift cards, store gift cards and electronic gift certificates. The Card Act, along with the Federal Reserve’s amended Regulation E, created new requirements with respect to these cards and electronic certificates. Prepaid services may also be subject to the rules and regulations of the payment networks including Visa, Mastercard, Discover and American Express, with which our merchants and the card issuers do business. If we fail or are unable to comply with these requirements, our merchants (or in certain instances, we) could be subject to the imposition of fines, civil liability and, in the case of willful and deliberate non-compliance, criminal liability, which could impact our ability to offer our credit issuer processing services, stored value or other related services and could have a material adverse effect on our business, financial condition and results of operations.

All persons engaged in commerce, including, but not limited to, us and our merchant customers are subject to Section 5 of the Federal Trade Commission Act prohibiting unfair or deceptive acts or practices (“UDAP”). In addition, the UDAP and other laws, rules and or regulations, including the Telemarketing Sales Act, may directly impact the activities of certain of our merchants, and in some cases may subject us, as the merchant’s payment processor or provider of certain services, to investigations, fees, fines and disgorgement of funds if we were deemed to have aided and abetted or otherwise provided the means and instrumentalities to facilitate the illegal or improper activities of the

 

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merchant through our services. Various federal and state regulatory enforcement agencies including the Federal Trade Commission (“FTC”) and the states’ attorneys general have authority to take action against non-banks that engage in UDAP or violate other laws, rules and regulations and to the extent we are processing payments or providing services for a merchant that may be in violation of laws, rules and regulations, we may be subject to enforcement actions and as a result may incur losses and liabilities that may impact our business.

Additionally, the Financial Crimes Enforcement Network of the U.S. Department of the Treasury (“FinCEN”) issued a final rule in July 2011 regarding the applicability of the Bank Secrecy Act’s regulations to “prepaid access” products and services. This rulemaking clarifies the anti-money laundering obligations for entities engaged in the provision and sale of prepaid services, such as prepaid gift cards. We are not registered with FinCEN based on our determination that our current products and services do not constitute a “prepaid program” as defined in the Bank Secrecy Act. We could be subject to fines or penalties if our determination is deemed to be incorrect. We may in the future need to register with FinCEN as a “money services business-provider of prepaid access” in accordance with the rule based on changes to our products or services. Notwithstanding anti-money laundering procedures that we have implemented pursuant to various contractual obligations, the rule increases our regulatory risks and, as with other regulatory requirements, violations of the rule could have a material adverse effect on our business, financial condition and results of operations.

The Housing Assistance Tax Act of 2008 requires certain merchant acquiring entities and third-party settlement organizations to provide information returns for each calendar year with respect to payments made in settlement of electronic payment transactions and third-party payment network transactions occurring in that calendar year. Reportable transactions are also subject to backup withholding requirements. We could be liable for penalties if our information returns are not in compliance with the new regulations.

Our business may also be subject to the Fair Credit Reporting Act (the “FCRA”), which regulates the use and reporting of consumer credit information and also imposes disclosure requirements on entities that take adverse action based on information obtained from credit reporting agencies. We could be liable if our practices under the FCRA are not in compliance with the FCRA or regulations under it.

These and other laws and regulations could adversely affect our business, financial condition and results of operations. In addition, even an inadvertent failure to comply with laws and regulations, as well as rapidly evolving social expectations of corporate fairness, could damage our business or our reputation.

Changes in requirements relating to the handling of sensitive data could adversely impact our ability, as well as the ability of our Developers, Dealers and merchants, to be compliant with such requirements.

Changes in laws or governmental regulations or the rules and regulations of the payment networks, or an increased level of enforcement action regarding the same, related to the secure processing, storage and transmission of sensitive data, including personally identifiable information, could require us to update our systems or change the way in which we perform our services or interact with third parties. Such changes, including those to the PCI DSS, could have significant financial and operational impacts on our business. These types of changes could also directly impact our Developers’, Dealers’ and merchants’ operations and financial condition, which could adversely affect us. In addition to increasing our liability related to our direct compliance obligations and exposure related to the compliance obligations of our Developers, Dealers and merchants, changes in the rules and regulations related to the handling of sensitive data could adversely impact our ability to integrate with new IPOS systems and software and to attract new merchants.

 

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Governmental regulations designed to protect or limit access to consumer information could adversely affect our ability to effectively provide our services to merchants.

Governmental bodies in the United States and abroad have adopted, or are considering the adoption of, laws and regulations restricting the transfer of, and requiring safeguarding of, non-public personal information. For example, in the United States, all financial institutions must undertake certain steps regarding the privacy, use and security of consumer financial information. Our operations are subject to certain provisions of these laws, though we historically have limited our use of that consumer information solely to providing our services to other businesses and financial institutions. We may change our practices in the future. If we cannot successfully address how those regulations may apply to changes in our practices, we may be subject to liability and our results may suffer.

In connection with providing services to our merchants, we are required by regulations and contracts with them and with our financial institution partners to provide assurances regarding the confidentiality and security of non-public consumer information. These contracts require periodic audits by independent companies regarding our compliance with industry standards and also allow for similar audits regarding best practices established by regulatory guidelines. The compliance standards relate to our infrastructure, components and operational procedures designed to safeguard the confidentiality and security of non-public consumer personal information shared by our merchants with us. Our ability to maintain compliance with these standards and satisfy these audits will affect our ability to attract, grow and maintain business in the future. We strive to comply with all applicable laws and regulations relating to the protection of data privacy, including those relating to the use of such information for marketing purposes; however, if we fail to comply with these laws and regulations, we could be exposed to suits for breach of contract or to governmental proceedings. In addition, our relationships and reputation could be harmed, and we could be inhibited in our ability to obtain new merchants.

If more restrictive privacy laws or rules are adopted by authorities in the future on the federal or state level, our compliance costs may increase and our ability to perform due diligence on, and monitor the risk of, our current and potential merchants may decrease, which could create liability for us. Additionally, our opportunities for growth may be curtailed by our compliance capabilities or reputational harm, and our potential liability for security breaches may increase, all of which could have a material adverse effect on our business, financial condition and results of operations.

Changes in tax laws or their interpretations, or becoming subject to additional U.S., state or local taxes that cannot be passed through to our merchants, could negatively affect our business, financial condition and results of operations.

We are subject to tax laws in each jurisdiction where we do business. Changes in tax laws or their interpretations could decrease the amount of revenues we receive, the value of any tax loss carryforwards and tax credits recorded on our balance sheet and the amount of our cash flow, and have a material adverse impact on our business, financial condition and results of operations. Furthermore, companies in the payment processing industry, including us, may become subject to incremental taxation in various tax jurisdictions. Taxing jurisdictions have not yet adopted uniform positions on this topic. If we are required to pay additional taxes and are unable to pass the tax expense through to our merchants, our costs would increase and our net income would be reduced, which could have a material adverse effect on our business, financial condition and results of operations.

 

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We incur liability when our merchants refuse or cannot reimburse us for chargebacks resolved in favor of their customers, fees, fines or other assessments we incur from the payment networks. We cannot accurately anticipate these liabilities, which may adversely affect our business, financial condition and results of operations.

If a dispute between a cardholder and a merchant is not resolved in favor of the merchant, the transaction is normally charged back to the merchant, and the purchase price is credited or otherwise refunded to the cardholder. If we are unable to collect such amounts from the merchant’s account or reserve account (if applicable), or if the merchant refuses or is unable, due to closure, bankruptcy or other reasons, to reimburse us for a chargeback, we may bear the loss for the amount of the refund paid to the cardholder. The risk of chargebacks is typically greater with those merchants that promise future delivery of goods and services rather than delivering goods or rendering services at the time of payment. Although we have not historically incurred significant levels of chargebacks, we may experience significant losses from chargebacks in the future. Any increase in chargebacks not paid by our merchants could have a material adverse effect on our business, financial condition and results of operations.

Nearly all of our merchants are small- and medium-sized businesses and small affiliates of large companies, which can be more difficult and costly to retain and monetize than larger enterprises and may increase the impact of economic fluctuations on us.

We market and sell nearly all of our solutions to small- and medium-sized businesses (“SMBs”) and small affiliates of large companies. To continue to grow our revenue, we must add new merchants, sell additional services to existing merchants and encourage existing merchants to continue doing business with us. However, retaining and monetizing SMBs can be more difficult than retaining and monetizing large enterprises because SMB merchants:

 

    often have higher rates of business failures and more limited resources;

 

    are typically less sophisticated in their ability to make technology-related decisions based on factors other than price; and

 

    may have decisions related to the choice of payment processor dictated by their affiliated parent entity.

SMBs are typically more susceptible to the adverse effects of economic fluctuations. Adverse changes in the economic environment or business failures of our SMB merchants may have a greater impact on us than on our competitors who do not focus on SMBs to the extent that we do. As a result, we may need to onboard new merchants at an accelerated rate or decrease our expenses to reduce negative impacts on our business, financial condition and results of operations.

Acquisitions, partnerships or joint ventures could disrupt our business and harm our financial condition.

We evaluate, and expect in the future to evaluate, potential strategic acquisitions of and partnerships or joint ventures with complementary businesses, services or technologies. We may not be successful in identifying acquisition, partnership and joint venture candidates. In addition, we may not be able to successfully finance or integrate any businesses, services or technologies that we acquire or with which we form a partnership or joint venture. Certain partnerships and joint ventures we enter into may prevent us from competing for certain merchants or in certain lines of business. We may spend time and money on projects that do not increase our revenue. To the extent we pay the purchase price of any acquisition in cash, it would reduce our cash reserves, and to the extent the purchase price is paid with our stock, it could be dilutive to our stockholders. To the extent we pay the purchase price with proceeds from the incurrence of debt, it could negatively affect our liquidity and restrict our operations. Our competitors may

 

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be willing or able to pay more than us for acquisitions, which may cause us to lose certain acquisitions that we would otherwise desire to complete. We cannot provide any assurance that any acquisition we make, or partnership or joint venture we enter into, will not have a material adverse effect on our business, financial condition and results of operations.

The costs and effects of pending and future litigation, investigations or similar matters, or adverse facts and developments related thereto, could harm our reputation and materially affect or impair our business, financial position and results of operations.

From time to time we are involved in various litigation matters and may be involved in governmental or regulatory investigations or similar matters arising out of our current or future business. Any claims asserted against us (including the Heartland suit described below), regardless of merit or eventual outcome, could harm our reputation and have an adverse impact on our relationship with our merchants, Developers and Dealers and could lead to additional related claims. Certain claims may seek injunctive relief, which could disrupt the ordinary conduct of our business and operations and/or increase our cost of doing business. Our insurance or indemnities may not be available or cover all claims that may be asserted against us. Furthermore, there is no guarantee that we will be successful in defending ourselves in pending or future litigation or similar matters under various laws.

On January 29, 2014, Heartland Payment Systems, Inc. (“Plaintiff”), a competitor in the payment processing industry, filed a complaint in the U.S. District Court for the Northern District of California against Mercury Payment Systems, LLC. Asserting claims under the federal Lanham Act and California unfair competition laws, Plaintiff primarily alleges that we engage in false advertising and deceptive and unfair business practices related to the way in which we bill our merchants and claims that we intentionally interfered with Plaintiff’s contractual relations and business relationships with its merchants and its future economic opportunities by inducing existing and prospective merchants of Plaintiff to sever their relationships with Plaintiff and instead engage our services. Plaintiff seeks various damages, including compensatory damages, restitution or disgorgement of profits, treble, punitive, or exemplary damages and costs and attorneys’ fees. Plaintiff also seeks an order enjoining certain allegedly unlawful business practices. Our answer or responsive pleading is due April 1, 2014, and we intend to vigorously defend against this suit. However, no assurance can be provided that we will ultimately prevail or that, even if we prevail, our business and reputation will not be harmed by such allegations or the time and energy management is required to devote to defending litigation.

Should the ultimate judgments or settlements in any pending litigation (including the Heartland suit described above) or future litigation or investigation significantly exceed our insurance coverage or indemnification levels under contracts with third parties, or in the event such insurance coverage or indemnification is not available, such judgments and settlements could have a material adverse effect on our business, financial condition and results of operations.

We may not be able to successfully manage our intellectual property and may be subject to infringement claims.

We rely on a combination of contractual rights, copyright, trademark, patent and trade secret laws to establish and protect our proprietary technology. Effective intellectual property protection is expensive to obtain, develop and maintain, both in terms of initial and ongoing registration or prosecution requirements and the expenses of defending our rights. We are seeking to protect our patentable technology in the United States, a time and cost-intensive process that may not be successful or which we may not pursue in every location. We have six pending patent applications in the United States. However, even if these patents are issued, they and our trademarks and other intellectual property rights may not provide us with a competitive advantage if others, including our competitors, may independently develop similar technology, duplicate our services or design around our intellectual property, and in such cases we could not assert our intellectual property rights against such parties. Third parties may also challenge, invalidate, circumvent, infringe, dilute or misappropriate

 

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our intellectual property. All of the foregoing could result in costly redesign efforts, discontinuance of certain service offerings or other competitive harm. Further, our contractual arrangements may not effectively prevent disclosure of our confidential information or provide an adequate remedy in the event of unauthorized disclosure of our confidential information. We may have to litigate to enforce or determine the scope and enforceability of our intellectual property rights, trade secrets and know-how, which is expensive, could cause a diversion of resources and may not prove successful. Also, because of the rapid pace of technological change in our industry, aspects of our business and our services rely on technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties on reasonable terms or at all. The loss of intellectual property protection or the inability to obtain third-party intellectual property could harm our business and ability to compete.

We may also be subject to costly litigation in the event our services and technology infringe upon or otherwise violate a third party’s proprietary rights. Third parties may have, or may eventually be issued, intellectual property rights that could be infringed by our services or technology, including pending patents in the United States, which are not immediately publicly disclosed. Any of these third parties could make a claim of infringement against us with respect to our services or technology. We have been, and may be in the future, subject to claims by third parties for breach of patent, copyright, trademark, license usage or other intellectual property rights. Any claim from third parties may result in a limitation on our ability to use the intellectual property subject to these claims. Additionally, in recent years, individuals and groups have been purchasing intellectual property assets for the sole purpose of making claims of infringement and attempting to extract settlements from companies like ours. Even if we believe that intellectual property related claims are without merit, defending against such claims is time consuming and expensive and could result in the diversion of the time and attention of our management and employees. Claims of intellectual property infringement also might require us to redesign affected services without the assurance of a suitable alternative, enter into costly settlement or license agreements, pay costly damage awards, or face a temporary or permanent injunction prohibiting us from marketing or selling our services. Even if we have an agreement for indemnification against such costs, the indemnifying party, if any in such circumstances, may be unable to uphold its contractual obligations. If we cannot or do not license the infringed technology on reasonable terms or substitute similar technology from another source, our revenue and earnings could be adversely impacted.

Finally, we use open source software in connection with our technology and services. Companies that incorporate open source software into their products have, from time to time, faced claims challenging the ownership of open source software. As a result, we could be subject to suits by parties claiming ownership of what we believe to be open source software. Some open source software licenses require users who distribute open source software as part of their software to publicly disclose all or part of the source code to such software and/or make available any derivative works of the open source code on unfavorable terms or at no cost. While we monitor the use of open source software in our technology and services and try to ensure that none is used in a manner that would require us to disclose the source code to the related technology or service, such use could inadvertently occur and any requirement to disclose our proprietary source code could be harmful to our business, financial condition and results of operations.

If we lose key personnel our business, financial condition and results of operations may be adversely affected, and proprietary information of the company could be shared with our competitors.

We are dependent upon the ability and experience of a number of our key personnel who have substantial experience with our operations, the rapidly changing payment processing industry and the markets in which we offer our services. Many of our key personnel have worked for us for a significant amount of time or were recruited by us specifically due to their experience. It is possible that the loss of

 

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the services of one or a combination of our senior executives or key managers could have a material adverse effect on our business, financial condition and results of operations. In addition, contractual obligations related to confidentiality and assignment of intellectual property rights may be ineffective or unenforceable and departing employees may share our proprietary information with competitors in ways that could adversely impact us.

In a dynamic industry like ours, our success and growth are dependent on our ability to attract, recruit, retain and develop qualified employees.

Our business functions at the intersection of rapidly changing technological, social, economic and regulatory developments that require a wide ranging set of expertise and intellectual capital. Since 2010, we have hired significant numbers of new personnel and must continue to hire additional personnel to execute our strategic plans. In order for us to continue to successfully compete and grow, we must attract, recruit, develop and retain the necessary personnel who can provide the needed expertise across the entire spectrum of our intellectual capital needs. While we have a number of key personnel who have substantial experience with our operations, we must also develop our personnel to provide succession plans capable of maintaining continuity in the midst of the inevitable unpredictability of human capital. The market for qualified personnel is competitive, and we may not succeed in recruiting additional personnel or may fail to effectively replace current personnel who depart with qualified or effective successors. Our effort to retain and develop personnel may also result in significant additional expenses, which could adversely affect our profitability. We cannot assure that qualified employees will continue to be employed or that we will be able to attract and retain qualified personnel in the future. Failure to retain or attract key personnel could have a material adverse effect on our business, financial condition and results of operations.

We cannot assure that we will effectively manage our growth.

Our employee headcount and the scope and complexity of our business have increased significantly, with the number of full-time employees increasing from 423 as of December 31, 2010, to 646 as of March 15, 2014, and we expect headcount growth to continue for the foreseeable future. The growth and expansion of our business, products and services create significant challenges for our management, operational, and financial resources, including managing multiple relationships with Developers, Dealers, merchants, and other third parties. In the event of continued growth of our operations or in the number of our third-party relationships, our information technology, systems, processes or our internal controls and procedures may not be adequate to support our operations. To effectively manage our growth, we must continue to improve our operational, financial, and management processes and systems and to effectively expand, train and manage our employee base.

Our operating results and operating metrics are subject to seasonality and volatility, which could result in fluctuations in our quarterly revenues and operating results or in perceptions of our business prospects.

We have experienced in the past, and expect to continue to experience, seasonal fluctuations in our revenues as a result of consumer spending patterns. Historically our revenues have been strongest in our third and fourth quarters and weakest in our first quarter. This is due to the increase in the number and amount of electronic payment transactions related to seasonal retail events. We also experience volatility in certain other metrics, such as merchant, Dealer and Developer counts and transaction numbers and volumes. Volatility in our key operating metrics or their rates of growth could have a negative impact on our financial results and investor perceptions of our business prospects.

 

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We may need to raise additional funds to finance our future capital needs, which may prevent us from growing our business.

We may need to raise additional funds to finance our future capital needs, including developing new services and technologies, and to fund ongoing operating expenses. We also may need additional financing earlier than we anticipate if we, among other things:

 

    need to reduce pricing in response to competitive or regulatory pressures;

 

    need to pay higher compensation levels to retain or attract Developers and Dealers;

 

    incur higher than expected costs and expenses;

 

    are required to pay significant settlements or fines; or

 

    repurchase our Class A common stock.

If we raise additional funds through the sale of equity securities, these transactions may dilute the value of our outstanding Class A common stock. We may also decide to issue securities, including debt securities, that have rights, preferences and privileges senior to our Class A common stock. Any debt financing would increase our already high level of indebtedness and could negatively affect our liquidity and restrict our operations. We may be unable to raise additional funds on terms favorable to us or at all. If financing is not available or is not available on acceptable terms, we may be unable to fund our future needs. This may prevent us from increasing our market share, capitalizing on new business opportunities or remaining competitive in our industry.

Newly introduced accelerated funding programs will increase our working capital requirements and expose us to incremental credit risk, and if we are unable to access or raise sufficient liquidity to address these funding programs we may be exposed to additional competitive risk.

In response to demand from our merchants and competitive offerings, we have recently introduced “accelerated funding” programs, which are designed to enable qualified participating merchants to receive their deposits from credit card transactions in an expedited manner. These programs, which include “same-day” funding and “next-day” funding, will increase our working capital requirements and expose us to incremental credit risk related to our merchants, which could constrain our ability to raise additional capital to fund our operations and adversely affect our growth, financial condition and results of operations. Our inability to access or raise sufficient liquidity to address our needs in connection with the anticipated expansion of such advance funding programs could put us at a competitive disadvantage by restricting our ability to offer programs to all of our merchants similar to those made available by various of our competitors.

Potential Developers, Dealers and merchants for our network may be reluctant to switch to a new vendor or partner, which may adversely affect our growth.

Many potential merchants and partners worry about potential disadvantages associated with switching payment processors, such as a loss of accustomed functionality, increased costs and business disruption. For our Developer and Dealer partners, switching to us from another vendor of core processing or related software and service, or integrating with us may constitute a significant undertaking. As a result, many Developers, Dealers and merchants often resist change. We seek to overcome this resistance through strategies such as making investments to enhance the functionality of our products and services and the ease of their use. However, there can be no assurance that our strategies for overcoming potential reluctance to change vendors or initiate a relationship with Mercury will be successful, and this resistance may adversely affect our growth.

 

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Risks Related to Our Company and Our Organizational Structure

Our substantial indebtedness could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our debt obligations.

We have a high level of indebtedness. As of December 31, 2013, we had total indebtedness of $299.2 million. For the year ended December 31, 2013, total payments under our annual debt service obligations, including interest and principal, were $19.5 million. Our high degree of leverage could have significant negative consequences, including:

 

    increasing our vulnerability to adverse economic, industry or competitive developments;

 

    requiring a substantial portion of cash flow from operations to be dedicated to the payment of principal and interest on our indebtedness, therefore reducing our ability to use our cash flow to fund our operations, capital expenditures and future business opportunities;

 

    exposing us to the risk of increased interest rates because certain of our borrowings, including and most significantly borrowings under the Credit Facilities, are at variable rates of interest;

 

    making it more difficult for us to satisfy our obligations with respect to our indebtedness, and any failure to comply with the obligations of any of our debt instruments, including restrictive covenants and borrowing conditions, could result in an event of default under the agreements governing such indebtedness;

 

    restricting us from making strategic acquisitions or causing us to make non-strategic divestitures;

 

    making it more difficult for us to obtain payment network sponsorship and clearing services from financial institutions;

 

    limiting our ability to obtain additional financing for working capital, capital expenditures, product development, debt service requirements, acquisitions, accelerated merchant funding and general corporate or other purposes; and

 

    limiting our flexibility in planning for, or reacting to, changes in our business or market conditions and placing us at a competitive disadvantage compared to our competitors who are less highly leveraged and who, therefore, may be able to take advantage of opportunities that our leverage prevents us from exploiting.

The majority of our indebtedness consists of indebtedness under our senior secured term loan facility and senior secured revolving credit facility which mature in July 2017. We may not be able to refinance the Credit Facilities or any other existing indebtedness because of our high level of debt, debt incurrence restrictions under our debt agreements or because of adverse conditions in credit markets generally.

Despite our high indebtedness level, we still may incur significant additional amounts of debt, which could further exacerbate the risks associated with our substantial indebtedness.

We and our subsidiaries may incur substantial additional indebtedness in the future. Although the Credit Facilities contain restrictions on the incurrence of additional indebtedness, these restrictions are subject to a number of significant qualifications and exceptions, and under certain circumstances, the amount of indebtedness that could be incurred in compliance with these restrictions could be substantial. If new debt is added to our outstanding debt levels, the risks related to our indebtedness that we will face would increase.

 

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The Credit Facilities impose significant operating and financial restrictions on us.

The Credit Facilities impose, and the terms of any future debt may impose, significant operating and financial restrictions on us. These restrictions, among other things, limit our ability and that of our subsidiaries to:

 

    pay dividends or distributions, repurchase equity, prepay junior debt and make certain investments;

 

    incur additional debt or issue certain disqualified stock and preferred stock;

 

    sell or otherwise dispose of assets, including capital stock of subsidiaries;

 

    incur liens on assets;

 

    merge or consolidate with another company or sell all or substantially all assets;

 

    enter into transactions with affiliates; and

 

    enter into agreements that would restrict the ability of our subsidiaries to pay dividends or make other payments to us.

In addition, the Credit Facilities contain a financial covenant that requires us to maintain, as of the last day of any fiscal quarter, a ratio of Consolidated Net Debt to Consolidated EBITDA, each as defined in the Credit Facilities, at or below 5.00 to 1.00.

All of these covenants may adversely affect our ability to finance our operations, meet or otherwise address our capital needs, pursue business opportunities, react to market conditions or otherwise restrict activities or business plans. A breach of any of these covenants could result in a default in respect of the related indebtedness. If a default occurs, the relevant lenders could elect to declare the indebtedness, together with accrued interest and other fees, to be immediately due and payable and proceed against any collateral securing that indebtedness. If repayment of our indebtedness is accelerated as a result of such default, we cannot provide any assurance that we would have sufficient assets or access to credit to repay such indebtedness.

The obligations under the Credit Facilities are secured by substantially all of the assets of Mercury Payment Systems, LLC.

The obligations of Mercury Payment Systems, LLC under the Credit Facilities are secured by a security interest in substantially all of the present and future property and assets of Mercury Payment Systems, LLC. If a default occurs under the Credit Facilities, the lenders under the facilities may foreclose on their collateral security, including substantially all of the assets of Mercury Payment Systems, LLC. In any such event, it is possible that there would be no or limited assets remaining. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Senior Secured Credit Facilities.”

We are a holding company with no operations and rely on our operating subsidiaries to provide us with funds necessary to meet our financial obligations.

Mercury Payment Systems, Inc. is a holding company with no material direct operations. Our principal assets are the units we hold in Mercury Payment Systems, LLC, which owns our operating assets. As a result, we, and to a certain extent Mercury Payment Systems, LLC, are dependent on loans, dividends and other payments from our respective subsidiaries to generate the funds necessary to meet our financial obligations. Our subsidiaries, including Mercury Payment Systems, LLC, are legally distinct from us and may be prohibited or restricted from paying dividends or otherwise making funds available to us and Mercury Payment Systems, LLC under the terms of the Credit Facilities and any future indebtedness that we may incur. If we are unable to obtain funds from our subsidiaries, we may be unable to meet our financial obligations.

 

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Our ability to pay taxes and expenses, including payments under the tax receivable agreements, may be limited by our structure.

Upon the consummation of this offering, we will have no material assets other than our ownership of Holdings Units of Mercury Payment Systems, LLC. As such, we will have no independent means of generating revenue. Mercury Payment Systems, LLC will be treated as a partnership for U.S. federal income tax purposes and, as such, will not be subject to U.S. federal income tax. Instead, taxable income will be allocated to holders of its Holdings Units, including us. Accordingly, we will incur income taxes on our proportionate share of any net taxable income of Mercury Payment Systems, LLC, and will also incur expenses related to our operations. Pursuant to the amended and restated limited liability company agreement of Mercury Payment Systems, LLC as it will be in effect at the time of this offering (the “New LLC Agreement”), Mercury Payment Systems, LLC will make cash distributions to the owners of Holdings Units for purposes of funding their tax obligations in respect of the income of Mercury Payment Systems, LLC that is allocated to them, to the extent other distributions from Mercury Payment Systems, LLC have been insufficient. In addition to tax expenses, we also will incur expenses related to our operations, including expenses under the tax receivable agreements, which we expect will be significant. We intend to cause Mercury Payment Systems, LLC to make distributions in an amount sufficient to allow us to pay our taxes and operating expenses, including any ordinary course payments due under the tax receivable agreements. However, its ability to make such distributions will be subject to various limitations and restrictions as set forth in the preceding risk factor. If, as a consequence of these various limitations and restrictions, we do not have sufficient funds to pay tax or other liabilities or to fund our operations (including as a result of an acceleration of our obligations under the tax receivable agreements), we may have to borrow funds and thus our liquidity and financial condition could be materially adversely affected. To the extent that we are unable to make payments under the tax receivable agreements for any reason, such payments will be deferred and will accrue interest at a rate equal to one-year LIBOR plus      basis points until paid.

We will be required to pay certain of our existing owners for certain tax benefits we may claim, and we expect that the payments we will be required to make will be substantial.

Our purchase of Holdings Units in connection with this offering and future offerings and future exchanges of Holdings Units for shares of our Class A common stock are expected to produce favorable tax attributes for us, as is the SLP Corp Merger described under “Organizational Structure.” When we acquire Holdings Units from our existing owners through these purchases or exchanges, both the existing basis and the anticipated basis adjustments are likely to increase (for tax purposes) depreciation and amortization deductions allocable to us from Mercury Payment Systems, LLC and therefore reduce the amount of income tax we would otherwise be required to pay in the future. This increase in tax basis may also decrease gain (or increase loss) on future dispositions of certain capital assets to the extent the increased tax basis is allocated to those capital assets.

The payment obligations under the tax receivable agreements are obligations of Mercury Payment Systems, Inc., and we expect that the payments we will be required to make under the tax receivable agreements will be substantial. Assuming no material changes in the relevant tax law and that we earn sufficient taxable income to realize all tax benefits that are subject to the tax receivable agreements, we expect that the reduction in tax payments for us associated with (1) the SLP Corp Merger, (2) our purchase of Holdings Units from certain of our existing owners with the net proceeds of this offering and (3) future exchanges of Holdings Units as described above would aggregate to approximately $         over          years from the date of this offering based on an initial public offering price of $         per share of our Class A common stock, which is the midpoint of the price range set forth on the front cover of this prospectus, and assuming all future exchanges would occur one year after this offering. Under such scenario we would be required to pay the other parties to the tax receivable agreements at least 85% of such amount, or $        , over the         -year period from the date of this offering and would be required in certain circumstances described below to make a lump sum payment to certain holders

 

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based on 100% (rather than 85%) of the anticipated future tax benefits. The actual amounts may materially differ from these hypothetical amounts, as potential future reductions in tax payments for us, and tax receivable agreement payments by us, will be calculated using the market value of our Class A common stock at the time of purchase or exchange and the prevailing tax rates applicable to us over the life of the tax receivable agreements and will be dependent on us generating sufficient future taxable income to realize the benefit. See “Certain Relationships and Related Party Transactions—Tax Receivable Agreements.” Payments under the tax receivable agreements are not conditioned on our existing owners’ continued ownership of us after this offering.

The actual increase in tax basis, as well as the amount and timing of any payments under these agreements, will vary depending upon a number of factors, including the timing of purchases or exchanges by the holders of Holdings Units, the price of our Class A common stock at the time of the purchase or exchange, whether such exchanges are taxable, the amount and timing of the taxable income we generate in the future, the tax rate then applicable and the portion of our payments under the tax receivable agreements constituting imputed interest. Payments under the tax receivable agreements are expected to give rise to certain additional tax benefits attributable to either further increases in basis or in the form of deductions for imputed interest, depending on the tax receivable agreement and the circumstances. Any such benefits are covered by the tax receivable agreements and will increase the amounts due thereunder. In addition, the tax receivable agreements will provide for interest, at a rate equal to one-year LIBOR plus      basis points, accrued from the due date (without extensions) of the corresponding tax return to the date of payment specified by the tax receivable agreements.

Payments under the tax receivable agreements will be based on the tax reporting positions that we determine. Although we are not aware of any issue that would cause the Internal Revenue Service to challenge a tax basis increase or other tax attributes subject to the tax receivable agreements, we will not be reimbursed for any payments previously made under the tax receivable agreements if such basis increases or other benefits are subsequently disallowed. As a result, in certain circumstances, payments could be made under the tax receivable agreements in excess of the benefits that we actually realize in respect of the attributes to which the tax receivable agreements relate.

In certain cases, payments under the tax receivable agreements to our existing owners may be accelerated and/or significantly exceed the actual benefits we realize in respect of the tax attributes subject to the tax receivable agreements.

The tax receivable agreements provide that (1) upon certain mergers, asset sales, other forms of business combinations or other changes of control, (2) in the event that we materially breach any of our material obligations under the agreements, whether as a result of failure to make any payment within                      months of when due (provided we have sufficient funds to make such payment), failure to honor any other material obligation required thereunder or by operation of law as a result of the rejection of the agreements in a bankruptcy or otherwise, (3) if, at any time, we elect an early termination of the agreements or (4) if, starting in 2020, the sole stockholder of SLP Corp, the other affiliates of Silver Lake or affiliates of the Founders elect to accelerate our obligations under their tax receivable agreements, our (or our successor’s) obligations under the agreements (with respect to all Holdings Units, whether or not Holdings Units have been exchanged or acquired before or after such transaction) would be based on certain assumptions, including that we would have sufficient taxable income to fully utilize the deductions arising from the increased tax deductions and tax basis and other tax attributes subject to the tax receivable agreements. Additionally, the tax receivable agreements will determine the tax savings by excluding certain tax attributes that we require after the date of the tax receivable agreements. Furthermore, in the event we materially breach a material obligation under the agreements, we elect to terminate the agreements early or the sole stockholder of SLP Corp, the other affiliates of Silver Lake or affiliates of the Founders elect to accelerate our obligations under their tax receivable agreements, our obligations under the agreements will accelerate and will become payable

 

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in a lump sum amount described below. As a result of the foregoing, (1) we could be required to make payments under the tax receivable agreements that are greater than or less than the specified percentage of the actual benefits we realize in respect of the tax attributes subject to the agreements and (2) if we materially breach a material obligation under the agreements, if we elect to terminate the agreements early or if the sole stockholder of SLP Corp, the other affiliates of Silver Lake or affiliates of the Founders elect to accelerate our obligations under their tax receivable agreements, we would be required to make an immediate lump sum payment equal to the present value of the anticipated future tax benefits, which payment may be made significantly in advance of the actual realization of such future benefits. Furthermore, in the event the sole stockholder of SLP Corp, the other affiliates of Silver Lake or affiliates of the Founders elect to accelerate our obligations under their tax receivable agreements, the lump sum payment would be based on 100% (rather than 85%) of the anticipated future tax benefits. In these situations, our obligations under the tax receivable agreements could have a substantial negative impact on our liquidity and could have the effect of delaying, deferring or preventing certain mergers, asset sales, other forms of business combinations or other changes of control. There can be no assurance that we will be able to fund or finance our obligations under the tax receivable agreements. If we were to elect to terminate the tax receivable agreements immediately after this offering, based on the initial public offering price of $         per share of our Class A common stock and a discount rate equal to one-year LIBOR plus      basis points, we estimate that we would be required to pay $         in the aggregate under the tax receivable agreements. See “Certain Relationships and Related Party Transactions—Tax Receivable Agreements.”

We are controlled by affiliates of Silver Lake and the Founders, whose interests may be different than the interests of other holders of our securities.

Upon the completion of this offering, affiliates of Silver Lake and the Founders will control an aggregate of approximately     % of the voting power of our outstanding common stock (or approximately     % if the underwriters exercise in full their option to purchase additional shares) and will have the ability to designate a majority of the members of our board of directors. Affiliates of Silver Lake and the Founders are able to exercise significant control over actions to be taken by us, including future issuances of our common stock or other securities, the payment of dividends, if any, on our common stock, amendments to our organizational documents and the approval of significant corporate transactions, including mergers, sales of substantially all of our assets, distributions of our assets, the incurrence of indebtedness and any incurrence of liens on our assets. The interests of Silver Lake, the Founders and their respective affiliates may be materially different than the interests of our other stakeholders. In addition, affiliates of Silver Lake and the Founders may have an interest in pursuing acquisitions, divestitures and other transactions that, in their judgment, could enhance their investment, even though such transactions might involve risks to you. For example, affiliates of Silver Lake and the Founders may cause us to take actions or pursue strategies that could impact our ability to make payments under the Credit Facilities or that cause a change of control. In addition, to the extent permitted by the Credit Facilities, affiliates of Silver Lake and the Founders may cause us to pay dividends rather than make capital expenditures or repay debt.

Silver Lake and its affiliates are in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. Similarly, the Founders from time to time, make investments in other businesses, including in our industry. Our amended and restated certificate of incorporation will provide that Silver Lake, directors affiliated with Silver Lake and their respective affiliates, the Founders and their respective affiliates and any other non-employee directors will have no duty to refrain from engaging in any transaction or matter that may be an investment or corporate or business opportunity or offer a prospective economic or competitive advantage in which we or any of our subsidiaries could have an interest or expectancy (a “Competitive Opportunity”) or otherwise competing with us or our subsidiaries. In addition, to the fullest extent permitted by law, in the event that Silver Lake, any director affiliated with Silver Lake, any Founder or any other non-employee director acquires knowledge of a potential Competitive

 

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Opportunity or other corporate or business opportunity that may be a Competitive Opportunity for itself or himself or its or his affiliates or for us or our affiliates, such person will have no duty to communicate or present such opportunity to us or any of our subsidiaries, and they may take any such opportunity for themselves or offer it to another person or entity.

Affiliates of Silver Lake and the Founders also may pursue acquisition opportunities that may be complementary to our business, and, as a result, those acquisition opportunities may not be available to us. So long as affiliates of Silver Lake and the Founders continue to own a significant amount of our combined voting power, even if such amount is less than 50%, they will continue to be able to strongly influence or effectively control our decisions. Under the terms of our stockholders agreement, affiliates of Silver Lake and the Founders will have the right to nominate a majority of our board of directors even when they cease to hold a majority of our outstanding common stock. See “Management—Board of Directors.” In addition, affiliates of Silver Lake and the Founders will be able to strongly influence or effectively control the outcome of all matters requiring stockholder approval and will be able to cause or prevent a change of control of our company or a change in the composition of our board of directors and could preclude any unsolicited acquisition of our company. The concentration of ownership could deprive you of an opportunity to receive a premium for your shares of Class A common stock as part of a sale of our company and ultimately might affect the market price of our Class A common stock. See “Description of Capital Stock—Anti-Takeover Effects of Our Amended and Restated Certificate of Incorporation, Amended and Restated Bylaws and Certain Provisions of Delaware Law.” In addition, so long as affiliates of Silver Lake own at least     % of our common stock outstanding prior to completion of this offering, they will have the right, and so long as affiliates of the Founders own at least     % of our common stock outstanding prior to completion of this offering, they will have the right, to consent to certain corporate transactions, including a change of control. See “Certain Relationships and Related Party Transactions—Stockholders Agreement.”

We will be a “controlled company” within the meaning of the applicable stock exchange rules and the rules of the SEC. As a result, we will qualify for, and intend to rely on, exemptions from certain corporate governance requirements that provide protection to stockholders of other companies.

After completion of this offering, affiliates of Silver Lake and the Founders will continue to control a majority of the voting power of our outstanding common stock. As a result, we will be a “controlled company” within the meaning of the corporate governance standards of the Nasdaq. Under these rules, a company of which more than 50% of the voting power is held by an individual, group or another company is a “controlled company” and may elect not to comply with certain corporate governance requirements, including:

 

    the requirement that a majority of our board of directors consist of “independent directors” as defined under the rules of the Nasdaq;

 

    the requirement that the compensation of our executive officers be determined, or recommended to the board of directors for determination, by independent directors constituting a majority of the independent directors of the board in a vote in which only independent directors participate or by a compensation committee comprised solely of independent directors; and

 

    the requirement that director nominees be selected, or recommended to the board of directors for selection, by independent directors constituting a majority of the independent directors of the board in a vote in which only independent directors participate or by a nomination committee comprised solely of independent directors.

Following this offering, we intend to utilize these exemptions. As a result, we may not have a majority of independent directors and our nominating and corporate governance committee, if any, and

 

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compensation committee may not consist entirely of independent directors. Accordingly, you will not have the same protections afforded to stockholders of companies that are subject to all of the corporate governance requirements of the Nasdaq.

Some provisions of Delaware law and our amended and restated certificate of incorporation and amended and restated bylaws may deter third parties from acquiring us and diminish the value of our Class A common stock.

Our amended and restated certificate of incorporation and amended and restated bylaws provide for, among other things:

 

    a classified board of directors with staggered three-year terms;

 

    the ability of our board of directors to issue one or more series of preferred stock with voting or other rights or preferences that could have the effect of impeding the success of an attempt to acquire us or otherwise effect a change of control;

 

    advance notice for nominations of directors by stockholders and for stockholders to include matters to be considered at stockholder meetings;

 

    certain limitations on convening special stockholder meetings; and

 

    that certain provisions of our amended and restated articles of incorporation and amended and restated bylaws may be amended only by the affirmative vote of the holders of at least 75% in voting power of all outstanding shares of our stock entitled to vote thereon, voting together as a single class, if Silver Lake and its affiliates beneficially own, in the aggregate, less than 40% in voting power of our stock entitled to vote generally in the election of directors.

In addition, while we have opted out of Section 203 of the DGCL, our amended and restated certificate of incorporation contains similar provisions providing that we may not engage in certain “business combinations” with any “interested stockholder” for a three-year period following the time that the stockholder became an interested stockholder, unless:

 

    prior to such time, our board of directors approved either the business combination or the transaction that resulted in the stockholder becoming an interested stockholder;

 

    upon consummation of the transaction that resulted in the stockholder becoming an interested stockholder, the interested stockholder owned at least 85% of the votes of our voting stock outstanding at the time the transaction commenced, excluding certain shares; or

 

    at or subsequent to that time, the business combination is approved by our board of directors and by the affirmative vote of holders of at least 66 2/3% of the votes of our outstanding voting stock that is not owned by the interested stockholder.

Generally, a “business combination” includes a merger, asset or stock sale or other transaction resulting in a financial benefit to the interested stockholder. Subject to certain exceptions, an “interested stockholder” is a person who, together with that person’s affiliates and associates, owns, or within the previous three years owned, 15% or more of the votes of our outstanding voting stock. For purposes of this provision, “voting stock” means any class or series of stock entitled to vote generally in the election of directors. Our amended and restated certificate of incorporation provides that Silver Lake, the Founders, their respective affiliates, and any of their respective direct or indirect designated transferees (other than in certain market transfers and gifts) and any group of which such persons are a party do not constitute “interested stockholders” for purposes of this provision.

 

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Under certain circumstances, this provision will make it more difficult for a person who would be an “interested stockholder” to effect various business combinations with our company for a three-year period. This provision may encourage companies interested in acquiring our company to negotiate in advance with our board of directors because the stockholder approval requirement would be avoided if our board of directors approves either the business combination or the transaction that results in the stockholder becoming an interested stockholder. These provisions also may have the effect of preventing changes in our board of directors and may make it more difficult to accomplish transactions that stockholders may otherwise deem to be in their best interests.

These provisions in our amended and restated certificate of incorporation and amended and restated bylaws may discourage, delay or prevent a transaction involving a change in control of our company that is in the best interest of our minority stockholders. Even in the absence of a takeover attempt, the existence of these provisions may adversely affect the prevailing market price of our Class A common stock if they are viewed as discouraging future takeover attempts. These provisions could also make it more difficult for stockholders to nominate directors for election to our board of directors and take other corporate actions.

Risks Related to this Offering

Future sales of our Class A common stock or securities convertible into or exchangeable for Class A common stock could depress the market price of our Class A common stock.

Sales of substantial amounts of our Class A common stock in the public market, or the perception that such sales could occur, could adversely affect the market price of our Class A common stock. Our directors, executive officers, and substantially all of our existing investors will be subject to the lock-up agreements described in “Underwriting” and are subject to the Rule 144 holding period requirements described in “Shares Eligible for Future Sale—Lock-up Agreements.” As of                     , 2014, after giving effect to the reorganization transactions and this offering, we would have had              shares of Class A common stock outstanding (or              shares if the underwriters exercise in full their option to purchase additional shares). After this offering and the lock-up agreements have expired, and subject to vesting requirements and the requirements of Rule 144 of the Securities Act, approximately              additional shares will be eligible for sale in the public market (or              shares if the underwriters exercise in full their option to purchase additional shares), including any shares of Class A common stock that our existing investors obtain through the future exercise of their right to exchange units of Mercury Payment Systems, LLC for shares of our Class A common stock. We have entered into a registration rights agreement with our existing owners that will require us to register under the Securities Act these shares of Class A common stock under certain circumstances. See “Certain Relationships and Related Party Transactions—Registration Rights Agreement.” We have also registered              shares of our Class A common stock that we have issued or have reserved for issuance under our equity incentive plans. These shares may be sold in the public market upon issuance and once vested, subject to the 180-day lock-up period for awards held by our directors and executive officers and other restrictions provided under the terms of the equity incentive plans and applicable award agreements.

J.P. Morgan Securities, LLC, on behalf of the underwriters, may, in its sole discretion and without notice, release all or any portion of the shares subject to lock-up agreements prior to expiration of the lock-up period. If such a release were to occur, sales of a substantial number of shares of our Class A common stock in the public market could occur at any time. These sales, or the perception in the market that the holders of a large number of shares intend to or could sell shares, could reduce the market price of our Class A common stock. Any decline in the price of shares of our Class A common stock could impede our ability to raise capital through the issuance of additional shares of our Class A common stock or other equity securities.

 

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There may not be an active, liquid trading market for our Class A common stock, or securities or industry analysts may not publish research reports or may publish research reports containing negative information about our business.

Prior to this offering, there has been no public market for shares of our Class A common stock. We cannot predict the extent to which investor interest in our company will lead to the development of a trading market on the Nasdaq or how liquid that market may become. If an active trading market does not develop, you may have difficulty selling any of our Class A common stock that you purchase due to the limited public float. The initial public offering price of shares of our Class A common stock will be determined by negotiation between us and the underwriters and may not be indicative of market prices of our Class A common stock that will prevail following the completion of this offering. The trading market for our Class A common stock will be influenced by the research and reports that industry or securities analysts publish about us or our business. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, we could lose visibility in the financial markets, which in turn could cause our stock price or trading volume to decline. The market price of shares of our Class A common stock may decline below the initial public offering price, and you may not be able to resell your shares of our Class A common stock at or above the initial offering price.

As a public company, we will become subject to additional financial and other reporting and corporate governance requirements that may be difficult and costly for us to satisfy.

We have historically operated our business as a private company. After this offering, we will be required to file with the SEC annual and quarterly information and other reports that are specified in Section 13 of the Exchange Act. We will also be required to ensure that we have the ability to prepare financial statements that are fully compliant with all SEC reporting requirements on a timely basis. We will also become subject to other reporting and corporate governance requirements, including the requirements of the Nasdaq, and certain provisions of the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”) and the regulations promulgated thereunder, which will impose significant compliance obligations upon us. As a public company, we will, among other things:

 

    prepare and distribute periodic public reports and other stockholder communications in compliance with our obligations under the federal securities laws and applicable Nasdaq rules;

 

    create or expand the roles and duties of our board of directors and committees of the board;

 

    institute more comprehensive financial reporting and disclosure compliance functions;

 

    supplement our internal accounting, auditing and reporting function, including hiring additional staff with expertise in accounting and financial reporting for a public company;

 

    enhance and formalize closing procedures at the end of our accounting periods;

 

    enhance our internal audit and tax functions;

 

    enhance our investor relations function;

 

    establish new internal policies, including those relating to disclosure controls and procedures; and

 

    involve and retain to a greater degree outside counsel and accountants in the activities listed above.

These changes will require a significant commitment of additional resources and many of our competitors already comply with these obligations. We may not be successful in implementing these requirements and the significant commitment of resources required for implementing them could adversely affect our business, financial condition and results of operations. In addition, if we fail to

 

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implement the requirements with respect to our internal accounting and audit functions, our ability to report our results of operations on a timely and accurate basis could be impaired and we could suffer adverse regulatory consequences or violate the Nasdaq rules. There could also be a negative reaction in the financial markets due to a loss of investor confidence in us and the reliability of our financial statements.

The changes necessitated by becoming a public company require a significant commitment of resources and management oversight that has increased and may continue to increase our costs and might place a strain on our systems and resources. As a result, our management’s attention might be diverted from other business concerns. If we fail to maintain an effective internal control environment or to comply with the numerous legal and regulatory requirements imposed on public companies, we could make material errors in, and be required to restate, our financial statements. Any such restatement could result in a loss of public confidence in the reliability of our financial statements and sanctions imposed on us by the SEC.

We may be unsuccessful in implementing required internal controls over financial reporting.

We are not currently required to comply with the SEC’s rules implementing Section 404 of the Sarbanes-Oxley Act and are therefore not required to make a formal assessment of the effectiveness of our internal controls over financial reporting for that purpose. Upon becoming a public company, we will be required to disclose 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 so long as we remain an “emerging growth company” under Section 3(a)(80) of the Exchange Act. We cannot assure you that our process of improving our internal control procedures to satisfy the requirements of Section 404 will be complete at the time of this offering. If we are not able to implement the requirements of Section 404 in a timely manner or with adequate compliance, our independent registered public accounting firm may not be able to attest to the effectiveness of our internal control over financial reporting once it is required to do so.

We cannot provide any assurance that significant deficiencies or material weaknesses in our internal controls over financial reporting will not be identified in the future. If we fail to remediate any significant deficiencies or material weaknesses that may be identified in the future, or encounter problems or delays in the implementation of internal controls over financial reporting, we may be unable to conclude that our internal controls over financial reporting are effective. We are currently implementing an internal audit function, and any failure to correctly do so could lead to significant deficiencies or material weaknesses in our financial reporting. Any failure to develop or maintain effective controls or any difficulties encountered in our implementation of our internal controls over financial reporting could result in material misstatements that are not prevented or detected on a timely basis, which could potentially subject us to sanctions or investigations by the SEC or other regulatory authorities. Ineffective internal controls could cause investors to lose confidence in us and the reliability of our financial statements and cause a decline in the price of our common stock.

In addition, we will incur additional costs associated with improving our internal controls over financial reporting and complying with Section 404, including increased auditing and legal fees and costs related to hiring additional accounting and administrative staff.

The price of our Class A common stock may be volatile.

Securities markets worldwide have experienced, and are likely to continue to experience, significant price and volume fluctuations. This market volatility, as well as general economic, market or political conditions could reduce the market price of our Class A common stock regardless of our

 

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results of operations. The trading price of our Class A common stock is likely to be highly volatile and could be subject to wide price fluctuations in response to various factors, including, among other things, the risk factors described in this prospectus, and other factors beyond our control. Factors affecting the trading price of our Class A common stock will include:

 

    market conditions in the broader stock market;

 

    actual or anticipated variations in our quarterly financial and operating results;

 

    variations in operating results of similar companies;

 

    introduction of new services by us or our competitors;

 

    variations or volatility in our key operating metrics;

 

    issuance of new, negative or changed securities analysts’ reports or recommendations or estimates;

 

    investor perceptions of us and the industries in which we or our merchants operate;

 

    sales, or anticipated sales, of our stock, including sales by existing stockholders;

 

    additions or departures of key personnel;

 

    regulatory or political developments;

 

    stock-based compensation expense under applicable accounting standards;

 

    litigation and governmental investigations; and

 

    changing economic conditions.

These and other factors may cause the market price and demand for shares of our Class A common stock to fluctuate substantially, which may limit or prevent investors from readily selling their shares of Class A common stock and may otherwise negatively affect the liquidity of our common stock. In addition, in the past, when the market price of a stock has been volatile, holders of that stock have sometimes instituted securities class action litigation against the company that issued the stock. Securities litigation against us, regardless of the merits or outcome, could result in substantial costs and divert the time and attention of our management from our business, which could significantly harm our business, profitability and reputation.

We currently do not intend to pay dividends on our Class A common stock and, as a result, your only opportunity to achieve a return on your investment is if the price of our Class A common stock appreciates.

We currently do not expect to declare or pay dividends on our Class A common stock in the foreseeable future. Instead, we anticipate that all of our earnings in the foreseeable future will be used to provide working capital, support our operations and finance the growth and development of our business. Any determination to declare or pay dividends in the future will be at the discretion of our board of directors, subject to applicable laws and dependent upon a number of factors, including our earnings, capital requirements and overall financial conditions. In addition, our ability to pay dividends on our Class A common stock is currently limited by the covenants of the Credit Facilities and may be further restricted by the terms of any future debt or preferred securities. Furthermore, we are a holding company that does not conduct any business operations of our own. As a result, our ability to pay dividends on our Class A common stock, if any, is dependent upon cash dividends and distributions and other transfers from Mercury Payment Systems, LLC, which is limited in its ability to pay dividends and distributions to Mercury Payment Systems, Inc. by its distribution obligations to its other owners. Accordingly, your only opportunity to achieve a return on your investment in our company may be if the

 

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market price of our Class A common stock appreciates and you sell your shares at a profit. The market price for our Class A common stock may never exceed, and may fall below, the price that you pay for such Class A common stock.

We are an emerging growth company and any decision on our part to comply only with certain reduced reporting and disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.

We are an emerging growth company, and, for as long as we continue to be an emerging growth company, we may choose to take advantage of exemptions from various reporting requirements applicable to other public companies but not to “emerging growth companies,” including, but not limited to, not being required to have our independent registered public accounting firm audit our internal control over financial reporting under 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 could be an emerging growth company for up to five years following the completion of this offering. We will cease to be an emerging growth company upon the earliest of (1) the end of the fiscal year following the fifth anniversary of this offering, (2) the first fiscal year after our annual gross revenue are $1.0 billion or more, (3) the date on which we have, during the previous three-year period, issued more than $1.0 billion in non-convertible debt securities and (4) 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 cannot predict if investors will find our common stock less attractive if we choose to rely on these exemptions. If some investors find our common stock less attractive as a result of any choices to reduce future disclosure, there may be a less active trading market for our common stock and the price of our common stock may be more volatile.

Under the JOBS Act, emerging growth companies can also delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have irrevocably elected not to avail ourselves of this accommodation allowing for delayed adoption of new or revised accounting standards, and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.

 

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FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements, which reflect our current views with respect to, among other things, our operations and financial performance. In some cases, you can identify forward-looking statements by words such as “anticipate,” “approximately,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “outlook,” “plan,” “potential,” “predict,” “seek,” “should,” “will” and “would” or the negative version of these words or other comparable or similar words. These statements identify prospective information. Important factors could cause actual results to differ, possibly materially, from those indicated in these statements. Forward-looking statements are based on our beliefs, assumptions and expectations of our future performance, taking into account all information currently available to us. Such forward-looking statements are subject to risks and uncertainties and assumptions relating to our operations, financial results, financial condition, business prospects, growth strategy and liquidity. The factors listed below and in the section captioned “Risk Factors,” as well as any other cautionary language in this prospectus, provide examples of risks, uncertainties and events that may cause our actual results to differ materially from the expectations we describe in our forward-looking statements. Before you invest in our Class A common stock, you should be aware that the occurrence of the events described in these risk factors and elsewhere in this prospectus could have an adverse effect on our business, results of operations and financial position.

Some of the key factors that could cause actual results to differ from our expectation include:

 

    competition with larger firms that have greater financial resources;

 

    dependence on non-exclusive Developers and Dealers to market our services;

 

    liability resulting from unauthorized disclosure or impermissible use of data;

 

    our need to keep pace with rapid developments in our industry and provide new products and services;

 

    consolidation or restructuring of the IPOS software industry;

 

    technical, operational and regulatory risks due to our new in-house processing initiative and with respect to our third-party providers’ systems and our other information technology systems;

 

    reliance on third parties for significant services;

 

    exposure to economic conditions affecting consumer and commercial spending;

 

    degradation of the quality of our products, services and support;

 

    our ability to increase our market share, expand into new markets and compete with new entrants;

 

    compliance with and changes to government regulations and payment network rules and standards;

 

    our ability to successfully manage our intellectual property;

 

    our substantial level of indebtedness and increases in our indebtedness and operating and financial restrictions imposed by our senior secured credit facilities; and

 

    the other factors set forth under “Risk Factors.”

Forward-looking statements speak only as of the date the statements are made. Except as required by law, we do not undertake any obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise.

 

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INDUSTRY DATA AND OPERATING METRICS

This prospectus contains statistical data that we obtained from industry publications and reports. These publications generally indicate that they have obtained their information from sources believed to be reliable. This prospectus also contains statistical data that we generated based on information that we have collected in connection with the operation of our business and performance of our services.

The key operating metrics presented in this prospectus are based on internal company data that we collect for use both in managing our business and in our operations, and, from time to time, we take steps to enhance the insight this information provides. For instance, as our Developer network grew, we observed merchants switching POS systems from one Developer to another. In order to more effectively track relationships among our Developers and merchants, in the fourth quarter of 2012 we began to track when a Developer first initiated a relationship with a particular merchant. Before that time, we did not track specifically when a Developer first integrated its products with our payment technology. Accordingly, Developer count for periods before 2012 represents our estimate based on company information with respect to Developer relationships recorded during the relevant period, including growth in the subset of our Developers that had both a merchant integrated with our processing services and were associated with a merchant referral. In addition, we have a small number of merchants that have not paid us fees in the relevant period. Such merchants cover a variety of scenarios, including seasonal or other intermittent businesses that we generally expect to resume processing with us, individual merchant locations that have not recently paid fees but are part of a chain or larger enterprise with locations that do pay us fees, and merchants that possibly have switched processors or gone out of business but whose status our sales and customer relations personnel have not yet confirmed. Merchants that do not pay us fees in the relevant period typically account for less than approximately 2% of total merchants.

We derive transaction volume and transaction count through our payments integrations. This transaction data consists of non-cash, debit and credit transactions processed by our merchants (excluding American Express transactions), and are almost entirely Visa, MasterCard and Discover transactions.

 

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ORGANIZATIONAL STRUCTURE

Organizational Structure Following this Offering

The diagram below depicts our organizational structure immediately following this offering assuming no exercise by the underwriters of their option to purchase additional shares of Class A common stock. As used in this prospectus, “Existing Owners” refers to the owners of Mercury Payment Systems, LLC, collectively, prior to the reorganization transactions, and “Continuing LLC Owners” refers to those Existing Owners who will retain their equity ownership in Mercury Payment Systems, LLC in the form of Holdings Units after the reorganization transactions.

 

LOGO

Immediately following this offering, Mercury Payment Systems, Inc. (the “Corporation”) will be a holding company, and its sole material asset will be a controlling equity interest in Mercury Payment Systems, LLC. As the sole managing member of Mercury Payment Systems, LLC, the Corporation will operate and control all of the business and affairs of Mercury Payment Systems, LLC and, through Mercury Payment Systems, LLC and its subsidiaries, conduct our business. The Corporation will consolidate Mercury Payment Systems, LLC in its consolidated financial statements and will report a noncontrolling interest related to the Holdings Units, as defined below, held by certain of our Existing Owners on its consolidated financial statements.

Our post-offering organizational structure will allow the Continuing LLC Owners to retain their equity ownership in Mercury Payment Systems, LLC, an entity that is classified as a partnership for U.S. federal income tax purposes, in the form of Holdings Units. Investors participating in this offering will, by contrast, hold equity in the Corporation, a Delaware corporation that is a domestic corporation for U.S. federal income tax purposes, in the form of shares of our Class A common stock. We believe that the Continuing LLC Owners generally find it advantageous to hold their equity interests in an entity that is not taxable as a corporation for U.S. federal income tax purposes. The Continuing LLC Owners

 

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and the Corporation will incur U.S. federal, state and local income taxes on their proportionate share of any taxable income of Mercury Payment Systems, LLC (as calculated pursuant to the New LLC Agreement). We do not believe that our organizational structure gives rise to any significant benefit or detriment to our business or operations.

As described below, the Continuing LLC Owners that held voting units before the reorganization transactions will also hold shares of Class B common stock of the Corporation. Although these shares have no economic rights, they will allow such owners to exercise voting power at the Corporation level, the managing member of Mercury Payment Systems, LLC, and at a level that is consistent with their overall equity ownership of our business. Under our amended and restated certificate of incorporation, each share of Class B common stock shall be entitled to one vote. When a Holdings Unit is exchanged by an existing owner who holds shares of Class B common stock, a corresponding share of Class B common stock will be cancelled. Accordingly, the voting power afforded to the Continuing LLC Owners by their shares of Class B common stock is automatically and correspondingly reduced as they sell Holdings Units to the Corporation for cash as part of the offering transactions described below or as they subsequently exchange Holdings Units for shares of Class A common stock pursuant to the exchange agreement described below.

Incorporation of the Corporation

The Corporation was incorporated as a Delaware corporation on December 3, 2013. The Corporation has not engaged in any business or other activities except in connection with its incorporation. The Corporation’s amended and restated certificate of incorporation authorizes two classes of common stock, Class A common stock and Class B common stock, each having the terms described in “Description of Capital Stock.”

Following this offering, each of the Continuing LLC Owners that held voting units prior to the reorganization transactions will hold a number of shares of the Corporation’s Class B common stock equal to the number of Holdings Units received in the reclassification described below, each of which provides its owner with no economic rights but entitles the holder to one vote on matters presented to the Corporation’s stockholders, as described in “Description of Capital Stock—Capital Stock—Common Stock—Class B Common Stock.” Holders of Class A common stock and Class B common stock vote together as a single class on all matters presented to our stockholders for their vote or approval, except as otherwise required by applicable law.

The Reorganization Transactions

We refer to the Reclassification, the Silver Lake reorganization transactions and entry into the Exchange Agreement, all described below, as the “reorganization transactions.”

Reclassification

Prior to the completion of this offering, the equity interests of Mercury Payment Systems, LLC consisted of three different classes of limited liability company units (Class A, Class B and Class C), which had pro rata distribution rights but different voting and governance rights. Prior to the completion of this offering, the limited liability company agreement of Mercury Payment Systems, LLC will be amended and restated to, among other things, modify its capital structure to create a single new class of units that we refer to as “Holdings Units.” We refer to such transaction as the “Reclassification.”

The Reclassification will be effected prior to the time our Class A common stock is registered under the Securities Exchange Act of 1934 and prior to the completion of this offering. We believe that creating a single class of units that will be held by all of the owners of Mercury Payment Systems, LLC,

 

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including the Corporation, will make our ownership structure simpler and also more transparent to investors. Immediately following the Reclassification, but before the offering transactions described below, there will be              Holdings Units issued and outstanding.

Pursuant to the amended and restated limited liability company agreement of Mercury Payment Systems, LLC as it will be in effect at the time of this offering (the “New LLC Agreement”), the Corporation will be the sole managing member of Mercury Payment Systems, LLC. Accordingly, the Corporation will have the right to determine when distributions will be made to the members of Mercury Payment Systems, LLC and the amount of any such distributions (in each case, other than with respect to the tax distributions described below). If the Corporation authorizes a distribution, such distribution will be made to the members of Mercury Payment Systems, LLC pro rata in accordance with the percentages of their respective limited liability company interests.

The holders of limited liability company interests in Mercury Payment Systems, LLC, including the Corporation, will incur U.S. federal, state and local income taxes on their proportionate share of any taxable income of Mercury Payment Systems, LLC (as calculated pursuant to the New LLC Agreement). Net profits and net losses of Mercury Payment Systems, LLC will generally be allocated to its members (including the Corporation) pursuant to the New LLC Agreement pro rata in accordance with the percentages of their respective limited liability company interests. The New LLC Agreement provides for cash distributions to the holders of limited liability company interests in Mercury Payment Systems, LLC for purposes of funding their tax obligations in respect of the income of Mercury Payment Systems, LLC that is allocated to them, to the extent other distributions from Mercury Payment Systems, LLC have been insufficient. Generally, these tax distributions will be computed based on the taxable income of Mercury Payment Systems, LLC allocable to the holders of limited liability company interests multiplied by an assumed, combined tax rate equal to the maximum rate applicable to an individual or corporation resident in New York, New York or San Francisco, California (taking into account the nondeductibility of certain expenses and the character of our income). Tax distributions will be made only to the extent all distributions from Mercury Payment Systems, LLC for the relevant year have been insufficient to cover such tax liabilities.

See “Certain Relationships and Related Party Transactions—Mercury Payment Systems, LLC Amended and Restated Limited Liability Company Agreement.”

Silver Lake Reorganization Transactions

Prior to the completion of this offering, SL Quicksilver LLC (“SL Quicksilver”), an affiliate of Silver Lake Group, L.L.C. (“Silver Lake”) and the sole holder of the Class A units of Mercury Payment Systems, LLC (“Class A units”), will liquidate and distribute its Class A units to its members, which are Silver Lake Partners III DE, L.P., SLP III Quicksilver Feeder II, L.P. (“SLQF II”) and Silver Lake Technology Investors III, L.P., pro rata in accordance with their respective membership interests. SLQF II will then liquidate and distribute its Class A units to its partners, SLP III Quicksilver Feeder Corp. (“SLP Corp”) and Silver Lake Technology Associates III, L.P., pro rata in accordance with their relative membership interests in SLQF II. SLP Corp will then merge with a newly formed subsidiary of the Corporation, and the surviving entity will then merge with and into the Corporation, with the Corporation surviving such merger (collectively, the “SLP Corp Merger”). In the SLP Corp Merger, SLP III Quicksilver Feeder I, L.P., the sole stockholder of SLP Corp, will receive a number of shares of the Corporation’s Class A common stock that is equal to the number of Class A units received by SLP Corp in the distribution described above.

Exchange Agreement

We and the Continuing LLC Owners will enter into an exchange agreement at the time of this offering under which they (or certain permitted transferees thereof) will have the right, subject to the

 

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terms of the exchange agreement, to exchange their Holdings Units for shares of our Class A common stock on a one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends, reclassifications and other similar transactions. The exchange agreement will provide, however, that such exchanges must be for a minimum of the lesser of 1,000 Holdings Units or all of the vested Holdings Units held by such owner. The exchange agreement will also provide that a Continuing LLC Owner will not have the right to exchange Holdings Units if we determine that such exchange would be prohibited by law or regulation or would violate other agreements with us to which the Existing Owner may be subject. We may impose additional restrictions on exchange that we determine to be necessary or advisable so that Mercury Payment Systems, LLC is not treated as a “publicly traded partnership” for U.S. federal income tax purposes. As a holder exchanges Holdings Units for shares of Class A common stock, the number of Holdings Units held by the Corporation is correspondingly increased as it acquires the exchanged Holdings Units, and a corresponding number of shares of Class B common stock are cancelled. See “Certain Relationships and Related Party Transactions—Exchange Agreement.”

As noted above, the Continuing LLC Owners that held voting units before the reorganization transactions will also hold shares of our Class B common stock. Although these shares have no economic rights, they will allow such Continuing LLC Owners to exercise voting power at the Corporation, the managing member of Mercury Payment Systems, LLC, at a level that is consistent with their overall equity ownership of our business. Under the Corporation’s amended and restated certificate of incorporation, each share of Class B common stock shall be entitled to one vote for each Holdings Unit. Accordingly, the voting power afforded to the Continuing LLC Owners by their shares of Class B common stock is automatically and correspondingly reduced as they sell Holdings Units to the Corporation for cash as part of the offering transactions or subsequently exchange Holdings Units for shares of the Corporation’s Class A common stock pursuant to the exchange agreement.

Offering Transactions

At the time of the consummation of this offering, the Corporation intends to consummate the purchase, for cash, of outstanding Holdings Units and shares of Class A common stock from our Existing Owners in each case at a purchase price per unit equal to the initial public offering price per share of Class A common stock in this offering net of underwriting discounts and commissions. Assuming that the shares of Class A common stock to be sold in this offering are sold at $         per share, which is the midpoint of the range on the front cover of this prospectus, at the time of this offering, the Corporation will purchase from our Existing Owners              Holdings Units and shares of Class A common stock for an aggregate of $         million (or              Holdings Units for an aggregate of $         million if the underwriters exercise in full their option to purchase additional shares of Class A common stock). Mercury Payment Systems, LLC will bear or reimburse the Corporation for all of the expenses of this offering. Accordingly, following this offering the Corporation will hold a number of Holdings Units that is equal to the number of shares of Class A common stock that it has issued, a relationship that we believe fosters transparency because it results in a single share of Class A common stock representing (albeit indirectly) the same percentage equity interest in Mercury Payment Systems, LLC as a single Holdings Unit.

As described above, we intend to use the net proceeds from this offering to purchase Holdings Units from our Existing Owners. See “Principal Stockholders” for information regarding the proceeds from this offering that will be paid to certain of our directors and executive officers. In addition, the unitholders of Mercury Payment Systems, LLC (other than the Corporation) may (subject to the terms of the exchange agreement) exchange their Holdings Units for shares of Class A common stock of the Corporation on a one-for-one basis. The purchase of Holdings Units and subsequent exchanges are expected to result in increases in the tax basis of the assets of Mercury Payment Systems, LLC that otherwise would not have been available. These increases in tax basis may reduce the amount of tax

 

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that the Corporation would otherwise be required to pay in the future. These increases in tax basis may also decrease gains (or increase losses) on future dispositions of certain capital assets to the extent tax basis is allocated to those capital assets. In addition, the SLP Corp Merger will result in favorable tax attributes to the Corporation.

We will enter into a tax receivable agreement with the Continuing LLC Owners that will provide for the payment by the Corporation of 85% (and in certain cases 100%) of the amount of the cash savings, if any, that the Corporation is deemed to realize as a result of these increases in tax basis and certain other tax benefits related to our entering into the tax receivable agreement, including tax benefits attributable to payments under the tax receivable agreement. We will also enter into a tax receivable agreement with the sole stockholder of SLP Corp that will provide for the payment by the Corporation to the sole stockholder of 85% (and in certain cases 100%) of the amount of the cash savings, if any, that the Corporation is deemed to realize as a result of the tax attributes of the units we acquire in the SLP Corp Merger, any net operating losses available as a result of the SLP Corp Merger and certain other tax benefits related to entering into this tax receivable agreement. These payment obligations are obligations of the Corporation and not of Mercury Payment Systems, LLC. See “Certain Relationships and Related Party Transactions—Tax Receivable Agreements.”

We may accumulate cash balances in future years resulting from distributions from Mercury Payment Systems, LLC exceeding our tax or other liabilities. To the extent we do not use such cash balances to pay a dividend on or repurchase shares of Class A common stock and instead decide to hold or recontribute such cash balances to Mercury Payment Systems, LLC for use in its operations, Continuing LLC Owners who exchange Holdings Units for shares of Class A common stock in the future could also benefit from any value attributable to such accumulated cash balances. See “Certain Relationships and Related Party Transactions—Exchange Agreement.”

We refer to the foregoing transactions as the “offering transactions.” As a result of the offering transactions:

 

    the investors in this offering will collectively own              shares of our Class A common stock (or              shares of Class A common stock if the underwriters exercise in full their option to purchase additional shares of Class A common stock), and the Corporation will own              Holdings Units (or              Holdings Units if the underwriters exercise in full their option to purchase additional shares of Class A common stock);

 

    the Continuing LLC Owners will own              Holdings Units (or              Holdings Units if the underwriters exercise in full their option to purchase additional shares of Class A common stock) and SLP III Quicksilver Feeder I, L.P. will own              shares of our Class A common stock (or              shares if the underwriters exercise in full their option to purchase additional shares);

 

    the investors in this offering will collectively have     % of the voting power in the Corporation (or     % if the underwriters exercise in full their option to purchase additional shares of Class A common stock); and

 

    our Existing Owners, through their holdings of our Class A common stock and Class B common stock, will collectively have     % of the voting power in the Corporation (or     % if the underwriters exercise in full their option to purchase additional shares of Class A common stock).

 

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USE OF PROCEEDS

We estimate that the proceeds to us from this offering, after deducting underwriting discounts and commissions and estimated offering expenses payable by us, will be approximately $         million, or $         million if underwriters exercise their over-allotment option in full, based on an assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus. Mercury Payment Systems, LLC will bear or reimburse us for all of the expenses of this offering, which we estimate will be approximately $         million.

We intend to use the net proceeds from this offering, or $         million, to purchase Holdings Units and shares of our Class A common stock from our Existing Owners, as described under “Organizational Structure—Offering Transactions.” Accordingly, we will not retain any of these proceeds. See “Principal Stockholders” for information regarding the economic interest of certain of our related parties in MPS 1, Inc. and Mercury Payment Systems II, LLC, two of the Existing Owners from which we intend to purchase Holdings Units with proceeds from this offering. See also “Use of Proceeds.”

An increase (decrease) of 100,000 shares from the expected number of shares to be sold by us in this offering, assuming no change in the assumed initial public offering price per share, which is the midpoint of the price range set forth on the front cover of this prospectus, would increase (decrease) our net proceeds from this offering by $         million. A $1.00 increase (decrease) in the assumed initial public offering price of $         per share, based on the midpoint of the price range set forth on the front cover of this prospectus, would increase (decrease) the net proceeds to us from this offering by $         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 underwriting discounts and commissions and estimated offering expenses payable by us.

 

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DIVIDEND POLICY

We do not intend to pay dividends on our Class A common stock in the foreseeable future.

Immediately following this offering, Mercury Payment Systems, Inc. will be a holding company, and its sole material asset will be a controlling equity interest in Mercury Payment Systems, LLC. We intend to cause Mercury Payment Systems, LLC to make distributions to Mercury Payment Systems, Inc. in an amount sufficient to cover cash dividends, if any, declared by us. If Mercury Payment Systems, LLC makes such distributions to Mercury Payment Systems, Inc., the other holders of Holdings Units will be entitled to receive equivalent distributions.

Our ability to pay dividends on our Class A common stock is effectively limited by the covenants of the Credit Facilities and may be further restricted by the terms of any future debt or preferred securities incurred or issued by us or our subsidiaries. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Senior Secured Credit Facilities.” Any financing arrangements that we or our subsidiaries enter into in the future may also include restrictive covenants that limit our ability to pay dividends. In addition, Mercury Payment Systems, LLC is generally prohibited under Delaware law from making a distribution to a member to the extent that, at the time of the distribution, after giving effect to the distribution, liabilities of Mercury Payment Systems, LLC (with certain exceptions) exceed the fair value of its assets. Subsidiaries of Mercury Payment Systems, LLC are generally subject to similar legal limitations on their ability to make distributions to Mercury Payment Systems, LLC.

We made distributions to our Existing Owners in the amount of $29.4 million, $119.2 million and $223.0 million during 2013, 2012 and 2011, respectively. The distributions in 2012 and 2011 exceeded the amounts distributed to members pursuant to the tax distribution provisions of the then-effective limited liability company agreement of Mercury Payment Systems, LLC. We anticipate that future distributions by Mercury Payment Systems, LLC to us and the other members of Mercury Payment Systems, LLC generally will not significantly exceed the amounts distributed to members pursuant to the tax distribution provisions of the New LLC Agreement, although future distributions may from time to time exceed such amounts.

 

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CAPITALIZATION

The following table sets forth our capitalization as of December 31, 2013:

 

    on a historical basis for Mercury Payment Systems, LLC; and

 

    on a pro forma basis for Mercury Payment Systems, Inc. after giving effect to the reorganization transactions as described in “Organizational Structure” and after giving effect to this offering and the application of the proceeds from this offering as described in “Use of Proceeds,” based on an assumed initial offering price of $             per share, which is the midpoint of the range set forth on the cover of this prospectus.

You should read this table together with “Organizational Structure,” “Selected Consolidated Financial Data,” “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 December 31, 2013  
     Actual     Pro Forma(1)  
     (in thousands,
except per share data)
 

Cash and cash equivalents

   $ 20,905      $                
  

 

 

   

 

 

 

Long-term liabilities

    

Long-term debt, including current portion, excluding discount(2)

   $ 299,244      $     

Payable to related parties pursuant to tax receivable agreements

     —       

Other long-term liabilities

     2,262     
  

 

 

   

 

 

 

Total long-term liabilities

     301,506     

Members’ / stockholders’ equity (deficit)

    

Total members’ equity (deficit)

     (185,361)     

Class A common stock, $0.001 par value;              shares authorized on a pro forma basis,              shares issued and outstanding on a pro forma basis

     —       

Class B common stock, $0.001 par value;              shares authorized on a pro forma basis,              shares issued and              shares outstanding on a pro forma basis

     —       

Additional paid-in capital

     —       

Retained earnings

     —       

Accumulated other comprehensive income (loss)

     (3,871  
  

 

 

   

 

 

 

Total members’ equity (deficit) / total stockholders’ equity (deficit) attributable to Mercury Payment Systems, Inc.

     (189,232  

Non-controlling interest

     —       
  

 

 

   

 

 

 

Total members’ / stockholders’ equity (deficit)

     (189,232  
  

 

 

   

 

 

 

Total capitalization

   $ 112,274      $     
  

 

 

   

 

 

 

 

(1)

A $1.00 increase or decrease in the assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus, would increase or decrease, as applicable, cash and cash equivalents, additional paid-in capital, total stockholders’ equity, total equity and total capitalization by $        , assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same and after deducting assumed underwriting discounts and commissions and the estimated offering expenses payable by us. An increase or decrease of 100,000 shares in the number of shares sold in this offering by us would increase or decrease, as applicable, cash and cash equivalents, additional paid-in capital, total stockholders’ equity, total equity and total capitalization by $        , assuming an initial public offering price of $         per share, which is the midpoint

 

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  of the price range set forth on the front cover of this prospectus, and after deducting assumed underwriting discounts and commissions and the estimated offering expenses payable by us.
(2) Borrowings of up to $25 million were available as of the date indicated under the revolving credit facility after giving effect to outstanding letters of credit and borrowing base limitations as of such date.

 

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DILUTION

If you invest in our Class A common stock in this offering, your ownership interest in us will be diluted to the extent of the difference between the initial public offering price per share of our Class A common stock and the pro forma net tangible book value per share of our Class A common stock after this offering. Dilution results from the fact that the per share offering price of the Class A common stock is substantially in excess of the book value per share attributable to the shares of Class A common stock attributable to our Existing Owners.

Our pro forma net tangible book value as of              was approximately $         million, or $         per share of our Class A common stock. We calculate pro forma net tangible book value per share by taking the amount of our total tangible assets, reduced by the amount of our total liabilities, and then dividing that amount by the total number of shares of Class A common stock outstanding, after giving effect to the reorganization transactions and assuming that all of the holders of Holdings Units (other than us) exchange their Holdings Units for newly issued shares of Class A common stock on a one-for-one basis.

After giving effect to our sale of the shares in this offering at an assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus, and after deducting estimated underwriting discounts and commissions and offering expenses payable by us, our pro forma net tangible book value after giving effect to this offering as of December 31, 2013 would have been $         million, or $         per share of our Class A common stock. This amount represents an immediate increase in net tangible book value of $         per share to our Existing Owners and an immediate and substantial dilution in net tangible book value of $         per share to new investors purchasing shares in this offering at the assumed initial public offering price.

The following table illustrates this dilution on a per share basis:

 

Assumed initial public offering price per share

      $                

Pro forma net tangible book value per share as of

   $                   

Increase in pro forma net tangible book value per share attributable to new investors purchasing shares in this offering

     
  

 

 

    

Pro forma net tangible book value per share of Class A common stock after this offering

     
     

 

 

 

Dilution per share to new investors in this offering

      $                
     

 

 

 

Dilution is determined by subtracting pro forma net tangible book value per share of Class A common stock after this offering, from the initial public offering price per share of Class A common stock.

Because certain of our Existing Owners do not own any Class A common stock or other economic interests in Mercury Payment Systems, Inc., we have presented dilution in pro forma net tangible book value per share of Class A common stock to investors in this offering assuming that all of the holders of Holdings Units (other than Mercury Payment Systems, Inc.) exchanged their Holdings Units for newly issued shares of Class A common stock on a one-for-one basis in order to more meaningfully present the dilutive impact on the investors in this offering.

Assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same, after deducting estimated underwriting discounts and commissions and offering expenses payable by us, a $1.00 increase or decrease in the assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus,

 

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would increase or decrease the pro forma net tangible book value attributable to new investors purchasing shares in this offering by $         per share and the dilution to new investors by $         per share and increase or decrease the pro forma net tangible book value per share after this offering, by $         per share.

The following table summarizes, on the same pro forma basis as of December 31, 2013, the total number of shares of Class A common stock purchased from us, the total cash consideration paid to us and the average price per share of Class A common stock paid by our Existing Owners and by new investors purchasing shares of Class A common stock in this offering, assuming that all of the holders of Holdings Units (other than Mercury Payment Systems, Inc.) exchanged their Holdings Units for shares of our Class A common stock on a one-for-one basis:

 

     Shares of Class A Common
Stock Purchased
    Total Consideration     Average
Price
Per
Share of
Class A
Common
Stock
 
     Number    Percent     Amount      Percent    
                (millions)               

Existing Owners

             %   $                           %   $                

New investors

            
  

 

  

 

 

   

 

 

    

 

 

   

Total

             %   $                %   $     
  

 

  

 

 

   

 

 

    

 

 

   

If the underwriters were to fully exercise the underwriters’ option to purchase              additional shares of our Class A common stock, the percentage of shares of our Class A common stock held by Existing Owners who are directors, officers or affiliated persons would be     % and the percentage of shares of our Class A common stock held by new investors would be     %.

Assuming the number of shares offered by us, as set forth on the front cover of this prospectus, remains the same, after deducting estimated underwriting discounts and commissions and offering expenses payable by us, a $1.00 increase or decrease in the assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus, would increase or decrease total consideration paid by new investors and total consideration paid by our Existing Owners and new investors by approximately $         million.

 

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UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL STATEMENTS

The unaudited pro forma consolidated statements of operations for the year ended December 31, 2013 present our consolidated results of operations giving pro forma effect to the reorganization transactions, this offering and the use of the estimated net proceeds of this offering as described under “Use of Proceeds,” as if such transactions occurred on January 1, 2013. The unaudited pro forma consolidated statement of financial condition as of December 31, 2013 presents our consolidated financial position giving pro forma effect to the reorganization transactions, this offering and the use of the estimated net proceeds from this offering as described under “Use of Proceeds,” as if such transactions occurred on December 31, 2013. The pro forma adjustments are based on available information and upon assumptions that our management believes are reasonable in order to reflect, on a pro forma basis, the impact of these transactions on the historical financial information of Mercury Payment Systems, LLC.

The unaudited pro forma consolidated financial information should be read together with “Organizational Structure,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the historical financial statements and related notes included elsewhere in this prospectus.

The unaudited pro forma consolidated financial information is included for informational purposes only and does not purport to reflect the results of operations or financial position of Mercury Payment Systems, Inc. that would have occurred had we operated as a public company during the periods presented. The unaudited pro forma consolidated financial information should not be relied upon as being indicative of our results of operations or financial position had the reorganization transactions and this offering occurred on the dates assumed. The unaudited pro forma consolidated financial information also does not project our results of operations or financial position for any future period or date.

The pro forma adjustments principally give effect to:

 

    the reorganization transactions and the purchase by Mercury Payment Systems, Inc. of Holdings Units and shares of our Class A common stock from our Existing Owners with the proceeds of this offering and the related effects of the tax receivable agreements. See “Organizational Structure—Offering Transactions” and “Certain Relationships and Related Party Transactions—Tax Receivable Agreements”; and

 

    in the case of the unaudited pro forma consolidated statements of income, a provision for corporate income taxes on the income of Mercury Payment Systems, Inc., at an effective rate of     %, which includes a provision for U.S. federal income taxes and assumes the highest statutory rates apportioned to each state, local and/or foreign jurisdiction.

The unaudited pro forma consolidated financial information presented assumes no exercise by the underwriters of the option to purchase up to an additional              shares of Class A common stock from us and that the shares of Class A common stock to be sold in this offering are sold at $         per share, which is the midpoint of the price range on the front cover of this prospectus.

 

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Unaudited Pro Forma Consolidated Statement of Income

For the Year Ended December 31, 2013

 

     Mercury Payment
Systems, LLC Actual
    Pro Forma
Adjustments
    Mercury Payment
Systems, Inc.
Pro Forma
 
     (in thousands, except per share amounts)  

Net revenue

   $ 237,259      $                   $                

Cost of services and sales

     74,088       

Operating expenses

     100,796       
  

 

 

     

Operating income

     62,375       

Other income (expense)

      

Other expense

     (443    

Interest expense

     (19,279    
  

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (19,722    

Income before income taxes

     42,653       

Income taxes

     —                       (1)   

Net income attributable to the controlling and the non-controlling interests

   $ 42,653      $        $     
  

 

 

     

Less: Net income attributable to the non-controlling interest

                    (2)   
    

 

 

   

 

 

 

Net income attributable to Mercury Payment Systems, Inc.

     $        $     
    

 

 

   

 

 

 

Net income available to Class A common stock per share

      

Basic

       $     

Diluted

       $     

Weighted average shares of Class A common stock outstanding(3) (in thousands)

      

Basic

      

Diluted

      

 

(1) Following the reorganization transactions, we will be subject to U.S. federal income taxes, in addition to state, local and international taxes. As a result, the pro forma statements of income reflect an adjustment to our provision for corporate income taxes to reflect an effective tax rate of     %, which includes provision for U.S. federal income taxes and assumes the highest statutory rates apportioned to each state, local and/or foreign jurisdiction.
(2) As described in “Organizational Structure,” upon completion of the reorganization transactions Mercury Payment Systems, Inc. will become the sole managing member of Mercury Payment Systems, LLC. Mercury Payment Systems, Inc. will initially own less than 100% of the economic interest in Mercury Payment Systems, LLC, but will have 100% of the voting power and control the management of Mercury Payment Systems, LLC. Immediately following this offering, the non-controlling interest will be     %. Net income attributable to the non-controlling interest represents     % of income before income taxes. These amounts have been determined
  based on an assumption that the underwriters’ option to purchase additional shares is not exercised. If the underwriters’ option to purchase additional shares is exercised in full, the ownership percentage held by the non-controlling interest would decrease to     %.
(3) Shares of our Class B common stock do not share in our earnings and are therefore not included in the weighted average shares outstanding or net income (loss) per share.

 

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Unaudited Pro Forma Consolidated Balance Sheet

As of December 31, 2013

 

    Mercury
Payment
Systems, LLC
Actual
    Pro Forma
Adjustments
    Mercury
Payment
Systems, Inc.
Pro Forma
 
    (in thousands)  

Assets

     

Current assets

     

Cash and cash equivalents

  $ 20,905      $              (1)    $                

Accounts receivable, net

    25,606       

Inventory

    699       

Land held for sale

    2,741       

Prepaid expenses

    4,545       

Other current assets

    279       
 

 

 

   

 

 

   

 

 

 

Total current assets

    54,775       

Property and equipment, net

    64,497       

Other assets

     

Deferred tax asset

    —                       (2)   

Restricted cash

    2,050       

Goodwill and other intangible assets, net

    7,258       

Deposits and other

    1,932       
 

 

 

     

Total other assets

    11,240       
 

 

 

   

 

 

   

 

 

 

Total assets

  $ 130,512      $        $     
 

 

 

   

 

 

   

 

 

 

Liabilities and Members’ / Stockholders’ Equity (Deficit)

     

Current liabilities

     

Accounts payable

  $ 6,394      $        $     

Accrued expenses

    20,318       

Current portion of long-term debt

    3,119       
 

 

 

   

 

 

   

 

 

 

Total current liabilities

    29,831       

Long-term liabilities

     

Long-term debt, net of discount

    287,651       

Payable to related parties pursuant to tax receivable agreements

    —                       (2)   

Other liabilities

    2,262       
 

 

 

   

 

 

   

 

 

 

Total long-term liabilities

    289,913       
 

 

 

   

 

 

   

 

 

 

Total liabilities

    319,744       
 

 

 

   

 

 

   

 

 

 

Members’ / stockholders’ equity (deficit)

     

Class A members’ equity (deficit); 66,044,523 units outstanding

    (111,804     —          —     

Class B members’ equity (deficit); 40,000,000 units outstanding

    (74,615     —          —     

Class C members’ equity (deficit); 383,564 units outstanding and 149,555 non-callable

    1,058        —          —     

Class A common stock, $0.001 par value; shares authorized,              shares issued and outstanding on a pro forma basis

    —         

Class B common stock, $0.001 par value; shares authorized,              shares issued and outstanding on a pro forma basis

    —         

Accumulated other comprehensive income/(loss)

    (3,871    
 

 

 

   

 

 

   

 

 

 

Total members’ / stockholders’ equity (deficit) attributable to Mercury Payment Systems, Inc.

    (189,232    

Non-controlling interest

    —                       (3)   
 

 

 

   

 

 

   

 

 

 

Total members’ / stockholders’ equity (deficit)

    (189,232                  (4)   
 

 

 

   

 

 

   

 

 

 

Total liabilities and members’ / stockholders’ equity (deficit)

  $ 130,512      $        $     
 

 

 

   

 

 

   

 

 

 

 

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(1) Reflects the net effect on cash and cash equivalents of the receipt of offering proceeds of $         and the use of the estimated net proceeds of this offering as described under “Use of Proceeds.”
(2) Reflects adjustments to give effect to the tax receivable agreements described in “Certain Relationships and Related Party Transactions—Tax Receivable Agreements,” based on the following assumptions:

 

    we will record an increase of $         million in deferred tax assets (or $         million if the underwriters exercise their option to purchase additional shares) for the estimated income tax effects of the increase in the tax basis of the assets owned by Mercury Payment Systems, Inc. based on enacted federal and state tax rates at the date of the transaction. To the extent we estimate that we will not realize the full benefit represented by the deferred tax asset, based on an analysis of expected future earnings, we will reduce the deferred tax asset with a valuation allowance; and

 

    we will record 85% of the estimated realizable tax benefit (which is the recorded deferred tax asset less any recorded valuation allowance) as an increase of $         million (or $         million if the underwriters exercise their option to purchase additional shares) as payable to related parties pursuant to the tax receivable agreement and the remaining 15% of the estimated realizable tax benefit, or $         million (or $         million if the underwriters exercise their option to purchase additional shares), as an increase to additional paid-in capital.

 

(3) As described in “Organizational Structure,” upon completion of the reorganization transactions Mercury Payment Systems, Inc. will become the sole managing member of Mercury Payment Systems, LLC. Mercury Payment Systems, Inc. will initially own less than 100% of the economic interest in Mercury Payment Systems, LLC, but will have 100% of the voting power and control the management of Mercury Payment Systems, LLC. Immediately following this offering, the non-controlling interest will be     %. Net income attributable to the non-controlling interest represents     % of income before income taxes. These amounts have been determined based on an assumption that the underwriters’ option to purchase additional shares is not exercised. If the underwriters’ option to purchase additional shares is exercised, the ownership percentage held by the non-controlling interest would decrease to     %.
(4) Represents a reduction to retained earnings of $         due to a distribution of $        , which represents the estimated net proceeds of this offering, to our Existing Owners.

 

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SELECTED CONSOLIDATED FINANCIAL DATA

The following summary consolidated financial data of Mercury Payment Systems, LLC should be read in conjunction with “Organizational Structure,” “Capitalization,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” our audited consolidated financial statements and unaudited consolidated financial statements and the related notes included elsewhere in this prospectus. Mercury Payment Systems, LLC will be considered our predecessor for accounting purposes, and its consolidated financial statements will be our historical financial statements following this offering.

The income statement data set forth below for the years ended December 31, 2011, 2012 and 2013 and the balance sheet data as of December 31, 2011, 2012 and 2013 are derived from the audited consolidated financial statements of Mercury Payment Systems, LLC that are included elsewhere in this prospectus. The historical results presented below are not necessarily indicative of financial results to be achieved in future periods.

 

    Year Ended  
    December 31,
2011
    December 31,
2012
    December 31,
2013
 

Income Statement Data:

     

Net Revenue

  $ 154,703      $ 203,277      $ 237,259   

Cost of services and sales

    48,336        62,536        74,088   

Operating expenses

    55,428        78,951        100,796   
 

 

 

   

 

 

   

 

 

 

Operating income

    50,939        61,790        62,375   

Total other income (expense)

    (7,946     (15,249     (19,722
 

 

 

   

 

 

   

 

 

 

Net Income (loss)

  $ 42,993      $ 46,541      $ 42,653   
 

 

 

   

 

 

   

 

 

 

Other Financial Data:

     

Cash dividends

  $ 223,049      $ 119,233      $ 29,378   

Balance Sheet Data (at end of period):

     

Cash and cash equivalents

  $ 30,714      $ 23,388      $ 20,905   

Total assets

    76,694        110,183        130,512   

Total long-term liabilities

    192,832        288,089        289,913   

Total liabilities

    211,539        316,170        319,744   

Total equity (deficit)

    (134,845     (205,987     (189,232

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read together with “Selected Financial Data” and the financial statements and related notes included elsewhere in this prospectus. Such discussion and analysis reflects the historical results of operations and financial position of Mercury Payment Systems, LLC, and, except as otherwise indicated below, does not give effect to the Reorganization Transactions or to the completion of this offering. See “Organizational Structure.” This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth under “Risk Factors” and “Forward-Looking Statements” and elsewhere in this prospectus.

Overview

Mercury was founded in 2001 with the vision that small- and medium-sized businesses (“SMBs”) would require seamless and adaptable payments services to accompany their increasing adoption of a new class of sophisticated point-of-sale (“POS”) technology solutions. We created our innovative Mercury Model that combines our payments technology with our robust partner distribution and support network to create a differentiated payments experience for our merchants. We believe this model has disrupted the merchant acquiring market, enabling our rise from the 45th largest merchant acquirer in the U.S. in 2004 to the 11th largest in 2013, measured by purchase transactions according to the Nilson Report. Based on this data, our purchase transactions grew at a 57% compound annual growth rate, ranking us as the fastest organically growing merchant acquirer in the U.S. during this period. In 2013, we had approximately 88,700 merchants, our systems processed over $34 billion in payments volume and we generated $237.3 million in net revenue, an increase in revenue of more than 16% year-over-year.

Mercury is a leading provider of payments technology and services in the U.S. and Canada and empowers merchants to accept a broad range of traditional and emerging electronic payments. We embed our payments technology into third-party software applications used by SMB merchants enabling them to benefit from the combination of payments and business management functionality. We refer to this class of POS technology solutions as “Integrated Point-of-Sale” or “IPOS.” We utilize an efficient and scalable go-to-market strategy, which involves partnering with the many providers who develop and sell IPOS systems. This network of partners, which we call the Mercury Network, includes Developers, who create software for IPOS systems with functionality tailored for specific business requirements, and Dealers, who sell IPOS systems and provide technology, services and support to merchants.

A growing number of SMB merchants are adopting IPOS systems to take advantage of the declining cost of computers and the availability of new form factors such as tablets and high-quality, industry-specific software applications to better manage their businesses. In 2012, approximately 45% of point-of-sale devices were IPOS-capable, up from 39% in 2010 according to data on single-location SMBs (U.S. and Canada) from IHL, an industry research firm. Over time we expect IPOS adoption by SMBs to continue to grow and more closely reflect the adoption by the largest merchant category tracked by IHL (1,000+ store chains), where IPOS has already grown to represent over 90% of installed POS devices. We anticipate further growth in this category because IPOS solutions are becoming increasingly affordable and feature-rich, resulting in a more attractive value proposition for SMBs in comparison to stand-alone POS systems. Additionally, many SMB merchants will have an opportunity to upgrade their existing POS systems to IPOS as their legacy systems become obsolete or as they require more features and functionality.

 

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We earn revenue primarily from the payment by our merchant base of three types of payment processing fees. These fees are primarily calculated as follows:

 

    as a percentage of our merchants’ processing dollar volume;

 

    on a per transaction basis; and

 

    per period of time.

Transaction-based revenue and volume-based revenue are the largest components of our revenue. Most transactions include both a volume-based component and a transaction-based component, though American Express generally compensates us and other payment processors on a per transaction basis. Volume-based revenue has represented a smaller portion of our revenue than transaction-based revenue, mainly because of the relatively small size of average purchases at our SMB merchant base. Time-based revenue is a significantly smaller component of our revenue than either transaction-based revenue or volume-based revenue. Time-based revenue is paid by our merchants in respect of subscriptions to our services and in relation to certain types of fees.

We also earn fees from loyalty and gift card processing, equipment sales and rentals, other services ancillary to payment processing and referring merchants to providers of non-competitive merchant services for which we receive commissions.

To achieve more strategic and technical independence and more advantageous economics for payment processing, Mercury is in the process of gradually in-sourcing a number of systems and activities that have historically been outsourced. We refer to this initiative as “In-house Processing” or “IHP.” We expect IHP to ultimately reduce Mercury’s per transaction cost of processing. See “Business—Our Technology—In-House Processing Initiative.”

We principally market our services through Developers and Dealers of IPOS systems. We recruit Developers who create IPOS software and help them integrate Mercury payments functionality into their products. Developers’ IPOS software is primarily sold by Dealers who sell, service and support IPOS systems used by merchants. In return for partners referring merchants to Mercury for payments processing services, Mercury remunerates Dealers, and to a lesser extent, Developers, primarily with respect to revenue earned and profitability from the merchants they refer to Mercury.

For the year ended December 31, 2013, we reported net revenue of $237.3 million and GAAP net income of $42.7 million, an increase of 16.7% and a decrease of 8.4%, respectively, over the prior year. Also for the year ended December 31, 2013, we reported adjusted EBITDA of $92.9 million and adjusted net income of $57.1 million, increases of 22.9% and 14.9%, respectively, over the prior year. For a reconciliation of adjusted EBITDA and adjusted net income to GAAP net income, see “—Adjusted EBITDA and Adjusted Net Income.”

Key Operating Metrics

We evaluate our performance through key operating metrics, including:

 

    the number of Developers in our ecosystem;

 

    the number of Dealers in our ecosystem;

 

    the number of merchants processing with us;

 

    the dollar volume of payments our merchants process through us; and

 

    the number of transactions our merchants process with us.

 

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Developers—We define a Developer as a software and/or hardware vendor that has successfully integrated its products with our payment processing technology. Developers are also known as independent software vendors in our industry. We focus on Developers of IPOS software and hardware because having our payment processing functionality embedded in Developers’ products allows us to provide our services to their merchant customers. We had approximately 600 Developers as of December 31, 2013, approximately 8% more than the approximately 555 Developers as of December 31, 2012.

Dealers—We define a Dealer as an entity that referred a merchant to us within the past twelve months. Dealers are also known as value-added resellers in our industry. Developers who directly sell to merchants are also counted as Dealers if they have referred a merchant to us within the last 12 months. We focus on Dealers of IPOS software and systems because they source potential merchant customers for us. We had approximately 2,430 Dealers as of December 31, 2013, approximately 10% more than the approximately 2,200 Dealers as of December 31, 2012.

Merchants—We define a merchant as a merchant location that is actively paying us fees. Our merchant count also includes a small number of merchants that pay us fees intermittently or are otherwise considered active from a customer relations perspective. See “Industry Data and Operating Metrics” for more detail. We focus on merchants because they are our principal source of revenue. We had approximately 88,700 merchants as of December 31, 2013, approximately 17% more than the approximately 75,800 merchants as of December 31, 2012.

Volume—We define volume as the dollar value of Visa, MasterCard, Discover and other nominal non-American Express transactions processed by our merchants. We also allow our merchants to process American Express transactions, but due to the nature of our relationship with American Express, we do not include these transactions in volume metrics. We focus on volume, because it is a reflection of the scale and economic activity of our merchant base and because a significant part of our revenue is derived as a percentage of our merchants’ dollar volume receipts. Volume processed in the years ended December 31, 2013 and 2012 was approximately $34.3 billion and $29.4 billion, respectively, representing approximately 17% growth.

Transactions—We define a transaction as a Visa, MasterCard, Discover or other nominal non-American Express transaction processed by our merchants. For the reasons discussed above, we do not include American Express transactions. We focus on transactions, because it is a reflection of the scale and economic activity of our merchant base and because a significant part of our revenue is derived on a per transaction basis. Transactions processed in the years ended December 31, 2013 and 2012 were 1,189 million and 1,026 million, respectively, representing approximately 16% growth.

Trends and Fluctuations in Key Operating Metrics. Notwithstanding the long-term year-over-year growth in our key operating metrics, we have experienced and expect to continue to experience fluctuations in our key operating metrics as a result of seasonal, competitive and other factors. See “Industry Data and Operating Metrics.”

For instance, we have experienced seasonal fluctuations in our revenues as a result of consumer spending patterns, in which our revenues have been strongest in our third and fourth quarters, and weakest in our first quarter. See “—Quarterly Financial Information.” This pattern also tends to be reflected in our volume and transaction metrics.

In addition, our volume and transaction metrics tend to increase more slowly than our merchant count, principally as a result of the increasing adoption of IPOS by smaller businesses, and the fact

 

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that many of our new merchants are newly opened business locations. See “Business—Industry Background—Increasing Adoption of New Payments Technologies and Services by SMBs.”

Our merchant count can fluctuate as a result of seasonal factors. For instance, small businesses that fail often do so in the first quarter of the year, which has a negative effect on our merchant count. Quarterly changes in our merchant count can also vary as a result of competitive factors such coordinated acquisitions or departures of multiple locations (such as with a retail chain or set of franchises).

Our Dealer count reflects the number of Dealers who have referred at least one merchant to us in the past twelve months and we believe reflects a variety of factors, including the value Dealers see in partnering with us and in our technology and services, the efforts of competitors, and the breadth of our engagement with our Dealer population. From time to time we have focused sales and marketing efforts on particular segments of our Dealer population in pursuit of higher quality or a higher volume of referrals, even if doing so may negatively affect the number of Dealers who are actively providing referrals.

The near-term impact on our business of quarterly fluctuations in our key operating metrics and their rates of growth depends on a variety of other factors, such as the quality and economic activity of our merchants, the overall profitability of our merchant relationships, the quality and utility of technology made by our Developers, and the aggregate number and quality of merchant referrals generated by our Dealers. See “—Factors and Trends Affecting Our Business and Results of Operations.” Management seeks to increase revenue and optimize profitability of its commercial relationships and, accordingly, while management pursues growth in our key operating metrics as an ongoing long-term goal, management considers quarterly fluctuations in our key operating metrics and their rates of growth in a broader business and financial context.

 

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Investment by Silver Lake and Reorganization Transactions

Investment by Silver Lake

Mercury Payment Systems, LLC was formed in 2010, in connection with an investment by Silver Lake, to hold the assets relating to our business. In April 2010, SL Quicksilver LLC (“SL Quicksilver”), an affiliate of Silver Lake, acquired Class A units representing a majority interest in Mercury Payment Systems, LLC from Mercury Payment Systems, LLC and from certain existing holders, including MPS 1, Inc., for an aggregate of approximately $450.6 million. As of December 31, 2013, SL Quicksilver held approximately 62% of the outstanding membership interests of Mercury Payment Systems, LLC.

Reorganization Transactions

Mercury Payment Systems, Inc. was incorporated in December 2013 and, pursuant to a reorganization into a holding corporation structure, will become a holding corporation whose sole material asset will be a controlling equity interest in Mercury Payment Systems, LLC. As the sole managing member of Mercury Payment Systems, LLC, Mercury Payment Systems, Inc. will operate and control all of the business and affairs of Mercury Payment Systems, LLC and, through Mercury Payment Systems, LLC, its subsidiaries. Mercury Payment Systems, Inc. will consolidate Mercury Payment Systems, LLC in its consolidated financial statements and will report a noncontrolling interest related to the Holdings Units held by certain of our Existing Owners in its consolidated financial statements.

Prior to the consummation of this offering, we will execute several reorganization transactions described under “Organizational Structure,” as a result of which the limited liability company agreement of Mercury Payment Systems, LLC will be amended and restated to, among other things, modify its capital structure to create a single new class of units that we refer to as “Holdings Units.” Pursuant to the New LLC Agreement, the Corporation will be the sole managing member of Mercury Payment Systems, LLC.

We and certain of our Existing Owners will also enter into an exchange agreement under which they will have the right, subject to the terms of the exchange agreement, to exchange their Holdings Units for shares of our Class A common stock on a one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends, reclassifications and other similar transactions. See “Organizational Structure” and “Certain Relationships and Related Party Transactions—Exchange Agreement.”

Following this offering, each of our Existing Owners that held voting units before the reorganization transactions and that continues to hold Holdings Units will also hold a number of shares of Class B common stock of Mercury Payment Systems, Inc. equal to the number of Holdings Units received in the reclassification effected pursuant to the amended and restated limited liability company agreement of Mercury Payment Systems, LLC described above. The shares of Class B common stock have no economic rights but entitle the holder, to one vote per share on matters presented to stockholders of Mercury Payment Systems, Inc.

 

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Our Revenue and Expenses

Net Revenue

Our net revenues are comprised of:

 

    fees based on dollar volume of transactions;

 

    fees based on transaction quantity;

 

    fees for services; and

 

    product and equipment sales and rentals.

A number of factors impact the level of our net revenues including:

 

    the number of referrals from our Developers and Dealers;

 

    the demand for our products and services;

 

    our ability to acquire and retain our merchant customers; and

 

    general economic conditions.

Net revenue is recorded at the time the service is provided or when a product or equipment sale occurs. Net revenue consists of the amounts our merchants pay for processing, less network and processing fees and sponsorship and related costs, and reflects revenue generated from the services we provide to our merchants.

Our net revenue is primarily derived from the United States. However, we also realize a small portion, historically less than 5%, of our net revenue from merchants in Canada. Net revenue derived from Canada was $7.4 million, $6.0 million and $5.3 million for the years ended December 31, 2013, 2012 and 2011, respectively. We do not have material assets in Canada.

Cost of Services and Sales

Cost of services and sales consists primarily of:

 

    commissions, incentives and promotional expenses paid to our Dealers, and to a lesser extent our Developers;

 

    payments to the service providers to whom we subcontract certain payment processing activities and systems and certain loyalty and gift program management and support services;

 

    other services that support our ability to provide our merchants with payments functionality, as well as product costs and certain merchant acquisition costs; and

 

    depreciation and amortization of our transaction-acquiring and processing systems, including related intangible assets.

Historically, cost of services and sales has remained a relatively constant percent of revenue. However, we expect cost of services and sales to grow as a percentage of revenue in the future as we continue to invest in expanding and protecting the Mercury Network.

Operating Expenses

Information technology expense primarily consists of those costs that are incurred to design, build, and maintain our technology platforms, infrastructure and related connectivity. The largest components of information technology expense are wages and other employee expenses, technology licensing, communications and data transmission services.

 

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Sales and marketing expense primarily consists of selling and marketing expenses supporting our growth. Sales expenses are primarily comprised of sales employee compensation. Marketing expenses are approximately evenly split between marketing employee compensation and expenses paid to third parties for advertising and promotion.

General and administrative expense primarily consists of expenses related to finance, human resources and legal functions, our executive office and our facilities. Stock compensation and bad debt expenses are also included this category. General and administrative expense has remained approximately constant as a percentage of revenue since 2011.

Customer support expense primarily consists of merchant-facing customer support representative compensation.

Depreciation and amortization expense consists of our depreciation expense related to investments in property, equipment and software.

Interest expense consists primarily of interest paid on the Credit Facilities (as defined below).

We currently expect the above mentioned expenses, in aggregate, to remain relatively consistent as a percentage of net revenue.

Income Taxes

We are currently, and will through consummation of the reorganization transactions, be treated as a partnership for U.S. federal and most applicable state and local income tax purposes. As a partnership, our taxable income or loss is passed through to and included in the tax returns of our members. Accordingly, the consolidated financial statements of Mercury Payment Systems, LLC included in this prospectus do not include a provision for federal and most state and local income taxes. However, we generally make distributions to our members related to such taxes pursuant to the terms of our limited liability company agreement. We are subject to entity level taxation in certain states, and certain subsidiaries are subject to entity level U.S. and foreign income taxes. As a result, the accompanying consolidated statements of income and comprehensive income include tax expense related to those states and to U.S. and foreign jurisdictions where we operate. After consummation of the reorganization transactions, Mercury Payment Systems, Inc. will become subject to U.S. federal, state, local and foreign income taxes with respect to its allocable share of any taxable income of Mercury Payment Systems, LLC and will be taxed at the prevailing corporate tax rates.

Factors and Trends Affecting Our Business and Results of Operations

Our net revenue is principally impacted by the number and dollar volume of card based transactions, which are primarily impacted by our ability to continue to grow our merchant base, and secondarily impacted by general economic conditions, consumer spending and the emergence of new technologies and payment types, such as ecommerce, mobile payments and stored value cards. Our net revenue is also impacted by the number of merchants for whom we process, the mix of the size of those merchants and the mix of transaction volume and merchant category. Increases in network fees and other costs have not historically had a material effect on the rate of growth of our net revenue, as such costs are generally passed through to our clients. We also expect our results of operations to be impacted by the regulatory reforms described below and elsewhere in this prospectus.

Regulation also impacts our net revenue and expenses. In particular, the Durbin Amendment to the Dodd-Frank Act impacted our net revenue by lowering certain fees charged by larger banks related to debit card transactions. The decreases in these charges had the effect of lowering the amount some of our merchants paid per transaction for payment processing services, and we expect that effect to

 

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continue. The Durbin Amendment also increased the relative share of total payment processing service fees paid by our merchants that are included in our net revenue. As we shift from remarketing the services of our current payment processing infrastructure provider and its sponsor bank, to our own payment processing platforms, payment network relationships, and sponsor bank relationships, we expect to incur increased compliance expenses.

Results of Operations

The following table sets forth our results of operations for the periods indicated:

 

     Year Ended December 31,  
     2011     2012     2013  
    

(in thousands)

 

Net revenue

   $ 154,703      $ 203,277      $ 237,259   

Cost of services and sales

     48,336        62,536        74,088   

Operating Expenses

      

Information technology

     13,697        22,304        27,068   

Sales and marketing

     17,336        22,532        25,259   

General and administrative

     16,192        23,314        26,656   

Customer support

     5,638        6,755        6,572   

Depreciation and amortization (excluding amounts included in cost of services and sales)

     2,564        4,046        7,492   

Other operating expenses: Impairments

     1        —          7,749   
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     55,428        78,951        100,796   
  

 

 

   

 

 

   

 

 

 

Operating income

     50,939        61,790        62,375   

Other income (expense)

      

Other income (expense)

     73        65        (443

Interest expense

     (8,019     (15,314     (19,279
  

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (7,946     (15,249     (19,722
  

 

 

   

 

 

   

 

 

 

Net Income

   $ 42,993      $ 46,541      $ 42,653   
  

 

 

   

 

 

   

 

 

 

 

     Year Ended  
     December 31,
2011
    December 31,
2012
    December 31,
2013
 
    

Percentage of Revenue

 

Net revenue

     100     100     100

Cost of services and sales

     31        31        31   

Operating Expenses

      

Information technology

     9        11        12   

Sales and marketing

     11        11        11   

General and administrative

     10        11        11   

Customer support

     4        3        3   

Depreciation and amortization (excluding amounts included in cost of services and sales)

     2        2        3   

Other operating expenses: Impairments

     —          —          3   
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     36        39        43   
  

 

 

   

 

 

   

 

 

 

Operating income

     33        30        26   

Other income (expense)

      

Other income

     —          —          —     

Interest expense

     (5     (8     (8
  

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (5     (8     (8
  

 

 

   

 

 

   

 

 

 

Net Income

     28     23     18
  

 

 

   

 

 

   

 

 

 

 

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Year Ended December 31, 2013 Compared to Year Ended December 31, 2012

Net Revenue

Net revenue increased $34.0 million, or 17%, to $237.3 million for the year ended December 31, 2013 from $203.3 million for the year ended December 31, 2012. Net revenue increased primarily due to the dollar volume of payments processed, which accounted for $7.4 million of the increase, and the number of transactions our merchants processed, which accounted for $19.9 million of the increase. The volume of payments increased 17%, the number of transactions our merchants processed increased 16%, and the number of merchant customers for whom we processed increased 17%.

Cost of Services and Sales

Cost of services and sales increased $11.6 million, or 19%, to $74.1 million for the year ended December 31, 2013 from $62.5 million for the year ended December 31, 2012. The increase in cost of services and sales was similar in proportion to the increase in net revenue and primarily the result of an increase in amounts we paid to our Developers and Dealers. The amounts paid increased primarily because the amounts are based upon how much we earned from our merchants, which increased due to the factors discussed in “—Net Revenue” above, and secondarily due to our decision to pay higher commission rates to Developers and Dealers.

Information Technology

Information technology expense increased $4.8 million, or 21%, to $27.1 million for the year ended December 31, 2013 from $22.3 million for the year ended December 31, 2012. The increase in information technology costs was primarily the result of us employing more information technology employees, representing $3.4 million of the increase, and procuring more technology assets and services, representing the remaining $1.4 million of the increase, partially in connection with IHP.

Sales and Marketing

Sales and marketing expense increased $2.7 million, or 12%, to $25.3 million for the year ended December 31, 2013 from $22.5 million for the year ended December 31, 2012. The increase in sales and marketing expense was primarily due to growth in our sales and marketing employee base, representing $2.2 million of the increase, as well as an increase in advertising and promotion expenditures and related expenses to support the expansion of our ecosystem, representing the remaining $0.5 million of the increase.

General and Administrative

General and administrative expense increased $3.3 million, or 14%, to $26.7 million for the year ended December 31, 2013 from $23.3 million for the year ended December 31, 2012. The increase in general and administrative expense was primarily due to an increase in the number of employees in our finance, human resources and legal functions in support of our anticipated public company status.

Customer Support

Customer support expense decreased $0.2 million, or 3%, to $6.6 million for the year ended December 31, 2013 from $6.8 million for the year ended December 31, 2012. The decrease in customer support expense was primarily due to increased efficiency of our customer support representatives, that was partially offset by an increase in the number of employees required to support our growing customer base.

 

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Depreciation and Amortization

Depreciation and amortization expense (excluding amounts included in cost of services and sales) increased $3.5 million, or 85%, to $7.5 million for the year ended December 31, 2013 from $4.0 million for the year ended December 31, 2012. The increase in depreciation and amortization expense was primarily due to increases in depreciable capital associated with leasehold improvements and technology investments.

Other Operating Expenses

Other operating expenses were $7.7 million for the year ended December 31, 2013, due to our decision to shift from developing, to outsourcing, certain payment processing technology. In connection with the shift, we wrote off certain technology assets.

Total Operating Expenses

Total operating expenses increased $21.8 million, or 28%, to $100.8 million for the year ended December 31, 2013 from $79.0 million for the year ended December 31, 2012 for the reasons set forth above.

Operating Income

Operating income increased $0.6 million, or 1%, to $62.4 million for the year ended December 31, 2013 from $61.8 million for the year ended December 31, 2012. The increase in operating income was due to the net effects of net revenue increases, cost of services and sales increases, and total operating expense increases set forth above.

Interest Expense

Interest expense increased $4.0 million, or 26%, to $19.3 million for the year ended December 31, 2013 from $15.3 million for the year ended December 31, 2012. The increase in interest expense was primarily due to a $100.0 million increase in our borrowings which occurred in November 2012.

Net Income

Net income decreased $3.9 million, or 8%, to $42.7 million for the year ended December 31, 2013 from $46.5 million for the year ended December 31, 2012 for the reasons set forth above.

Year Ended December 31, 2012 Compared to Year Ended December 31, 2011

Net Revenue

Net revenue increased $48.6 million, or 31%, to $203.3 million for the year ended December 31, 2012 from $154.7 million for the year ended December 31, 2011. Net revenue increased primarily due to an increase in the dollar volume of payments processed, which accounted for $34.7 million of the increase in net revenue, and an increase in the number of transactions our merchants processed, which accounted for $6.2 million of the increase in net revenue. The volume of payments increased 23%, the number of transactions our merchants processed increased 24%, and the number of merchant customers for whom we processed increased 20%.

Cost of Services and Sales

Cost of services and sales increased $14.2 million, or 29%, to $62.5 million for the year ended December 31, 2012 from $48.3 million for the year ended December 31, 2011. The increase in cost of services was similar in proportion to the increase in net revenue and primarily the result of an increase

 

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in amounts we paid to our IPOS Developers and Dealers. The amounts paid increased because the amounts are based upon how much we earned from our merchants, which increased due to the factors discussed in “—Net Revenue” above.

Information Technology

Information technology expense increased $8.6 million, or 63%, to $22.3 million for the year ended December 31, 2012 from $13.7 million for the year ended December 31, 2011. The increase in information technology costs was primarily the result of us employing more information technology employees, representing $4.5 million of the increase, and procuring more technology assets and services, representing the remaining $4.1 million of the increase, partially in connection with IHP.

Sales and Marketing

Sales and marketing expense increased $5.2 million, or 30%, to $22.5 million for the year ended December 31, 2012 from $17.3 million for the year ended December 31, 2011. The increase in sales and marketing expense was primarily associated with growth in our sales and marketing employee base, representing $3.8 million of the increase, as well as growth in advertising and promotion expenditures and related expenses to support the expansion of our ecosystem, representing the remaining $1.4 million of the increase.

General and Administrative

General and administrative expense increased $7.1 million, or 44%, to $23.3 million for the year ended December 31, 2012 from $16.2 million for the year ended December 31, 2011. The increase in general and administrative expense was primarily due to an increase in the number employees in our finance, human resources and legal functions in support of growth.

Customer Support

Customer support expense increased $1.2 million, or 21%, to $6.8 million for the year ended December 31, 2012 from $5.6 million for the year ended December 31, 2011. The increase in customer support expense was primarily due to an increase in the number of employees required to support our growing customer base, partially offset by increased efficiency of our customer support representatives.

Depreciation and Amortization

Depreciation and amortization expense (excluding amounts included in cost of services and sales) increased $1.4 million, or 54%, to $4.0 million for the year ended December 31, 2012 from $2.6 million for the year ended December 31, 2011. The increase in depreciation and amortization expense was primarily due to an increase in merchant acquisition, leasehold, and technology investments to which depreciation and amortization apply.

Total Operating Expenses

Total operating expenses increased $23.6 million, or 43%, to $79.0 million for the year ended December 31, 2012 from $55.4 million for the year ended December 31, 2011 for the reasons set forth above.

Operating Income

Operating income increased $10.9 million, or 21%, to $61.8 million for the year ended December 31, 2012 from $50.9 million for the year ended December 31, 2011. The increase in operating income was due to the net effects of net revenue increases, cost of services and sales increases, and total operating expense increases set forth above.

 

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Interest Expense

Interest expense increased $7.3 million, or 91%, to $15.3 million for the year ended December 31, 2012 from $8.0 million for the year ended December 31, 2011. The increase in interest expense was primarily due to borrowing $200.0 million of term loan debt at approximately mid-year 2011, in contrast to recognizing a full year of interest expense in 2012. In addition, we borrowed an incremental $100.0 million of term loan debt in November 2012 and recognized incremental interest expense in 2012 relation to the incremental borrowing.

Net Income

Net income increased $3.5 million, or 8%, to $46.5 million for the year ended December 31, 2012 from $43.0 million for the year ended December 31, 2011 for the reasons set forth above.

Quarterly Financial Information

The following table sets forth selected unaudited quarterly consolidated income statement data for the eight quarters ended December 31, 2013. This data was prepared on a basis consistent with the audited consolidated financial statements of Mercury Payment Systems, LLC. This data should be read in conjunction with the audited consolidated financial statements and related notes included elsewhere in this prospectus. The results of historical periods are not necessarily indicative of the results for any future period.

 

     Quarter Ended  
     March 31,
2012
    June 30,
2012
    September 30,
2012
    December 31,
2012
    March 31,
2013
    June 30,
2013
    September 30,
2013
    December 31,
2013
 
     (in thousands)  

Net revenue

   $ 44,342      $ 53,412      $ 52,655      $ 52,868      $ 48,981      $ 61,417      $ 62,988      $ 63,873   

Cost of services and sales

     14,065        15,823        16,243        16,405        16,701        18,637        19,120        19,630   

Operating Expenses:

                

Information technology

     4,291        5,144        5,711        7,158        7,445        6,856        6,527        6,240   

Sales and marketing

     4,883        5,311        5,975        6,363        6,725        6,184        6,070        6,280   

General and administrative

     5,419        5,240        5,252        7,403        7,122        6,816        6,154        6,564   

Customer support

     1,558        1,612        1,735        1,850        1,735        1,625        1,601        1,611   

Depreciation and amortization (excluding amounts included in cost of services and sales)

     649        866        1,124        1,407        1,617        1,790        1,837        2,248   

Other operating expenses:

                

Impairments

     —          —          —          —          57        6,596        191        905   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     16,800        18,173        19,797        24,181        24,701        29,867        22,380        23,848   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     13,477        19,416        16,615        12,282        7,579        12,913        21,488        20,395   

Other income (expense)

                

Other income (expense)

     24        26        8        7        20        (9     111        (565

Interest expense

     (3,839     (3,634     (3,352     (4,489     (4,827     (4,829     (4,773     (4,850
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (3,815     (3,608     (3,344     (4,482     (4,807     (4,838     (4,662     (5,415
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net Income

   $ 9,662      $ 15,808      $ 13,271      $ 7,800      $ 2,772      $ 8,075      $ 16,826      $ 14,980   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Our business has experienced in the past, and may continue to experience, seasonal fluctuations in our revenues as a result of consumer spending patterns. Historically our revenues have been strongest in our third and fourth quarters, and weakest in our first quarter. This is due to the increase in the

 

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number and amount of electronic payment transactions related to seasonal retail events, such as holiday and vacation spending. Operating expenses show less seasonal fluctuation, with the result that net income is subject to the same seasonal factors as our revenues. During 2013, we elected to provide certain security related services principally in the fourth quarter, instead of providing them more evenly through the year, which increased fourth quarter 2013 revenue and reduced revenue in the first three quarters, relative to what quarterly revenue would have been had we not elected to shift the timing of service provision. The growth in our business may have partially overshadowed seasonal trends to date, and seasonal impacts on our business may be more pronounced in the future.

Liquidity and Capital Resources

We have historically financed our operations and working capital through net cash from operating activities. As of December 31, 2013, we had $20.9 million of cash and cash equivalents and available borrowing capacity of $25 million under the Credit Facilities. Our primary cash needs are to fund working capital requirements and capital expenditures, make scheduled payments on our outstanding indebtedness and for Mercury Payment Systems, LLC to pay its tax distributions to members. As we anticipate expanding the next-day and same-day funding programs we offer merchants, we expect that our working capital requirements will increase in 2014, as these programs are not matched by accelerated payment to us in respect of the relevant transactions. We currently anticipate funding these increased working capital requirements through cash on hand and borrowings under our revolving credit facility or other similar borrowing facilities we may establish. We do not expect the working capital requirements associated with our accelerated merchant funding programs to have a material effect on our liquidity. We believe that our net cash from operating activities, current cash and cash equivalents and available borrowing capacity under the Credit Facilities will be sufficient to fund our operations and planned capital expenditures and to service our debt obligations for at least the next 12 months. As a holding company, we depend on distributions or loans from our subsidiaries to access funds earned by our operations. The covenants contained in the Credit Facilities limit the ability of our subsidiaries to provide funds to us. See “—Senior Secured Credit Facilities.”

Cash Flows

The following table presents a summary of cash flows from operating, investing and financing activities for the years ended December 31, 2011, 2012 and 2013.

 

     Year Ended December 31,  
           2011                 2012                 2013        
    

(in thousands)

 

Net cash provided by operating activities

   $ 53,635      $ 60,470      $ 67,599   

Net cash used in investing activities

   $ (14,284   $ (41,022   $ (41,533

Net cash used in financing activities

   $ (32,071   $ (27,138   $ (28,305

Cash Flow from Operating Activities

Net cash provided by operating activities was $67.6 million for the year ended December 31, 2013, as compared to $60.5 million for the year ended December 31, 2012. The increase in net cash provided by operating activities was primarily the result of an increase in net income, after considering the impact of depreciation and amortization and impairment and other charges, both of which are non-cash charges.

Net cash provided by operating activities was $60.5 million for the year ended December 31, 2012, as compared to $53.6 million for the year ended December 31, 2011. The increase in net cash provided by operating activities was primarily the result of an increase in net income, after considering the impact of depreciation and amortization, and impairments charges on net income.

 

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Cash Flow from Investing Activities

Net cash used in investing activities was $41.5 million for the year ended December 31, 2013, as compared to $41.0 million for the year ended December 31, 2012. In 2012, the largest drivers of cash used in investing activities were our acquisition of Sundrop Mobile and capitalized software costs. In 2013, the largest drivers were the construction of our headquarters facility and capitalized software costs.

In 2011, uses of cash consisted primarily of capitalized software costs and other technology investments.

Cash Flow from Financing Activities

Net cash used in financing activities was $28.3 million for the year ended December 31, 2013, as compared to $27.1 million for the year ended December 31, 2012. The moderate increase in net cash used in financing activities was primarily the result of reduced borrowing from long-term debt, partially offset by reductions in distributions to equityholders.

Net cash used in financing activities was $27.1 million for the year ended December 31, 2012, as compared to $32.1 million for the year ended December 31, 2011. The use of cash primarily related to distributions to members of $119.2 million and $223.0 million in 2012 and 2011, respectively, net of cash inflows related to borrowings under the Credit Facilities of $95.3 million and $192.0 million in 2012 and 2011, respectively.

Senior Secured Credit Facilities

In July 2011, Mercury Payment Systems, LLC (the “borrower”) entered into $225.0 million senior secured credit facilities (the “Credit Facilities”), consisting of a $200.0 million senior secured term loan and a $25.0 million senior secured revolving credit facility (the “revolving credit facility”). In March 2012, we entered into an amendment to the Credit Facilities, which decreased the spread from 5.0% to 4.0% on the Eurocurrency borrowing option, and decreased the spread from 4.0% to 3.0% on the alternative base rate option. On October 26, 2012, we amended and restated the credit agreement governing the Credit Facilities and exercised its right to borrow an additional $100.0 million in the form of an incremental term loan.

Under the terms of the amended and restated credit agreement, our $300.0 million senior secured term loan facility requires us to pay equal quarterly installments of principal in an amount equal to $750,000, plus interest, with a balloon payment of $284.0 million due at maturity on July 1, 2017. Interest on the senior secured term loan is payable at a rate equal to, at our option, either (1) the Eurocurrency option with an effective rate of LIBOR plus a margin of 4.0% (limited by an established floor rate of 1.5%) or (2) the Alternative Base Rate with an effective rate of the highest of (limited by an established floor of 2.5%) (a) the prime rate of Deutsche Bank, (b) the Federal Funds Effective Rate plus 0.5% and (c) 1-month LIBOR (limited by a floor of 1.5%) plus 1.0%, plus a margin of 3.0%. As of December 31, 2013 and 2012, the rate applicable to the outstanding principal balance of the senior secured term loan facility was a LIBOR floor of 1.5% plus a margin of 4.0%, or 5.5% and 5.5%, respectively. As of December 31, 2013 and 2012, we had three interest rate swaps, which are designed to hedge the variability in the interest payments on $225.0 million of the outstanding principal balances of $293.8 million and $296.8 million, respectively, under our variable rate senior secured term loan. The blended fixed rate on the $225.0 million of interest rate swaps is 2.31%.

Our revolving credit facility consists of $25.0 million of commitments from financial institutions. Up to $10.0 million of the revolving credit facility is available for letters of credit. Interest on the revolving

 

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credit facility is payable at a rate equal to, at our option, either (1) LIBOR plus an applicable margin based on our senior secured leverage ratio or (2) an applicable margin based on our senior secured leverage ratio plus the highest of (a) the prime rate of Deutsche Bank, (b) the federal funds effective rate plus 0.5% and (c) 1-month LIBOR plus 1.0%. We had no amounts outstanding under the revolving credit facility as of December 31, 2013. The commitment fee rate for the average daily unused portion of the revolving credit facility is 0.5% per annum, payable quarterly in arrears. The revolving credit facility expires on July 1, 2016.

The Credit Facilities contain customary covenants and financial restrictions that, among other things, limit the borrower’s ability, subject to certain exceptions, to incur indebtedness, incur liens, merge or consolidate, sell, transfer or lease assets, make investments, pay dividends or distributions, or repurchase the borrower’s membership interests and transact with affiliates. In addition, the Credit Facilities contain a financial covenant that requires us to maintain, as of the last day of any fiscal quarter, a ratio of Consolidated Net Debt to Consolidated EBITDA, each as defined in the Credit Facilities, at or below 5.00 to 1.00. As of December 31, 2013, we were in compliance with this covenant.

All obligations under the Credit Facilities are fully and unconditionally secured by pledged equity interests and security interests in all substantially all of our assets, including our accounts. The Credit Facilities contain customary events of default, including payment defaults, cross-defaults, change in control, failure to comply with covenants and bankruptcy and insolvency.

Other Credit Facilities—Corporate Headquarters Financing

In December 2012, we entered into a $10.0 million loan agreement to finance the construction of our new corporate headquarters in Durango, Colorado. The loan requires us to make monthly interest-only payments on the unpaid principal balances using an interest rate of 4.5% through June 30, 2014; followed by monthly principal and interest payments in the initial amount of $51,978, beginning July 31, 2014, using an interest rate equal to the JP Morgan Chase Bank prime rate plus a margin of 0.55%, or 3.8% as of December 31, 2012. The loan requires a balloon payment of the unpaid principal balance plus interest due at maturity of the loan on December 31, 2022. Our obligations under the loan are secured by the corporate headquarters building. As of December 31, 2013, approximately $5.5 million had been drawn on the loan.

Contractual Obligations

There are no contractual commitments other than leases and borrowings that amount to, individually or in the aggregate, more than 5% of net revenue earned in the year ended December 31, 2013.

The following table summarizes our contractual obligations and commitments as of December 31, 2013 related to leases and borrowings:

 

     Total      Payments Due By Period  
        2014      2015-2016      2017-2018      2019
and later
 
     (in millions)  

Operating leases

   $ 14.7       $ 2.0       $ 2.8       $ 2.9       $ 7.0   

Borrowings(1)

     368.7         21.9         42.8         293.9         10.1   

Total

   $ 383.4       $ 23.9         45.6       $ 296.8       $ 17.1   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1)

Borrowing obligations include term loan debt obligations as well as the swap payments hedging that debt, as well as real estate debt acquired in connection with our headquarters facility.

 

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  Assumptions supporting the amounts indicated are: (i) principal payments will be made when due without prepayments; (ii) LIBOR rates are assumed to remain at levels equivalent to December 31, 2013; (iii) no draws on revolving facilities are assumed; (iv) existing borrowing-related fees are included; (v) no letters of credit will be drawn; (vi) for real estate loans, “prime rate” is assumed to be the prime rate effective as of December 31, 2013.

Potential payments under our tax receivable agreements are not reflected in this table. See “—Tax Receivable Agreements” and “Certain Relationships and Related Party Transactions—Tax Receivable Agreements.”

Tax Receivable Agreements

Upon the closing of this offering, we will be a party to two tax receivable agreements, each of which is described under “Certain Relationships and Related Party Transactions—Tax Receivable Agreements.” The impact the tax receivable agreements will have on our consolidated financial statements will be the establishment of a liability, which will be increased upon the exchanges of Holdings Units for our Class A common stock, generally representing 85% of the estimated future tax benefits, if any, relating to the increase in tax basis associated with the Holdings Units we receive as a result of the SLP Corp Merger and other exchanges by holders of Holdings Units. After December 31, 2019, the affiliates of Silver Lake and the affiliates of the Founders that are parties to the tax receivable agreements may elect to accelerate our obligations under their tax receivable agreements. If this election is made, the accelerated payment will be based on the present value of 100% of the estimated future tax benefits and, as a result, the associated liability reported on our consolidated financial statements may be increased. We expect that the payments we will be required to make under the tax receivable agreements will be substantial. The actual increase in tax basis, as well as the amount and timing of any payments under these agreements, will vary depending upon a number of factors, including the timing of exchanges by the holders of Holdings Units, the price of our Class A common stock at the time of the exchange, whether such exchanges are taxable, the amount and timing of the taxable income we generate in the future and the tax rate then applicable as well as the portion of our payments under the tax receivable agreements constituting imputed interest. We intend to fund the payment of the amounts due under the tax receivable agreements out of the cash savings that we actually realize in respect of the attributes to which the tax receivable agreements relate. For more information about the tax receivable agreements, see “Certain Relationships and Related Party Transactions—Tax Receivable Agreements” and “Unaudited Pro Forma Consolidated Financial Statements.”

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate our estimates including those related to revenue recognition, goodwill and intangible assets, derivative financial instruments, and equity-based compensation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

The accounting policies we believe to be most critical to understanding our financial condition and results of operations are discussed below.

Revenue Recognition

We have contractual agreements with our merchants that set forth the general terms and conditions of our relationship with them, including various facets of pricing, payment terms and contract duration. Revenues are recognized as earned (i.e., for transaction based fees, when the underlying transaction is processed) in conjunction with Accounting Standards Codification, or ASC 605, Revenue

 

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Recognition. ASC 605 Revenue Recognition, establishes guidance as to when revenue is realized or realizable and earned by using the following criteria: (1) persuasive evidence of an arrangement exists, (2) delivery has occurred or services have been rendered, (3) the seller’s price is fixed or determinable and (4) collectability is reasonably assured.

We follow guidance provided in ASC 605-45, Principal Agent Considerations. ASC 605-45 states that whether a company should recognize revenue based on the gross amount billed to a customer or the net amount retained is a matter of judgment that depends on the facts and circumstances of the arrangement and that certain factors should be considered in the evaluation. We recognize processing revenues net, among other items, interchange and assessment fees, which are assessed to our merchants on all processed transactions, and other processing costs retained by sponsor banks and processing partners with whom our merchants and/or we contract. Interchange rates are not controlled by us, and we effectively act as a clearing house collecting and remitting interchange fee settlements on behalf of issuing banks, payment networks and processing customers. All other revenue is reported on a gross basis, as we contract directly with the end customer, assume the risk of loss and have pricing flexibility.

Net revenues related to payment transactions are recognized at the time the merchants’ transactions are processed. Net revenues derived from service fees are recognized at the time the service is performed. Costs of services and sales are recognized when incurred. These costs consist of depreciation and amortization of revenue generating assets, developer and dealer commissions, and third party servicing costs directly associated with revenues.

Goodwill and Intangible Assets

Goodwill represents the excess consideration paid over fair value of net assets and liabilities acquired in business combinations. Our goodwill balance as of December 31, 2012 was $2.4 million, and as of December 31, 2013 was $2.4 million. Our goodwill represents goodwill attributable to the 2012 acquisition of Sundrop Mobile. Our intangible assets consist primarily of customer acquisition costs.

We apply the guidance in ASU 2011-08, Intangibles—Goodwill and Other, for purposes of goodwill impairment testing. This guidance permits us to assess qualitative factors to determine whether the existence of events and circumstances lead to the determination that it is more likely than not that the fair value of a reporting unit is less than its carrying value. The qualitative factors evaluated include macroeconomic conditions, industry and market considerations, overall financial performance, our historical share price as well as other industry specific considerations such as our regulatory environment. Based on this analysis, it was determined that it is not more likely than not that the fair value of the reporting units is less than its carrying value.

Our intangible assets consist primarily of IPOS Developer relationships and capitalized new business costs, which are amortized over their estimated useful lives. We review capitalized new business costs for possible impairment whenever events or changes in circumstance indicate the carrying amounts may not be recoverable.

Derivative Financial Instruments

We use derivative financial instruments to manage our exposure to certain financial and market risks, primarily related to changes in interest rates. We have entered into interest rate swaps to manage interest rate risk associated with our variable-rate borrowings. We do not enter into derivative financial instruments for speculative purposes.

 

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As required, derivative financial instruments are recognized in our statements of financial position at fair value. Our derivative financial instruments are not exchange listed, and therefore the fair values are determined based on models that contemplate the contractual terms of the instruments, observable inputs including interest rates and yield curves and the credit quality of our counterparties, along with our creditworthiness. All key assumptions and valuations are the responsibility of management.

Our interest rate swaps are designated as cash flow hedges of forecasted interest payments related to our variable-rate borrowings. These interest rate swaps qualify for hedge accounting under ASC 815, Derivatives and Hedging. As such, the effective portion of changes in fair value of the instruments is recorded in accumulated other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Any ineffectiveness associated with the instrument is recorded immediately in interest expense in the statements of income.

Equity-Based Compensation

We measure and expense employee equity-based payments under the fair value method. ASC 718, Compensation—Stock Compensation, requires compensation cost for the grant date fair value of equity-based compensation to be recognized over the requisite service period. For historical awards under MPS 1, Inc.’s 2007 Equity Incentive Plan (the “MPS 1 2007 Equity Incentive Plan”), and Mercury Payment Systems, LLC 2010 Incentive Plan, we estimated the fair value of the equity-based awards at the date they were granted using the Black-Scholes option pricing model, except for MPS 1, Inc. (“MPS 1”) options which were modified in 2010, and revalued using post-modification Black-Scholes assumptions.

Mercury Payment Systems, Inc. 2014 Stock Award Plan

Prior to the completion of this offering, we expect to adopt our 2014 Stock Award Plan, pursuant to which we may grant equity-based awards to current and prospective directors, officers, employees, consultants and advisors. The 2014 Stock Award Plan is summarized under “Executive Compensation—Additional Narrative Disclosure—Equity Incentive Plans—2014 Stock Award Plan.”

MPS 1 2007 Equity Incentive Plan

Prior to the 2010 investment by Silver Lake in Mercury Payment Systems, LLC, MPS 1 granted equity-based awards under its 2007 Equity Incentive Plan. As an equity investee and successor to the operating assets of MPS 1, Mercury Payment Systems, LLC accounts for awards made by MPS 1 to the employees who were transferred by MPS 1 to Mercury Payment Systems, LLC upon its creation and recognizes the post-transfer expense associated with the awards in its consolidated financial statements. These awards typically vest over a four-year period and expire ten years from the vesting commencement date, which approximates the grant date.

A portion of the purchase price from the Silver Lake investment was held in escrow for release in 2011. Upon distribution of the cash received in the transaction by MPS 1, modification of the options awards granted subject to the MPS 1 2007 Equity Incentive Plan was required. This modification was undertaken to maintain the in-the-money value of the options for the option award recipients. The modification resulted in a repurchase by MPS 1 of 60% of the vested options granted for $4.8 million in cash, and an increase in the number of shares associated with the non-repurchased portion of each award, along with a decrease in the option exercise price of the non-repurchased awards. Incremental compensation expense resulting from this modification was calculated based on the difference in the fair value of the option awards immediately prior to modification and immediately following the modification. The resulting difference of $1.0 million was recognized on a straight-line basis over the remaining vesting period of the options, or, for fully vested options, was recognized immediately, with the total amount recognized in 2011 in accordance with the complete vesting of the options.

 

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Pursuant to the payout of funds held in escrow associated with the purchase of Mercury Payment Systems, LLC by Silver Lake, an additional modification of the MPS 1 option awards was made in May 2011 to maintain the in-the-money value of the options. The modification resulted in an increase in the number of shares of outstanding awards, along with a decrease in the option exercise price of the outstanding awards. Incremental compensation expense resulting from this modification was calculated based on the difference in the fair value of the option awards immediately prior to modification and post-modification. The resulting difference of $0.3 million was recognized on a straight-line basis over the remaining vesting period of the options, or, for fully vested options, was recognized immediately, with the total amount recognized in 2011 in accordance with the vesting of the options.

A subsequent modification of the MPS 1 option awards was also made pursuant to the Company obtaining the Credit Facilities. The proceeds of the borrowing of the initial term loan under our Credit Facilities were fully distributed to our members, thus reducing the equity value of Mercury Payment Systems, LLC by $200.0 million. The MPS 1 option awards were increased in number and the strike price decreased to maintain the in-the-money value of the options. No additional compensation expense was recognized due to this modification.

Based on the vesting criteria and continued service requirements, compensation cost related to time awards was recognized on a straight-line basis over four years. Noncash compensation cost associated with time awards issued under the MPS 1 2007 Equity Incentive Plan was $0, $0 and $0.6 million, respectively, for the years ended December 31, 2013, 2012 and 2011.

No MPS 1 stock options were modified after fiscal year 2011. The fair value of stock options modified for the year ended December 31, 2011 was estimated at the date of modification using a Black-Scholes option pricing model with the following weighted-average assumptions:

 

     2011

Risk-free interest rate

   0.6% – 1.4%

Expected dividend yield

  

Expected volatility

   45%

Expected term (in years)

   2.91 – 3.16

Fair value of stock, pre-modification

   $471.11—$518.99

Fair value of options, pre-modification

   $252.71—$324.97

Fair value of stock, post-modification

   $374.63—$471.11

Fair value of options, post-modification

   $202.85—$296.41

Fair value of options, granted

   NA

The intrinsic value of MPS 1 stock options outstanding at December 31, 2013 is $     million. This value is computed by multiplying the number of options outstanding by the difference between the initial public offering price and the exercise price of such options, and is based on the assumed initial public offering price of $     per share, which is the midpoint of the price range set forth on the front cover of this prospectus.

Mercury Payment Systems, LLC 2010 Incentive Plan

Based on the vesting criteria and continued service requirements, compensation cost related to time awards was recognized on a straight-line basis over 4.5 years. Noncash compensation cost associated with time awards issued under the Mercury Payment Systems, LLC 2010 Incentive Plan was $1.2 million, $1.3 million and $0.8 million, respectively, for the years ended December 31, 2013, 2012 and 2011. At December 31, 2013, there was approximately $6.5 million of equity-based compensation expense related to non-vested time awards not yet recognized. The expense was expected to be recognized over a remaining weighted-average period of approximately 2.9 years.

 

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Assuming that all performance conditions are met, unrecognized expense related to the performance awards outstanding at December 31, 2013 and December 31, 2012 was approximately $6.1 million and $4.0 million, respectively. However, no compensation cost attributable to performance awards was recognized during the periods ended December 31, 2013 and December 31, 2012, as the achievement of such performance was not deemed probable.

The value of the time awards during the year ended December 31, 2013 and years ended December 31, 2012 and 2011 was estimated using the Black-Scholes option pricing model, which incorporates the weighted-average assumptions below:

 

     2013    2012    2011

Risk-free interest rate

   1.04%—1.81%    1.12%—1.23%    1.80%

Expected dividend yield

        

Expected volatility

   30%    30%—35%    45%

Expected term (in years)

   6.3    6.3    5.8

Fair value of units

   $6.62—11.71%    $6.35—$6.64    $4.33

Fair value of options

   $2.10—$6.40    $2.20—$2.30    $2.41

The intrinsic value of Mercury Payment Systems, LLC stock options outstanding at December 31, 2013 is $         million. This value is computed by multiplying the number of options outstanding by the difference between the initial public offering price and the exercise price of such options, and is based on the assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the front cover of this prospectus. The fair value of time based options outstanding at December 31, 2013 is $10.1 million. The fair values and intrinsic values exclude performance options as the likelihood of the performance condition being met has not been deemed probable. This fair value is computed using the Black-Scholes model discussed above.

The expected option life represents the requisite service period associated with time awards. Due to the lack of specific historical data, the expected volatility is based on the average historical and implied volatility of a peer group. This peer group consisted of the same initial twelve company base for each of our four valuation dates. However, as discussed below, after the first valuation date three additional payment services companies with products similar to the reconciliation and transfer products we market were added to the peer group, for a total of fifteen peer entities. The expected dividend yield reflects the assumption that dividends will not be paid by us to holders of time awards. The risk-free interest rate was based on the yield of a U.S. zero coupon Treasury STRIPS with a maturity equal to the expected term of the grant.

The exercise prices of the equity awards under the 2010 Incentive Plan we have granted to date were equal to the fair value of the Mercury Payment Systems, LLC Class C units at the grant date. Because there was no public market for the securities underlying the awards, we engaged an independent valuation advisory firm to assist our board of directors in its estimate of the fair value of the underlying Class C units, which our board of directors estimated using, among other things, contemporaneous valuation studies conducted by such firm as of October 31, 2011, April 15, 2012, August 15, 2012, December 31, 2012 June 30, 2013 and September 30, 2013. The findings of these studies were based on the performance of our business as well as general economic, market and other conditions that could be reasonably evaluated at that time. The analysis in the valuation studies incorporated certain procedures that included a review of historical and projected financial results, projected working capital requirements, the relevant capital structure and other factors. The methodologies in the valuation studies included an analysis of the fair value of Mercury Payment Systems, LLC using two widely accepted valuation approaches: (i) discounted cash flow (the “income approach”) and (ii) market multiples (the “market approach”). The valuation methodologies that we utilized were based on a number of assumptions, including expectations of our future performance and

 

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industry, general economic, market and other conditions that could be reasonably evaluated at the time of the valuations. The set of comparable publicly-traded companies used to compute the market multiples was the same as the set of comparable publicly-traded companies used to estimate expected volatility. The major assumptions under the income approach include a discount rate, an effective tax rate and a perpetuity growth rate. The major assumptions under the market approach include a three-year average EBITDA multiple and a marketability discount. The income and market approaches were weighted 50% and 50%, respectively, in the determination of fair value in order to incorporate consideration of both our most recent results as well as our future projections. Furthermore, the value of our Class C units was discounted by 15% as they are non-voting. This discount was 25% in 2011, and steadily declined over time as we neared our public offering, declining to 6.5% in our September 30, 2013 appraisal.

We selected a set of twelve comparable publicly traded companies because their primary focuses were analogous to Mercury’s business. All sit in the value chain that starts with credit card data capture at the merchant point-of-sale system and utilize credit card networks, such as Visa, MasterCard, Discover and American Express. Since the original twelve companies were selected for the first valuation estimate as of October 31, 2011, our business has evolved to include additional recurring business infrastructure services that are part of our payment processing offerings, such as account reconciliation, multi-merchant cash flow balancing and related fund transfers, among other business tools. As a result, in valuation estimates after October 31, 2011, we included in our peer group comparison three additional companies, which provide similar payment services targeting small and medium-sized merchants, in order to enhance comparability in light of the changing business environment in which we operate.

We have further ensured comparability by adjusting certain characteristics of the comparable companies. For example, leverage ratios applied to weighted average cost of capital-related “betas” were matched to Mercury’s leverage ratio, size adjustments were made and adjustments for differentials in the cost of debt (interest rates) between Mercury and the comparable entities were applied.

Market multiples of adjusted EBITDA used in the market approach were determined through an analysis of publicly traded companies that were selected on the basis of operational and economic similarities with our business. These multiples were then applied to our financial results to determine a fair value of Mercury Payment Systems, LLC. The discounted cash flow methodology involved estimating the then present value of the projected cash flows to be generated from the business and theoretically available to the providers of capital based on the then existing capital structure. A discount rate was applied to the projected future cash flows to reflect the risks of ownership and the associated risks of realizing the stream of projected cash flows. Since the cash flows were projected over a limited number of years, a terminal value was computed as of the end of the last period of the projected cash flows. The terminal value was an estimate of the value of Mercury Payment Systems, LLC on a going concern basis as of that future point in time. Discounting each of the projected future cash flows and the terminal value back to the present and summing the results yielded an indicative value for Mercury Payment Systems, LLC.

 

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Information on time and performance awards granted during the year ended December 31, 2013 is summarized as follows:

 

            Time Options      Performance Options  
Grant Date    Total
Awards
     Awards      Exercise
Price
     Fair
Value
     Awards      Exercise
Price
     Fair
Value
 

2/11/2013

     140,064         93,098       $ 6.41       $ 2.17         46,966       $ 6.41       $ 2.17   

8/26/2013

     2,713,233         1,808,822       $ 6.60       $ 2.10         904,411       $ 6.60       $ 2.10   

9/9/2013

     532,000         266,000       $ 6.60       $ 2.10         266,000       $ 6.60       $ 2.10   

9/16/2013

     63,840         42,560       $ 6.60       $ 2.10         21,280       $ 6.60       $ 2.10   

9/27/2013

     31,920         21,280       $ 6.60       $ 2.10         10,640       $ 6.60       $ 2.10   

10/16/2013

     133,000         88,667       $ 6.60       $ 6.40         44,333       $ 6.60       $ 6.40   
  

 

 

    

 

 

          

 

 

       

Total

     3,614,057        2,320,427              1,293,630         
  

 

 

    

 

 

          

 

 

       

Prior to our initial public offering there was no market for our equity securities. We believe that the difference between the exercise price of the 2013 equity awards and the initial public offering price range set forth on the cover of this prospectus is reflective of the following factors:

 

    the anticipated positive earnings impact from the successful deployment of our in-house processing initiative, and renegotiation and implementation of our payment processing agreement with Global Payments;

 

    significant improvements in the financial and trading markets in general and in the trading prices of comparable companies in particular;

 

    our improved financial performance during the latter part of 2013, which reflected greater efficiencies; and

 

    increased marketability and liquidity of our equity securities after the initial public offering.

Off-Balance Sheet Arrangements

We have no off-balance sheet financing arrangements.

Quantitative and Qualitative Disclosure About Market Risk

Interest Rate Risk

We have outstanding borrowings under our senior secured term loan facility and may incur additional borrowings from time to time for general corporate purposes, including working capital and capital expenditures. As of December 31, 2013, the interest rate applicable to the senior secured term loan is, at our option, equal to either (1) the Eurocurrency option with an effective rate of LIBOR plus a margin of 4.0% (limited by an established floor rate of 1.5%) or (2) the alternative base rate with an effective rate of the highest of (limited by an established floor of 2.5%) (a) the prime rate of Deutsche Bank, (b) the Federal Funds Effective Rate plus 0.5% and (c) 1 month LIBOR (limited by a floor of 1.5%) plus 1.0%, plus a margin of 3.0%.

As of December 31, 2013, we had borrowings outstanding of $293.8 million under the senior secured term loan facility. A 1.0% increase or decrease in the interest rate applicable to such borrowing (which is the LIBOR rate) would have no impact on our annual interest expense because the LIBOR rate, after the 1% increase, is lower than the minimum interest rate of 1.5% pursuant to the agreement.

 

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We use interest rate swaps to manage interest rate risk. As of December 31, 2013, we had three interest rate swaps which hedge the variability in the interest payments on $225.0 million of the $293.8 million variable rate senior secured term loan. The fixed rate on $150.0 million of the interest rate swaps is 2.621% and the fixed rate on $75.0 million of the interest rate swaps is 1.680%. Based on the amount outstanding under the Credit Facilities at December 31, 2013, a 1.0% increase or decrease in interest rates, after the effect of our interest rate swaps, would have no effect on our annual interest expense because the LIBOR rate, after the 1% increase, is lower than the minimum interest rate of 1.5% pursuant to the agreement.

Foreign Currency Exchange Rate Risk

Our revenues are primarily from domestic customers and are realized in U.S. dollars. However, we also realize revenues from sales made in Canada. A 10% strengthening or weakening from the levels experienced during 2013 of the U.S. dollar relative to the Canadian dollar would have resulted in a $0.4 million decrease or increase, respectively, in comprehensive income for the year ended December 31, 2013.

Effects of Inflation

We do not believe that inflation has had a material effect on our business, financial condition or results of operations.

Real Estate Holdings

We own certain real estate holdings classified as land held for sale. As of December 31, 2013 and 2012, the value of land held for sale was $2.7 million and $3.0 million respectively. We review the value of land held for sale for impairment whenever events or changes in circumstance indicate the carrying amounts may not be recoverable.

Jumpstart Our Business Startups Act of 2012

The JOBS Act permits an “emerging growth company” such as us to take advantage of an extended transition period to comply with new or revised accounting standards applicable to public companies. We are choosing to “opt out” of this provision and, as a result, we will comply with new or revised accounting standards as required when they are adopted. This decision to opt out of the extended transition period under the JOBS Act is irrevocable.

 

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BUSINESS

Overview

Mercury was founded in 2001 with the vision that small- and medium-sized businesses (“SMBs”) would require seamless and adaptable payments services to accompany their increasing adoption of a new class of sophisticated point-of-sale (“POS”) technology solutions. We created our innovative Mercury Model that combines our payments technology with our robust partner distribution and support network to create a differentiated payments experience for our merchants. We believe this model has disrupted the merchant acquiring market, enabling our rise from the 45th largest merchant acquirer in the U.S. in 2004 to the 11th largest in 2013, measured by purchase transactions according to the Nilson Report. Based on this data, our purchase transactions grew at a 57% compound annual growth rate (“CAGR”), ranking us as the fastest organically growing merchant acquirer in the U.S. during this period. In 2013, we had approximately 88,700 merchants, our systems processed over $34 billion in payments volume and we generated $237.3 million in net revenue, an increase in revenue of more than 16% year-over-year.

Mercury is a leading provider of payments technology and services in the U.S. and Canada and empowers merchants to accept a broad range of traditional and emerging electronic payments. We embed our payments technology into third-party software applications used by SMB merchants, enabling them to benefit from the combination of payments and business management functionality. We refer to this class of POS technology solutions as “Integrated Point-of-Sale” or “IPOS.” We utilize an efficient and scalable go-to-market strategy, which involves partnering with the many providers who develop and sell IPOS systems. This network of partners, which we call the Mercury Network, includes Developers, who create software for IPOS systems with functionality tailored for specific business requirements, and Dealers, who sell IPOS systems and provide technology, services and support to merchants.

A growing number of SMB merchants are adopting IPOS systems to take advantage of the declining cost of computers and the availability of new form factors such as tablets and high-quality, industry-specific software applications to better manage their businesses. In 2012, approximately 45% of point-of-sale devices were IPOS-capable, up from 39% in 2010 according to data on single-location SMBs (U.S. and Canada) from IHL, an industry research firm. Over time we expect IPOS adoption by SMBs to continue to grow and more closely reflect the adoption by the largest merchant category tracked by IHL (1,000+ store chains), where IPOS has already grown to represent over 90% of installed POS devices. We anticipate further growth in this category because IPOS solutions are becoming increasingly affordable and feature-rich, resulting in a more attractive value proposition for SMBs in comparison to stand-alone POS systems. Additionally, many SMB merchants will have an opportunity to upgrade their existing POS systems to IPOS as their legacy systems become obsolete or as they require more features and functionality.

SMB merchants often have limited financial and operational resources due to their lower sales volume compared to larger merchants. As a result, SMB merchants typically lack the in-house technical capabilities and personnel to configure and support their IPOS systems and manage integrated payments. Thus, they often rely on a local Dealer to help them select an IPOS system and configure and support their retail technology environment. In the Mercury Model, we incentivize our Dealers to refer Mercury for payment processing services by offering recurring commissions and specialized IPOS customer support for them and their merchants. Since our Developers’ and Dealers’ primary focus is creating and selling IPOS systems, they are generally not well-positioned to handle the complexities of integrated payments functionality. Mercury serves as a single, value-added resource point for the entire ecosystem with respect to payments capabilities. We believe the Mercury Model benefits from powerful network effects, which drive significant benefits to all participants in our ecosystem, increase the value of our network and help sustain our growth.

 

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We believe Mercury’s role has become increasingly important due to the continued adoption and innovation of IPOS technology over the last 10 years and lack of sufficient solutions from traditional merchant acquirers. These trends provide Mercury a large and growing addressable market. We have penetrated less than 10% of the over 1 million merchants in the installed base of our current Mercury Network partners, based on management estimates, and approximately 1% of the 7.2 million SMB merchants estimated to be in the U.S. by First Annapolis. We believe we are well-positioned to capitalize on this large market opportunity as merchants upgrade to IPOS systems.

We identified and promoted IPOS trends over the past 10 years, pioneering a new way to integrate and distribute payments technology services to SMBs. We developed the Mercury Model to meet the converging demands of Developers, Dealers and merchants. The four key elements of the Mercury Model are:

 

  (1) The Use of IPOS Channel Distribution—We pioneered the distribution of payments technology and services through IPOS Developers and Dealers (also known as independent software vendors and value-added resellers) who embed, bundle and cross-sell our payments services in their own solutions. Mercury is able to access SMB merchants through the Mercury Network of approximately 600 Developers and 2,430 Dealers (as of December 31, 2013) with minimal up-front expenses, making our distribution highly efficient and scalable. Given the fragmented nature of the IPOS software market, we believe this large number of Developers and Dealers is essential to serve SMBs at scale. Our Dealers are dispersed throughout the U.S. and Canada, and, based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate that the number of employees at our Dealers who advise merchants on the selection and use of payments services is over 13,000. These employees provide key sales and marketing services for us in lieu of a direct sales force. We believe this is the largest network of IPOS partners in the U.S. and Canada, and that our lack of channel conflict differentiates us from most other providers who sell through multiple channels, including directly to merchants.

 

  (2) Differentiated Technology and Solutions—We built our proprietary technology to enable us to connect to and process transactions from IPOS systems more efficiently and cost effectively without the need for a third-party gateway or middleware, which many other merchant acquirers would require to offer integrated payments. We offer a broad suite of integrated payments, stored value, security and support services to the Mercury Network and our shared merchants. We work with our Developers to embed our technology into their software so that it comes pre-integrated in the IPOS system.

 

  (3) Deep IPOS Domain Expertise—Over the past 10 years, we have developed deep domain expertise in serving the IPOS ecosystem of Developers, Dealers and merchants. We have used this experience to create proprietary technology solutions to meet their specific needs and build customized integrations into their varied and disparate technology systems. We augment these solutions with best-of-breed marketing programs and customer service capabilities that incentivize and support our entire ecosystem. Our domain expertise has also enabled us to create a powerful culture of specialized customer service that other traditional merchant acquirers with less experience and dedication to serving the IPOS channel frequently lack.

 

  (4)

Software-as-a-Service (SaaS) Delivery Model—We use a SaaS delivery model that enables us to provide our solutions with substantial scale and efficiency. This SaaS delivery combines our cloud-based technologies and Developer integration tools to provide automated updates through efficient methods of access to our proprietary technology platform. This model reduces costs for both Mercury and our partners because it allows us to provide new features

 

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  and functionality to disparate systems without the need for on-premise updates to Mercury’s software.

We believe the Mercury Model benefits from powerful network effects, which drive significant benefits to all participants in our ecosystem, increasing the value of our network and helping sustain our growth. We believe these network effects create a competitive advantage by making our built-for-purpose model attractive to current and potential partners, provide incentives for our Developers and Dealers to continue to grow their business with us and motivate merchants to remain our customers.

The powerful network effects combined with our other competitive strengths create barriers to entry that have impeded other merchant acquirers from reaching the same scale of channel distribution through Developers and Dealers that we have achieved. Our competitive strengths are interrelated and mutually reinforcing, which means replicating parts of our model may be insufficient to achieve similar results.

We generate revenues primarily on a per transaction basis from fees paid by our merchants. For the year ended December 31, 2013, we reported net revenue of $237.3 million and GAAP net income of $42.7 million, an increase of 16.7% and a decrease of 8.4%, respectively, over the prior year. Also for the year ended December 31, 2013, we reported adjusted EBITDA of $92.9 million and adjusted net income of $57.1 million, increases of 22.9% and 14.9%, respectively, over the prior year. For a reconciliation of adjusted EBITDA and adjusted net income to GAAP net income, see “Prospectus Summary—Adjusted EBITDA and Adjusted Net Income.”

Industry Background

Overview of Electronic Payments

Electronic payments represent a large and growing market that is fueled by a powerful secular shift towards the use and acceptance of card-based payments, such as credit and debit cards, and away from paper-based payments like checks and cash. According to the Nilson Report, purchase volume on credit and debit cards in the U.S. was $4.6 trillion in 2012 and is projected to reach $7.3 trillion by 2017, a compound annual growth rate of 9.5%.

Credit and Debit Card Purchase Volume in the U.S.

 

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Source: The Nilson Report

 

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Overview of the Traditional Merchant Acquiring Industry

To facilitate the adoption and acceptance of these card-based payments at the POS, banks began providing payment services to their local merchants in the 1950s. Providers of these services, both divisions of banks and independent companies, became known as merchant acquirers. Since that time, the merchant acquiring industry has grown and expanded significantly, facilitating the widespread acceptance of card-based payments at merchant points-of-sale. The merchant acquiring industry now includes thousands of providers in the U.S., primarily comprised of:

 

    Banks of all sizes—A few with in-house processing capabilities (e.g., Chase and U.S. Bancorp), but most who outsource their processing to a non-bank processor. Banks typically sell merchant acquiring in combination with other commercial banking products (e.g., bank accounts, loans and mortgages).

 

    Non-bank payment processors—Which own proprietary processing platforms (like First Data, Heartland Payments and Vantiv). This group represents a very small minority of merchant acquirers in the U.S., and they typically deploy multi-channeled (e.g., bank, direct and indirect) sales models to reach their markets.

 

    Third-party independent sales organizations (ISOs)—Which sell payments services to merchants (at a retail price) and outsource the transaction processing services to a bank or non-bank processor (at a wholesale rate).

Traditional merchant acquirers sell their payment processing services to merchants of all sizes, but many focus on SMBs. SMBs are highly fragmented and can be more difficult and expensive to reach than larger merchants, given their large numbers and wide geographic dispersion. However, SMBs are attractive customers because they tend to have higher growth rates and lower price sensitivity than larger merchants, given their smaller size and greater number of new business starts. As a result, the SMB merchant segment represents the greatest revenue opportunity for merchant acquirers, as indicated in the following diagram.

Customer Segmentation of the Merchant Acquiring Industry

 

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Source: First Annapolis; 2010 estimates

 

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In addition, a new category of very small businesses, known as “micro-merchants,” is being increasingly targeted by an emerging class of payments services providers called merchant aggregators. These providers enable micro-merchants to accept card payments without having their own merchant account, instead submitting transactions to payment networks through the aggregators’ merchant account. To qualify for aggregated processing, merchants must process under $100,000 per year in transaction volume. Most micro-merchants have historically transacted primarily with cash and checks and may not be able to qualify for a standard merchant acquiring relationship. Many of these aggregators attract micro-merchants by combining payments services with simplified technology solutions at a bundled rate. Given their small volumes and risk profiles, these businesses are typically not targeted by traditional merchant acquirers. However, as these merchants grow and demand more substantial technology, services and support, they can become attractive to merchant acquirers.

Methods of Electronic Payments Acceptance

As electronic payments have gained widespread adoption, the technologies used to accept and process these payments (“POS technologies”) have evolved significantly. Historically, merchants chose stand-alone payments technologies to facilitate basic acceptance of electronic payments from their customers. Based on a number of trends in the industry, including advancements in electronic cash register and POS technologies, many merchants are choosing to integrate payment functionality with their other business management systems.

Stand-Alone POS Technologies

From the 1950s to the 1980s, merchants accepted card-based payments using a carbon paper-based imprinting method to capture customers’ card information. This method was replaced by the introduction of electronic card readers that captured the same information stored on a magnetic stripe on the payment cards. Stand-alone devices enable merchants to swipe a card or manually enter the account information on the card, but typically have limited functionality beyond accepting card payments. The main types of stand-alone electronic card reading devices include:

 

    POS Terminals—These are stand-alone electronic card readers that can be wired or wireless. These terminals typically sit next to a cash drawer or beside a cash register or PC-based POS technology. These POS card terminals are manufactured and sold by firms such as VeriFone, Ingenico and Equinox. These devices are not integrated to a merchant’s other systems, which can inconvenience both the merchant and the consumer. As they are used in conjunction with a cash register or PC-based POS system, they add additional time and complexity for the merchant to perform critical daily tasks, such as cash and check reconciliation, which are managed by these other systems.

 

    Mobile Device Terminals—These are a combination of hardware and mobile applications that enable consumers’ mobile devices to be used as POS card readers. These are typically marketed directly to low-volume merchants who require limited functionality. Mobile device terminals are manufactured and sold by firms such as Square, ROAM (an Ingenico company) and Intuit.

Integrated POS Technologies

In the 1990s, advancements in electronic cash register and PC-based POS software technologies allowed for payments functionality to be embedded in these systems, creating an IPOS class of POS technologies. Larger merchants were early adopters of IPOS systems, and this technology is spreading into SMBs across many industry verticals. The technology is also evolving with mobile- and tablet-based software and hardware innovations.

 

   

Electronic Cash Register (ECR)—These are modern cash register platforms that utilize embedded software to facilitate basic payment acceptance and various back office functions like accounting system integration and inventory tracking. Combined with specialized

 

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networking technology and electronic payment card swipers, ECRs can be used to facilitate electronic payments, including credit, debit and gift cards, providing a basic IPOS solution to merchants.

 

    PC-Based Point of Sale—These are sophisticated technology solutions that are designed by specialized, often vertically focused IPOS Developers and are typically sold, installed and serviced by IPOS Dealers. These solutions are a combination of computer hardware and software designed to provide merchants with a system capable of integrating and automating a variety of critical retail store operations. The most common operations include (1) Payment Processing Functions—which typically include payment acceptance, stored value card processing, loyalty application management, information security and returns processing; (2) Business-Specific Operating Functions—which typically include core operating and value-added functions that are often customized to the needs of an individual type of business. For example, in a restaurant these may include seating management, food order systems, kitchen preparation management and wait-staff tip adjustments; and (3) Back Office Functions—which typically include business management functions such as accounting and financial management, employee time, attendance and payroll management, inventory management and business optimization tools such as reporting and analytics. PC-based POS solutions are capable of being networked together in a variety of configurations to support both on premise and multi-location enterprise needs. For example, a 10-store restaurant chain can use a PC-based POS solution to run their entire operation, which can include multiple stations within each store.

 

    Tablet-Based Point of Sale—These are a combination of hardware and tablet-specific software applications that enable tablet devices to be used as POS software solutions. These are typically sold by specialized, tablet-specific software developers to smaller merchants, who require less functionality than the more sophisticated, PC-based POS solutions provide. As the tablet-based POS products mature, we believe they will be sold to larger and more sophisticated SMB merchants, across more verticals and at greater scale than they are today.

Accelerating SMB Shift to IPOS Solutions

There is an accelerating shift among SMB merchants toward IPOS systems, displacing traditional stand-alone card technologies that lack the integrated, multi-purpose functionality that is available in IPOS systems. In 2012, approximately 45% of all POS devices were IPOS-capable, up from 39% in 2010 according to data on single-location SMBs (U.S. and Canada) from IHL, an industry research firm. In addition, this research indicates that in 2012, 69% of all new POS device shipments to SMB merchants were IPOS-capable, compared to 94% for the largest merchants. We believe this shift is due to a number of trends, including the decreasing costs of IPOS systems, demand for more payment options, vertical specialization of IPOS software, new security standards and the penetration of tablet and SaaS-based IPOS systems. According to a survey conducted in 2013 by Vertical Systems Reseller, over 66% of surveyed merchants plan to upgrade their POS solution within the next three years. We believe adoption will be driven by key trends, including:

 

    Declining Costs of IPOS Systems—Larger merchants were initially the primary users of IPOS. However, similar to the personal computer market, the prices of these solutions have declined considerably as new software developers have entered the market, hardware costs have declined, and more efficient cloud-based services have gained traction. As a result, technology solutions that were once only feasible for large retail stores and chains are becoming increasingly accessible to the entire SMB merchant market.

 

   

Demand for Integrated, Omni-Channel Technology Solutions—Many SMB merchants are demanding better technology solutions to improve efficiency and gain a competitive advantage. For example, many small businesses have not been able to afford and implement

 

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stored-value solutions in the past, but are now able to manage programs through their IPOS. Additionally, many merchants want to automate and optimize everyday business functions, such as inventory management. They are also seeking to integrate multiple commerce channels, such as ecommerce and in-store, into one consolidated platform. As a result, we believe many SMB merchants are adopting IPOS solutions that can provide a centralized IT solution with access to a suite of integrated technologies that perform business operations, facilitate sales across multiple commerce channels, process payments and provide back-office functionality.

 

    Vertical Specialization of IPOS Software—Given the unique needs of different merchant types spread across different industry verticals using different types of technology, many software developers are creating highly specialized, vertical-specific IPOS systems. SMBs have expressed demand for this functionality, and development of these solutions requires relatively minimal R&D investment, so we believe the number of unique IPOS Developers in the U.S. will continue to expand rather than consolidate, as seen in other areas of the software industry. As a result, numerous IPOS systems have been developed specifically for niche markets as varied as bowling alleys, food trucks, pizza restaurants and dentists’ offices. The increasing availability and promotion of these solutions allow more SMBs to adopt IPOS solutions that cater to their specific business needs.

 

    Security-Driven Technology Upgrades—An increasing focus on information security at the point of sale and the implementation of payment-related security standards are drivers for SMBs to upgrade to IPOS systems. For example, over the past decade, the enforcement of Payment Card Industry (“PCI”) standards, which govern in part, how consumers’ card information is handled at the point of sale, has correlated with many SMB merchants upgrading to more advanced IPOS systems that can help them attain compliance. A new payment card security and global interoperability standard developed by a consortium of the payment networks, called the EMV standard (which stands for Europay, MasterCard, Visa), required compliance by U.S. payment processors in April 2013 and is required for merchant adoption by October 2015. This industry mandate, in part, sets new requirements and technical standards for IPOS systems, requiring that they be capable of accepting the more secure “chip” cards that utilize the EMV standard, and setting new rules for data handling and security with the goal of reducing losses associated with fraudulent card use. If merchants do not use systems that are EMV compliant, they risk fines and liability for counterfeit fraud losses. EMV has been implemented in Canada and countries in Europe, Latin America and Asia, and many merchants are upgrading their IPOS systems to remain compliant. We believe the continued implementation of EMV throughout the world, and the pending implementation of EMV in the U.S., will be another driver for IPOS solution upgrades and adoption.

 

    Penetration of Tablet and SaaS Solutions—Over the past few years, Developers have been introducing tablet-based IPOS solutions, many of which are offered on a Software-as-a-Service (“SaaS”) basis. These solutions have very low up-front costs, inexpensive and easily replaceable hardware and affordable monthly subscription pricing. Tablet-based solutions provide a compelling technology upgrade option, particularly for small, new merchants and existing merchants using traditional card terminals and cash registers. According to the research firm IHL, approximately 50% of all merchants surveyed in 2011 were considering adopting a mobile IPOS solution in the next three years, which includes tablet-based solutions. We believe this trend will continue to increase the adoption of IPOS systems as the functionality, sophistication and enterprise integration of tablet-based solutions continue to improve.

 

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Increasing Adoption of New Payments Technologies and Services by SMBs

In addition to the significant advancement and adoption of IPOS, there has been substantial innovation and investment in the payments and POS industries over the last several years. As a result, numerous new payments products and services, such as rewards programs and mobile payments, are being promoted and increasingly adopted by SMB merchants. Some of these new payment products and services include:

 

    Stored Value and Loyalty Programs—Many SMB merchants are adopting and promoting their own loyalty, rewards and gift card programs to attract and retain their customers. Innovations in cloud-based program management solutions and integration into IPOS systems have enabled SMB merchants to provide loyalty applications and manage gift card programs that are similar to the offerings that larger merchants already provide.

 

    Ecommerce Payments—Brick-and-mortar SMBs are establishing online presences to promote their business and conduct multi-channel commerce. These merchants are increasingly looking for technology solutions providers to facilitate the integration to, and seamless processing for, online and offline payments.

 

    Mobile Payments—As new mobile payment solutions like PayPal Mobile, Google Wallet, Isis and others are introduced at larger merchants, many SMB merchants are seeking ways to accept these new forms of payment to provide their consumers with competitive functionality and customer engagement options.

 

    Data-Driven Services—SMB merchants are looking for more sophisticated tools and services that are driven by the valuable data derived from their customers’ payments. These capabilities include advanced reporting and analytical tools, the promotion of merchant rewards, the adjudication and redemption of offers and incentives and the ability to commercialize data at the point of sale, such as POS-initiated marketing.

While these capabilities represent significant opportunities for SMB merchants to level the playing field with larger retailers, the wide spectrum of new choices, their technology requirements and their impact on other areas of merchants’ businesses can be overwhelming and risky. In addition, if these new payments technologies and services are not integrated with a SMB merchant’s POS technology, these emerging solutions can be nearly unusable by them. This presents an attractive opportunity for technology and service providers, including IPOS Developers and Dealers, to bundle, simplify and integrate these services into an IPOS solution.

Traditional Merchant Acquirers’ Fragmented Approach to IPOS

When working with a traditional merchant acquirer, merchants using an IPOS system are typically required to use a number of different providers, each using separate, disjointed processes. The value chain can be complicated and expensive, involving the use of up to four different product and service providers:

 

    Developer—Provides business management software capable of integrating payments functionality using third-party gateway or middleware software.

 

    Payment Gateway or Middleware Vendor—Provides third-party gateway or middleware that facilitates the processing of a payment from the point of sale and routing the transaction to the merchant acquirer for authorization, settlement and funding. There is typically an additional cost related to the use of third-party software to perform this function.

 

    Merchant Acquirer—Receives payments information from the merchant’s systems to facilitate authorization and settlement of payments, ensuring the merchant is funded. Merchant acquirers charge merchants to process payments, which is incremental to the costs required for the third-party gateway or middleware.

 

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    Dealer—Sells and installs the IPOS solution and coordinates support among the Developer, payments technology software vendor and merchant acquirer.

In the traditional merchant acquirer approach, once the IPOS solution is set up, there is a substantial amount of ongoing support for the merchant as a result of typical usage. Payments related issues are one of the most common support problems when using POS software. Furthermore, the complicated and fragmented nature of the value chain involved in setting up and utilizing IPOS solutions with traditional acquirers makes it difficult to diagnose the source of payments related support issues, which cost merchants both time and money to resolve. For example, a merchant may not be able to settle their daily funds, which could be caused by either the merchant acquirer, third-party software or the POS software. The merchant will call the Dealer to help resolve the issue, who in turn is forced to coordinate among the various participants in the value-chain to solve the problem.

Rapid Rate of Change and Complexity in the Payments and IPOS Sectors Creates New Opportunities

We believe many merchants are adopting sophisticated POS solutions to enhance the efficiency of their business and to help them attract customers and generate revenue. Payments integration is a critical and increasingly complex component of the overall solution, which is made more difficult by the numerous disparate technologies and specialized IPOS systems in the market. Based on our industry experience, we believe that neither the merchants, who frequently lack the IT expertise, nor the traditional merchant acquiring sales and support representatives, who typically are not familiar with the integrated payments landscape, are well-positioned to successfully navigate these solutions. As a result, we believe SMB merchants look for IPOS technology and payments providers who can help them navigate this complex market.

To meet these demands and serve these opportunities, many Developers are adding integrated payments services to their solutions and are looking for high-quality technology and support partnerships to create these offerings. Similarly, Dealers seek IPOS solutions that they can sell that integrate these capabilities and are acting as a trusted technology advisor to SMB merchants. Many Dealers are also looking for high-quality payments technology and service providers to partner with to help assist their SMB customers in a simple and seamless IPOS experience. We believe IPOS Developers and Dealers may increasingly depend on, and are looking for, payments technology service partners who can (1) understand their unique needs and technologies, (2) help them embed payment processing solutions into their systems, (3) help them navigate the complexity and regulatory burdens of the payments industry and (4) provide high-quality support for these services.

The Mercury Model

The shift to IPOS requires a specialized approach to effectively and efficiently serve merchants and the technology and service providers upon which they rely. Mercury has built proprietary and differentiated payments technology and services to meet the specialized needs of Developers, Dealers and SMB merchants. For over 10 years, we have been successfully entering into partnerships and selling our services to meet these demands through a superior, disruptive business model that is gaining market share.

Overview of the Mercury Model

Mercury pioneered a new business and go-to-market model focused on IPOS Developers and Dealers. This model creates a differentiated merchant experience and a highly efficient distribution, customer acquisition and monetization engine.

 

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We have identified and promoted IPOS trends over the past 10 years, pioneering a new way to integrate and distribute payments technology and services to SMBs. We developed the Mercury Model to meet the converging demands of Developers, Dealers and merchants. The four key elements of the Mercury Model are:

 

  (1) The Use of IPOS Channel Distribution—We pioneered the distribution of payments technology and services through IPOS Developers and Dealers who embed, bundle and cross-sell our payments services in their own solutions, and in return, earn recurring commissions for each merchant they refer to Mercury. We are able to access SMB merchants through the Mercury Network of approximately 600 Developers and 2,430 Dealers (as of December 31, 2013) with minimal up-front expenses, making our distribution highly efficient and scalable. Given the fragmented nature of the IPOS software market, we believe this large number of Developers and Dealers is essential to serve SMBs at scale. Our Dealers are dispersed throughout the U.S. and Canada, and, based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate there are over 13,000 employees at our Dealers who advise merchants on the selection and use of payments services. These employees provide key sales and marketing services for us in lieu of a direct sales force. We believe this is the largest network of IPOS partners in the U.S. and Canada, and that our lack of channel conflict differentiates us from most other providers who sell through multiple channels and/or directly to merchants.

 

  (2) Differentiated Technology and Solutions—We built our proprietary technology to enable us to connect to and process transactions from IPOS systems more efficiently and cost effectively without the need for a third-party gateway or middleware, which many other merchant acquirers would require to offer integrated payments. We offer a broad suite of integrated payments, stored value, security and support services to the Mercury Network and portfolio of merchants. We work with our Developers to embed our technology into their software so that it comes pre-integrated in the IPOS system.

 

  (3) Deep IPOS Domain Expertise—Over the past 10 years, we have developed deep domain expertise in serving the IPOS ecosystem of Developers, Dealers and merchants. We have used this experience to create proprietary technology solutions to meet their specific needs and build customized integrations into their varied and disparate technology systems. We augment these solutions with best-of-breed marketing programs and customer service capabilities that incentivize and support our entire ecosystem. Our domain expertise has also enabled us to create a powerful culture of specialized customer service that other traditional merchant acquirers with less experience and dedication to serving the IPOS channel frequently lack.

 

  (4) Software-as-a-Service (SaaS) Delivery Model—We use a SaaS delivery model that enables us to provide our solutions with substantial scale and efficiency. This SaaS delivery combines our cloud-based technologies and Developer integration tools to provide automated updates through efficient methods of access to our proprietary technology platform. This model reduces cost for both Mercury and our partners because it allows us to provide new features and functionality to disparate systems without the need for on-premise updates to Mercury’s software.

By ensuring that our payments solutions work with Developers, Dealers and merchants in an integrated, efficient and economically advantageous manner, Mercury addresses the fundamental shortcoming of the traditional merchant acquiring model that causes friction in the growing IPOS market.

 

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Benefits to Participants

The Mercury Model creates a robust virtuous cycle, driving significant benefits for all participants:

 

    Developers—Mercury provides Developers with sophisticated functionality for their solutions and convenience and value for their customers. For example, Mercury provides solutions to help Developers navigate the complex landscape of security, compliance and hardware compatibility decisions. Furthermore, as new payment offerings come to market, such as PayPal at the point of sale, EMV technologies, or mobile payments, Mercury helps Developers integrate this new functionality into their solutions. Mercury compensates Developers for their role in distribution via commissions generated by the transaction fees of merchants using the IPOS systems that they created.

 

    Dealers—Mercury provides Dealers with sophisticated functionality for the solutions that they sell and dedicated, high-quality customer service and support for their merchants. For example, Mercury handles all payments related support calls from merchants, and our support teams are trained on both the intricacies of payments as well as the unique IPOS system that the merchant is using. This augments the services that a Dealer provides and reduces potentially costly and burdensome tasks for them. Mercury compensates Dealers for their role in distribution via commissions generated by the transaction fees of merchants using the IPOS solutions that they sell and maintain. According to internal survey data, our Dealers value our customer support even more than the commissions we pay them.

 

    Merchants—Mercury enables SMB merchants to conduct their everyday transactions by empowering them to accept and process a variety of electronic forms of payment, such as credit, debit and stored value cards, through most technology devices that they prefer to use or commerce channel they prefer to sell through. These capabilities are designed to provide greater convenience and lower costs to the merchant, since no third-party payments technology provider is needed to route transactions from the IPOS to the merchant acquirer. As SMB merchants adopt—or switch—IPOS systems, we are capable of handling their payment processing needs for most of the systems they may choose. In addition, Mercury provides a broad suite of integrated, value-added services that provide SMB merchants with additional business benefits, including stored value and rewards programs, security and compliance solutions and reporting tools. Importantly, our deep relationships with and knowledge of their Developer and Dealer allow us to provide a high-quality support experience, which we are able to provide only because of the coordination inherent in the Mercury Model.

 

    Mercury—By providing a frictionless experience for Developers, Dealers and merchants, we are able to acquire merchants cost-effectively and provide them a differentiated suite of products and services, resulting in the fast growth in our merchant portfolio.

Network Effects of the Mercury Model

We believe the Mercury Model benefits from powerful and mutually reinforcing network effects, which drive significant benefits to all participants in our ecosystem, increasing the value of our network and helping sustain our growth. The large reach of the Mercury Network increases our merchant base, which helps us develop a broad set of products, services and support capabilities to meet this diverse community’s needs. This growing ecosystem then attracts other partners, like PayPal, who can provide additional functionality and services to SMB merchants at scale. We believe the network effect of our business will continue to expand and help drive incremental growth in the future.

The following describes an example of the Mercury Model’s network effect:

 

    Mercury recruits and integrates with a new Developer.

 

    To sell more systems, the Developer provides Mercury with a list of their Dealers.

 

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    Mercury recruits the new Dealers and deepens relationships with existing partners.

 

    New Dealers refer Developers that Mercury does not support so we can integrate with all the systems they sell.

 

    When merchants upgrade POS and/or change service relationships, they may change Developers and Dealers whom they refer to Mercury so they can continue to receive their current payments solutions.

 

    Mercury continuously develops and enhances products and services based on ecosystem feedback, providing further innovation and value.

 

    As partners grow their merchant portfolio with the Mercury Network, the economic value compounds to become an important source of income for their business and they are further committed to the relationship.

The Mercury Model’s Disruption of the Traditional Merchant Acquiring Industry

The applicability of the Mercury Model to today’s SMB payments landscape has enabled us to disrupt the traditional merchant acquiring approach. We believe the following attributes of the Mercury Model, in conjunction with increasing IPOS adoption, have enabled us to capture market share and grow faster than traditional merchant acquirers:

 

    Seamless technology integration—Our numerous payment integration options are designed to seamlessly embed our payments services within our Developers’ IPOS systems. This enables us to provide dedicated customer service that is able to understand and support our partners’ IPOS solutions and provide easier upgrades to and development of new functionality.

 

    The strong relationships and economic alignment with our partners—We believe our Developers and Dealers are highly incentivized to promote our services due to the value we provide to their IPOS solutions, the strong customer support we provide both to them and to our shared merchants, as well as the valuable, recurring commissions that we provide as their merchants process more transactions. We believe our model is aligned with our distribution partners and is designed to avoid the channel conflicts created by many of our competitors, who use multiple, competing, direct and indirect sales channels.

 

    Attractive economics—Our highly efficient distribution model is designed to provide attractive economics through high merchant retention and recurring revenue, low cost of merchant acquisitions, minimal up-front commission expenses and low price sensitivity due to the delivery of our services as a bundled offering with the IPOS system.

 

    The stickiness of our solutions—Our bundled technology offering is designed to be highly valuable to our distribution partners and to provide greater convenience and functionality to our merchants. For example, the integration of our services can add data and reporting related to payments into other functionality in the Developer’s IPOS system. We believe this creates a joint value proposition that is designed to be greater than the sum of its parts. As a result, our services can be harder to replace by a competing provider that lacks this connectivity and integration. Ultimately, we believe this results in high merchant and revenue retention.

We believe the Mercury Model’s combination of economic efficiency, network effects and benefits to participants has disrupted the merchant acquiring industry and serves as a foundation for Mercury’s strategy. Furthermore, we believe that our momentum with emerging technologies, such as integrations with tablet IPOS Developers, will position us strongly as the landscape evolves.

 

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Our Competitive Strengths

We believe we have attributes that differentiate us from our competitors and provide us with significant competitive advantages. The combination of these individual advantages produces a synergistic network effect that further differentiates the Mercury Model. We believe that the Mercury Model creates meaningful barriers to entry for other merchant acquirers attempting to reach the same scale with Developers and Dealers.

Market Leadership Established Through Early-Mover Advantage

We believe we have established ourselves as a leading provider of payments technology services to the IPOS ecosystem by pioneering the integration and distribution of our services through a network of over 3,000 IPOS Developers and Dealers, which management estimates is the largest network of IPOS Developers and Dealers among providers of payment processing services in the U.S. and Canada. By creating valuable solutions for each participant in our ecosystem, our early-mover advantage enabled us to build what we believe to be the largest network of partners. The Mercury Network included approximately 600 Developers and 2,430 Dealers as of December 31, 2013. We believe this enables us to build deep technology relationships and create strong economic bonds through our recurring commissions with our Developers and Dealers. We believe our leadership position attracts new business and reduces the likelihood of existing partners and merchants switching to other vendors.

Our leadership position has created a strong brand and reputation, as evidenced by our numerous industry awards, including being named the first payment service provider to win the Retail Solutions Provider Association’s Gold Medallion award. These accolades help us attract strategic constituents to the Mercury Network.

Large, Integrated Network of IPOS Developers and Dealers

We have built a network of approximately 600 Developers and 2,430 Dealers as of December 31, 2013, which we believe is the largest ecosystem of IPOS partners in the U.S. and Canada. Based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate there are over 13,000 employees at our Dealers who advise merchants on the selection and use of payments services, which we believe is substantially larger than any direct sales force of payments related services in the U.S. and Canada. Furthermore, our partners provide broad merchant reach with minimal concentration. We believe the scale of the Mercury Model is important to our partners, because (1) our Developers can leverage our reach with their entire Dealer base to take a programmatic approach to selling their IPOS solution and (2) our Dealers benefit from being able to refer Mercury for the majority of the systems they sell, simplifying support and growing their merchant portfolio.

Deep and Proprietary Expertise in Ecosystem Management

We have invested over 10 years exclusively focused on optimizing the methodologies, processes and systems required to manage our channel relationships. Leveraging these relationships with our partners and powered by our technology platform, we are able to obtain, store and utilize information within the ecosystem and have developed a differentiated domain expertise in serving the IPOS Developer, Dealer and merchant community. We believe these capabilities are difficult to replicate in part and as a whole system.

Our expertise provides value to the Mercury Network through support and education of our Developers and Dealers—helping them more effectively bundle payments services into their suite of

 

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offerings—and managing their merchants based upon each partner’s specific preferences. Our ecosystem expertise includes refined methodologies for monetary and non-monetary incentives for the Mercury Network. In 2013, we paid over $52 million in commissions and incentives to our Developers and Dealers, providing a material source of recurring income for their businesses and deepening their relationship with Mercury.

IPOS Integration Technology and Support

We have developed proprietary technology, processes and tools for embedding payments in a variety of POS technology environments. Over the past 10 years, Developers have integrated our services into over 2,500 unique versions and sub-versions of IPOS software. This expertise enables us to address emerging technologies and form factors as they arise, as evidenced by our traction in establishing partnerships with approximately 30 tablet IPOS Developers, which we expect to grow. Our experience with such a wide range of integration scenarios creates meaningful value for our Developers that rely on our technical expertise to handle what is typically their most sensitive outsourced relationship. It also enables us to provide a highly differentiated support experience for our merchants and Dealers.

Proprietary Technology Platform and SaaS Delivery Model

We have a single, proprietary platform that enables us to integrate with over 2,500 IPOS software versions and sub-versions and provide a broad range of transaction processing services. Our proprietary processing platform includes front- and back-end merchant processing systems that enable the routing and settlement of transactions, a stored value card processing system and support systems that provide CRM, business workflow, reporting, data management and treasury services. See “—Our Technology—In-House Processing Initiative.”

We use a SaaS delivery model that enables us to provide our solutions with substantial scale and efficiency. This SaaS delivery combines our cloud-based technologies and Developer integration tools to provide automated updates through efficient methods of access to our proprietary technology platform. This model reduces costs for both Mercury and our partners because it allows us to provide new features and functionality to disparate systems, without the need for on-premise updates to Mercury’s software.

Differentiated Suite of Products & Services

We believe the breadth and functionality of our products and services is a differentiator in the marketplace. We offer our distribution partners a comprehensive suite of technologies and services that enable the development, integration and utilization of our payments, stored value and security solutions across numerous IPOS systems and merchant industry verticals. We offer merchants a comprehensive suite of solutions for accepting both traditional and emerging payment types, managing stored value programs, reporting and providing omni-channel commerce services.

For our merchants, we provide a range of solutions, integrated into their IPOS system, that enable them to accept payments and grow their business. Our primary solutions include: (1) MercuryPay, our core payment processing service for credit, debit, EBT, emerging payment instruments and mobile wallet providers, as well as ecommerce and mobile commerce processing services; (2) MercuryGift, our gift card issuance and acceptance service; (3) MercuryView, our application for real-time, customizable transaction reporting and alerts; and (4) a broad range of value-added and support services. See “—Our Solutions.”

 

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Deep-Rooted Culture Focused on Merchant and Partner Service

Our culture is deeply rooted in providing a differentiated merchant and partner service that leverages our IPOS domain expertise, technical knowledge and the enterprise-wide belief that we only succeed if our partners and merchants succeed. We believe that our service-centric culture resonates with SMB merchants and that serving our customers the Mercury Way helps us win.

Powerful Network Effects and Barriers to Entry

We believe the Mercury Model benefits from powerful and mutually reinforcing network effects, which drive significant benefits to all participants in our ecosystem, increase the value of our network and help sustain our growth. The large reach of the Mercury Network increases our merchant base, which helps us develop a broad set of products, services and support capabilities to meet this diverse community’s needs. These capabilities help us recruit additional Developers and Dealers to join the network, in order to offer a more competitive solution to their current and prospective merchants. This growing ecosystem then attracts other types of partners, like PayPal, who can provide additional functionality and services to SMB merchants at scale.

Our Growth Strategies

Our large and scalable distribution capabilities, innovative technologies, and attractive products and services make us well positioned to pursue a variety of growth strategies. We plan to drive growth through the following strategies and expand the reach of the Mercury Network and the value we provide to our entire ecosystem:

Continue to Penetrate the Mercury Network’s Installed Base of Merchants

We will continue to aggressively pursue the merchant installed base of our Developer and Dealer partners in the U.S and Canada. We believe many merchants who use one of our partners’ IPOS systems or POS terminals have not switched to using Mercury as their payments technology provider because they either have not been proactively approached or have not faced a catalyst that provides an opportunity to switch, such as a technology upgrade or service issue or contract expiration with their current provider. We have and will consider implementing a variety of sales strategies, training programs and partner promotions to target these merchants. Based on management estimates, less than 10% of our partners’ installed base of approximately 1 million merchants is currently served by Mercury. We believe selling to this installed base of merchants will be a significant driver of our growth in the near-term.

Expand the Mercury Network of Developers and Dealers

We plan to continue to expand the Mercury Network of Developers and Dealers to maximize our coverage of IPOS SMB merchants in the U.S. and Canada. We will strategically target Developers and Dealers that enable us to penetrate or consolidate our market leadership in specific industry verticals. We believe we have an addressable opportunity of over 3,000 Developers and over 5,000 Dealers in the markets we currently serve. Additionally, we expect the prevalence of new IPOS form factors, such as tablets, and the proliferation of consumer payment options to continue to support a large and diverse set of Developers and Dealers serving the SMB market.

Expand and Enhance Our Suite of Products & Services

We intend to maintain our leadership position in the industry by providing best-of-breed payments solutions to our Developers, Dealers and merchants. We will continue to leverage our single, proprietary platform and processing capabilities to promote innovation and expand our suite of

 

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products and services to meet the needs of our Developers, Dealers and merchants. Additionally we will continue to invest in technology that supports the Mercury Model and drives differentiation in our go-to-market strategy.

We have a strong track record of introducing new solutions, such as our stored value cards, which run on a proprietary processing platform that is now in use by nearly 40% of our merchants and continues to grow. We have also partnered with leading emerging payments providers, such as PayPal, Paydiant and ISIS, to provide mobile payments and mobile wallet capabilities to our merchants. By continuing to expand and enhance our products and services, we believe we will continue to attract new IPOS partners and merchants and enhance the lifetime value of our portfolio by cross-selling and up-selling new services.

Expand and Promote Omni-Channel Commerce

SMB merchants are increasingly looking to sell through various channels, including brick-and-mortar stores and mobile and online channels, to increase sales and create a convenient customer experience. Today, approximately 8% of our merchants utilize our services for online or mobile commerce payments, and we expect this percentage to grow. Furthermore, consumers’ increasing use of the internet and smart phones has driven merchant demand for new omni-channel capabilities, such as “order ahead” for restaurants or “store pickup” for retailers, in which a consumer can order and pay for an item online or from their mobile phone before going to a merchant’s location to simply pick it up. We believe there is large potential for further promotion and adoption of these capabilities among SMB merchants and support for additional omni-channel use-cases. We believe our disruptive business model is well suited to address the growing demands for omni-channel commerce, and we plan to pursue incremental growth opportunities.

Expand into New Verticals and Markets

In addition to the significant growth opportunities in our current markets, which today cover over 190 standard industrial classification (“SIC”) codes, we will continue to evaluate opportunities in new industry verticals and merchant categories as IPOS solutions gain adoption. Our business model and single, proprietary technology platform, further enhanced with new capabilities from our in-house processing investment, are highly flexible and can serve a variety of new merchant sizes, categories and locations. We will continue to expand into new industry verticals as the Mercury Network develops new, industry-specific IPOS solutions for those verticals or the sales forces of our Dealers begin to penetrate them with existing solutions. We may also expand into new markets as our current partners expand their own businesses and as our current merchants grow and expand into new markets and areas of commerce.

Selectively Pursue Strategic Acquisitions

Given the large size and attractive growth trends of our current addressable market, we are primarily focused on growing our business organically. However, we may selectively pursue strategic acquisitions as opportunities arise that meet our internal requirements for the use of capital and return on investment. Some of these opportunities may include those that enable us to acquire new capabilities that may be harder to develop in-house, gain entrance into new segments of the market, enter new markets or consolidate our existing market.

 

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Our Technology

Mercury has a single proprietary technology platform that was designed and developed to integrate with a large number of disparate IPOS systems and perform a broad range of transaction processing, risk management and value-added services utilized by our merchants. Our systems are hosted in distributed data centers and consist of multiple integrated systems, as illustrated in the following image:

Architecture of the Mercury Technology Platform

 

LOGO

Key Components of the Mercury Platform

Our technology platform includes:

 

   

Developer Integration System—Our Developer integration system provides a differentiated capability to connect to the point-of-sale without the need for a third-party gateway or middleware provider. This integration layer consists of an array of software and servers designed to capture any type of electronic payment transaction initiated at the merchant’s countertop and prepare it for downstream processing tasks. Unlike traditional payment processing platforms that are typically only equipped to receive a few standardized transaction message formats, the Mercury platform is empowered to receive a large variety of different message formats with numerous variations and technology specifications. This capability is driven by our Developer Integration System, which enables IPOS systems to connect to our platform via a broad set of application programming interfaces (“APIs”) that we have custom built over the last 10 years to address the requirements of over 2,500 IPOS

 

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software versions and sub-versions. For example, our platform can serve a vast matrix of Developer integration solutions for the following POS technical configurations:

 

    5 different IPOS Operating Systems.

 

    5 different IPOS form factors.

 

    3 different PCI compliance approaches.

 

    6 different programming languages.

 

    4 different commerce channels.

 

    44 different hardware device models supported.

 

    6 different peripheral requirements.

 

    5 different payment types.

 

    2 different country protocols.

In addition, we have developed a series of security and compliance features that can be accessed by Developers, including tokenization, end-to-end encryption and Mercury-hosted check-out pages that are designed to prevent any payment data from persisting on the IPOS itself. The diversity and specialization of payments made from IPOS makes this technology a core aspect of our intellectual property and a key differentiator in the market.

 

    Front-end Processing System—Our front-end processing system is used for routing the transaction, in real-time, to the appropriate location for authorization, and calculating the appropriate pricing information to be transmitted to back-end systems for settlement or funding. This system communicates with the payment networks, like Visa, MasterCard, Discover and American Express and uses secure circuitry and communications protocols to transmit transaction information. We currently leverage two different versions of the system. The first is a system managed and hosted by Global Payments. The second is a new front-end processing system that we developed and manage ourselves. Our new system is fully redundant and designed to handle intense peaks in transaction volume on a 24/7/365 basis. We expect a majority of our transaction volume to migrate to our new, front-end processing system in 2014. See “—In-House Processing Initiative.”

 

    Back-end Processing System—Our back-end processing system is used to perform the basic, back-office merchant accounting functions, such as rate and fee balance calculation, funding merchant bank accounts via ACH, statement fulfillment and exception- and charge-back handling. We currently leverage systems developed and hosted by Global Payments for these tasks, but are transitioning the management of certain functions in-house. See “—In-House Processing Initiative.”

 

    Stored Value Processing System—We have developed a proprietary stored value processing system, enabling gift card and rewards programs for merchants. This system enables merchants to issue closed-loop stored value accounts and cards to their consumers and manage these cards throughout their entire lifecycle. The system facilitates balance inquiries, transaction authorization and processing and balance updates for the merchant’s card program and provides a merchant with the data monitoring, reporting and analytical tools necessary to manage their program.

 

   

Proprietary CRM and Business Workflow System—Due to the unique requirements of our partner-oriented sales and business model, we developed a comprehensive proprietary system to handle the management of merchant and partner information, as well as the facilitation of key business processes. This system is used by nearly all of our support and business operations personnel and was specifically designed around the three key

 

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constituents of the Mercury ecosystem: SMB merchants and the Mercury Network of Developers and Dealers. Some key features and capabilities of this system include:

 

    Tools to facilitate the onboarding and provisioning of accounts for merchants, with references to the merchant’s Developer and Dealer.

 

    Tools to calculate and apply the appropriate pricing for a merchant.

 

    Tools and reports to enable customer support reps to troubleshoot merchant incidents.

 

    Tools and reports to track Developer and Dealer commissions.

 

    This system provides a business process engine that facilitates and automates many complex requirements of the Mercury Model, and we will continue to expand and enhance it as our business evolves.

 

    Reporting and Data Management System—We host and manage a large-scale data warehouse environment that stores and analyzes transaction and related business information. This system provides data and reporting intelligence that is used by our merchants and partners, as well as essential business information used for forecasting, planning and analysis.

 

    Treasury System—We have developed a proprietary treasury system to fulfill our economic relationships with merchants and partners. From this system, monies collected by merchants and commissions owed to partners are calculated and distributed. This system is the technical backbone of our partner program and provides a unique advantage in our ability to recruit and retain a large network of partners.

In-House Processing Initiative

To achieve more strategic and technical independence and more advantageous economics for transaction processing, Mercury has gradually in-sourced a number of systems and activities that have historically been outsourced. We refer to this initiative as “In-house Processing” or “IHP.” The following image provides a comparison of our historical and new processing architectures.

 

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Comparison of Historical and New Architectures of the Mercury Technology Platform

 

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Historical Processing Architecture

Since our founding, Mercury has hosted and managed the Developer Integration Systems that Developers connect to for the transmission and capture of transactions from a merchant’s point-of-sale. This part of the processing value chain has always been a central aspect of our technical focus and strategy given its differentiated capabilities. However, we historically relied on Global Payments to provide the front-end and back-end processing functions that took place after we had captured a transaction from the point-of-sale. Since 2002, an agreement with Global Payments has enabled us to utilize Global Payments’ front-end processing systems, back-end processing systems, bank sponsorship and managed services for merchant accounting and settlement functions.

New Processing Architecture

We have completed the development and deployment of our own front-end processing system, capable of handling switching and real-time authorization of transactions via direct connectivity to the payment networks. Our in-house front-end processing system provides us with the ability to expand into new markets, offer new functionality and exercise more technical control over our services. This system went live with merchant transaction traffic in August 2013 and we expect to migrate a majority of our merchants’ transactions to this system by the end of 2014. This transition is facilitated by our deep expertise with real-time transaction handling, stemming from our many years of experience developing and managing our Developer Integration Systems. A small portion of our merchant portfolio, notably our Canadian merchant base, is currently excluded from our IHP initiative and will continue to process through our legacy front-end processing system.

 

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In July 2013, we entered into a new agreement with affiliates of Global Payments that enables us to (1) use our front-end processing system together with Global Payments’ back-end processing system; (2) convert our merchant portfolio to our own independent bank sponsorship license with Wells Fargo; and (3) gradually in-source the management of our merchant accounting and settlement functions that were historically outsourced to Global Payments. This arrangement enables us to control the areas of the processing value chain that we believe are most strategically and technically important to our business, while relying on a trusted third-party to provide non-core functions without any service disruptions. A small portion of our merchant portfolio, notably our Canadian merchant base, is currently excluded from our IHP initiative and will continue to process through our legacy back-end processing systems and Global Payments’ bank sponsorship.

Technical Initiatives and Teams

We place great importance on research and development activities and have a long history and demonstrated track record of innovation. Our primary technical initiatives include development and deployment of payment processing systems, stored value solutions, APIs for Developers and tools and applications for our merchants and partners.

We currently employ product management, engineering and quality assurance teams who design, develop, test and deploy our in-house software and systems. We typically release new functionality on a quarterly basis and deploy updates and patches as needed.

Other Third-Party Technology Systems and Partners

We carefully select partners to provide technology and solutions for areas that are outside of our focus or that allow us to develop superior products or service. We have a relationship with Datacap Inc, in which we leverage their technology for some of our Developer integration methods. For stored-value card fulfillment, we leverage relationships with service providers including Sterling and Arroweye. For merchant- and consumer-facing applications, we partner with technology companies such as PayPal. We may enter technology partnerships with third-party vendors at any time to fulfill products or services we plan to deliver.

 

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Our Solutions

We offer our merchants and distribution partners a comprehensive range of products and services that enable the development, integration and utilization of our payments and related services within integrated point-of-sale solutions.

Solutions for Merchants

We provide merchants a broad suite of payment processing products and services that enable them to accept payments and perform related value-added functions. These include:

 

Service    Description    Intended Benefits
MercuryPay    MercuryPay is our core payment processing service. We process transactions made at the point-of-sale by credit, debit, EBT and emerging payment instruments, including credit/debit cards of the following types: Visa, MasterCard, American Express, Discover, PayPal, JCB and all major debit networks. We also support the acceptance and processing of transactions initiated by certain mobile wallets, such as PayPal, Paydiant and ISIS.    MercuryPay is designed to provide merchants with stable, secure and fast payment processing and funding services. Our solution is a low cost, ready-to-use, reliable service, enabling merchants to proactively manage, monitor and grow their businesses.

 

Omni-channel Commerce Processing    We provide payment acceptance services that can be applied across physical IPOS, online and mobile storefronts. This solution unifies reports, billing and support across channels.    By consolidating processing across channels, we allow merchants to see a unified view of their business and avoid the complexity of a channel-siloed approach. This unification also provides a seamless transition for brick-and-mortar merchants who are looking to expand into other commerce channels.

 

Accelerated Funding    A set of programs that enable merchants to receive the funds associated with their credit card transactions as quickly as the following business day (if utilizing our Next-Day Funding Program), or as quickly as the same business day (if utilizing our Same-Day Funding Program, limited to merchants who bank with Wells Fargo).    Accelerated Funding reduces the time merchants need to wait to receive their funds. By receiving funding from credit card transactions faster, merchants can more easily cover their business expenses on a timely basis.

 

Mercury Stand-In    Our Mercury Stand-In authorization service provides merchants with continuous processing and “fail-safe” transaction approvals in the event of network or other outages.    Mercury Stand-In is designed to protect our merchants from lost transactions due to interruptions in card networks or other outages.

 

 

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Service    Description    Intended Benefits
MercuryView    MercuryView is our online portal that provides merchants with real-time, transaction reporting, analytics and alerts. We offer 35 pre-set reports in addition to customizable reporting that can be sorted and analyzed by day, card type, operator and batch, among other parameters. We also offer transaction reports on our stored value gift card programs.    MercuryView simplifies merchants’ daily business management tasks. Our sophisticated and detailed reporting capabilities and display enable merchants to more easily and effectively manage daily business processes, including tasks such as bookkeeping and inventory management, among others.

 

PayPal Integration    PayPal Integration enables our merchants to accept PayPal-based payments in-store. Merchants who are equipped with PayPal-enhanced IPOS systems can accept payments from customers via the customer’s desired funding source in their PayPal wallet, either a PayPal payment card or the PayPal application on a mobile phone.    Our PayPal Integration helps merchants take advantage of leading mobile and digital wallet payments technologies. Our simple and seamless integration enables customers to more easily and conveniently purchase goods or services, driving additional revenue for our merchants.

 

VirtualTerminal    Mercury VirtualTerminal is our free, Payment Card Industry (PCI) compliant solution for internet-based credit and gift card payment acceptance. It allows merchants to process payments via web browser, mobile browser (smartphone) or iOS application. Transactions can be swiped through a magnetic stripe reader or keyed manually.    VirtualTerminal supplements our merchants’ product and service offerings by allowing merchants to accept payments even when they are outside their physical locations, and having a convenient backup in the case that their POS system is unavailable. This anytime, anywhere payment processing capability enables our merchants to generate new revenue by enabling them to accept additional transactions via the web/mobile browsers and iOS application.

 

MercuryAnyware    MercuryAnyware is a secure, EMV- compliant solution that facilitates payments to be accepted at remote wireless terminals. Integrated to the merchant’s existing IPOS solution, MercuryAnyware enables pay-at-table for restaurants and shop-floor payments for retailers.    MercuryAnyware allows our merchants to provide a more convenient customer experience, while meeting EMV requirements.

 

SecureAssist    SecureAssist is our robust PCI compliance program for merchants. We provide merchants with compliance set-up, maintenance, monitoring, reporting and support tools and services. Our step-by-step program guides merchants through the entire compliance process, from initiation to ongoing monitoring. We also provide, through a third-party insurer, up to $100,000 in breach assurance for certain costs associated with a data breach.    SecureAssist provides merchants with the tools needed to secure their processing environment and protect their businesses from a compliance breach. Our simple, step-by-step program eliminates the complexity from establishing and maintaining compliance for our merchants. Breach assurance helps reduce the financial risk of a breach to our merchants.

 

 

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Service    Description    Intended Benefits
MercuryGift    MercuryGift provides merchants with the ability to issue gift cards to their customers and accept them using their point-of-sale solution. We offer free processing for gift card transactions, and cards automatically work across a merchant’s multiple locations. We provide a variety of competitively priced card packages depending on a merchant’s business reason or need.    MercuryGift gives our merchants the tools to generate new revenue, increase exposure of their brand and easily manage gift card sales. Our solution is accessible and scalable for the entire spectrum of our merchant base—from attractive gift cards for a single location to custom designed cards for a franchise.
 
Mercury StoreCard    A stored value service that allows merchants to extend their gift card programs with additional functionality, such as allowing the customer to pay with a digital version of the card on their mobile phone, automatically add value to the card when the balance drops below a threshold, check card balances online, and qualify for cash-back rewards from merchants.    Mercury StoreCard gives merchants more ways to add convenience and loyalty to their customer relationships. Merchants can accept stored value payments from their customer’s plastic card or mobile phone, and cash-back rewards and automatic re-loading of a StoreCard’s value reminds and incentivizes customers to return to their favorite merchant locations.

 

MercuryMail    Our MercuryMail service develops laminated post card mailers for merchants. These mailers contain pre-loaded promotional card that includes an offer amount determined by our merchants.    MercuryMail is a streamlined and simple program that enables merchants to increase brand awareness and drive new business. The mailers’ instant savings incentivizes consumers to visit our merchants and make a purchase. Merchants are also able to easily measure and track the effectiveness of their promotions by the number of redeemed cards.

 

CardFactory    Our CardFactory solution is a Web-based, self-service application that enables merchants to design and re-stock stored value cards.    CardFactory provides merchants with a simple way to further market and brand their businesses. CardFactory also enables our merchants to capitalize on the opportunity for stored value cards to build loyalty and drive additional purchases from their customer base.

Solutions for Developers and Dealers

We offer our distribution partners a full range of products and services to enable the integration of our payment processing capabilities into IPOS systems and a set of tools and business support services. These products and services include:

 

Service    Description    Intended Benefits
Integration Suite    Our Integration Suite is a set of integration methods and application programming interfaces (APIs) that enables Developers to extend applications to access our payment processing platform. We offer a variety of integration approaches for Developers based on business type and requirements, target markets, security requirements and/or operating system. Our integration suite can enable a broad range of payment types, including credit, debit, stored value and alternative or mobile wallet payments.    The suite of methods and services within our Integration Suite gives Developers choice and flexibility in integration, enabling them to integrate our payment processing platform across all types of solutions and payment acceptance devices in a manner best suited to their business needs and requirements.

 

 

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Service    Description    Intended Benefits
Mercury Developer Network Website    The Mercury Developer Network is a web-based portal that provides Developers with the information and resources needed to integrate our MercuryPay processing platform with their applications. These resources include online communities, tools, tutorials, documentation and sample code, among other items.    The Mercury Developer Network enables Developers to more easily connect to each other and form a network by centralizing key integration information and resources in a single place. In addition, the Mercury Developer Network enables Developers to efficiently obtain the information they need to successfully integrate our payment processing platform into their applications.

 

Security and Compliance
Add-Ons
   Our PCI and PA-DSS Compliant Solutions provide IPOS Developers with a set of software and hardware-based options to address PCI compliance requirements. Our PCI experts work with Developers to ensure compliance with critical payments standards.    Our Developers benefit from reduced cost and effort in conforming applications to key payments standards, due to the expert support they receive when developing their applications under the guidance of our PCI and PA-DSS Compliant Solutions service.

 

MercuryActivate for Developers    Our MercuryActivate solution offers point-of-sale system Developers an innovative API by which to capture merchant enrollments. MercuryActivate enables automated enrollment for pre-approved merchants, streamlined data collection processes, instantaneous response to merchant applications and a flexible enrollment process.    MercuryActivate gives Developers the ability to rapidly enroll merchants directly from their product or website, providing a seamless customer experience and an ability to acquire new customers.

 

MercuryView for Dealers    MercuryView is our web-based portal for our Dealers. Our portal offers Dealers a wide range of reporting, analytics and alert capabilities on their merchant portfolios.    MercuryView enables Dealers to more efficiently manage their portfolios by providing real-time performance reporting. In addition, our analytics capabilities enable our Dealers to view detailed information on their portfolios, including specific merchant processing volume trends and the ability to forecast residual income, among other items.

 

MercuryActivate for Dealers    MercuryActivate for Dealers is a web-based application that allows our Dealers to embed merchant forms into their own website.    MercuryActivate facilitates the ability of our Dealers to quickly and efficiently price, enroll and onboard merchants via their distribution partners’ websites.

 

Business Support Resources    Our Business Support Resources educate Developers and Dealers on how to market their products alongside Mercury products and services. We also offer self-paced online tutorials on key industry topics and Mercury products and services.    Our Business Support Resources provide our Developers and Dealers with additional educational resources that enable them to more effectively market and grow their businesses.

 

 

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Sales and Marketing

Mercury’s sales and marketing activities, which are powered by highly customized technology and processes, are the cornerstone of Mercury’s growth. Based on a Mercury-sponsored survey of a sample of Dealers, which included questions regarding the number of employees at each Dealer, and management’s evaluation of the responses provided in such survey and ongoing observations of staffing practices at our Dealers, we estimate that the number of employees at our Dealers who advise merchants on the selection and use of payments services is over 13,000. We have over 200 people in our sales and marketing organization who provide support for, and partner with, these Dealer employees. They are centralized in Denver and Durango, Colorado and use our proprietary CRM and marketing automation systems to manage our Developer, Dealer and merchant initiatives. The key functions of the sales and marketing group, which have been developed and refined for more than 10 years, include channel-facing resources that identify, recruit, onboard and manage partners in the Mercury Network and merchant-facing resources that price, onboard, upsell and retain our merchant base. Marketing is tightly coordinated with sales efforts by providing demand generation resources, event coordination, partner and merchant recruiting programs and partner portfolio development tools.

There are a number of key attributes of our sales and marketing functions that enable growth of and within the Mercury Network and increase the lifetime value of our merchants. We have built a proprietary CRM system that enables a deeply integrated view of the Mercury Network; providing intricate details of partner attributes, Dealer-Developer-merchant network connections and valuable merchant profile data that is used to enhance productivity of our installed base and retain our customers. We also collect valuable information from, and provide feedback to, the Mercury Network, which drives continuous improvement to products and technology, systems and processes. Additionally, Mercury’s channel-centric sales model has established enduring trust within the Mercury Network that enables us to form and maintain strong selling relationships with our partners.

As the Mercury Network grows and develops, we believe there will be opportunities to increase the level of sales and marketing resources and activities to drive increased revenue to Mercury. Additionally, we will continue to make technology investments that enable us to capture growth by nurturing the development of our partner base, increasing the penetration rate of their installed base of merchants and increasing the lifetime value of our merchants.

Our Operations and Support Services

Our operations teams focus on delivering a high-quality experience for our ecosystem of SMB merchants and the Mercury Network, and ensure that our economic relationships and obligations are maintained and fulfilled effectively. We provide a comprehensive customer and partner support function that utilizes our internal call centers, and an advanced Interactive Voice Response system and CRM tools to handle both technical and business inquiries from our constituents. Our business support systems are purpose-built to combine merchant, Developer and Dealer data for marketing, sales, on-boarding and support workflows. This data includes business profile, risk profile, processing profile, value-added services profile and profit potential profile. In addition to voice systems, on-line help, workflow management and issue-tracking, customer support can analyze real-time transactions to be proactive in identifying processing problems. Our security and compliance programs, overseen by our Chief Legal Officer, are focused both on meeting our internal objectives and requirements, as well as addressing the security and compliance needs of our Developers, Dealers and merchants. Our internal security program, led by our Chief Information Security Officer, is designed to address payment industry security standards and best practices. Priorities for this program are based on legal, regulatory and industry requirements and assessments of the key risks to our business. We also actively participate with representatives of government agencies and other financial services industry leaders to share information on the latest security threats and solutions. Our internal compliance program, led by

 

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our Vice President of Compliance and Industry Relations, is designed to address legal, regulatory and payment network requirements related to the various elements of our business, including how we collect, use, manage and safeguard data and sensitive information. We work with the payment networks and applicable federal and state agencies and monitor laws impacting our businesses to proactively manage our compliance efforts. In addition to our internal programs, we work closely with our Developers, Dealers and merchants to assist with their security and compliance efforts and make available to them a variety of tools, resources and information to facilitate their efforts in meeting their security and compliance needs and obligations. Our operations and support services include:

Merchant Operations and Support

 

    Merchant Underwriting—merchant application processing and risk evaluation. An important characteristic of Mercury’s business is that our merchant base includes many service businesses that historically have had low fraud and chargeback losses. In addition, our underwriting strategy offers merchants with a low risk profile expedited activation, enhancing their customer experience.

 

    Risk Management and Compliance—provide ongoing risk monitoring and dedicated card brand, security and regulatory support for merchant base, including PCI compliance support, vulnerability scanning, system monitoring and breach assistance.

 

    Pricing Controls—based on the merchant’s risk and transaction profile.

 

    Billing—billing and invoicing for merchant services.

 

    Merchant Treasury Services—billing and invoicing for merchant services and funds settlement for card transactions.

 

    Peripheral Management—order management, fulfillment and replacement processes for a diverse and complex array of peripheral hardware solutions that compliment Mercury’s integrated software technologies, including end-to-end encryption devices, mobility solutions and various personal identification number (PIN)-entry devices.

 

    Merchant Support—dedicated call center services for customer support that leverage our combined expertise of payments and IPOS systems and specially designed support processes and systems to be able to address complex technical problems for both a merchant’s payment applications and IPOS systems.

Partner Operations and Support

 

    Developer Integrations and Compliance Management—provide team of engineers and technical support staff dedicated to support IPOS integrations and ensure compliance with all card brand, security and regulatory requirements, including PCI and PA-DSS compliance support and system integration and configuration guidance.

 

    Partner Treasury Services—ensure that IPOS Developers and IPOS Dealers receive their commissions and residual payments in an accurate and timely manner. We have added substantial automation and sophistication to these processes, which is essential to ensure optimal experience as well as financial efficiency. These processes, systems and expertise have been built up over 12 years and represent a difficult to duplicate treasury function.

 

    Partner Support—dedicated support teams for IPOS Dealers and IPOS Developers who are able to address questions or issues that may pertain to their products or their entire portfolio of merchants, rather that only one merchant incident.

 

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Competition

We face competition to acquire merchants from a variety of providers of payments and payment-related services. The most significant competitive factors in our markets are price, brand, recommendations to merchants by IPOS Developers and Dealers, breadth of value-added features and functionality (including IPOS integrations), size, service capability and speed in approving merchant applications. We expect that the relative importance of these competitive factors to merchants will continue to change as methods of distribution and alternative payment solutions are developed by our competitors and us. Our competitors range from large and well established vendors to smaller, earlier-stage companies. These include:

 

    Third-party merchant acquirers and processors, including First Data Corporation, Heartland Payment Systems, Inc., Total System Services Inc., Vantiv, Inc. and WorldPay US, Inc.

 

    Retail banks or their affiliates, including Bank of America Merchant Services, Citi Merchant Services, Chase Paymentech, Elavon, Inc. (a subsidiary of U.S. Bancorp), PNC Merchant Services and Wells Fargo Merchant Services. Some of these entities have their own processing capabilities, while others outsource these functions to third-party merchant acquirers and processors.

 

    Numerous independent sales organizations (ISOs) selling payments and payments-related services on behalf of either third-party merchant acquirers and processors or affiliates of retail banks.

We face competition from merchant acquirers and other companies looking to replicate some or all of the Mercury Model, in particular our IPOS channel distribution. Payment gateway or middleware providers seek to integrate to developers’ POS solutions that can support other processors, including us. Additionally, some merchant acquirers are trying to replicate the Mercury Model by recruiting our Developers and Dealers to partner with them.

Regulation

We operate in an increasingly complex legal and regulatory environment. Our business and the products and services that we offer are subject to a variety of federal, state and local laws and regulations and the rules and standards of the payment networks that we utilize to provide our transaction services processing, as more fully described below.

Dodd-Frank Act

In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) was signed into law. The Dodd-Frank Act and the related rules and regulations have resulted in significant changes to the regulation of the financial services industry. Changes impacting the payment processing industry include providing merchants with the ability to set minimum dollar amounts for the acceptance of credit cards and to offer discounts or incentives to entice consumers to pay with cash, checks, debit cards or credit cards, as the merchant prefers. New rules also contain certain prohibitions on payment network exclusivity and merchant routing restrictions. Additionally, the Durbin Amendment to the Dodd-Frank Act provides that the interchange fees that certain issuing financial institutions charge merchants for debit transactions will be regulated by the Federal Reserve and must be “reasonable and proportional” to the cost incurred by the card issuer in authorizing, clearing and settling the transactions. Rules released by the Federal Reserve in July 2011 to implement the Durbin Amendment mandate a cap on debit transaction interchange fees for card issuers with assets of $10 billion or greater.

 

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The Dodd-Frank Act also created the Consumer Financial Protection Bureau (the “CFPB”), which has assumed responsibility for most federal consumer protection laws, and the Financial Stability Oversight Council, which has the authority to determine whether any non-bank financial company, such as us, should be supervised by the Board of Governors of the Federal Reserve System because it is systemically important to the U.S. financial system.

Any new rules or regulations implemented by the CFPB or the Financial Stability Oversight Council or in connection with Dodd-Frank Act that are applicable to us, or any changes that are adverse to us resulting from litigation brought by third parties challenging such rules and regulations, could increase our cost of doing business or limit permissible activities.

Privacy and Information Security Regulations

We provide services that may be subject to privacy laws and regulations of a variety of jurisdictions. Relevant federal privacy laws include the Gramm-Leach-Bliley Act of 1999, which applies directly to a broad range of financial institutions and indirectly, or in some instances directly, to companies that provide services to financial institutions. These laws and regulations restrict the collection, processing, storage, use and disclosure of personal information, require notice to individuals of privacy practices and provide individuals with certain rights to prevent the use and disclosure of protected information. These laws also impose requirements for safeguarding and proper destruction of personal information through the issuance of data security standards or guidelines. Our business may also be subject to the Fair Credit Reporting Act, which regulates the use and reporting of consumer credit information and also imposes disclosure requirements on entities who take adverse action based on information obtained from credit reporting agencies. In addition, there are state laws restricting the ability to collect and utilize certain types of information such as Social Security and driver’s license numbers. Certain state laws impose similar privacy obligations as well as obligations to provide notification of security breaches of computer databases that contain personal information to affected individuals, state officers and consumer reporting agencies and businesses and governmental agencies that own data.

Anti-Money Laundering and Counter-Terrorism Regulation

Our business is subject to U.S. federal anti-money laundering laws and regulations, including the Bank Secrecy Act of 1970, as amended by the USA PATRIOT Act of 2001, which we refer to collectively as the “BSA.” The BSA, among other things, requires money services businesses to develop and implement risk-based anti-money laundering programs, report large cash transactions and suspicious activity and maintain transaction records. We are also subject to certain economic and trade sanctions programs that are administered by the Treasury Department’s Office of Foreign Assets Control, or OFAC, that prohibit or restrict transactions to or from or dealings with specified countries, their governments and, in certain circumstances, their nationals, narcotics traffickers and terrorists or terrorist organizations. Similar anti-money laundering, counter terrorist financing and proceeds of crime laws apply to movements of currency and payments through electronic transactions and to dealings with persons specified on lists maintained by organizations similar to OFAC in several other countries and which may impose specific data retention obligations or prohibitions on intermediaries in the payment process. We have developed and continue to enhance compliance programs and policies to monitor and address related legal and regulatory requirements and developments.

Stored Value Services

Stored value cards, store gift cards and electronic gift certificates are subject to various federal and state laws and regulations, which may include laws and regulations related to consumer and data protection, licensing, consumer disclosures, escheat, anti-money laundering, banking, trade practices and competition and wage and employment. The merchants who utilize our gift card processing products and

 

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services may be subject to these laws and regulations. In the future, if we seek to expand our stored value card products and services, or as a result of regulatory changes, we may be subject to additional regulation and may be required to obtain additional licenses and registrations which we may not be able to obtain.

The Credit Card Accountability Responsibility and Disclosure Act of 2009 (the “Card Act”) created new requirements applicable to general-use prepaid gift cards, store gift cards and electronic gift certificates. The Card Act, along with the Federal Reserve’s amended Regulation E, created new requirements with respect to these cards and electronic certificates. Prepaid services may also be subject to the rules and regulations of Visa, MasterCard, Discover and American Express and other payment networks with which our customers and the card issuers do business. The merchants who utilize our gift card processing products and services are responsible for compliance with all applicable rules and requirements relating to their gift product program.

Additional, the Financial Crimes Enforcement Network of the U.S. Department of the Treasury, or FinCEN, issued a final rule in July 2011 regarding the applicability of the Bank Secrecy Act’s regulations to “prepaid access” products and services. This rulemaking clarifies the anti-money laundering obligations for entities engaged in the provision and sale of prepaid services, such as prepaid gift cards. We are not registered with FinCEN based on our determination that our current products and services do not constitute a “prepaid program” as defined in the Bank Secrecy Act. We may in the future need to register with FinCEN as a “money services business-provider of prepaid access” in accordance with the rule based on changes to our products or services.

Unfair or Deceptive Acts or Practices

All persons engaged in commerce, including, but not limited to, us and our merchant customers are subject to Section 5 of the Federal Trade Commission Act prohibiting unfair or deceptive acts or practices, or UDAP. In addition, the UDAP and other laws, rules and or regulations, including the Telemarketing Sales Act, may directly impact the activities of certain of our merchants, and in some cases may subject us, as the merchant’s payment processor or provider of certain services, to investigations, fees, fines and disgorgement of funds if we were deemed to have aided and abetted or otherwise provided the means and instrumentalities to facilitate the illegal or improper activities of the merchant through our services. Various federal and state regulatory enforcement agencies including the Federal Trade Commission (“FTC”) and the states’ attorneys general have authority to take action against non-banks that engage in UDAP or violate other laws, rules and regulations and to the extent we are processing payments or providing services for a merchant that may be in violation of laws, rules and regulations, we may be subject to enforcement actions and as a result may incur losses and liabilities that may impact our business.

Other Regulation

We are subject to U.S. federal and state unclaimed or abandoned property (escheat) laws in the United States which require us to turn over to certain government authorities the property of others we hold that has been unclaimed for a specified period of time such as account balances that are due to a partner or merchant following discontinuation of its relationship with us.

The Housing Assistance Tax Act of 2008 requires certain merchant acquiring entities and third-party settlement organizations to provide information returns for each calendar year with respect to payments made in settlement of electronic payment transactions and third-party payment network transactions occurring in that calendar year. Reportable transactions are also subject to backup withholding requirements.

The foregoing is not an exhaustive list of the laws and regulations to which we are subject and the regulatory framework governing our business is changing continuously.

 

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Payment Network Rules and Standards

Payment networks establish their own rules and standards that allocate responsibilities among card brand and network participants. These rules and standards, including the PCI DSS, govern a variety of areas including how consumers and merchants may use their cards, data security and allocation of liability for certain acts or omissions including liability in the event of a data breach. The payment networks may change these rules and standards from time to time as they may determine in their sole discretion and with or without advance notice to their participants. These changes may be made for any number of reasons, including as a result of changes in the regulatory environment, to maintain or attract new participants, or to serve the strategic initiatives of the networks and may impose additional costs and expenses on or be disadvantageous to certain participants. Participants are subject to audit by the payment networks to ensure compliance with applicable rules and standards. The networks may fine and penalize and/or suspend the registration of participants for certain acts or omissions or the failure of the participants to comply with applicable rules and standards.

An example of new standards is “EMV”, a credit and debit authentication methodology mandated by Visa, MasterCard, American Express and Discover to be supported by payment processors by April 2013 and by merchants by October 2015. This mandate sets new requirements and technical standards, including requiring IPOS systems to be capable of accepting the more secure “chip” cards that utilize the EMV standard and setting new rules for data handling and security. Processors and merchants that do not comply with the mandate or do not use systems that are EMV compliant risk fines and liability for fraud losses. We have invested significant resources to ensure our systems’ compliance with the mandate, and will invest significant resources to assist our merchants in becoming compliant by the applicable deadlines. We also will continue to assist our Developers in providing EMV compliant POS systems.

To provide our transaction processing services, we must be registered either indirectly or directly as service providers with the payment networks that we utilize. Because we are not a bank, we are not eligible for membership in certain payment networks, including Visa and MasterCard, and are therefore unable to directly access these networks. The operating regulations of certain payment networks, including Visa and MasterCard, require us to be sponsored by a member bank as a service provider. In connection with our agreement as an independent sales organization of Global Payments, Global Payments as the processor is registered with certain payment networks, including Visa and MasterCard, through Wells Fargo Bank, N.A. (“Wells Fargo”). In connection with our status as a processor as a result of our deployment of our in-house processing initiative, we are registered with certain payment networks, including Visa and MasterCard, through Wells Fargo, as well. The agreements with financial institution sponsors give them substantial discretion in approving certain aspects of our business practices including our solicitation, application and qualification procedures for merchants and the terms of our agreements with merchants. We are registered directly as service providers with Discover, American Express and certain other networks.

In December 2013, the U.S. District Court for the Eastern District of New York issued a final order approving a definitive class settlement agreement resolving the plaintiffs’ claims in a merchant class multi-district interchange litigation against Visa, MasterCard and the named member banks. According to the settlement agreement, the settlement consists of two funds, including (1) a cash fund of approximately $6.05 billion (which has been reduced by 25%, to approximately $4.5 billion, to account for merchants who excluded themselves from the class of plaintiffs), to pay valid claims of merchants who accepted Visa or MasterCard credit or debit cards and paid interchange fees between January 1, 2004 and November 28, 2012, and (2) a second fund of approximately $1.2 billion to compensate merchants who accepted Visa or MasterCard credit cards and paid interchange fees during the eight-month period beginning July 29, 2013. Among other terms, the settlement agreement provides for the modification of Visa’s and MasterCard’s rules to allow merchants to impose a surcharge on credit card

 

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transactions at the point of sale under certain conditions, to accept Visa or MasterCard credit or debit cards at some but not all of a merchant’s stores and to offer discounts to customers who make payments through methods that carry lower fees than Visa or MasterCard credit or debit cards. This provision or other provisions in the final settlement agreement, which has been appealed by certain plaintiffs, could ultimately result in decreased use of credit cards, demands for lower fees for our services or have other adverse impacts that are not readily known and that we may not know for some time.

See “Risk Factors—We rely on a financial institution sponsor, which has substantial discretion with respect to certain elements of our business practices, and financial institution clearing service providers, to process electronic payment transactions. If this sponsorship or these clearing services are terminated and we are unable to secure new bank sponsors or financial institutions, we will not be able to conduct our business” and “—Unauthorized disclosure, destruction or modification of data, through cybersecurity breaches, computer viruses or otherwise could expose us to liability, protracted and costly litigation and damage our reputation.”

Employees

As of March 15, 2014, we had 646 full-time employees. We are not subject to any collective bargaining agreement and have never been subject to a work stoppage. We believe that we have maintained good relationships with our employees.

Facilities

We have offices in Durango, Colorado and Denver, Colorado. Our Durango facilities include 73,264 square feet of leased space, divided among seven different physical locations on one campus, located in the Durango Tech Center complex. As of March 15, 2014, approximately 367 employees are based in Durango, including the majority of our executive team. Our Denver facilities include 50,958 of leased space, in one physical location within the Denver Tech Center community.

We are in the later phases of the development of our own corporate office facility in Durango, which will replace our distributed leased space in the Durango Tech Center. We estimate the completion of this project in 2014.

We operate data centers in co-location facilities provided by third parties in Aurora, Colorado and Atlanta, Georgia, where we host most of our core processing systems, and we manage our own data center facility in Durango, Colorado.

We believe our existing facilities are adequate to support our existing operations and, as needed, we will be able to obtain suitable additional facilities on commercially reasonable terms.

Intellectual Property

Many of our products and services are based on proprietary software and related payment systems solutions. We rely on a combination of patent, copyright, trademark and trade secret laws, as well as employee and third-party non-disclosure, confidentiality and other types of contractual arrangements to establish, maintain and enforce our intellectual property rights in our technology, including with respect to our proprietary rights related to our products and services. We also rely in part

 

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on licenses of proprietary software and solutions from third-party vendors, which are integrated into our product and services offerings. Additionally, we have six U.S. pending patent applications. These patents generally relate to systems and methods related to payment system and associated product functionality. We own a number of trademarks, including Mercury®, Mercury Payment Systems®, MercuryPay®, MercuryGift®, MercuryAnyware®, MercuryMailTM, MercuryLoyaltyTM and MercuryActivateTM. We also own a number of domain names, including mercurypay.com. Although we rely in part on the foregoing legal and contractual protections, we believe that factors such as the technological and creative skills of our personnel, creation of new products, services, features and functionality and frequent enhancements to our solutions are larger contributors to our success in the marketplace.

Legal Proceedings

On January 29, 2014, Heartland Payment Systems, Inc. (“Plaintiff”), a competitor in the payment processing industry, filed a complaint in the U.S. District Court for the Northern District of California against Mercury Payment Systems, LLC. Asserting claims under the federal Lanham Act and California unfair competition laws, Plaintiff primarily alleges that we engage in false advertising and deceptive and unfair business practices related to the way in which we bill our merchants and claims that we intentionally interfered with Plaintiff’s contractual relations and business relationships with its merchants and its future economic opportunities by inducing existing and prospective merchants of Plaintiff to sever their relationships with Plaintiff and instead engage our services. Plaintiff seeks various damages, including compensatory damages, restitution or disgorgement of profits, treble, punitive, or exemplary damages and costs and attorneys’ fees. Plaintiff also seeks an order enjoining certain allegedly unlawful business practices. Our answer or responsive pleading is due April 1, 2014, and we intend to vigorously defend against this suit.

From time to time we are involved in various other litigation matters and disputes arising in the ordinary course of our business. We believe that none of these other matters, either individually or in the aggregate, currently is material to us.

 

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MANAGEMENT

Executive Officers and Directors

The following table sets forth information about our directors and executive officers as of March 15, 2014:

 

Name

   Age     

Position

Matt Taylor

     38       Chief Executive Officer

Karsten Voermann

     44       Chief Financial Officer

Ross Agre

     45       Chief Legal Officer

Andrew Patterson

     43       Chief Technology Officer

John Berkley

     41       Senior Vice President, Product

Randall Clark

     46       Senior Vice President, Marketing

Pattie Money

     57       Senior Vice President, Human Resources

Brett Narlinger

     43       Senior Vice President, Sales

Marc Katz

     53       Director, Chairman of the Board of Directors

Michael Afergan

     35       Director

Michael Bingle

     41       Director

Robert Frankfurt

     48       Director

Charles Giancarlo

     56       Director

Glenn Hutchins

     58       Director

Jeffrey Katz

     50       Director

Joseph Osnoss

     36       Director

Laurence Stone

     48       Director

Set forth below is a brief description of the business experience of the directors and executive officers. All of our officers serve at the discretion of our board of directors.

Matt Taylor has been our Chief Executive Officer since May 2009. Prior to becoming Chief Executive Officer, Mr. Taylor served in various positions from October 2003 to May 2009, including as our Chief Operating Officer, Senior Vice President of Sales and Marketing and Vice President of Sales. Mr. Taylor is a member of the Colorado Innovation Network (COIN) board of directors. Mr. Taylor also serves on Colorado’s Technology Industry CEO Steering Committee, guiding strategy for Colorado’s tech industry development. Mr. Taylor graduated from Fort Lewis College. Mr. Taylor was an Ernst and Young Entrepreneur of the Year award winner for 2012. He has been named by ColoradoBiz Magazine as one of the top 5 Most Influential Young Professionals and as a finalist for its CEO of the Year Award. Mr. Taylor’s detailed knowledge of our operations, finances, strategies and industry qualify him to serve as our Chief Executive Officer.

Karsten Voermann has been our Chief Financial Officer since October 2010. Before joining us, Mr. Voermann led finance and operations at ContentGuard, Inc. from 2006 to 2010 and CPA2Biz, Inc. until 2006. Before that, Mr. Voermann held financial, corporate development, and strategy-focused positions at Microsoft Inc., Bain & Company and McKinsey & Company. Mr. Voermann holds a B.A. from the University of Western Ontario and an M.B.A. from Harvard Business School. He is also a Certified Public Accountant.

Ross Agre became our General Counsel and Secretary in April 2012 and was named our Chief Legal Officer in December 2013. Mr. Agre served as Vice President and Deputy General Counsel for West Corporation from June 2008 to April 2012, General Counsel for Remonov Capital, Inc. from May 2006 to May 2008 and General Counsel for Booth Creek Ski Holdings, Inc. from September 2001 to April 2006. From October 1994 to September 2001, Mr. Agre was as an associate with Milbank,

 

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Tweed, Hadley & McCloy, LLP. Mr. Agre holds an A.B. from Dartmouth College and a J.D. from Columbia Law School.

Andrew Patterson has been our Chief Technology Officer since January 2014. Before joining us, Mr. Patterson was Vice President of Payment Systems and Emerging Product at Moneris Solutions, where he worked from January 2006 to November 2013. Previously, Mr. Patterson held various positions at Paradata Systems, including Director of Software Development, from 1996 to 2004. Andrew holds a B.A. in Philosophy and a B.S. in Computer Science from Dalhousie University and an M.B.A. from Queens University.

John Berkley has been our Senior Vice President, Product since March 2012. Before joining us, Mr. Berkley held several executive leadership positions at Responsys, including Senior Vice President of Product, from October 2008 to March 2012. From January to October 2008, he served as Vice President, Product Management and Marketing, and then Chief Executive Officer at Revcube, a provider of digital marketing technology and services. He served as Director of Product Management at Tealeaf (an IBM company), a provider of ecommerce software, from 2006 to 2008. Earlier in his career, Mr. Berkley held product leadership positions at Oracle Corporation and Internet Profiles, Inc. Mr. Berkley graduated with a B.A. from Williams College and received an M.B.A. from Harvard Business School.

Randall Clark has been our Senior Vice President, Marketing since February 2013. Before joining us, Mr. Clark was Chief Marketing Officer of UC4 Software from May 2011 to February 2013, Chief Marketing Officer of Platform Computing from March 2009 to March 2011 and Vice President, Marketing of Symyx Technologies from November 2005 to November 2008. Mr. Clark has a B.A. from the University of Pennsylvania and received an M.B.A. from Harvard Business School.

Pattie Money has been our Senior Vice President, Human Resources since May 2013. Before joining us, Ms. Money spent 13 years at Monotype Imaging Inc., the last seven years as Vice President of Human Resources. Ms. Money holds a B.A. from the University of Memphis and an M.S. in Human Resources Development from Villanova University.

Brett Narlinger has been our Senior Vice President, Sales since June 2013. Before joining us, Mr. Narlinger was the Executive Vice President of Sales and a founding executive of Bank of America Merchant Services from June 2009 to December 2012. Mr. Narlinger also held various leadership roles, overseeing all enterprise and national portfolio accounts, with First Data Corporation from October 1994 to June 2009. Mr. Narlinger received a B.S. from Colorado State University.

Marc Katz has been a director and Chairman of the board of directors since June 2009. Mr. Katz co-founded Mercury in 2001 and served as our President and Chief Executive Officer from April 2006 to May 2009. From 1982 to 1991, Mr. Katz co-owned Graphicus, Inc., a Seattle-based software development firm, and in 1992 he founded Durango Computer, a technology training and consulting firm. Mr. Katz is the brother of Jeffrey Katz, one of our directors. Mr. Katz holds a degree in computer science from the State University of New York at Buffalo. Mr. Katz’s service as our President and Chief Executive Officer gave him an understanding of the financial and business issues relevant to us and makes him well-qualified to serve as the Chairman of the board of directors.

Michael Afergan has been a director since 2010. Dr. Afergan is currently the Senior Vice President and General Manager of the Web Experience Business Unit at Akamai Technologies, Inc. From 2005 to 2010, Dr. Afergan was the Chief Technology Officer at Akamai Technologies, Inc. He holds an A.B. from Harvard College, a S.M. from Harvard University, and a Ph.D. from MIT. Dr. Afergan’s experience in engineering and product organizations makes him well-qualified to serve as a member of the board of directors.

 

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Michael Bingle has been a director since April 2010. Mr. Bingle joined Silver Lake in 2000 and is a Managing Partner and Managing Director. Prior to joining Silver Lake in 2000, Mr. Bingle was a principal at Apollo Advisors, L.P., a large-scale and diversified private equity firm, and previously worked as an investment banker in the Leveraged Finance Group of Goldman, Sachs & Co. In addition, Mr. Bingle serves on the boards of directors of Gartner, Inc., Gerson Lehrman Group, Inc., Interactive Data Corporation, IPC Systems, Inc. and Virtu Financial, LLC and on the Annual Fund Executive Committee of Duke University’s School of Engineering. He is also a term member of the Council on Foreign Relations. Previously, Mr. Bingle was a director of Ameritrade Holding Corp., Datek Online Holdings, Inc. and Instinet, Inc. He holds a B.S.E. in Biomedical Engineering from Duke University. Mr. Bingle’s extensive experience in private equity, technology investing, large-scale mergers and acquisitions and his previous service on the boards of other companies add significant value to the board of directors.

Robert Frankfurt has been a director since 2010. Mr. Frankfurt is President of Myca Partners, Inc., a firm he founded in 2006 to invest in value-oriented, small cap, public U.S. companies. He was a Partner at Steel Partners from 1995 to 2000 and Vice President, Special Situations, at Sandell Asset Management in 2005. Mr. Frankfurt is also a director of Handy & Harman Ltd. He previously served on the boards of directors of Peerless Systems Corp from 2010 to 2012 and Puroflow, Inc. from 1999 to 2000. Mr. Frankfurt graduated from the Wharton School of Business with a B.S. in Economics and received an M.B.A. at the UCLA Anderson School of Management. As a member of the board of directors, Mr. Frankfurt contributes his financial knowledge, drawing from his background as a principal investor, restructuring manager and investment banker. Mr. Frankfurt’s current and past board experience also exposed him to best practices and approaches that are beneficial to the board of directors.

Charles Giancarlo has been a director since April 2010. Mr. Giancarlo is a Senior Advisor of Silver Lake and, from 2007 to 2013, was a Managing Director and a head of Value Creation of Silver Lake. Mr. Giancarlo was a senior executive at Cisco Systems (“Cisco”) from 1993 to 2007. He most recently served as Executive Vice President and Chief Development Officer of Cisco and President of Cisco-Linksys, leading the company’s overall product development and management activities. As Chief Development Officer, Mr. Giancarlo directed the activities of half of Cisco’s employees, and was directly responsible for Cisco’s expansion into a large number of new markets and technologies. His first position at Cisco was Vice President of Business Development, where he developed Cisco’s merger and acquisition strategy and practice. Mr. Giancarlo was interim CEO of Avaya Inc. from June 2008 to December 2008 and is currently the Chairman of its board of directors. In addition, he serves on the boards of directors of Accenture, Arista Networks, Imperva Inc., ServiceNow Inc. and Vantage Data Centers. He served on the boards of directors of Skype Limited from 2010 to 2011 and Netflix, Inc. from 2007 to 2012. Mr. Giancarlo holds a B.S. degree in Electrical Engineering from Brown University, an M.S. degree in Electrical Engineering from the University of California at Berkeley and an M.B.A. from Harvard Business School. Mr. Giancarlo contributes his financial and capital markets expertise and draws on his years of experience as a private equity investor and corporate executive. Mr. Giancarlo also brings his insight into the proper functioning and role of corporate boards of directors, gained through his years of service on various boards of directors.

Glenn Hutchins has been a director since 2010. Mr. Hutchins is a Co-Founder of Silver Lake. He is Chairman of the board of directors of SunGard Corp. and a director of the NASDAQ OMX Group, Inc. Previously, Mr. Hutchins was Chairman of the board of directors of Instinet, Inc. and a director of TD Ameritrade Holding Corp., Seagate Technology PLC, MCI, Inc., Gartner, Inc. and Sabre, Inc. He is an owner and member of the Executive Committee of the Boston Celtics basketball team. Mr. Hutchins is active in public and charitable service. He served President Clinton in both the transition and the White House as a special advisor on economic and healthcare policy. Mr. Hutchins is a director of the Harvard Management Company, which is responsible for the management of the university’s endowment. He is

 

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also the Chairman of the National Advisory Board, and the W.E.B. DuBois Institute for African and African American Research at Harvard. Mr. Hutchins is a trustee of the Lawrenceville School, the Brookings Institution and the New York-Presbyterian Hospital. He is also a member of the Advisory Council of the Hamilton Project, a director of the Partnership for New York City and a member of the Investors Advisory Committee on Financial Markets of the Federal Reserve Bank of New York. Mr. Hutchins holds an A.B. from Harvard College, an M.B.A. from Harvard Business School and a J.D. from Harvard Law School. Mr. Hutchins has an extensive career investing in and leading companies, which makes him well-qualified to serve as a director. His current and past board experience also exposed him to best practices and approaches that are beneficial to the board of directors.

Jeffrey Katz has been a director since December 2013. Mr. Katz co-founded Mercury in 2001 and served as our Chief Executive Officer from 2001 to April 2006 and as a director from 2001 to September 2011. Since 2006, Mr. Katz has been an investor in and advisor to startup technology companies. Mr. Katz is the brother of Marc Katz, one of our directors. In 2013, he and Marc Katz were inducted into the Retail Solutions Providers Association’s Hall of Fame for their contribution to the IPOS ecosystem. Mr. Katz holds a bachelor’s degree in Accounting from Binghamton University. Mr. Katz’s service as our co-founder and Chief Executive Officer and as a technology investor give him an understanding of sales and marketing issues relevant to our business and makes him well-qualified to serve as a member of our board of directors.

Joseph Osnoss has been a director since 2010. Mr. Osnoss is a Managing Director of Silver Lake, which he joined in 2002. He is currently based in London, where he helps to oversee the firm’s activities in Europe, the Middle East and Africa. Mr. Osnoss is a director of Global Blue, Interactive Data Corporation, Sabre Corporation and Virtu Financial, and previously served on the board of Instinet Incorporated. Prior to joining Silver Lake, Mr. Osnoss worked in investment banking at Goldman, Sachs & Co., where he focused on mergers and financings in technology and related industries. Mr. Osnoss graduated summa cum laude from Harvard College with an A.B. in Applied Mathematics-Economics and a citation in French language. He is a Visiting Professor at the London School of Economics, where he participates in teaching and research activities within the Department of Finance. Mr. Osnoss’ extensive experience investing in private equity and serving on the boards of other companies, both domestically and internationally, positions him to contribute meaningfully to our board of directors.

Laurence Stone has been a director since June 2006. Mr. Stone became an investor in Mercury in June 2006 and also was Senior Vice President of Business Development at Mercury from June 2006 to April 2010. Mr. Stone was a founder and the Chief Executive Officer of Card Payment Services, an independent sales organization based in New York City representing United Jersey Bank from 1992 to February 1997. Mr. Stone was a founder and the Chief Executive Officer of Card Payment Systems from February 1997 to May 2002. Mr. Stone holds a B.S. in Economics with a concentration in finance from the Wharton School of Business at the University of Pennsylvania. Mr. Stone’s extensive experience in the merchant payment processing industry provides strategic insight to our reseller-centric initiatives, making him well-qualified to serve as a member of our board of directors.

Board of Directors

Our business and affairs are managed under the direction of our board of directors. Our board of directors currently consists of Messrs. Marc Katz, Afergan, Bingle, Frankfurt, Giancarlo, Hutchins, Jeffrey Katz, Osnoss, and Stone with Marc Katz serving as Chairman. The composition of our board of directors prior to this offering was governed pursuant to the terms of the existing limited liability company agreement of Mercury Payment Systems, LLC, pursuant to which Messrs. Bingle, Giancarlo, Hutchins, Osnoss and Afergan were designated by affiliates of Silver Lake, and Messrs. Jeffrey Katz, Marc Katz, Stone and Frankfurt were designated by affiliates of the Founders. Following the completion of this offering, we expect our board of directors to initially consist of              directors.

 

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Pursuant to the stockholders agreement described under “Certain Relationships and Related Party Transactions—Stockholders Agreement,” so long as affiliates of Silver Lake own, in the aggregate, (1) at least 35% of the shares of Class A common stock outstanding (assuming that all outstanding limited liability company units of Mercury Payment Systems, LLC that are exchangeable for shares of Class A common stock are so exchanged (the calculation of the number of shares outstanding on such basis, an “As-Exchanged Basis”)) immediately prior to the consummation of this offering, affiliates of Silver Lake will be entitled to nominate four directors, (2) less than 35% but at least 25% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, they will be entitled to nominate three directors, (3) less than 25% but at least 12.5% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, they will be entitled to nominate two directors and (4) less than 12.5% but at least 5% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, they will be entitled to nominate one director. Under the stockholders agreement, so long as the Founders and their respective affiliates own, in the aggregate, (1) at least 25% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, the Founders and their respective affiliates will be entitled to nominate three directors, (2) less than 25% but at least 12.5% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, they will be entitled to nominate two directors and (3) less than 12.5% but at least 5% of the shares of Class A common stock outstanding on an As-Exchanged Basis immediately prior to the consummation of this offering, they will be entitled to nominate one director. Directors nominated by affiliates of Silver Lake under the stockholders agreement are referred to in this prospectus as “Silver Lake Directors,” and directors nominated by the Founders and their affiliates under the stockholders agreement are referred to in this prospectus as “Founder Directors.” The initial Silver Lake Directors will be                     , and the initial Founder Directors will be                     .

In addition, (i) so long as affiliates of Silver Lake are entitled to nominate at least one Silver Lake Director, they will have the right to nominate one independent member to our board of directors, which independent director shall initially be                     , and (ii) so long as the Founders and their respective affiliates are entitled to nominate at least one Founder Director, they will have the right to nominate one independent member to our board of directors, which independent director shall initially be                     . The affiliates of Silver Lake and the affiliates of the Founders that are parties to the stockholders agreement have agreed to vote their shares in favor of the directors nominated by the other in accordance with the stockholders agreement.

Under the stockholders agreement, so long as either affiliates of Silver Lake or the Founders and their respective affiliates are entitled to nominate directors, they must give notice to us of their respective nominee(s) at least 60 days before the one-year anniversary of the preceding annual meeting of stockholders. However, if either group fails to deliver such notice, they will be deemed to have nominated the director or directors previously nominated or designated by them that then serve on our board of directors.

In accordance with our amended and restated certificate of incorporation and the stockholders agreement, each of which will be in effect upon the closing of this offering, our board of directors will be divided into three classes with staggered three-year terms. At each annual meeting of stockholders after the initial classification, the successors to the directors whose terms will then expire will be elected to serve from the time of election and qualification until the third annual meeting following their election. Our directors will be divided among the three classes as follows:

 

    Our class I directors will be              and              and their term will expire at the annual meeting of stockholders to be held in 2015.

 

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    Our class II directors will be              and              and their term will expire at the annual meeting of stockholders to be held in 2016.

 

    Our class III directors will be              and              and their term will expire at the annual meeting of stockholders to be held in 2017.

Any additional directorships resulting from an increase in the number of directors will be distributed among the three classes so that, as nearly as possible, each class will consist of one-third of the directors. This classification of our board of directors may have the effect of delaying or preventing a change of our management or a change in control.

Role of Board of Directors in Risk Oversight

The board of directors has extensive involvement in the oversight of risk management related to us and our business, and accomplishes this oversight through the regular reporting by the Audit Committee. The Audit Committee represents the board of directors by periodically reviewing our accounting, reporting and financial practices, including the integrity of our financial statements, the surveillance of administrative and financial controls and our compliance with legal and regulatory requirements. Through its regular meetings with management, including the finance, legal and internal audit functions, the Audit Committee reviews and discusses all significant areas of our business and summarizes for the board of directors all areas of risk and the appropriate mitigating factors. In addition, our board of directors receives periodic detailed operating performance reviews from management.

Controlled Company Exemption

After the completion of this offering, affiliates of Silver Lake and the Founders will control an aggregate of approximately     % of the voting power of our outstanding common stock entitled to vote for the election of directors (or approximately     % if the underwriters exercise in full their option to purchase additional shares). As a result, we will be a “controlled company” under the Nasdaq corporate governance standards. Under these standards, a company of which more than 50% of the voting power is held by an individual, group or another company is a “controlled company” and may elect not to comply with certain corporate governance standards, including (1) the requirement that a majority of the board of directors consist of independent directors, (2) the requirement that the compensation of our executive officers be determined, or recommended to the board of directors for determination, by independent directors constituting a majority of the independent directors of the board in a vote in which only independent directors participate or by a compensation committee comprised solely of independent directors, and (3) the requirement that director nominees be selected, or recommended to the board of directors for selection, by independent directors constituting a majority of the independent directors of the board in a vote in which only independent directors participate or by a nomination committee comprised solely of independent directors. Following this offering, we intend to utilize these exemptions. As a result, following this offering, we will not have a majority of independent directors on our board of directors, and we will not have a nominating and corporate governance committee or a compensation committee that is composed entirely of independent directors. Accordingly, you will not have the same protections afforded to stockholders of companies that are subject to all of the Nasdaq corporate governance standards. In the event that we cease to be a “controlled company,” we will be required to comply with these provisions within the transition periods specified in the Nasdaq corporate governance rules.

 

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Committees of the Board of Directors

After the completion of this offering, the standing committees of our board of directors will consist of an Audit Committee and a Compensation Committee composed of the directors set forth below. Under the stockholders agreement, any other committee of our board of directors, including any nominating and corporate governance committee, will generally consist of at least one Silver Lake Director (but only if affiliates of Silver Lake are then entitled to nominate at least one director), an equal or lesser number of Founder Directors (but only if the Founders and their respective affiliates are then entitled to nominate at least one director) and such additional members as determined by our board of directors, with exceptions for special committees and requirements of law and stock exchange rules.

Our Chief Executive Officer and other executive officers will regularly report to the non-executive directors and the Audit and Compensation Committees to ensure effective and efficient oversight of our activities, and to assist in proper risk management and the ongoing evaluation of management controls. The director of internal audit will report functionally and administratively to our Chief Financial Officer and directly to the Audit Committee. We believe that the leadership structure of our board of directors provides appropriate risk oversight of our activities given the controlling interests held by affiliates of Silver Lake and the Founders.

Audit Committee

The members of our Audit Committee are appointed by our board of directors pursuant to the terms of the stockholders agreement. Under the applicable Nasdaq standards, there are heightened requirements for determining whether the members of the Audit Committee are independent. Pursuant to applicable SEC and Nasdaq rules, we are required to have one independent Audit Committee member upon the listing of our Class A common stock on the Nasdaq Global Select Market, a majority of independent Audit Committee members within 90 days of listing and an Audit Committee consisting entirely of independent members within one year of listing.

Pursuant to the stockholders agreement, during the one-year period that will commence on the date of effectiveness of the registration statement of which this prospectus forms a part, the Audit Committee will consist of the following three directors: one independent director (who will be considered an “audit committee financial expert” under the Sarbanes-Oxley Act and the rules and regulations of the SEC) nominated by our board of directors, one director designated by Silver Lake (but only if affiliates of Silver Lake are then entitled to nominate at least one director) and one independent director nominated by the Founders and their respective affiliates pursuant to the stockholders agreement (but only if the Founders and their respective affiliates are then entitled to nominate at least one director). Upon the completion of such one-year period, the Audit Committee will consist of at least three independent directors (at least one of whom will be considered an “audit committee financial expert” under the Sarbanes-Oxley Act and the rules and regulations of the SEC) nominated by our board of directors.

Upon the completion of this offering, our Audit Committee will consist of                     ,                      and                     , with                      serving as Chairman.                      is considered an “audit committee financial expert” under the Sarbanes-Oxley Act and the rules and regulations of the SEC, Mr.                      will be the designee of the Silver Lake affiliates, and Mr.                      will be the independent director designated by the Founders and their respective affiliates. The board of directors has determined that Messrs.                      qualify as independent directors within the meaning of the Nasdaq corporate governance standards and that Messrs.                      qualify as independent under the heightened independence requirements for audit committees.

We believe the experience and education of the directors on our Audit Committee qualify them to monitor the integrity of our financial statements, compliance with legal and regulatory requirements, the public accountant’s qualifications and independence, our internal controls and procedures for financial

 

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reporting and our compliance with applicable provisions of the Sarbanes-Oxley Act and the rules and regulations thereunder. In addition, the Audit Committee has the ability on its own to retain independent accountants, financial advisors or other consultants, advisors and experts whenever it deems appropriate.

The purpose of the Audit Committee will be to prepare the audit committee report required by the SEC to be included in our proxy statement, and to assist our board of directors in overseeing and monitoring (1) the quality and integrity of our financial statements, (2) our compliance with legal and regulatory requirements, (3) our independent registered public accounting firm’s qualifications, independence and performance and (4) the performance of our internal audit function.

Our board of directors will adopt a written charter for the Audit Committee, which will be available on our website before the completion of this offering.

Compensation Committee

The members of our Compensation Committee are appointed by our board of directors. Upon the completion of this offering, our Compensation Committee will consist of              ,              and             , with                      serving as Chairman.

The purpose of the Compensation Committee is to assist our board of directors in discharging its responsibilities relating to (1) setting our compensation program and compensation of our executive officers and directors, (2) monitoring our incentive and equity-based compensation plans and (3) preparing the compensation committee report required by the SEC to be included in our proxy statement.

Our board of directors will adopt a written charter for the Compensation Committee, which will be available on our website before the completion of this offering.

Compensation Committee Interlocks and Insider Participation

Compensation decisions are made by our board of directors and Compensation Committee. None of our executive officers has served as a member of the compensation committee (or other committee serving an equivalent function) of any other entity, whose executive officers served as a member of our board of directors or Compensation Committee.

Messrs.              and              are managing directors of certain entities affiliated with Silver Lake. As of December 31, 2013, affiliates of Silver Lake control 62% of the voting power for the election of our directors.

Nominating and Corporate Governance Committee

Because we will be a “controlled company” within the meaning of the Nasdaq corporate governance standards, we will not be required to, and will not, have a nominating and corporate governance committee. While we are a controlled company, our board of directors will identify and evaluate potential candidates for nomination as a director, and recommend any such candidates to our board of directors.

If and when we are no longer a controlled company, we will be required to establish a nominating and corporate governance committee. We anticipate that such a nominating and corporate governance committee would consist of three directors. As required by the rules of the SEC and listing standards of the Nasdaq, the nominating and corporate governance committee would consist of a majority of independent directors. This committee would identify, evaluate and recommend qualified nominees to

 

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serve on our board of directors, develop and oversee our internal corporate governance processes and maintain a management succession plan. Upon formation of a nominating and corporate governance committee, we expect to adopt a nominating and corporate governance committee charter defining the committee’s primary duties in a manner consistent with the rules of the SEC and applicable Nasdaq standards.

Code of Business Conduct and Ethics

We will adopt a new Code of Business Conduct and Ethics (the “Code of Ethics”) applicable to all employees, executive officers and directors that addresses legal and ethical issues that may be encountered in carrying out their duties and responsibilities, including the requirement to report any conduct they believe to be a violation of the Code of Ethics. The Code of Ethics will be available on the Corporate Governance page of our internet website, www.mercurypay.com, before the completion of this offering. The information available on or through our internet website is not part of this prospectus. If we ever were to amend or waive any provision of our Code of Ethics that applies to our principal executive officer, principal financial officer, principal accounting officer or any person performing similar functions, we intend to satisfy our disclosure obligations with respect to any such waiver or amendment by posting such information on our internet website set forth above rather than by filing a Current Report on Form 8-K.

 

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EXECUTIVE COMPENSATION

Summary Compensation Table

Our named executive officers for 2013, which consist of our Chief Executive Officer and our two most highly-compensated executive officers other than our Chief Executive Officer, are:

 

    Matt Taylor, Chief Executive Officer;

 

    Randall Clark, Senior Vice President, Marketing; and

 

    Brett Narlinger, Senior Vice President, Sales.

The following table summarizes the total compensation paid to or earned by our named executive officers during the years ended December 31, 2013 and 2012.

 

Name and Principal

Position

  Year     Salary
($)
    Bonus
($)
    Option
Awards

($)(1)
    Non-Equity
Incentive Plan
Compensation

($)(2)
    All Other
Compensation

($)
    Total
($)
 

Matt Taylor

    2013        300,000        —          558,600        150,343        23,747 (3)      1,032,690   

    Chief Executive Officer

    2012        300,000        —          —          80,677        22,760        403,437   

Randall Clark(4)

    2013        199,449 (5)      —          453,881        54,316        10,588 (6)      718,234   

    Senior Vice President, Marketing

             

Brett Narlinger(7)

    2013        148,346 (8)      150,000 (9)      819,280        62,964        —          1,180,590   

    Senior Vice President, Sales

             

 

(1) Amounts included in this column for 2013 reflect the aggregate grant date fair value of time-vested options and performance-vested options granted during 2013, calculated in accordance with FASB ASC Topic 718, utilizing the assumptions discussed in Note 10 to our consolidated financial statements for the year ended December 31, 2013. We have determined that achieving the performance condition on performance-vested options is not probable. Accordingly, we have not included any amount with respect to these awards in the “Option Awards” column. The maximum value of these performance-vested options is not determinable because the value is dependent on the value of the Class A units at the time the performance condition is achieved.
(2) Amounts included in this column represent performance-based annual cash bonuses that were earned during the specified year and paid in the following year. See “Narrative Disclosure to Summary Compensation Table—2013 Executive Incentive Plan.”
(3) The amount shown includes $16,097 in reimbursement for health care premiums paid by Mr. Taylor and $7,650 in 401(k) matching contributions.
(4) Mr. Clark commenced employment as our Senior Vice President, Marketing, on February 25, 2013.
(5) The amount shown reflects the portion of Mr. Clark’s annual base salary earned for the period from February 25, 2013 through December 31, 2013.
(6) The amount shown includes $10,000 representing our payment to Mr. Clark for the purchase of a vehicle pursuant to his offer letter dated January 11, 2013, and $588 in 401(k) matching contributions.
(7) Mr. Narlinger commenced employment as our Senior Vice President, Sales, on June 26, 2013.
(8) The amount shown reflects the portion of Mr. Narlinger’s annual base salary earned for the period from June 26, 2013 through December 31, 2013.
(9) The amount shown represents a signing bonus paid by us pursuant to Mr. Narlinger’s offer letter dated June 14, 2013.

 

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Narrative Disclosure to Summary Compensation Table

Employment Offer Letters

We entered into “at-will” employment offer letters with Messrs. Clark and Narlinger at the time of hire.

Mr. Taylor does not have an employment agreement with us. Mr. Taylor’s annual base salary is $300,000, and he is eligible for an annual performance bonus, with a target annual bonus equal to $200,000. In addition, we reimburse Mr. Taylor for the premiums paid by him under our health care plan.

Randall Clark

On January 11, 2013, we entered into an employment offer letter with Randall Clark, our Senior Vice President, Marketing. Mr. Clark’s offer letter provides that his employment with us is “at-will” and may be terminated by either party at any time.

Mr. Clark’s annual base salary pursuant to his offer letter is $235,000. In addition, Mr. Clark is eligible for an annual performance bonus. For 2013, Mr. Clark’s target annual bonus is equal to $100,000 (prorated for his period of employment).

In addition to his annual base salary, Mr. Clark’s offer letter provided for certain payments and allowances associated with business travel from his home office in California to our Durango and Denver locations, including a payment of $15,000 for the purchase of a vehicle, hotel expense reimbursement for the first two months of employment and a monthly housing allowance thereafter and flight cost reimbursement. Effective as of Mr. Clark’s date of hire, we agreed to provide Mr. Clark with a payment of $10,000 for the purchase of a vehicle (which was paid in March 2013) and reimbursement of reasonable travel expenses for business travel from his home office in California to our Durango and Denver locations in accordance with our expense reimbursement policy generally applicable to all employees. As such, Mr. Clark agreed that he was not entitled to payment of the additional $5,000 for the purchase of a vehicle or the monthly housing allowance.

Pursuant to Mr. Clark’s offer letter, on August 26, 2013, we granted Mr. Clark an option to purchase a total of 324,201 Class C units of Mercury Payment Systems, LLC (“Class C Units”) at an exercise price of $6.60 per Class C Unit pursuant to our 2010 Incentive Plan, including 216,134 time-vested options and 108,067 performance-vested options, the terms of which are described in further detail under “—Equity Incentive Plan Awards” below.

Brett Narlinger

On June 14, 2013, we entered into an employment offer letter with Brett Narlinger, our Senior Vice President, Sales. Mr. Narlinger’s offer letter provides that his employment with us is “at-will” and may be terminated by either party at any time.

Mr. Narlinger’s annual base salary pursuant to his offer letter is $290,000. In addition, Mr. Narlinger is eligible for an annual performance bonus. For 2013, Mr. Narlinger’s target annual bonus is equal to $160,000 (prorated for his period of employment). In addition to the annual performance bonus, Mr. Narlinger has an annual incentive opportunity of up to $100,000 (prorated for 2013) based on our achievement of certain specified organizational performance metrics.

In addition to his annual base salary, Mr. Narlinger received a signing bonus of $150,000 paid in July 2013. If Mr. Narlinger voluntarily terminates his employment with us within the first year of his employment with us, he will be required to repay 100% of the signing bonus; if such termination occurs within the second year of his employment with us, he will be required to repay 50% of the signing bonus.

 

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Pursuant to Mr. Narlinger’s offer letter, on August 26, 2013, we granted Mr. Narlinger an option to purchase a total of 585,200 Class C Units at an exercise price of $6.60 per Class C Unit pursuant to our 2010 Incentive Plan, including 390,133 time-vested options and 195,067 performance-vested options, the terms of which are described in further detail under “—Equity Incentive Plan Awards” below.

2013 Executive Incentive Plan

All of our named executive officers participate in our 2013 Executive Incentive Plan. The 2013 Executive Incentive Plan provides for annual cash bonus payments to eligible participants based upon our achievement of corporate goals including financial goals with respect to EBITDA, sales goals and in-house processing goals and the participant’s achievement of individual performance objectives established by our compensation committee. Our compensation committee retains discretion to increase or decrease payouts under the 2013 Executive Incentive Plan after taking into consideration the level of achievement the corporate goals, the individual performance objectives and other significant achievements by the executive during the fiscal year. The bonuses are not payable pursuant to any formal plan document. Following the end of the fiscal year, our compensation committee will determine bonus payouts for the fiscal year. Actual bonuses are generally paid to participants during the second quarter of the subsequent fiscal year. Each participant in the 2013 Executive Incentive Plan has an annual bonus target, which is $200,000 for Mr. Taylor, $100,000 for Mr. Clark and $160,000 for Mr. Narlinger. Actual bonuses earned under the 2013 Executive Incentive Plan were $150,343 for Mr. Taylor, $54,316 for Mr. Clark and $62,964 for Mr. Narlinger.

In addition to the 2013 Executive Incentive Plan, Mr. Narlinger is eligible to receive an additional annual cash incentive bonus of up to $100,000 (prorated for 2013) based on our achievement of certain specified organizational performance metrics associated with revenue and merchant growth during the fiscal year. Any such incentive bonus earned by Mr. Narlinger for the fiscal year is expected to be paid during the second quarter of the subsequent fiscal year.

Equity Incentive Plan Awards

Prior to the completion of this offering, our employees and executive officers are eligible to receive grants of awards under the 2010 Incentive Plan, as described below. During 2013, all options to purchase Class C Units were granted pursuant to the 2010 Incentive Plan. In connection with this offering, each option to purchase Class C Units will be converted into an option to purchase shares of our Class A common stock on a one-for-one basis. The 2010 Incentive Plan will be terminated upon completion of this offering and no further awards will be granted thereunder. Upon completion of this offering, existing options to purchase Class C Units granted under the 2010 Incentive Plan will be converted into options to purchase shares of our Class A common stock and such options will become subject to the terms of our 2014 Stock Plan. On and after the completion of this offering our employees and executive officers will be eligible to receive equity awards with respect to our Class A common stock pursuant to the 2014 Stock Plan, as described below.

Options to purchase Class C Units are subject to both time-based and performance-based vesting:

 

    The time-vested options will typically vest and become exercisable, subject to the participant’s continued employment through the applicable vesting date, with respect to 22.22% of the Class C Units subject to the option on the first anniversary of the vesting commencement date, and the remaining 77.78% of the Class C Units subject to the option will vest and become exercisable ratably on a quarterly basis over the following three and one-half years.

 

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    The performance-vested options typically become vested and exercisable, subject to the participant’s continued employment through the applicable vesting date and based on a specified participation percentage with respect thereto, upon each sale by SL Quicksilver and its transferees of their Class A Units (each such sale, a “liquidity event”) following the first date on which SL Quicksilver and its transferees no longer beneficially own, in the aggregate, at least 75% of the Class A Units that were owned by SL Quicksilver on April 30, 2010 and for which SL Quicksilver and its transferees achieve a specified return on their investment in Mercury.

All options are subject to fully accelerated vesting if a change in control (as defined below) occurs and the participant’s employment with us is terminated by us without cause within 12 months following such change in control, provided, that the 2010 Plan Committee does not take certain actions to otherwise accelerate the vesting of the options, cancel the options for fair value or provide for the termination of such options pursuant to the 2010 Incentive Plan.

In 2013, we granted time-vested and performance-vested options to our named executive officers as follows: Mr. Taylor was granted a total of 532,000 options, including 266,000 time-vested options and 266,000 performance-vested options; Mr. Clark was granted a total of 324,201 options, including 216,134 time-vested options and 108,067 performance-vested options; and Mr. Narlinger was granted a total of 585,200 options, including 390,133 time-vested options and 195,067 performance-vested options.

For purposes of the options held by our named executive officers, “cause” is generally defined in the option agreement as the occurrence of any one or more of the following events: (i) the participant’s engagement in misconduct which is materially injurious to us or our affiliates; (ii) the participant’s continued failure to substantially perform the participant’s duties to us; (iii) the participant’s repeated dishonesty in the performance of the participant’s duties to us; (iv) the participant’s commission of an act or acts constituting any (x) fraud against, or misappropriation, or embezzlement from us or any of our affiliates, (y) felony or any other crime involving moral turpitude or (z) offense that could result in a jail sentence of at least 30 days; or (v) the participant’s material breach of any confidentiality covenant entered into between the participant and us, the restrictive covenants set forth in the option agreement or the provisions of the limited liability company agreement of Mercury Payment Systems, LLC that the participant is subject to.

Pursuant to our 2010 Incentive Plan, “change in control” means any sale of the Company (whether by merger, consolidation, recapitalization, reorganization, or sale of securities pursuant to which more than 50% of our voting units are disposed of), or a sale of all or substantially all of our assets, in one transaction or a series of related transactions.

The option agreements governing the options held by our named executive officers include a non-competition covenant that applies during the term of employment and for a two-year period thereafter.

 

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Outstanding Equity Awards at 2013 Fiscal Year-End

The following table sets forth outstanding equity awards held by our named executive officers at December 31, 2013.

 

     Option Awards  

Name

   Number of
Securities
Underlying
Unexercised
Options

(#)
Exercisable
     Number of
Securities
Underlying
Unexercised
Options

(#)
Unexercisable
    Equity
Incentive Plan
Awards:
Number of
Securities
Underlying
Unexercised
Unearned
Options

(#)
    Option Exercise
Price

($)
    Option Expiration
Date
 

Matt Taylor

     —           266,000 (1)      266,000 (2)      6.60        9/9/2023   
     106,041         106,048 (3)      —          4.61 (4)      7/12/2021   
     —           —          318,134 (2)      4.00 (4)      7/12/2021   

Randall Clark

     —           216,134 (5)      108,067 (2)      6.60        8/26/2023   

Brett Narlinger

     —           390,133 (6)      195,067 (2)      6.60        8/26/2023   

 

(1) Time-vested options granted on September 9, 2013, of which 22.22% vest on September 9, 2014, and the remaining 77.78% vest ratably on a quarterly basis over the following three and one-half years.
(2) For a description of the vesting schedule for performance-vested options, see “Narrative Disclosure to Summary Compensation Table—Equity Incentive Plan Awards.”
(3) Time-vested stock options granted on July 12, 2011 of which 22.22% vested on July 12, 2012, and the remaining 77.78% vest ratably on a quarterly basis through January 12, 2016.
(4) In each of July 2011 and October 2012, our board of directors approved a repricing of all outstanding options to purchase Class C Units in connection with an extraordinary distribution to our members. As such, we repriced the time-vested options and performance-vested options held by Mr. Taylor from an initial exercise price per unit of $6.82 to $4.61 and $4.00, respectively. All other terms and conditions of the repriced options remain the same.
(5) Time-vested options granted on August 26, 2013, of which 22.22% vest on February 25, 2014, and the remaining 77.78% vest ratably on a quarterly basis over the following three and one-half years.
(6) Time-vested options granted o