10-K 1 d281235d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-K

 

 

(Mark One)

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2011

Or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number: 001-35125

 

 

RESPONSYS, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   77-0476820

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

900 Cherry Avenue, 5th Floor

San Bruno, California 94066

(Address of principal executive offices, including zip code)

(650) 745-1700

(Registrant’s telephone number, including area code)

 

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

Common Stock, par value $0.0001 per share  

The NASDAQ Stock Market LLC

(NASDAQ Global Select Market)

Securities registered under Section 12(g) of the Act:

None

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.    ¨

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

 

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)    Yes  ¨    No  x

As of June 30, 2011, the last business day of the registrant’s most recently completed second fiscal quarter, the aggregate market value of the registrant’s common stock held by non-affiliates was approximately $393.9 million.

As of February 29, 2012, there were 47,900,948 shares of the registrant’s common stock outstanding.

 

 

Documents Incorporated by Reference

Portions of the registrant’s Proxy Statement for its 2012 Annual Meeting of Stockholders are incorporated by reference in Part III of this report. Such proxy statement will be filed with the Securities and Exchange Commission within 120 days of the registrant’s fiscal year ended December 31, 2011.

 

 

 


Table of Contents

RESPONSYS INC.

FORM 10-K

For the Year Ended December 31, 2011

TABLE OF CONTENTS

 

Part I

     
Item 1.    Business      1   
Item 1A.    Risk Factors      13   
Item 1B.    Unresolved Staff Comments      31   
Item 2.    Properties      31   
Item 3.    Legal Proceedings      31   
Item 4.    Mine Safety Disclosures      31   

Part II

     
Item 5.   

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     32   
Item 6.    Selected Consolidated Financial Data      35   
Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations      37   
Item 7A.    Quantitative and Qualitative Disclosure About Market Risk      56   
Item 8.    Financial Statements and Supplementary Data      57   
Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure      89   
Item 9A.    Controls and Procedures      89   
Item 9B.    Other Information      90   

Part III

     
Item 10.    Directors, Executive Officers and Corporate Governance      91   
Item 11.    Executive Compensation      91   
Item 12.   

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     91   
Item 13.    Certain Relationships and Related Transactions and Director Independence      91   
Item 14.    Principal Accounting Fees and Services      91   

Part IV

     
Item 15.    Exhibits, Financial Statement Schedules      92   
SIGNATURES      93   


Table of Contents

Part I.

This Annual Report on Form 10-K contains “forward-looking statements” as defined under securities laws. Many of these statements can be identified by the use of terminology such as “believes,” “expects,” “anticipates,” “plans,” “may,” “will,” “projects,” “continues,” “estimates,” “potential,” “opportunity” and similar expressions. These forward-looking statements may be found in Item 1, Business; Item 1A, Risk Factors; Item 3, Legal Proceedings; Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations; and other sections of this Annual Report on Form 10-K. Our actual results or experience could differ significantly from the forward-looking statements. Factors that could cause or contribute to these differences include those discussed in Item 1A, Risk Factors, as well as those discussed elsewhere in this Annual Report on Form 10-K. You should carefully consider that information before you make an investment decision.

You should not place undue reliance on these statements, which speak only as of the date that they were made. These cautionary statements should be considered in connection with any written or oral forward-looking statements that we may issue in the future. We do not undertake any obligation to release publicly any revisions to these forward-looking statements after completion of the filing of this Annual Report on Form 10-K to reflect later events or circumstances or to reflect the occurrence of unanticipated events.

Item 1. Business

Overview

Responsys is a leading provider of email and cross-channel marketing solutions that enable companies to engage in relationship marketing across the interactive channels that consumers are embracing today—email, mobile, social and the web. Our solution is comprised of our on-demand software and our professional services, all focused on enabling the marketing success of our customers. Our on-demand software, the Responsys Interact Suite, the core element of our solution, provides marketers with a set of integrated applications to create, execute, optimize and automate marketing campaigns.

The Responsys Interact Suite is an open and flexible software-as-a-service, or SaaS, platform. Our Interact Suite is comprised of several integrated applications that enable the design, management and automation of tasks and processes for executing email and cross-channel marketing campaigns. Our on-demand software can also be used with third-party applications and data from real-time sources, allowing our customers to deliver targeted content to their customers and known prospects as part of their interactive marketing campaigns. We sell our on-demand software and professional services primarily through a direct sales force. We target enterprise and larger mid-market companies, and intend to expand our presence in the mid-market companies, that seek to implement more advanced marketing programs across interactive channels. As of December 31, 2011, we had 346 customers of varied size across a wide variety of industries, including retail and consumer, travel, financial services and technology.

For the years ended December 31, 2011, 2010 and 2009, our revenue was $134.9 million, $94.1 million and $66.6 million, representing year-over-year growth of 43% and 41% in 2011 and 2010, respectively. In addition, we generated net income of $8.0 million, $8.6 million and $5.9 million for the years ended December 31, 2011, 2010 and 2009, respectively.

Our Solution.

Our solution is comprised of our on-demand software and our professional services, all focused on enabling the marketing success of our customers.

Our on-demand software enables marketing organizations to automate, coordinate and efficiently execute interactive marketing activities, enabling timely and relevant communications with their customers throughout the customer lifecycle. Our focus on relationship marketing helps to enhance the revenue generation potential of

 

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our customers’ marketing investments. Our on-demand software can be used with a variety of third-party applications and data sources and to help marketing organizations utilize a wide range of customer data in their marketing campaigns. Marketers can use this customer data to be more timely and relevant in their messaging, which can lead to a higher response rate and a greater return on their marketing investments.

To help maximize results, we also provide a range of professional services to assist, augment and provide strategic guidance to our customers’ marketing organizations. Together, our on-demand software and professional services provide the technology and expertise to enable successful relationship marketing.

The key benefits of our solution include:

 

   

Broad application suite. 

The Responsys Interact Suite provides marketers with a set of integrated applications for campaign management, automation of marketing programs, workflow management, tools for reporting and analysis, and data integration across the key interactive channels—email, mobile, social and the web.

 

   

Leading email and cross-channel campaign execution. 

Interact Campaign, the core application in our Interact Suite, is designed to help marketers effectively execute campaigns across email and other interactive channels to consumers who have given them permission to send marketing communications through those channels. Our applications allow marketers to design and deliver personalized content across each channel, and track and analyze the results. Forrester named Responsys as a leader in email marketing in The Forrester Wave: Email Marketing Vendors, Q1 2012.

 

   

Advanced campaign and program automation.

To manage the increased volume of communications and growing set of interactive channels, Interact Program gives marketers the ability to design, orchestrate and automate complex campaigns with multiple stages and across multiple channels with minimal IT resources. We believe our Interact Program application is a key differentiator for us.

 

   

Data model flexibility.

Unlike most alternative solutions that often require that a company’s data be transformed into a predefined format, our open relational data model allows our customers to easily use data from their internal systems and those of third-party providers for improved targeting and automation of marketing campaigns.

 

   

Commitment to the marketing success of our customers. 

We complement our on-demand software with a range of professional services to help drive marketing success for our customers. Furthermore, to align our success with that of our customers, our account managers work closely with our customers to help them achieve their marketing goals.

 

   

On-demand software model. 

We deliver our applications and functionality on-demand over the internet, with no hardware or software installation required by our customers. In using an on-demand platform, we are able to provide a reliable, cost-effective solution to our customers, and relieve them of the costs and burdens of an on-premise deployment that have often prevented marketers from executing complex, cross-channel marketing campaigns.

Our Products.

The Responsys Interact Suite is provided as a SaaS platform that helps companies engage in relationship marketing across the interactive channels that consumers are embracing today—email, mobile, social and the

 

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web. Unlike software that requires a company’s data to be transformed into a predefined format, our on-demand software is built on an open data model that allows our customers to use their existing data from their original sources and in their native formats to create more relevant and timely marketing programs.

Our Interact Suite is comprised of several integrated applications that enable the design, management and automation of tasks and processes for executing marketing campaigns across interactive channels such as email, mobile, social and the web. Customers have the option to purchase access to the entire Responsys Interact Suite or to specific applications within the suite. All of our components are delivered on-demand over the internet, with no hardware or software installation required by our customers. Our on-demand software can also be used with third-party applications and data from a variety of sources, allowing our customers to leverage existing data in their interactive marketing activities targeted to their existing customers.

The following diagram illustrates the key interactive channels and the various components of the Responsys Interact Suite:

 

LOGO

In combination, these components allow marketing teams to create, manage and automate required tasks and processes for executing email and other marketing campaigns across interactive channels.

Applications.

Each application in the Responsys Interact Suite performs a critical function for the interactive marketer.

 

   

Interact Program: Program Design and Automation.

Interact Program provides marketers with an integrated solution for visually designing, managing and automating multi-stage lifecycle marketing programs. Through an intuitive drag-and-drop interface and a library of pre-built program templates, Interact Program helps marketers engage in more strategic event- and dialogue-based communications with their customers. This application is designed for more complex and sophisticated interactions that involve multiple waves of content in a sequence, or that change dynamically in response to customer behavior. Key features and capabilities include:

 

   

a library of pre-built program templates, based on industry-specific best practices, that can be used to create marketing communications designed to achieve a range of business objectives; examples

 

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include encouraging customers who abandon a shopping cart to purchase the abandoned items and producing repeat customers;

 

   

a visual design interface that presents users with a menu of elements that they can use to design a marketing campaign by placing elements onto a blank screen, or canvas, and linking them together; examples of these elements include timers that indicate when to send an email and branching elements that allow communications to be individualized to a particular audience;

 

   

an ability to orchestrate the sending of messages to a recipient across different channels;

 

   

segmentation tools that allow for audiences within a marketing program to be split for testing or optimization purposes; and

 

   

real-time monitoring reports that display how customers are responding to programs.

 

   

Interact Campaign: Campaign Creation and Execution. 

Interact Campaign enables marketers to design campaign content, define rules for personalization, select a target audience and schedule the delivery of that campaign. Key features and capabilities include:

 

   

an interface that can be used to build a target audience for each campaign by selecting from various demographic, behavioral, and customer profile attributes;

 

   

a feature that enables each message to include unique content tailored to each recipient;

 

   

an ability to automatically add content generated by third-party applications, such as product recommendation and marketing effectiveness testing products;

 

   

detailed scheduling and launching options that control when messages are delivered to recipients;

 

   

content quality, preview and campaign monitoring tools; and

 

   

an interface for creating and publishing content to Facebook and Twitter.

 

   

Interact Team: Marketing Process Workflow and Approvals. 

Interact Team provides a set of management tools to help marketing teams collaborate, stay organized and stay on schedule. This application is especially useful when marketing efforts involve multiple contributors and sub-projects. Key features and capabilities include:

 

   

tools for defining how a marketing process will be executed within an organization, including a tool to create visual diagrams that portray the sequence of steps to complete a marketing project, methods for assigning tasks to members of the organization, and a shared calendar for defining and tracking timelines and milestones;

 

   

a notification system that alerts individuals to tasks awaiting action;

 

   

a library that allows contributors to share materials, such as files, images and copy; and

 

   

an approval system that allows the launching of campaigns immediately following a final approval step.

 

   

Interact Insight: Marketing Reporting and Analytics.

Interact Insight provides marketers with tools to understand, analyze, measure and optimize their marketing campaigns. Through a combination of standard reports and more advanced analysis capabilities, Interact Insight helps marketers understand their marketing performance, make informed changes and discover new opportunities to increase their revenue and achieve deeper customer engagement. Key features and capabilities include:

 

   

summary reports that can be customized to provide snapshots of key business metrics;

 

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tools to help marketers graphically view trends and patterns in their campaign results;

 

   

pre-built reports that provide a quick overview of key performance metrics, such as average revenue per campaign and customer response rates, for all campaigns across all channels;

 

   

features that allow users to perform rapid and detailed analysis of performance metrics; and

 

   

an ability to share results across the organization through scheduled report distribution.

Data and Application Integration.

 

   

Interact Connect: Data Transfer and Automation. 

Interact Connect enables marketers to automate the transfer of data to and from the Responsys Interact Suite and their customer data management systems or those of third parties. This helps marketing teams benefit from the wealth of data captured across a variety of systems to improve the relevance of their marketing campaigns. Interact Connect includes the following features and capabilities:

 

   

an interface to configure and schedule an exchange of data between Interact and a third-party application or a company’s internal systems;

 

   

tools that allow marketers to define which external data should be inserted into records within the customer’s data tables; and

 

   

integrations with select Responsys partners.

 

   

Interact API: Application Control and Development.

The Interact API, or application programming interface, gives developers access to a framework that they can use to create customized software programs to suit their needs and that can, for example, trigger marketing activities or automatically integrate data into our platform. This gives companies more control over the marketing interactions with their customers by synchronizing their internal systems with the capabilities of the Responsys Interact Suite. The Interact API can be used to:

 

   

automatically trigger a marketing message or series of messages to a recipient when an event occurs on a company’s website, such as a purchase or registration;

 

   

continuously synchronize customer data between internal databases and our platform;

 

   

load content from internal systems into our platform for use in subsequent campaigns; and

 

   

automatically update properties or settings of upcoming campaigns.

Our Services.

We complement our on-demand software platform with a range of professional services that are designed to drive marketing success for our customers. Our experienced team brings region- and industry-specific methodologies and best practices to help our customers accelerate the implementation and execution of their marketing efforts, increase their revenue from interactive channels and improve their return on overall marketing spend. Our technical services include a variety of capabilities such as setting up our platform for use by new customers, data architecture design, program design and content management, all of which help our customers implement and use our products.

Our professional services include:

 

   

Strategic services.

Our team helps companies add structure to the art of marketing. For example, we help our customers design their marketing strategy, prepare marketing plans that align specific, actionable tactics with these strategies at every stage and assist with the measurement and analyses of the effectiveness of their marketing programs.

 

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Creative services.

Our team of designers, developers and copywriters works directly with marketing strategists, technical specialists and account managers to provide creative services such as copywriting and design services for marketing programs.

 

   

Deliverability services.

We assist our customers in navigating the wide variety of factors that determine whether an email reaches an inbox, is diverted by filters or bounces back. For example, our email delivery audit service provides a comprehensive review of opt-in, opt-out and privacy policies, deliverability metrics and the creative structure and content of emails. We also work with internet service providers, or ISPs, on a regular basis to maintain high deliverability rates for all Responsys customers.

 

   

Campaign services. 

Our campaign execution and deployment services support the full campaign development lifecycle and provide services such as software programming, testing, live campaign launches and reporting.

 

   

Education services. 

Our education services include classroom training, live online training or private sessions to help our customers successfully launch campaigns and multi-stage programs. We also offer advanced education programs for experienced users.

We offer several services models to provide our customers with flexibility in selecting the level of service that best meets their needs, ranging from collaborating on individual marketing program elements, such as strategy consulting or creative design, to completely outsourcing the execution of their interactive marketing programs.

How Customers Engage with Responsys.

We believe that a highly collaborative relationship with our customers is an important element of enabling their marketing success. The following illustrates how our customers typically interact with us:

Onboarding and consulting.

At the inception of the customer relationship, our services consultants lead the customer through a thorough process to define their requirements, establish an appropriate data model, configure campaign options and train their users. Additionally, Responsys’ professional services consultants can be engaged to help customers establish their marketing objectives, define the highest impact marketing programs and recommend campaign best practices.

Data.

Our customers frequently use data such as customer names, contact information, purchase history and other attributes from a variety of different sources in our platform. This data is taken from their own or third-party data management systems. Our professional services consultants often assist with the integration between these systems and our on-demand software as well as the process of importing the data. Customers can then access and manage that data using web-based tools within the Responsys Interact Suite to create target lists for outbound marketing campaigns, or to enable more relevant delivery of content.

Campaign content.

Our customers can upload digital content into our on-demand software from their own systems, or they can utilize tools provided within the Responsys Interact Suite. Some of our customers have in-house personnel who generate this content, and others use our professional services consultants to produce graphic designs, copy and campaign templates for them.

 

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Campaign execution.

Our customers can use the capabilities of the Responsys Interact Suite to design, schedule and execute marketing campaigns, or they can use our professional service consultants to manage these tasks for them. Campaigns may range from simple one-time campaigns to complex campaigns with multiple stages across multiple interactive channels, spanning the customer lifecycle. By leveraging the functionality within the Responsys Interact Suite, customers can automate complex programs.

Reporting and analysis.

Our on-demand software provides standard, pre-configured reports as well as tools to create customized reports and download data for analysis in third-party systems. Our customers may also engage our professional services consultants to create and customize reports and assist in analyzing the data and identifying opportunities to improve campaign performance.

Customers

Our customers are of varied size across a wide variety of industries, including retail and consumer, travel, financial services and technology. Our customers also include marketing agencies who partner with us to use our on-demand software on behalf of their customers. We define our number of customers as of the end of a particular quarter as direct-billed subscription customers with $3,000 or more in committed subscription revenue in that quarter. We had 346, 277 and 246 customers as of December 31, 2011, 2010 and 2009, respectively. Some of our customers are divisions or subsidiaries of larger organizations that have purchased our on-demand software. Given the independent nature of our engagement across sales, support, billing and services, as well as their segmented usage of our product, we treat these components of an organization as separate customers. If we did not treat these independent purchasing units as separate customers, we would have had 285 customers as of December 31, 2011.

Some of our largest customers by industry, based on total revenue per customer for the year ended December 31, 2011, include:

 

Retail and Consumer

Lands’ End, Inc.

Newegg, Inc.

PHE, Inc.

Sears Holdings Management Corporation

Williams-Sonoma, Inc.

  

Travel

Continental Airlines, Inc.

Hotwire, Inc.

Jetstar Airways Pty Limited

Orbitz, LLC

Southwest Airlines Co.

Financial Services

Allstate Insurance Company

GE Money — Americas (Consumer Finance)

Quicken Loans Inc.

Scottrade, Inc.

Suncorp Corporate Services Pty Ltd

  

Technology

Epson America, Inc.

Intuit, Inc.

Research in Motion Limited

Snapfish by HP

Vodafone Hutchison Australia

For the years ended December 31, 2011, 2010 and 2009, no single customer accounted for more than 10% of our total revenue.

 

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Sales and Marketing

We sell our on-demand software and professional services primarily through our direct sales force. As of December 31, 2011, we had 66 employees in our direct sales force, which includes field sales representatives, sales management, sales consultants and lead development personnel. Our sales force is organized by the size of the target customer as well as by geographic region. We primarily target enterprise and larger mid-market customers that seek to implement more advanced marketing programs across interactive channels. Our typical sales cycle with a prospective customer begins with the generation of a sales lead, which is followed by an assessment of the customer’s requirements, sales presentations and product demonstrations. Our sales cycle can vary substantially from customer to customer, but typically requires four to six months depending on the size and complexity of the opportunity.

Our marketing efforts and lead generation activities consist primarily of customer referrals, internet advertising, telemarketing, social, trade shows and industry events and press releases. Within the customer organization, our marketing programs target company executives, marketing professionals and senior business leaders. We also host frequent conferences where customers both participate in and present a variety of programs designed to help accelerate marketing success with our integrated platform.

Account Management and Customer Support

We provide account management and customer support services focused on making our customers’ marketing programs successful.

Account management.

Our Customer Success Managers serve as the primary point of contact for our customers and work closely with them to perform assessments of their interactive marketing programs, benchmark their programs against industry best practices, develop action plans for achieving their objectives and execute on those plans. They are also responsible for cross-selling additional solutions and services to our existing customers to enable them to refine and expand their interactive marketing programs.

Customer support.

Our customer support services provide our customers with product support by phone or email from multiple offices worldwide. We offer a multi-tier support structure that provides varying levels of service level commitments depending on the customer’s requirements. We also provide an online customer portal called Responsys Share, that contains information, insights and interactive tools to help customers answer questions and share best practices information in order to improve the speed, effectiveness and return on investment of their interactive marketing programs.

Technology

The Responsys Interact Suite is delivered over the internet as software-as-a-service and is designed to meet the demands of email and cross-channel interactive marketers. Our on-demand software has several key design elements:

Scalability.

Our on-demand software supports hundreds of millions of email, mobile, social and web site addresses, generates and sends billions of messages per month, and is designed to accommodate significant seasonal increases in transaction volumes.

 

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Flexibility.

Our open data model enables our customers to use existing consumer data from a variety of sources, including their own and third-party customer data management systems, in their marketing campaigns. It also allows them to organize the data using tables, filters, templates, documents and field names.

High availability.

Our on-demand software supports ongoing, carefully coordinated marketing programs that require delivery of targeted messages across multiple channels at specified times or in response to specific actions; the availability of personalized web site landing pages when a consumer clicks on a message; and real-time measurement, tracking and reporting.

Security.

Our on-demand software is multi-tenant with each customer’s data partitioned to prevent comingling. The infrastructure is continually monitored by several layers of network, system and application security including a variety of intrusion detection systems. Customers are provided with a variety of features to further protect and secure their data, such as IP address restriction for logins, certificate-based authentication for application programming interface, or API, access, user based functional controls, external secure file transfer protocol, or SFTP, setup restrictions and others. Customer communications to and from our on-demand software are SSL-encrypted.

Ease of use.

Our applications use visual design tools to simplify the creation and management of complex marketing campaigns and programs.

Low cost.

Because our on-demand software is accessed through the web, our on-demand software does not require our customers to purchase, install, monitor or manage additional IT infrastructure.

Deliverability.

Our infrastructure is also designed to ensure optimal performance in the delivery of content to users. The delivery mechanisms vary by channel:

 

   

for email, messages are assembled within our platform and delivered to ISPs from our own simple mail transfer protocol and mail transfer agent layer;

 

   

for mobile messages, content is assembled within our platform and delivered to mobile handsets through a partnership with a third-party mobile aggregator who maintains direct connections with mobile carriers worldwide;

 

   

for social networks, content is assembled within our platform and delivered to Facebook and Twitter via APIs;

 

   

for website pages including forms and landing pages, content is assembled within our platform and served using our own content serving engine; and

 

   

for the millions of images displayed, this content is cached on our content delivery network partners’ thousands of data centers.

Operations

We serve our customers primarily from a third-party data center located in San Jose, California. The current term of our services agreement for this data center expires in January 2013. We also use another third-party data

 

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center located in Sacramento, California. We use a variety of methods to provide physical, personnel, network, application and data security. Our infrastructure is continuously monitored using a variety of tools to minimize the risk of failure. We conduct regular system tests and vulnerability assessments and provide advance notice when maintenance is performed. However, in the event of a failure, we have engineered our data centers with backup and redundancy programs designed to ensure business continuity.

Financial Information About Geographic Areas

For financial information about our geographic areas, see Note 2 of the notes to our consolidated financial statements included in Item 8 of this Annual Report on Form 10-K.

Research and Development

The Responsys Interact Suite is an open and flexible SaaS platform. It operates as a multi-tenant environment, where our customers share computing infrastructure, with the goal of maximizing performance, stability and scalability while fulfilling our vision and product strategies. We devote a substantial portion of our resources to developing new solutions and enhancing existing solutions, conducting software and quality assurance testing, and improving our core technology. We continually enhance our existing software platform and develop new applications to meet our customers’ changing interactive marketing needs.

Our technical staff monitors and tests our software on a regular basis, and we maintain a regular release process to refine, update and enhance our existing solutions. We typically deploy new releases of our on-demand software three to four times per year, although software patches may be released more frequently as needed.

Research and development expense totaled $13.5 million, $10.6 million and $8.1 million for the years ended December 31, 2011, 2010 and 2009, respectively.

Competition

The overall market for interactive marketing software is fragmented and highly competitive, with a wide variety of customer requirements depending on the size and profile of the customer. Barriers to entry can be low, particularly in segments focused on a single marketing channel. We provide on-demand, cross-channel, interactive marketing applications and services targeting primarily enterprise and larger mid-market companies. We face significant competition from both technology providers and marketing services providers, some of which have broader software and services offerings and greater name recognition and resources than we have. To a lesser extent, we compete with internally developed and maintained solutions.

Our primary competitors include:

 

   

technology providers such as Aprimo, Inc., which has been acquired by Teradata Corporation, BlueHornet, a subsidiary of Digital River, Inc., ExactTarget, Inc., Silverpop Systems Inc., StrongMail Systems, Inc. and Unica Corporation, which has been acquired by International Business Machines Corporation, or IBM; and

 

   

marketing services providers such as Acxiom Digital, Epsilon Data Management LLC, Experian CheetahMail and Yesmail, a division of infoGROUP Inc.

We believe the principal competitive factors in our markets include:

 

   

product features, effectiveness, interoperability and reliability;

 

   

strength of professional services organization;

 

   

cross-channel integration;

 

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ability to scale;

 

   

pace of innovation and product roadmap;

 

   

domain expertise in interactive marketing;

 

   

price of products and services;

 

   

customer support and training;

 

   

integration with third-party applications and data sources;

 

   

return on investment;

 

   

ease of use; and

 

   

size and financial stability of operations.

We believe we compete favorably with respect to these factors.

Government Regulation

Consumer Protection Regulations.

Our customers use our on-demand software to generate marketing campaigns that send messages to consumers across email, mobile, social and the web. Commercial communications using these channels are governed by certain U.S. and foreign laws and regulations. With respect to email campaigns, for example, in the United States the Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003, or the CAN-SPAM Act, establishes certain requirements for the distribution of “commercial” email messages and provides for penalties for transmission of commercial email messages that are intended to deceive the recipient as to source or content.

Although the CAN-SPAM Act preempts most state restrictions specific to email marketing, it does provide for certain exceptions with respect to rules against falsity or deception in commercial email, fraud and computer crime. The scope of these exceptions is not settled, and some states have adopted email regulations that, if upheld, could impose liabilities and compliance burdens in addition to those imposed by the CAN-SPAM Act. Moreover, some foreign jurisdictions, such as Australia, Canada and the European Union, have also enacted laws that regulate sending email, some of which are more restrictive than U.S. laws.

With respect to text message campaigns, for example, the CAN-SPAM Act and regulations implemented by the U.S. Federal Communications Commission pursuant to the CAN-SPAM Act, and the Telephone Consumer Protection Act, also known as the Federal Do-Not-Call law, among other requirements, prohibit companies from sending specified types of commercial text messages unless the recipient has given his or her prior express consent. Additionally, our customers collect and use personal information about consumers to conduct their marketing campaigns, which subjects them to federal, state and foreign privacy laws that regulate the use, collection and disclosure of consumers’ personal information. In European Union member states and certain other countries outside the United States, data protection is more highly regulated and rigidly enforced. Non-compliance with these laws and regulations carries significant financial penalties.

Our terms and conditions require that our customers comply with all applicable laws, including, among others, the CAN-SPAM Act and the Federal Do-Not-Call law, in the use of our on-demand software and hold them liable for any violations of such laws. If we become aware that a customer has violated a law applicable to its marketing activities while using our on-demand software and/or breached our terms and conditions, we can suspend or terminate its use of our on-demand software and professional services. Although we believe that our customers’ use of our on-demand software will comply with existing laws, if challenged, we may not be able to demonstrate adequate compliance with existing or future laws or regulations.

 

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Tax Regulations.

The applicability of sales taxes to our subscription services in various jurisdictions is unclear. With respect to a U.S. state’s ability to impose obligations to collect taxes, fees or surcharges with respect to sales made over the internet, the U.S. Supreme Court’s decision in Quill Corporation v. North Dakota currently requires that a taxpayer have a physical presence within the state before the state can collect such taxes. However, the U.S. Supreme Court has provided little guidance as to what levels of contacts constitute a physical presence, and no assurance can be given that we will not be found to have a physical presence in certain U.S. states based on, for example, our affiliations with other businesses that have a physical presence in the state.

Furthermore, a number of states, as well as the U.S. Congress, have been considering or have adopted initiatives regarding sales and use taxes on internet sales. If these initiatives are successful, we could be required to collect sales and use taxes in a number of states or change our business practices. The imposition by state and local governments of various taxes, fees and surcharges upon internet commerce could result in administrative burden, put us at a competitive disadvantage if similar obligations are not imposed on all or substantially all of our online competitors and negatively affect our future sales. Any of these developments could adversely affect our results of operations.

Intellectual Property

Our intellectual property rights are important to our business. We rely on a combination of copyright, trade secret, trademark and other rights in the United States and other jurisdictions, as well as confidentiality procedures and contractual provisions to protect our proprietary technology, processes and other intellectual property.

Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy or obtain and use our technology to develop products with the same functionality as our solutions. Policing unauthorized use of our technology is difficult. The laws of other countries in which we market our on-demand software may offer little or no effective protection of our proprietary technology. Our competitors could also independently develop technologies equivalent to ours, and our intellectual property rights may not be broad enough for us to prevent competitors from selling products incorporating those technologies. Reverse engineering, unauthorized copying or other misappropriation of our proprietary technology could enable third parties to benefit from our technology without paying us for it, which would significantly harm our business.

We expect that software in our industry may be subject to third-party infringement claims as the number of competitors grows and the functionality of products in different industry segments overlaps. Such competitors could make a claim of infringement against us with respect to our on-demand software and underlying technology. Third parties may currently have, or may eventually be issued, patents upon which our current solutions or future technology infringe. Any of these third parties might make a claim of infringement against us at any time.

Employees

As of December 31, 2011, we had approximately 693 employees. None of our employees is represented by a labor union.

Available Information.

We are subject to the filing requirements of the Securities Exchange Act of 1934, or the Exchange Act. Therefore, we file periodic reports, proxy statements and other information with the Securities and Exchange Commission, or SEC. Such reports, proxy statements and other information may be obtained by visiting the Public Reference Room of the SEC at 100 F Street, NE, Washington, D.C. 20549. You may obtain information regarding the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. In addition, the SEC maintains a website (www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically.

 

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We make our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to such reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act available free of charge through a link on the Investors section of our website located at www.responsys.com (under “Investors—Financials—SEC Filings”) as soon as reasonably practicable after they are filed with or furnished to the SEC.

Item 1A. Risk Factors

Investing in our common stock involves a high degree of risk. We operate in a dynamic and rapidly changing industry that involves numerous risks and uncertainties. The risks and uncertainties described below are not the only ones we face. Other risks and uncertainties, including those that we do not currently consider material, may impair our business. If any of the risks discussed below actually occur, our business, financial condition, operating results and future prospects could be materially adversely affected. This could cause the trading price of our common stock to decline, and you could lose part or all of your investment.

We may not maintain profitability in the future.

Although we have been profitable for several years, our accumulated deficit was $14.8 million as of December 31, 2011 due to historical net losses. We expect to make significant future expenditures related to the development and expansion of our business which may reduce profitability and related gross margin compared to prior periods. In addition, as a public company, we incur significant accounting, legal and other expenses that we did not incur as a private company. As a result of these increased expenditures, we will have to generate and sustain increased revenue to maintain future profitability. While our revenue has grown in recent periods, this growth may not be sustainable, and we may not achieve sufficient revenue to maintain profitability. You should not consider our revenue growth in recent periods as indicative of our future performance. In future periods, our revenue could decline or grow more slowly than we expect. We also may incur significant losses in the future for a number of reasons, including due to the other risks described in this report, and we may encounter unforeseen expenses, difficulties, complications, delays and other unknown factors that could negatively affect our operations. Accordingly, we may not be able to maintain profitability.

The market in which we participate is intensely competitive, and our results could be adversely affected by pricing pressure or other competitive dynamics.

The market for interactive marketing solutions is highly fragmented, competitive and rapidly changing. With the introduction of new technologies and the influx of new entrants to the market, we expect competition to persist and intensify in the future, which could harm our ability to increase sales and maintain our prices. We face intense competition from software companies that develop marketing technologies and from marketing services companies that provide interactive marketing services. Our primary competitors include: technology providers such as Aprimo, Inc., which was acquired by Teradata Corporation, BlueHornet, a subsidiary of Digital River, Inc., ExactTarget, Inc., Silverpop Systems Inc., StrongMail Systems, Inc. and Unica Corporation, which was acquired by IBM; and marketing services providers such as Acxiom Digital, Epsilon Data Management LLC, Experian CheetahMail and Yesmail, a division of infoGROUP Inc.

We may also face competition from new companies entering our market, which may include large established businesses, such as Google Inc., IBM, Microsoft Corporation, Oracle Corporation, salesforce.com, inc., SAP AG or Yahoo! Inc., each of which currently offers, or may in the future offer, email marketing or related applications such as applications for customer relationship management, analysis of internet data and marketing automation. If these companies decide to develop, market or resell competitive interactive marketing products or services, acquire one of our existing competitors or form a strategic alliance with one of our competitors, our ability to compete effectively could be significantly compromised and our operating results could be harmed. We may also experience competition from the in-house information technology capabilities of current and prospective customers.

 

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Our current and potential competitors may have significantly more financial, technical, marketing and other resources than we have, be able to devote greater resources to the development, promotion, sale and support of their products and services, have more extensive customer bases and broader customer relationships than we have, and may have longer operating histories and greater name recognition than we have. As a result, these competitors may be better able to respond quickly to new technologies and to undertake more extensive marketing campaigns. In some cases, these vendors may also be able to offer interactive marketing applications at little or no additional cost by bundling them with their existing applications. If we are unable to compete with such companies, the demand for our on-demand software could substantially decline. For example in 2011, the parent company of one of our customers acquired a company with competing technology and as a result the customer reduced its contractually committed messaging level upon its renewal.

We may experience quarterly fluctuations in our operating results due to factors that make our future results difficult to predict and could cause our operating results to fall below investor or analyst expectations, or our guidance.

Our quarterly operating results may fluctuate due to a variety of factors, many of which are outside of our control. As a result, comparing our operating results on a period-to-period basis may not be meaningful. You should not rely on our past results as indicative of our future performance. If our revenue or operating results fall below the expectations of investors or securities analysts, or below any guidance we may provide to the market, the price of our common stock could decline substantially.

Our operating results have varied in the past. In addition to other risk factors listed in this section, factors that may affect our quarterly operating results include the following:

 

   

demand for our on-demand software and related services and the size and timing of sales;

 

   

the volume of email messages sent above contracted levels for a particular quarter and the amount of any associated additional charges;

 

   

customer renewal rates, and the pricing and volume commitments of such renewals;

 

   

customers delaying purchasing decisions in anticipation of new products or product enhancements by us or our competitors;

 

   

market acceptance of our current and future products and services;

 

   

changes in spending on interactive marketing or information technology and software by our current and/or prospective customers;

 

   

budgeting cycles of our customers;

 

   

changes in the competitive dynamics of our industry, including consolidation among competitors or customers;

 

   

our lengthy sales cycle;

 

   

lengthy or delayed implementation times for new customers or customers that upgrade to the current version of our on-demand software;

 

   

the timing of recognizing revenue in any given quarter as a result of revenue recognition rules;

 

   

the amount of services sold and the amount of fixed fee services, which can affect gross margin;

 

   

our ability to control costs, including our operating expenses;

 

   

the amount and timing of operating expenses, particularly sales and marketing, related to the maintenance and expansion of our business, operations and infrastructure;

 

   

network outages or security breaches and any associated expenses;

 

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foreign currency exchange rate fluctuations;

 

   

write-downs, impairment charges or unforeseen liabilities related to acquisitions;

 

   

failure to successfully manage any acquisitions; and

 

   

general economic and political conditions in our domestic and international markets.

Based upon all of the factors described above, we have a limited ability to forecast the amount and mix of future revenue and expenses, and as a result, our operating results may from time to time fall below our estimates or the expectations of public market analysts and investors.

Our quarterly results reflect seasonality in revenue from our on-demand software and professional services, which can make it difficult for us to achieve sequential revenue growth or could result in sequential revenue declines.

We have historically experienced higher levels of revenue and gross profit during the fourth quarter, primarily due to our customers’ increased marketing activity during the holiday shopping season, as compared to the preceding and subsequent quarters, and we anticipate that this trend will continue in fiscal 2012. Since the majority of our expenses is personnel-related and includes salaries, stock-based compensation, benefits and incentive-based compensation plan expenses, we have not experienced significant seasonal fluctuations in the timing of our expenses from period to period. Although these seasonal factors can be common in the marketing sector, historical patterns should not be considered indicative of our future sales activity or performance.

Because we recognize subscription revenue from our customers over the term of their agreements, downturns or upturns in bookings may not be immediately reflected in our operating results.

We recognize subscription revenue over the term of our customer agreements, which are typically one year, with some up to three years. As a result, most of our quarterly subscription revenue results from agreements entered into during previous quarters. Consequently, a shortfall in demand for our on-demand software and related services in any quarter may not significantly reduce our subscription revenue for that quarter, but could negatively affect subscription revenue in future quarters. We may be unable to adjust our cost structure to compensate for this potential shortfall in subscription revenue. Accordingly, the effect of significant downturns in sales of subscriptions to our on-demand software and related services may not be fully reflected in our results of operations until future periods. Our subscription model also makes it difficult for us to rapidly increase our subscription revenue through additional sales in any period, as subscription revenue from new customers must be recognized over the applicable subscription terms.

If we are unable to attract new customers or sell additional functionality and services to our existing customers, our revenue growth will be adversely affected.

To increase our revenue, we must add new customers, sell additional functionality to existing customers and encourage existing customers to renew their subscriptions on favorable terms. As the interactive marketing industry matures, as interactive channels develop further, or as competitors introduce lower cost and/or differentiated products or services that are perceived to compete with ours, our ability to compete with respect to pricing, technology and functionality could be impaired. In such event, we may be unable to renew our agreements with existing customers or attract new customers or new business from existing customers on terms that would be favorable or comparable to prior periods, which could have a material adverse effect on our revenue, gross margin and other operating results.

Our future growth could be constrained if mobile, social and the web do not become significant relationship marketing channels or if existing customers do not want to migrate to our newer on-demand software.

The growth of our business depends in part on the acceptance and growth of mobile, social and the web as relationship marketing channels. While email has been widely used for relationship marketing, relationship

 

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marketing via mobile, social and the web is just emerging. We released our mobile and social offerings on our newer on-demand software in April 2010 and competitive solutions will continue to emerge. Even if mobile, social and the web become widely adopted relationship marketing channels, we cannot assure you that our mobile and social offerings will gain traction with current or new customers. The majority of our current customers became customers before we released our newer on-demand software in late 2009 and would be required to migrate to our newer on-demand software in order to execute fully integrated campaigns across mobile, social and web channels. These customers may not desire to expend the time and resources that would be required to effect this migration.

The market for interactive marketing software is at an early stage of development, and if it does not develop or develops more slowly than we expect, our business will be harmed.

It is uncertain whether businesses will make significant investments in interactive marketing software, and if they do, whether they will purchase subscriptions to on-demand software for this function. The market for on-demand software, in general, and for interactive marketing software, in particular, is relatively new, and it is uncertain whether such software will achieve and sustain high levels of demand and market acceptance. Our success will substantially depend on the willingness of enterprises to increase their use of on-demand software in general, and for marketing in particular. Many enterprises have invested substantial personnel and financial resources to integrate traditional on-premise enterprise software into their businesses and therefore may be reluctant or unwilling to migrate to on-demand software. Furthermore, some enterprises may be reluctant or unwilling to use on-demand software because they have concerns regarding the security and other risks associated with the technology delivery model. If enterprises do not perceive the overall benefits of on-demand software, then the market may develop more slowly than we expect, either of which would significantly and adversely affect our operating results. Accordingly, we cannot assure you that an on-demand model for interactive marketing software will achieve and sustain the high level of market acceptance that is critical for the success of our business

Our growth depends largely on our ability to sell our on-demand software and related services to new enterprise customers, which makes our sales cycle unpredictable, time-consuming and expensive.

The enterprise customers we target typically undertake a significant evaluation process before purchasing enterprise software, which can last from several months to a year or longer. Events may occur during the sales cycle that could affect the size or timing of a purchase, and this may lead to more unpredictability in our business and operating results. We may spend substantial time, effort and money on our sales efforts without any assurance that our efforts will produce any sales.

In addition, we may face unexpected implementation challenges with some enterprise customers. It may be difficult or expensive to implement our on-demand software if the customer has unexpected data, hardware or software technology issues, or complex or unanticipated business requirements. Any difficulties or delays in the initial implementation could cause customers to reject our on-demand software or delay or cancel future purchases, in which case our business, operating results and financial condition would be harmed.

We derive a significant percentage of our total revenue from the retail and consumer, travel, financial services and technology industries, and any downturn in these industries could harm our business.

A significant number of our customers are concentrated in the retail and consumer, travel, financial services and technology industries. In particular, we derived approximately half of our revenue from the retail and consumer industry for the year ended December 31, 2011. A substantial downturn in these industries may cause our customers to reduce their spending on information technology or interactive marketing. Customers in these industries may delay or cancel information technology or interactive marketing projects, seek to lower their costs by renegotiating vendor contracts, or decrease their usage of our services. Moreover, competitors may respond to market conditions by lowering prices and attempting to lure away our customers. In addition, the increased pace of consolidation in certain industries may result in reduced overall spending on our services.

 

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A limited number of customers account for a significant portion of our revenue, and the loss of a major customer or group of customers could harm our operating results.

Our 20 largest customers accounted for approximately 33%, 37% and 35% of our total revenue for the years ended December 31, 2011, 2010 and 2009, respectively. We cannot be certain that customers that have accounted for significant revenue in past periods, individually or as a group, will renew, will not cancel or will not reduce their usage of our services and, therefore, will continue to generate revenue in any future period. If we lose a major customer or group of customers, or if major customers reduce their commitment levels when they renew, our revenue could decline. For example in 2011, the parent company of one of our customers acquired a company with competing technology and, as a result, the customer reduced its contractually committed messaging level upon its renewal.

Prolonged economic uncertainties or downturns could materially harm our business.

General worldwide economic conditions are volatile and have experienced significant instability. These conditions make it extremely difficult for our customers and us to accurately forecast and plan future business activities, and they could cause our customers to slow spending on our on-demand software and professional services, which would delay and lengthen sales cycles, or stop purchasing altogether. Furthermore, during challenging economic times our customers may face issues in gaining timely access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may cease recognizing revenue from certain customers and/or increase our allowance for doubtful accounts, and our financial results would be harmed.

We cannot predict the timing, strength or duration of any economic slowdown or recovery. If the condition of the general economy or markets in which we operate worsens from present levels, our business could be harmed. In addition, even if the overall economy improves, we cannot assure you that the market for interactive marketing software and professional services will experience growth or that we will experience growth.

We have been dependent on the use of email as a means for interactive marketing, and any decrease in the use of email for this purpose would harm our business.

Historically, our customers have primarily used our on-demand software for their email-based interactive marketing campaigns targeted at consumers who have given our customers permission to send them emails. We expect that email will continue to be the primary channel used by our customers for the foreseeable future. Government regulations and evolving practices regarding the use of email for marketing purposes could adversely affect the use of this channel for interactive marketing. Consumers’ use of email also depends on the ability of internet service providers, or ISPs, to prevent unsolicited bulk email, or “spam,” from overwhelming consumers’ inboxes. ISPs continually develop new technologies to filter messages deemed to be unwanted before they reach users’ inboxes, which may interfere with our customers’ marketing campaigns. If security problems become widespread, or if ISPs cannot effectively control spam, the use of email as a means of marketing communications may decline. Any decrease in the use of email would reduce demand for our email marketing services and harm our business.

If our security measures are breached, our on-demand software may be perceived as not being secure, customers may curtail or stop using our on-demand software, and we may incur significant liabilities.

Security breaches could expose us to a risk of loss or unauthorized disclosure of customer information, litigation, indemnity obligations and other liability. If our security measures are breached as a result of third-party action, employee error, malfeasance or otherwise, and, as a result, someone obtains unauthorized access to our system or customer information, our reputation will be damaged, our business may suffer and we could incur significant liability. Because techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until launched against a target, we may be unable to anticipate these techniques or implement adequate preventative measures. If an actual or perceived breach of our security occurs, the market perception of the effectiveness of our security measures could be harmed and we could lose potential sales and existing customers.

 

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Failure to effectively expand our sales and marketing capabilities could harm our ability to increase our customer base and achieve broader market acceptance of our on-demand software.

Increasing our customer base and achieving broader market acceptance of our on-demand software will depend to a significant extent on our ability to expand our sales and marketing operations and activities. We expect to be substantially dependent on our direct sales force to obtain new customers. We plan to continue to expand our direct sales force both domestically and internationally. We believe that there is significant competition for direct sales personnel with the sales skills and technical knowledge that we require. Our ability to achieve significant growth in revenue in the future will depend, in large part, on our success in recruiting, training and retaining sufficient numbers of direct sales personnel. New hires require significant training and experience before they achieve full productivity. Our recent hires and planned hires may not become productive as quickly as we would like, and we may not be able to hire or retain sufficient numbers of qualified individuals in the markets where we do business. Our business will be seriously harmed if these expansion efforts do not generate a corresponding significant increase in revenue.

We use third parties to help grow our business. If we are unable to maintain successful relationships with them, our business could be harmed.

In addition to our direct sales force, we use third parties such as marketing agencies to help promote our on-demand software. Although we do not currently derive a significant amount of revenue through third parties, we may in the future seek to expand sales of subscriptions to our on-demand software through these and other indirect sales channels.

We expect that these third parties will not have an exclusive relationship with us. These third parties may offer customers the solutions of several different companies, including solutions that compete with ours. Thus, we will not be certain that they will prioritize or provide adequate resources for selling our solution. In addition, establishing and retaining qualified third parties and training them in our on-demand software and services require significant time and resources. If we are unable to maintain successful relationships with any of these third parties, our business could be harmed.

We rely on third-party hardware, software and infrastructure that may be difficult to replace or which could cause errors or failures of our service.

We rely on hardware and infrastructure purchased or leased and software licensed from third parties in order to offer our on-demand software and related services. For example, we rely on third-party providers to support and provide our mobile messaging offerings. This hardware, software and infrastructure may not continue to be available on commercially reasonable terms, or at all. Any loss of the right to use any of this hardware, software or infrastructure could result in delays in the provisioning of affected components of our on-demand software until equivalent technology is either developed by us, or, if available, is identified, obtained and integrated, which could harm our business. Furthermore, any errors or defects in third-party hardware, software or infrastructure could result in errors or a failure of our service, which could harm our business.

If we are unable to integrate our on-demand software with certain third-party applications, the functionality of our software could be adversely affected.

The functionality of our on-demand software depends, in part, on our ability to integrate it with third-party applications and data management systems that our customers use and from which they obtain consumer data. In addition, we rely on access to third-party application programming interfaces, or APIs, to provide our social media channel offerings through social media platforms, which currently consist of Facebook and Twitter. Third-party providers of marketing applications and APIs may change the features of their applications and platforms, restrict our access to their applications and platforms or alter the terms governing use of their applications and APIs and access to those applications and platforms in an adverse manner. Such changes could functionally or financially limit or terminate our ability to use these third-party applications and platforms with our on-demand

 

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software, which could negatively impact our offerings and harm our business. Further, if we fail to integrate our software with new third-party applications and platforms that our customers use for marketing purposes, or to adapt to the data transfer requirements of such third-party applications and platforms, we may not be able to offer the functionality that our customers need, which would negatively impact our offerings and, as a result, harm our business.

Interruptions or delays in service from third-party data center hosting facilities and other third parties could impair the delivery of our service and harm our business.

We currently serve our customers from third-party data center hosting facilities located in Northern California. We also rely on bandwidth providers, ISPs and mobile networks to deliver messages to the customers of our customers. Any damage to, or failure of, the systems of our third-party providers could result in interruptions to our service. If for any reason our arrangement with one or more of our data centers is terminated we could experience additional expense in arranging for new facilities and support. In addition, the failure of our data centers to meet our capacity requirements could result in interruptions in the availability of our on-demand software, impair the functionality of our on-demand software or impede our ability to scale our operation. As we continue to add data centers, restructure our data management plans, and increase capacity in existing and future data centers, we may move or transfer our data and our customers’ data. Despite precautions taken during such processes and procedures, any unsuccessful data transfers may impair the delivery of our service, and we may experience costs or downtime in connection with the transfer of data to other facilities. Interruptions in the availability of, or impaired functionality of, our on-demand software may reduce our revenue, cause us to issue credits, make refunds or pay penalties, harm our reputation, cause customers to terminate their subscriptions, and adversely affect our renewal rates and our ability to attract new customers. Our business will also be harmed if our customers and potential customers believe our service is unreliable.

Despite precautions taken at our data centers, the occurrence of a natural disaster, an act of terrorism, vandalism or sabotage, a decision to close the facilities without adequate notice, or other unanticipated problems at these facilities could result in lengthy interruptions in the availability of our on-demand software. Even with current and planned disaster recovery arrangements, our business could be harmed.

As a result of our customers’ increased usage of our on-demand software, we will need to continually improve our computer network and infrastructure to avoid service interruptions or slower system performance.

As usage of our on-demand software grows and as customers use it for more complicated tasks, we will need to devote additional resources to improving our computer network, our application architecture and our infrastructure in order to maintain the performance of our on-demand software. In addition, we typically experience increased system usage during the fourth quarter, with customers increasing their marketing activity for the holiday shopping season. Any failure or delays in our computer systems could cause service interruptions or slower system performance. If sustained or repeated, these performance issues could reduce the attractiveness of our on-demand software to customers. This could result in lost customer opportunities and lower renewal rates, any of which could hurt our revenue growth, customer loyalty and our reputation. We may need to incur additional costs to upgrade or expand our computer systems and architecture in order to accommodate increased demand if our systems cannot handle current or higher volumes of usage.

Material defects or errors in our on-demand software could harm our reputation, result in significant costs to us and impair our ability to sell our on-demand software.

The software applications underlying our on-demand software are inherently complex and may contain material defects or errors, which may cause disruptions in availability or other performance problems. Any such errors, defects, disruptions in service or other performance problems with our on-demand software, whether in connection with the day-to-day operation, upgrades or otherwise, could damage our customers’ businesses and cause harm to our reputation. If we have any errors, defects, disruptions in service or other performance problems

 

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with our on-demand software, customers could elect not to renew, or delay or withhold payment to us, we could lose future sales or customers may make warranty claims against us, which could result in an increase in our provision for doubtful accounts, an increase in the length of collection cycles for accounts receivable or costly litigation.

The costs incurred in correcting any material defects or errors in our on-demand software may be substantial and could adversely affect our operating results. After the release of our on-demand software, defects or errors may also be identified from time to time by our internal team and by our customers. We implement bug fixes and upgrades as part of our regularly scheduled system maintenance. If we do not complete this maintenance according to schedule or if customers are otherwise dissatisfied with the frequency and/or duration of our maintenance services and related system outages, customers could elect not to renew, or delay or withhold payment to us, or cause us to issue credits, make refunds or pay penalties.

Existing federal, state and foreign laws regulating email and text messaging marketing practices impose certain obligations on the senders of commercial emails and text messages, which could minimize the effectiveness of our on-demand software or increase our operating expenses to the extent financial penalties are triggered.

The Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003, or the CAN-SPAM Act, establishes certain requirements for commercial email messages and specifies penalties for the transmission of commercial email messages that are intended to deceive the recipient as to source or content. The CAN-SPAM Act, among other things, obligates the sender of commercial emails to provide recipients with the ability to opt out of receiving future emails from the sender. In addition, some states have passed laws regulating commercial email practices that are, in some cases, significantly more punitive and difficult to comply with than the CAN-SPAM Act. Utah and Michigan, for example, have enacted do-not-email registries to protect minors from receiving unsolicited commercial email that markets certain covered content, such as adult or other products the minor cannot legally obtain. It is not settled whether all or a portion of such state laws may be pre-empted by the CAN-SPAM Act. In addition, certain foreign jurisdictions, such as Australia, Canada and the European Union, have enacted laws that regulate sending email, and some of these laws are more restrictive than U.S. laws. For example, some foreign laws prohibit sending unsolicited email unless the recipient has provided the sender advance consent to receipt of such email, or in other words has “opted-in” to receiving it. A requirement that recipients opt into, or the ability of recipients to opt out of, receiving commercial emails may minimize the effectiveness of our on-demand software. In addition, the CAN-SPAM Act and regulations implemented by the Federal Communications Commission pursuant to the CAN-SPAM Act, and the Telephone Consumer Protection Act, also known as the Federal Do-Not-Call law, among other requirements, prohibit companies from sending specified types of commercial text messages unless the recipient has given his or her prior express consent. Non-compliance with these laws and regulations carries significant financial penalties. If we were to be found in violation of federal law, applicable state laws not pre-empted by the CAN-SPAM Act, or foreign laws regulating the distribution of commercial email or text messages, whether as a result of violations by our customers or any determination that we are directly subject to and in violation of these requirements, we could be required to pay penalties, which would adversely affect our financial performance and significantly harm our reputation and our business.

In addition, foreign, state or foreign governments may in the future enact legislation or laws restricting the ability to conduct interactive marketing activities in mobile, social and web channels. Any such restrictions could require us to change one or more aspects of the way we operate our business, which could impair our ability to attract and retain customers or increase our operating costs or otherwise harm our business.

The standards that private entities use to regulate the use of email have in the past interfered with, and may in the future interfere with, the effectiveness of our on-demand software and our ability to conduct business.

Our customers rely on email to communicate with their customers. Various private entities attempt to regulate the use of email for commercial solicitation. These entities often advocate standards of conduct or

 

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practice that significantly exceed current legal requirements and classify certain email solicitations that comply with current legal requirements as spam. Some of these entities maintain “blacklists” of companies and individuals, and the websites, ISPs and internet protocol addresses associated with those entities or individuals that do not adhere to those standards of conduct or practices for commercial email solicitations that the blacklisting entity believes are appropriate. If a company’s internet protocol addresses are listed by a blacklisting entity, emails sent from those addresses may be blocked if they are sent to any internet domain or internet address that subscribes to the blacklisting entity’s service or purchases its blacklist.

From time to time, some of our internet protocol addresses may become listed with one or more blacklisting entities due to the messaging practices of our customers. There can be no guarantee that we will be able to successfully remove ourselves from those lists. Blacklisting of this type could interfere with our ability to market our on-demand software and services and communicate with our customers and, because we fulfill email delivery on behalf of our customers, could undermine the effectiveness of our customers’ email marketing campaigns, all of which could have a material negative impact on our business and results of operations.

Evolving regulations concerning data privacy may restrict our customers’ ability to solicit, collect, process, disclose and use data necessary to conduct effective marketing campaigns and analyze the results or may increase their costs, which could harm our business.

Federal, state and foreign governments have enacted, and may in the future enact, laws and regulations concerning the solicitation, collection, processing, disclosure or use of consumers’ personal information. Such laws and regulations may require companies to implement privacy and security policies, permit users to access, correct and delete personal information stored or maintained by such companies, inform individuals of security breaches that affect their personal information, and, in some cases, obtain individuals’ consent to use personal information for certain purposes. Other proposed legislation could, if enacted, impose additional requirements and prohibit the use of certain technologies that track individuals’ activities on web pages or that record when individuals click through to an internet address contained in an email message. Such laws and regulations could restrict our customers’ ability to collect and use email addresses, page viewing data, and personal information, which may reduce demand for our solution. For example, the European Commission has recently proposed a comprehensive reform of the European Union’s existing data protection rules to strengthen online privacy rights. The rules that are finally adopted could require changes to our customers’ marketing practices that could reduce demand for our services in the European Union.

Our applications collect, store and report personal information, which raises privacy concerns and could result in liability to us or inhibit sales of subscriptions to our on-demand software.

Many federal, state and foreign government bodies and agencies have adopted or are considering adopting laws and regulations regarding the collection, use and disclosure of personal information. Because many of the features of our applications use, store and report on personal information from our customers, any inability to adequately address privacy concerns, even if unfounded, or comply with applicable privacy laws, regulations and policies, could result in liability to us, damage our reputation, inhibit sales and harm our business. Furthermore, the costs of compliance with, and other burdens imposed by, such laws, regulations and policies that are applicable to the businesses of our customers may limit the use and adoption of our on-demand software and reduce overall demand for it. Privacy concerns, whether or not valid, may inhibit market adoption of our on-demand software.

If our on-demand software is perceived to cause or is otherwise unfavorably associated with invasions of privacy, whether or not illegal, it may subject us or our customers to public criticism. Existing and potential future privacy laws and increasing sensitivity of consumers to unauthorized disclosures and use of personal information may create negative public reactions related to interactive marketing, including marketing practices of our customers. Public concerns regarding data collection, privacy and security may cause some of our customers’ customers to be less likely to visit their websites or otherwise interact with them. If enough

 

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consumers choose not to visit our customers’ websites or otherwise interact with them, our customers could stop using our on-demand software. This, in turn, would reduce the value of our service and inhibit or reverse the growth of our business.

Any decrease in opt in rates or usage habits could reduce the demand for our on-demand software.

It is our policy that our customers may only use our on-demand software to provide marketing content to recipients that have elected to receive marketing communications from them through specified interactive channels such as email, mobile and social. If recipients decrease their overall opt in rates for these marketing communications or reduce the extent to which they use, or otherwise cease use of, the channels over which these marketing communications are sent, our customers will have a smaller or less addressable group of potential customers to target and they may decide it is not cost effective for them to continue to use our on-demand software. Accordingly, if opt in rates decline for any reason, including privacy concerns, negative publicity or changes in laws or regulations, or consumer usage of certain interactive marketing channels declines, demand for our on-demand software could decline and our business could be harmed.

Our customers’ violation of our policies and misuse of our on-demand software to transmit negative messages or website links to harmful applications or engage in illegal activity could damage our reputation, and we may face liability for unauthorized, inaccurate or fraudulent information distributed via, or illegal activity conducted using, our on-demand software.

We rely on representations made to us by our customers that their use of our on-demand software will comply with our policies and applicable law. We do not audit our customers to confirm compliance with these representations. Our customers could use our on-demand software to engage in bad acts including transmitting negative messages or website links to harmful applications, sending unsolicited commercial email and reproducing and distributing copyrighted material without permission, reporting inaccurate or fraudulent data or engaging in illegal activity. Any such use of our on-demand software could damage our reputation and we could face claims for damages, copyright or trademark infringement, defamation, negligence or fraud. Moreover, our customers’ promotion of their products and services through our on-demand software may not comply with federal, state and foreign laws. We cannot predict whether our role in facilitating these activities would expose us to liability under these laws or subject us to other regulatory action.

Even if claims asserted against us do not result in liability, we may incur substantial costs in investigating and defending such claims. If we are found liable for our customers’ activities, we could be required to pay fines or penalties, redesign our on-demand software or otherwise expend resources to remedy any damages caused by such actions and to avoid future liability.

As internet commerce develops, federal, state and foreign governments may propose and implement new taxes and new laws to regulate internet commerce, which may negatively affect our business.

As internet commerce continues to evolve, increasing regulation by federal, state or foreign governments becomes more likely. Our business could be negatively impacted by the application of existing laws and regulations or the enactment of new laws applicable to interactive marketing. The cost to comply with such laws or regulations could be significant and would increase our operating expenses, and we may be unable to pass along those costs to our customers in the form of increased subscription fees. In addition, federal, state and foreign governmental or regulatory agencies may decide to impose taxes on services provided over the internet or via email. Such taxes could discourage the use of the internet and email as a means of commercial marketing, which would adversely affect the viability of our on-demand software.

Our operating results may be harmed if we are required to collect sales taxes for our subscription services in jurisdictions where we have not historically done so or if our accruals for sales taxes are insufficient.

State and local taxing jurisdictions have differing rules and regulations governing sales and use taxes, and these rules and regulations are subject to varying interpretations that may change over time. In particular, the

 

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applicability of sales and use taxes to our subscription services in various jurisdictions is unclear. We have recorded sales and use tax liabilities of $0.3 million as of December 31, 2011. It is possible that we could face sales and use tax audits resulting in liabilities for these taxes in excess of our estimates. We could also be subject to audits with respect to states and international jurisdictions for which we have not accrued tax liabilities. A successful assertion that we should be collecting additional sales or other taxes on our services in jurisdictions where we have not historically done so could result in substantial tax liabilities for past sales, discourage customers from purchasing our application or otherwise harm our business and operating results. Although our agreements indicate that customers are responsible for sales and use tax, attempts to collect old balances are often problematic, particularly with former customers.

We have limited experience with non-volume based pricing models, which we use for some of our newer offerings. If we incorrectly structure these pricing models or are unable to price our offerings in a manner acceptable by our customers, our revenue and operating results may be harmed.

We currently utilize volume-based pricing models for our email and mobile messaging offerings. We have limited experience with non-volume based pricing models for our newer offerings such as our social offering. If our customers, which have historically used our offerings primarily for their email-based interactive marketing campaigns, do not accept the other pricing models we use for certain newer offerings and may utilize for future offerings, our ability to sell additional functionality on a cost-effective and competitive basis may be hindered, and our revenue and operating results may be adversely affected.

If we fail to develop or protect our brand cost-effectively, our business may be harmed.

We believe that developing and maintaining an awareness and the integrity of our brand in a cost-effective manner are important to achieving widespread acceptance of our existing and future offerings and are important elements in attracting new customers. We believe that the importance of brand recognition will increase as competition in our market further intensifies. Successful promotion of our brand will depend on the effectiveness of our marketing efforts and on our ability to provide reliable and useful products and services at competitive prices. Brand promotion activities may not yield increased revenue, and even if they do, the increased revenue may not offset the expenses we incur in building our brand. If we fail to promote and maintain our brand successfully or maintain loyalty among our customers, or if we incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may fail to attract new customers or retain our existing customers, and our business may be harmed. We have registered certain of our trademarks worldwide. However, competitors may adopt similar trademarks to ours or purchase keywords that are confusingly similar to our brand names as terms in internet search engine advertising programs, which could impede our ability to build our brand identity and lead to confusion among potential customers of our services.

If we fail to respond to evolving technological changes, our on-demand software could become obsolete or less competitive.

Our industry is characterized by new and rapidly evolving technologies, standards, regulations, customer requirements and frequent product introductions. Accordingly, our future success depends upon, among other things, our ability to develop and introduce new products and services. The process of developing new technologies, products and services is complex, and if we are unable to develop enhancements to, and new features for, our existing on-demand software or acceptable new functionality that keeps pace with technological developments, industry standards, interactive marketing trends or customer requirements, our solution may become obsolete, less marketable and less competitive, and our business could be significantly harmed.

We have experienced rapid growth in recent periods. If we fail to manage our growth effectively, our financial performance may suffer.

We have expanded our overall business, customer base, employee headcount and operations in recent periods. We increased our total number of regular full-time employees from 168 as of December 31, 2007 to 693

 

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as of December 31, 2011. In January 2011, we completed the acquisition of Eservices in Australia, which allowed us to add more customers and significantly expanded our operations in the Asia Pacific region. We also have a fifty-percent owned unconsolidated affiliate with operations in Denmark. Our expansion has placed, and our expected future growth will continue to place, a significant strain on our managerial, customer operations, research and development, sales and marketing, administrative, financial and other resources. If we are unable to manage our growth successfully, our operating results could suffer.

We rely on our management team and other key employees, and need additional personnel, to grow our business, and the loss of one or more key employees, or our inability to attract and retain qualified personnel, could harm our business.

Our success and future growth depend on the skills, working relationships and continued services of our management team and other key personnel. The loss of any member of our senior management team, including our Chief Executive Officer, could adversely affect our business.

Our future success will also depend on our ability to attract, retain and motivate highly skilled research and development, operations, sales, technical and other personnel in the United States and abroad. Competition for these types of personnel is intense. All of our employees in the United States work for us on an at-will basis. As a result of these factors, we may be unable to attract or retain qualified personnel. Our inability to attract and retain the necessary personnel could adversely affect our business.

We are currently expanding and improving our information technology infrastructure and systems. If these implementations are not successful, our operations could be disrupted, which could cause our operating results to suffer.

We are currently expanding and improving our information technology infrastructure and systems to assist us in the management of our growing operations and accommodate our employee, customer and business growth. We anticipate that these improvements will be a long-term investment and that the process will require management time, support and cost. Moreover, there are inherent risks associated with upgrading, improving and expanding information technology systems. We cannot be sure that the improvements to our infrastructure and systems will be fully or effectively implemented on a timely basis, if at all. If we do not successfully implement upgrades and other changes on a timely basis or at all, our operations may be disrupted and our quality of service could decline. As a result, our operations and operating results could suffer. In addition, any new system deployments 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.

Our inability to acquire and integrate other businesses, products or technologies could seriously harm our competitive position.

In order to remain competitive, obtain key competencies or accelerate our time to market, we may seek to acquire additional businesses, products or technologies. To date, we have completed several acquisitions ranging from smaller professional services companies to our largest acquisition, Eservices, in January 2011. We have limited experience in successfully acquiring and integrating businesses, products and technologies. If we identify an appropriate acquisition candidate, we may not be successful in negotiating the terms of the acquisition, financing the acquisition, or effectively integrating the acquired business, product or technology into our existing business and operations. For instance, we may not fully realize the anticipated benefits of our acquisition of Eservices, which will depend in part on combining service offerings, migrating customers to our on-demand software and entering into new markets. Our due diligence may fail to identify all of the problems, liabilities or other shortcomings or challenges of an acquired business, product or technology, including issues related to intellectual property, product quality or product architecture, regulatory compliance practices, revenue recognition or other accounting practices, or employee or customer issues. Additionally, in connection with any acquisitions we are able to complete, we may not achieve the synergies or other benefits we expected to achieve and we may incur write-downs, impairment charges or unforeseen liabilities which could negatively affect our

 

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operating results or financial position or could otherwise harm our business. If we finance acquisitions by issuing convertible debt or equity securities, our existing stockholders may be diluted, which could affect the market price of our stock. Further, contemplating or completing an acquisition and integrating an acquired business, product or technology will significantly divert management and employee time and resources.

If we are unable to protect the confidentiality of our proprietary information, the value of our on-demand software could be adversely affected.

We rely largely on our unpatented technology and trade secrets to protect our proprietary information. We generally seek to protect this information by confidentiality, non-disclosure and assignment of invention agreements with our employees, contractors and parties with which we do business. These agreements may be breached and we may not have adequate remedies for any such breach. We cannot be certain that the steps we have taken will prevent unauthorized use or reverse engineering of our technology. Moreover, our trade secrets may be disclosed to or otherwise become known or be independently developed by competitors. To the extent that our employees, contractors, or other third parties with whom we do business use intellectual property owned by others in their work for us, disputes may arise as to the rights in related or resulting know-how and inventions. If, for any of the above reasons, our intellectual property is disclosed or misappropriated, it would harm our ability to protect our rights and have a material adverse effect on our business.

Our business may suffer if it is alleged or determined that our technology infringes the intellectual property rights of others.

Our industry is characterized by the existence of a large number of patents and by litigation based on allegations of infringement or other violations of intellectual property rights. Moreover, in recent years, individuals and groups have purchased patents and other intellectual property assets for the purpose of making claims of infringement in order to extract settlements from companies like ours. From time to time, third parties have claimed and may continue to claim that we are infringing upon their patents or other intellectual property rights. In addition, we may be contractually obligated to indemnify our customers in the event of infringement of a third party’s intellectual property rights. Responding to such claims, regardless of their merit, can be time consuming, costly to defend in litigation, divert management’s attention and resources, damage our reputation and brand, and cause us to incur significant expenses. Even if we are indemnified against such costs, the indemnifying party may be unable to uphold its contractual obligations. Further, claims of intellectual property infringement might require us to redesign our application, delay releases, enter into costly settlement or license agreements or pay costly damage awards, or face a temporary or permanent injunction prohibiting us from marketing or selling our on-demand software. If we cannot or do not license the infringed technology on reasonable terms or at all, or substitute similar technology from another source, our revenue and operating results could be adversely impacted. Additionally, our customers may not purchase our on-demand software if they are concerned that they may infringe third-party intellectual property rights. The occurrence of any of these events may have a material adverse effect on our business.

The success of our business depends on our ability to protect and enforce our intellectual property rights. We rely on a combination of trademark, trade dress, copyright, unfair competition and trade secret laws, as well as confidentiality procedures and contractual restrictions, to establish and protect our proprietary rights. These laws, procedures and restrictions provide only limited protection and any of our intellectual property rights may be challenged, invalidated, circumvented, infringed or misappropriated. Further, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the United States and, therefore, in certain jurisdictions, we may be unable to protect our proprietary technology adequately against unauthorized third party copying, infringement or use, which could adversely affect our competitive position.

In order to protect or enforce our intellectual property rights, we may initiate litigation against third parties. Litigation may be necessary to protect our trade secrets or know-how, or determine the enforceability, scope and validity of the proprietary rights of others. Any lawsuits that we initiate could be expensive, take significant time and divert management’s attention from other business concerns. Additionally, we may provoke third parties to

 

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assert claims against us. We may not prevail in any lawsuits that we initiate and the damages or other remedies awarded, if any, may not be commercially valuable. The occurrence of any of these events may have a material adverse effect on our business.

We use open source software in our on-demand software, which may subject us to litigation, require us to re-engineer our applications or otherwise divert resources away from our development efforts.

We use open source software in connection with our on-demand software. From time to time, companies that incorporate open source software into their products have faced claims challenging the ownership of open source software and/or compliance with open source license terms. Therefore, we could be subject to suits by parties claiming ownership of what we believe to be open source software or noncompliance with open source licensing terms. 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 our use of open source software and try to ensure that none is used in a manner that would require us to disclose the source code or that would otherwise breach the terms of an open source agreement, such use could inadvertently occur and we may be required to release our proprietary source code, pay damages for breach of contract, re-engineer our applications, discontinue sales in the event re-engineering cannot be accomplished on a timely basis or take other remedial action that may divert resources away from our development efforts, any of which could adversely affect our business.

We face risks associated with our international operations, including unfavorable regulatory, political, tax and labor conditions, which could limit our growth.

Our ability to grow our business and our future success will depend to a significant extent on our ability to expand our operations and customer base worldwide. We completed our acquisition of Eservices, located in Australia, commenced operations via a joint venture in Denmark, and commenced software development activities via a subsidiary in India. Operating in foreign countries requires significant resources and management attention, and we have limited experience entering new geographic markets. We cannot assure you that our international efforts will be successful. International sales and operations may be subject to risks such as:

 

   

difficulties in staffing and managing foreign operations;

 

   

burdens of complying with a wide variety of laws and regulations;

 

   

adverse tax burdens and foreign exchange controls making it difficult to repatriate earnings and cash;

 

   

political instability;

 

   

terrorist activities;

 

   

currency exchange rate fluctuations;

 

   

generally longer receivable collection periods than in the United States;

 

   

trade restrictions;

 

   

differing employment practices and laws and labor disruptions;

 

   

preference for local vendors;

 

   

technology compatibility;

 

   

the imposition of government controls;

 

   

lesser degrees of intellectual property protection;

 

   

a legal system subject to undue influence or corruption; and

 

   

a business culture in which improper sales practices may be prevalent.

 

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We cannot assure you that these factors will not have a material adverse effect on our future international sales and, consequently, on our business.

Catastrophic events could disrupt and cause harm to our business.

We are located in California, an area susceptible to earthquakes. A major earthquake or other natural disaster, fire, act of terrorism or other catastrophic event that results in the destruction or disruption of any of our critical business operations or information technology systems could severely affect our ability to conduct normal business operations and, as a result, our future operating results could be harmed.

Our business is subject to changing regulations regarding corporate governance, disclosure controls, internal control over financial reporting and other compliance areas that will increase both our costs and the risk of noncompliance.

As a public company, we are subject to the reporting requirements of the Securities Exchange Act of 1934, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, the recently enacted Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, and the rules and regulations of The NASDAQ Stock Market. The requirements of these rules and regulations will increase our legal, accounting and financial compliance costs, will make some activities more difficult, time-consuming and costly and may also place undue strain on our personnel, systems and resources.

The Sarbanes-Oxley Act requires, among other things, that we maintain effective disclosure controls and procedures and internal control over financial reporting. Commencing with our fiscal year ending December 31, 2012, we must perform system and process evaluation and testing of our internal control over financial reporting to allow management and our independent registered public accounting firm to report on the effectiveness of our internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act. Our compliance with Section 404 of the Sarbanes-Oxley Act will require that we incur substantial accounting expense and expend significant management efforts. We have never been required to test our internal controls within a specified period, and, as a result, we may experience difficulty in meeting these reporting requirements in a timely manner, particularly if material weaknesses or significant deficiencies persist.

If we are not able to comply with the requirements of Section 404 of the Sarbanes-Oxley Act in a timely manner, the market price of our stock could decline and we could be subject to sanctions or investigations by the stock exchange on which our common stock is listed, the SEC or other regulatory authorities, which would require additional financial and management resources.

Any failure to develop or maintain effective controls, or any difficulties encountered in their implementation or improvement, could harm our operating results or cause us to fail to meet our reporting obligations. Any failure to implement and maintain effective internal controls also could adversely affect the results of periodic management evaluations and annual auditor attestation reports regarding the effectiveness of our internal control over financial reporting that we will be required to include in our periodic reports filed with the SEC, beginning for our fiscal year ending December 31, 2012 under Section 404 of the Sarbanes-Oxley Act. Ineffective disclosure controls and procedures or internal control over financial reporting could also cause investors to lose confidence in our reported financial and other information, which would likely have a negative effect on the trading price of our common stock.

Implementing any appropriate changes to our internal controls may require specific compliance training of our directors, officers and employees, entail substantial costs in order to modify our existing accounting systems and take a significant period of time to complete. Such changes may not, however, be effective in maintaining the adequacy of our internal controls, and any failure to maintain that adequacy, or consequent inability to produce accurate financial statements on a timely basis, could increase our operating costs and could materially impair our ability to operate our business. In the event that we are not able to demonstrate compliance with

 

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Section 404 of the Sarbanes-Oxley Act in a timely manner, that our internal controls are perceived as inadequate or that we are unable to produce timely or accurate financial statements, investors may lose confidence in our operating results and our stock price could decline.

Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations.

A change in accounting standards or practices can have a significant effect on our reported results and may even affect our reporting of transactions completed before the change is effective. New accounting pronouncements and varying interpretations of accounting pronouncements have occurred and may occur in the future. Changes to existing rules or the questioning of current practices may adversely affect our reported financial results or the way we conduct our business. For example, we have recently adopted and retroactively applied a new revenue recognition standard, which may in the future be subject to varying interpretations that could materially impact how we recognize revenue. Accounting for revenue from sales of subscriptions to software is particularly complex, is often the subject of intense scrutiny by the SEC, and will evolve as the Financial Accounting Standards Board, or FASB, continues to consider applicable accounting standards in this area.

We may not be able to secure additional financing on favorable terms, or at all, to meet our future capital needs.

In the future, we may require additional capital to respond to business opportunities, challenges, acquisitions or unforeseen circumstances and may determine to engage in equity or debt financings or enter into credit facilities for other reasons. We may not be able to timely secure additional debt or equity financing on favorable terms, or at all. Any debt financing obtained by us in the future could involve restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities, including potential acquisitions. If we raise additional funds through further issuances of equity, convertible debt securities or other securities convertible into equity, our existing stockholders could suffer significant dilution in their percentage ownership of our company, and any new equity securities we issue could have rights, preferences and privileges senior to those of holders of our common stock. If we are unable to obtain adequate financing or financing on terms satisfactory to us, when we require it, our ability to continue to grow or support our business and to respond to business challenges could be significantly limited.

U.S. and global political, credit and financial market conditions may negatively impact or impair the value of and our access to our current portfolio of cash, cash equivalents and investments, including U.S. Treasury securities and U.S.-backed investment vehicles.

Our cash, cash equivalents and investments are held in a variety of interest-bearing instruments, including U.S. Treasury and Agency securities. As a result of the uncertain domestic and global political, credit and financial market conditions, investments in these types of financial instruments pose risks arising from liquidity and credit concerns. Given that future deterioration in the U.S. and global credit and financial markets is a possibility, no assurance can be made that losses or significant deterioration in the fair value of our cash, cash equivalents, or investments will not occur, which could have a material adverse effect on our consolidated financial position, results of operations or cash flows.

Further, we maintain our cash and cash equivalents with a number of financial institutions around the world. In the event that any of these institutions experiences financial difficulty, we could find it more difficult to quickly access these funds, which could reduce our ability to financially support our business and operations.

Changes in tax laws or regulations that are applied adversely to us or our customers could increase the costs of our on-demand software and professional services and adversely impact our business.

New income, sales, use or other tax laws, statutes, rules, regulations or ordinances could be enacted at any time. Those enactments could adversely affect our domestic and international business operations, and our

 

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business and financial performance. Further, existing tax laws, statutes, rules, regulations or ordinances could be interpreted, changed, modified or applied adversely to us. These events could require us or our customers to pay additional tax amounts on a prospective or retroactive basis, as well as require us or our customers to pay fines and/or penalties and interest for past amounts. If we raise our prices to offset the costs of these changes, existing and potential future customers may elect not to continue or purchase our on-demand software and professional services. Additionally, new, changed, modified or newly interpreted or applied tax laws could increase our customers’ and our compliance, operating and other costs, as well as the costs of our on-demand software and professional services. Further, these events could decrease the capital we have available to operate our business. Any or all of these events could adversely impact our business and financial performance.

Our common stock price may be volatile or may decline regardless of our operating performance.

The trading prices of the securities of technology companies have been highly volatile. The market price of our common stock may fluctuate significantly in response to numerous factors, many of which are beyond our control, including:

 

   

actual or anticipated fluctuations in our revenue and other operating results;

 

   

the financial projections we may provide to the public, any changes in these projections or our failure to meet these projections;

 

   

failure of securities analysts to initiate or maintain coverage of us, changes in financial estimates by any securities analysts who follow our company, or our failure to meet these estimates or the expectations of investors;

 

   

announcements by us or our competitors of significant technical innovations, acquisitions, strategic partnerships, joint ventures or capital commitments;

 

   

announcements by us of negative conclusions about our internal controls and our ability to accurately report our financial results;

 

   

changes in operating performance and stock market valuations of software or other technology companies, or those in our industry in particular;

 

   

price and volume fluctuations in the overall stock market, including as a result of trends in the economy as a whole;

 

   

lawsuits threatened or filed against us; and

 

   

other events or factors, including those resulting from war, incidents of terrorism or responses to these events.

In addition, the stock markets have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many technology companies. Stock prices of many technology companies have fluctuated in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were to become involved in securities litigation, it could subject us to substantial costs, divert resources and the attention of management from our business and adversely affect our business.

All of our total outstanding shares recently became available for sale on the public market, and the increased supply of stock could cause the market price of our common stock to drop significantly, even if our business is doing well.

All of our outstanding shares are freely tradable without restrictions or further registration under the federal securities laws, unless held by our “affiliates” as that term is defined in Rule 144 under the Securities Act of 1933, as amended, or the Securities Act, which are subject to the volume, manner of sale and other limitations under Rule 144.

 

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The market price of the shares of our common stock could decline as a result of sales of a substantial number of our shares in the public market or the perception in the market that the holders of a large number of shares intend to sell their shares.

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

The trading market for our common stock will depend in part on the research and reports that securities or industry analysts publish about us or our business. If industry analysts cease coverage of our company, the trading price for our stock would be negatively impacted. If one or more of the analysts who cover us downgrade our stock or publish inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts cease coverage of our company or fail to publish reports on us regularly, demand for our stock could decrease, which might cause our stock price and trading volume to decline.

Our directors, executive officers and principal stockholders have substantial control over us and could delay or prevent a change in corporate control.

Our directors, executive officers and holders of more than 5% of our common stock, together with their affiliates, beneficially own, in the aggregate, approximately 51% of our outstanding common stock as of December 31, 2011. As a result, these stockholders, acting together, would have the ability to control the outcome of matters submitted to our stockholders for approval, including the election of directors and any merger, consolidation or sale of all or substantially all of our assets. In addition, these stockholders, acting together, would have the ability to control the management and affairs of our company. Accordingly, this concentration of ownership might harm the market price of our common stock by:

 

   

delaying, deferring or preventing a change in control of us;

 

   

impeding a merger, consolidation, takeover or other business combination involving us; or

 

   

discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us.

Delaware law and provisions in our restated certificate of incorporation and bylaws could make a merger, tender offer or proxy contest difficult, thereby depressing the trading price of our common stock.

Our status as a Delaware corporation and the anti-takeover provisions of the Delaware General Corporation Law may discourage, delay or prevent a change in control by prohibiting us from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder, even if a change of control would be beneficial to our existing stockholders. In addition, our restated certificate of incorporation and bylaws contain provisions that may make the acquisition of our company more difficult without the approval of our board of directors, including the following:

 

   

our board of directors is classified into three classes of directors with staggered three-year terms;

 

   

only our chairperson of the board, our chief executive officer, our president or a majority of our board of directors is authorized to call a special meeting of stockholders;

 

   

our stockholders are only able to take action at a meeting of stockholders and not by written consent;

 

   

vacancies on our board of directors will be filled only by our board of directors and not by stockholders;

 

   

directors may be removed from office only for cause;

 

   

our restated certificate of incorporation authorizes undesignated preferred stock, the terms of which may be established, and shares of which may be issued, without stockholder approval; and

 

   

advance notice procedures apply for stockholders to nominate candidates for election as directors or to bring matters before an annual meeting of stockholders.

 

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Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

Our corporate headquarters occupy approximately 34,000 square feet in San Bruno, California under subleases that expire in June 2012. Our corporate headquarters accommodates our principal engineering, sales, marketing, operations and finance and administrative activities. In addition to our corporate headquarters in San Bruno, as of December 31, 2011, we leased office space in Carlsbad, Chicago, Denver, New York, San Francisco, Seattle, the United Kingdom and Australia for local sales and professional services personnel. These facilities total approximately 64,000 square feet. We also began operations during 2011 at a new development center in Bangalore, India.

In November 2011, we entered into a lease agreement for a new headquarters facility in San Bruno, California. The lease term will commence in June 2012, and will cover up to approximately 58,000 square feet. The lease has a term of six years, with a five-year renewal. We further intend to add new facilities and expand our existing facilities as we add employees and expand our markets, and we believe that suitable additional or substitute space will be available as needed to accommodate any such expansion of our operations. At this time, we believe our facilities are adequate for our near term operational and business needs.

Item 3. Legal Proceedings

From time to time we may become involved in various legal proceedings in the ordinary course of our business, and may be subject to third-party infringement claims. Even claims that lack merit could result in significant legal expenses and use of managerial resources.

Item 4. Mine Safety Disclosures

Not applicable.

 

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Part II

Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Our common stock has been traded on The NASDAQ Global Select Market under the symbol “MKTG” since April 21, 2011. The following table sets forth the range of high and low per share sales prices for our common stock as reported on the NASDAQ Global Select Market for the periods indicated.

Year Ended December 31, 2011:

 

     Prices  

Quarter Ended

   High      Low  

June 30, 2011 (from April 21, 2011)

   $ 17.73       $ 14.49   

September 30, 2011

   $ 17.80       $ 10.44   

December 31, 2011

   $ 11.50       $ 7.45   

Holders

As of February 29, 2012, there were approximately 201 holders of record of our common stock (not including beneficial holders of stock held in street name).

Dividends

We have never declared or paid cash dividends on our capital stock. We currently intend to retain future earnings for use in the operation of our business and do not intend to declare or pay any dividends in the foreseeable future. Any further determination to pay dividends on our capital stock will be at the discretion of our board of directors and will depend on our financial condition, results of operation, capital requirements and other factors that our board of directors considers relevant.

Securities Authorized for Issuance Under Equity Compensation Plans.

We incorporate information regarding our equity compensation plans into this section by reference to our Proxy Statement for our 2012 Annual Meeting of Stockholders.

 

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Stock Performance Graph.

The graph depicted below shows a comparison of cumulative total stockholder returns for our common stock, the NASDAQ Composite Index and the NASDAQ Computer Index for the period from April 21, 2011 (the date our common stock began trading on the NASDAQ Global Select Market) to December 30, 2011, the last trading day of 2011.

The comparisons in the graph below are based upon historical data and are not indicative of, nor intended to forecast, future performance of our common stock.

 

LOGO

The graph above assumes that $100 was invested in our common stock at its closing price and in each index on April 21, 2011, and that all dividends were reinvested. We have not paid or declared any cash dividends on our common stock. The Standard Industrial Code, or SIC, used is 7372—Prepackaged Software.

 

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Sales of Unregistered Securities

None.

Use of Proceeds from Sales of Registered Securities

The Form S-1 Registration Statement (Registration No. 333-1713777) relating to our initial public offering of our common stock was declared effective by the SEC on April 8, 2011, and on April 20, 2011 the offering commenced.

The net offering proceeds to us after deducting underwriters’ discounts and the total expenses were approximately $69.8 million.

We expect to use the net proceeds for general corporate purposes, including working capital and potential capital expenditures and acquisitions.

Purchases of Equity Securities by the Issuer or Affiliated Purchasers

We did not repurchase any of our common stock during the year ended December 31, 2011.

 

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Item 6. Selected Consolidated Financial Data

The information set forth below for the five years ended December 31, 2011 is not necessarily indicative of results of future operations, and should be read in conjunction with Item 7, Management's Discussion and Analysis of Financial Condition and Results of Operations, and the consolidated financial statements and related notes thereto included in Item 8, Consolidated Financial Statements and Supplementary Data, of this Annual Report on Form 10-K to fully understand the factors that may affect the comparability of the information presented below. The consolidated statements of income data for each of the years ended December 31, 2011, 2010 and 2009 and the consolidated balance sheet data as of December 31, 2011 and 2010 are derived from our audited consolidated financial statements included elsewhere in this report. The consolidated statements of income data for the years ended December 31, 2008 and 2007 and the consolidated balance sheet data as of December 31, 2009 and 2008 are derived from our audited consolidated financial statements not included in this report. The consolidated balance sheet data as of December 31, 2007 are derived from our unaudited consolidated financial statements not included in this report.

 

     Year Ended December 31,  
     2011(1)     2010     2009     2008     2007  

Consolidated Statements of Income Data:

          

Revenue

          

Subscription

   $ 94,501      $ 69,284      $ 53,044      $ 41,047      $ 29,930   

Professional services

     40,438        24,787        13,599        9,067        7,674   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

     134,939        94,071        66,643        50,114        37,604   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenue

          

Subscription

     27,918        20,221        15,109        12,399        8,466   

Professional services

     36,747        20,697        12,478        8,926        6,314   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cost of revenue (2)

     64,665        40,918        27,587        21,325        14,780   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     70,274        53,153        39,056        28,789        22,824   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

          

Research and development (2)

     13,544        10,597        8,052        5,068        3,308   

Sales and marketing (2)

     33,300        20,849        15,494        15,681        11,098   

General and administrative (2)

     11,463        8,225        5,746        4,639        3,181   

Gain on acquisition

     (2,220     —          —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     56,087        39,671        29,292        25,388        17,587   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     14,187        13,482        9,764        3,401        5,237   

Total other income (expense), net

     (268     1,171        185        (811     298   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income before provision for income taxes

     13,919        14,653        9,949        2,590        5,535   

(Provision for) benefit from income taxes

     (5,824     (5,821     (4,063     17,857        (109

Equity in net loss of unconsolidated affiliates

     (124     (234     —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 7,971      $ 8,598      $ 5,886      $ 20,447      $ 5,426   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to common stockholders:

          

Basic

   $ 5,019      $ 802      $ 186      $ 2,980      $ 85   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ 5,190      $ 1,179      $ 299      $ 5,009      $ 146   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income per share attributable to common stockholders: (3)

          

Basic

   $ 0.14      $ 0.09      $ 0.02      $ 0.43      $ 0.01   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ 0.12      $ 0.08      $ 0.02      $ 0.35      $ 0.01   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in computation of net income per share attributable to common stockholders: (3)

          

Basic

     35,278        8,527        7,518        7,007        6,304   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     41,734        14,464        14,302        14,408        13,857   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1)

On January 3, 2011, the Company completed the acquisition of the remaining equity interests of Eservices. For the year ended December 31, 2011, the amount of Eservices’ revenue and net loss included in the Company’s consolidated statement of net income was

 

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  $11.3 million and $0.8 million, respectively. The Company initially acquired a 50% ownership interest in Eservices in July 2010, which was accounted for under the equity method. See Note 5 of the notes to our consolidated financial statements for more information.
(2) Total cost of revenue and operating expenses include stock-based compensation expense as follows:

 

     Year Ended December 31,  
     2011      2010      2009      2008      2007  

Cost of revenue

   $ 1,004       $ 523       $ 332       $ 308       $ 111   

Research and development

     610         331         280         264         41   

Sales and marketing

     861         694         461         400         119   

General and administrative

     1,238         958         563         478         91   

 

(3) See Note 3 of the notes to our consolidated financial statements for a description of how we compute basic and diluted net income attributable to common stockholders and net income per share attributable to common stockholders.

 

     Year Ended December 31,  
     2011      2010      2009      2008      2007  

Consolidated Balance Sheet Data:

              

Cash and cash equivalents

   $ 73,456       $ 13,884       $ 15,570       $ 7,130       $ 8,350   

Working capital

     104,619         27,047         26,489         12,724         7,277   

Total assets

     162,546         71,900         57,995         47,373         23,810   

Long-term obligations

     2,454         1,152         725         970         1   

Total liabilities

     22,289         18,725         13,178         11,336         10,151   

Total stockholders’ equity

     140,257         53,175         44,817         36,067         13,659   

 

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the financial statements and related notes in this report. This discussion contains forward-looking statements that involve risks and uncertainties. These forward-looking statements are based on our current expectations, estimates and projections about our industry, management’s beliefs and certain assumptions made by us, all of which are subject to change. Forward-looking statements can often be identified by words such as “anticipates,” “expects,” “intends,” “plans,” “predicts,” “believes,” “seeks,” “estimates,” “may,” “will,” “should,” “would,” “could,” “potential,” “continue,” “ongoing,” similar expressions and variations or negatives of these words and include, but are not limited to, statements regarding projected results of operations and management’s future strategic plans. Our actual results could differ significantly from those projected in the forward-looking statements as a result of factors, including those discussed under “Risk Factors” and elsewhere in this report. We assume no obligation to update the forward-looking statements or such risk factors.

Overview

We are a leading provider of on-demand software that enables companies to engage in relationship marketing across the interactive channels that consumers are embracing today—email, mobile, social and the web. The Responsys Interact Suite, the core element of our solution, provides marketers with a set of integrated applications to create, execute, optimize and automate marketing campaigns. Our solution is comprised of our on-demand software and our professional services, all focused on enabling the marketing success of our customers.

The following is a timeline of significant milestones in our corporate history:

 

   

We were founded in 1998 to provide on-demand software designed to enable marketers to design, execute and manage email campaigns. Our core product, Interact Campaign, was commercially released in 1999.

 

   

In 2004, under a new management team, we broadened our strategy from solely an email campaign management platform to a set of integrated applications for creating, executing, optimizing and automating email marketing campaigns.

 

   

In 2006, we acquired Inbox Marketing, Inc., a professional services firm, to increase the size and breadth of our professional services organization.

 

   

In 2007, we launched Interact Team to help marketers manage the campaign creation and deployment process by automating the design and tracking of campaign materials, communications, handoffs and approvals.

 

   

In 2008, we launched Interact Connect, which enables marketers to automate the transfer of data to and from our on-demand software platform and their customer data management systems and those of third parties.

 

   

In 2009, we achieved a key technology milestone by releasing our next-generation on-demand software platform, which integrated all of our core applications into one platform, the Responsys Interact Suite. Substantially all of our new customers added since this time are on this platform and we are migrating our other existing customers to this platform over time. This suite includes a new application, Interact Program, for visually designing, managing and automating complex marketing programs with multiple stages across multiple channels. In 2009, we also acquired Smith-Harmon, Inc. to increase the size and breadth of our professional services organization.

 

   

In April 2010, we added mobile and social functionality to Interact Campaign to coordinate the creation, scheduling, automation and tracking of short message service, or text message, marketing campaigns and promotions to consumers who engage with our customers’ brands as Facebook fans or Twitter followers.

 

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In July 2010, we acquired a non-controlling, fifty-percent equity interest in Eservices Group Pty Ltd, or Eservices, a privately-held company headquartered in Melbourne, Australia, and in January 2011 we acquired the remaining equity interests in Eservices. Following the acquisition, the company was renamed Responsys Pty Ltd. As of and for the year ended December 31, 2010, the investment is reflected in our consolidated financial statements using the equity method. We have consolidated our results with those of Eservices beginning in January 2011. We acquired Eservices to expand the scope of our business internationally, increase our customer base and grow our professional services and sales teams.

We derive revenue from subscriptions to our on-demand software and related professional services. As part of a subscription, a customer commits to a minimum monthly or quarterly fee that permits the customer to send up to a specified number of email messages. If a customer sends additional messages above the contracted level, the customer is required to pay additional per-message fees. No refunds or credits are given if a customer sends fewer messages than the contracted level. Customer agreements are non-cancellable for a minimum period, generally one year but ranging up to three years. Revenue from messages sent above contracted levels during the last three years has historically ranged from approximately 20% to 25% of our subscription revenue in any given 12-month period but varies from quarter to quarter due to seasonal, macroeconomic and other factors. We have historically had higher subscription revenue in our fourth quarter than other quarters in a given 12-month period, primarily due to revenue from messages sent above contracted levels. Subscription revenue accounted for 70.0%, 73.7% and 79.6% of our total revenue during the years ended December 31, 2011, 2010 and 2009, respectively. Subscription revenue is driven primarily by the number of customers, demand from existing customers, contracted value of the subscription agreements and number of messages sent above contracted levels. To date, our customers have primarily used email messages for their marketing campaigns, and email will continue to be the primary driver of our subscription revenue in the foreseeable future. However, if customers increase their use of other interactive channels in the future, we anticipate that revenue associated with email campaigns will decrease as a percentage of subscription revenue. Although revenue associated with our mobile, social and web channels has not been material to date, we believe that our cross-channel capabilities have been important factors in our new customers’ purchasing decisions.

Deferred revenue primarily consists of the unearned portion of billed professional services fees or fees for our on-demand software. As we bill nearly all our customers on a monthly or quarterly basis, our deferred revenue balance does not serve as a primary source of our future subscription revenue.

We sell subscriptions to our on-demand software and professional services primarily through a direct sales force. We target enterprise and larger mid-market companies that seek to implement more advanced marketing programs across interactive channels. Our customers are of varied size across a wide variety of industries, including retail and consumer, travel, financial services and technology. Our revenue from outside the United States as a percentage of total revenue was 20.9%, 10.8% and 13.5% for the years ended December 31, 2011, 2010 and 2009, respectively. Revenue from outside the United States as a percentage of total revenue increased during the year ended December 31, 2011 as a result of our acquisition of Eservices, located in Australia.

Our revenue growth over these periods has been driven by an increased number of customers with higher subscription fees. Over the past three years, we have added larger enterprise customers with higher subscription commitments, higher messaging volumes and greater professional services demands. Our subscription revenue fluctuates as a result of seasonal variations in our business, principally due to timing of our customers’ sales and marketing cycles. We have historically had higher subscription revenue in our fourth quarter than in other quarters during a given 12-month period, primarily due to revenue from messages sent above contracted levels by our retail and consumer customers. Our cost of revenue and operating expenses have increased in absolute dollars over this period due to our need to increase bandwidth and capacity to support larger messaging volumes and the overall increased size of our business. We expect that our cost of revenue and operating expenses will continue to increase in absolute dollars as we continue to invest in our growth and incur additional costs as a public company.

 

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Key Metrics

We regularly review a number of metrics to evaluate growth trends, measure our performance, establish budgets and make strategic decisions. We discuss revenue, gross margin, and the components of operating income and margin below under Basis of Presentation, and we discuss other key metrics below.

Subscription Dollar Retention Rate.

We believe that our ability to retain our customers and expand their use of our software over time is an indicator of the stability of our revenue base and the long-term value of our customer relationships. We assess our performance in this area using a metric we refer to as our Subscription Dollar Retention Rate. Our Subscription Dollar Retention Rate metric is calculated by dividing (a) Retained Subscription Revenue by (b) Retention Base Revenue. We define Retention Base Revenue as subscription revenue from all customers in the prior period, and we define Retained Subscription Revenue as subscription revenue from that same group of customers in the current period. Our Subscription Dollar Retention Rate has averaged above 100% over the four quarters in each of the last three years.

Number of Customers.

We believe that our ability to expand our customer base is an indicator of our market penetration and the growth of our business as we continue to invest in our direct sales force and marketing initiatives. We define our number of customers as of the end of a particular quarter as the number of direct-billed subscription customers with $3,000 or more in committed subscription revenue for that quarter. We had 346, 277 and 246 customers as of December 31, 2011, 2010 and 2009, respectively. For more information about our customers, see Item 1, Business—Customers above.

Basis of Presentation

Revenue.

Subscription Revenue.

We derive our subscription revenue from subscriptions to our on-demand software. Subscription revenue primarily consists of revenue from contractually committed messaging and other fees and revenue from messages sent above contracted levels. Customer agreements are non-cancellable for a minimum period, generally one year but ranging up to three years. Our contracts provide our customers with access to our on-demand software and the ability to send up to a specified number of messages during each month or quarter in the contract term. If customers exceed the specified messaging volume, per-message fees are billed for the excess volume, generally at rates equal to or greater than the contracted minimum per-message fee. If customers send less than the specified number of messages, no rollover credit or refunds are given.

We recognize the aggregate minimum subscription fee payable ratably on a straight-line basis over the subscription term, provided that an enforceable contract has been signed by both parties, access to our software has been granted to the customer, the fee for the subscription is fixed or determinable and collection is reasonably assured. We do not recognize revenue in excess of the amount we have the right to invoice. Revenue for messages sent above contracted levels is recognized in the period in which the messages are sent. We also derive revenue from setup fees when the services are first activated. The setup fees are recorded as deferred revenue and recognized as revenue ratably over the estimated life of the customer relationship.

For a discussion of how we expect seasonal factors to affect our subscription revenue, see Results of Operations below.

 

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Professional Services Revenue.

Professional services revenue consists primarily of fees associated with campaign services, creative and strategic marketing services, technical services and education services. For more information about our professional services, see Item 1, Business—Our Services above. Our professional services are not required for customers to begin using our on-demand software. Our professional services engagements are typically billed on a fixed fee, time and materials or unit basis.

Cost of Revenue.

Cost of Subscription Revenue.

Cost of subscription revenue primarily consists of hosting costs, data communications expenses, personnel and related costs, including salaries and employee benefits, allocated overhead, software license fees, costs associated with website development activities, amortization expenses associated with capitalized software, and depreciation and amortization expenses associated with computer equipment. To date, the expenses associated with capitalized software have not been material to our cost of subscription revenue. Expenses related to hosting and data communications are affected by the number of customers using our on-demand software, the complexity and frequency of their use, the volume of messages sent and the amount of data processed and stored. We plan to continue to significantly expand our capacity to support our growth, which will result in higher cost of subscription revenue in absolute dollars.

Cost of Professional Services Revenue.

Cost of professional services revenue primarily consists of personnel and related costs and allocated overhead. Our cost associated with providing professional services is significantly higher as a percentage of revenue than our cost of subscription revenue due to the labor costs associated with providing professional services. As it takes several months to ramp up a productive professional consultant, we generally increase our professional services capacity ahead of associated professional services revenue, which can result in lower margins in the given investment period. We expect the number of professional services personnel to increase in the future, which will result in higher cost of professional services revenue in absolute dollars.

Operating Expenses.

Research and Development.

Research and development expenses primarily consist of personnel and related costs for our product development and product management personnel and allocated overhead. Our research and development efforts have been devoted primarily to increasing the functionality and enhancing the ease of use of our on-demand software and to improving scalability and performance. We expect that in the future, research and development expenses will increase as we extend our on-demand software offerings and develop new technologies and capabilities.

Sales and Marketing.

Sales and marketing expenses primarily consist of personnel and related costs for our sales and marketing employees, including bonuses and commissions, the cost of marketing programs, promotional events and webinars, amortization of our acquired customer lists and allocated overhead. We expense sales commissions when the customer contract is signed because our obligation to pay a sales commission arises at that time. We plan to continue to invest in sales and marketing by increasing the number of direct sales personnel in order to add new customers and increase penetration within our existing customer base, expanding our domestic and international sales and marketing activities, building brand awareness and sponsoring additional marketing events. We expect that in the future, sales and marketing expenses will increase and continue to be our largest functional cost.

 

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General and Administrative.

General and administrative expenses consist primarily of personnel and related costs, and allocated overhead. In addition, general and administrative expenses include professional fees, bad debt expenses, sales and use tax expense and other corporate expenses. We anticipate that we will incur additional costs for personnel, systems and external professional services as we grow and operate as a public company, including higher legal, insurance and financial reporting expenses, and the additional costs to achieve and maintain compliance with Section 404 of the Sarbanes-Oxley Act. Accordingly, we expect that in the future, general and administrative expenses will increase.

Gain on Acquisition.

Gain on acquisition represents the fair value adjustments of our initial investment in Eservices upon the acquisition of the remaining equity interests.

Other Income (Expense).

Other income (expense) primarily consists of interest income, interest expense and foreign exchange gains (losses). Other income (expense) for the year ended December 31, 2010 includes fair value adjustments of our call and put options to purchase the remaining equity interests in Eservices,and for the year ended December 31, 2009 includes fair value adjustments of our preferred stock warrant liability, which was settled upon exercise of the related warrant in 2009. Interest income represents interest received on our cash, cash equivalents and short-term investments. Interest expense is associated with our outstanding capital leases. Foreign exchange gains (losses) relate to expenses and transactions denominated in currencies other than our functional currency.

Equity in Net Loss of Unconsolidated Affiliates.

Equity in net loss of unconsolidated affiliates represents our proportionate share of operating results from our non-controlling equity investment in Responsys Denmark A/S for the year ended December 31, 2011 and in Eservices and Responsys Denmark A/S for the year ended December 31, 2010.

 

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Results of Operations

The following tables set forth selected consolidated statements of income data for each of the periods indicated.

 

     Year Ended December 31,  
     2011     2010     2009  
     (in thousands)  

Revenue:

      

Subscription

   $ 94,501      $ 69,284      $ 53,044   

Professional services

     40,438        24,787        13,599   
  

 

 

   

 

 

   

 

 

 

Total revenue

     134,939        94,071        66,643   
  

 

 

   

 

 

   

 

 

 

Cost of revenue: (1)

      

Subscription

     27,918        20,221        15,109   

Professional services

     36,747        20,697        12,478   
  

 

 

   

 

 

   

 

 

 

Total cost of revenue

     64,665        40,918        27,587   
  

 

 

   

 

 

   

 

 

 

Gross profit

     70,274        53,153        39,056   
  

 

 

   

 

 

   

 

 

 

Operating expenses:

      

Research and development (1)

     13,544        10,597        8,052   

Sales and marketing (1)

     33,300        20,849        15,494   

General and administrative (1)

     11,463        8,225        5,746   

Gain on acquisition

     (2,220     —          —     
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     56,087        39,671        29,292   
  

 

 

   

 

 

   

 

 

 

Operating income

     14,187        13,482        9,764   

Other income (expense), net

     (268     1,171        185   
  

 

 

   

 

 

   

 

 

 

Income before provision for income taxes

     13,919        14,653        9,949   

Provision for income taxes

     (5,824     (5,821     (4,063

Equity in net loss of unconsolidated affiliates

     (124     (234     —     
  

 

 

   

 

 

   

 

 

 

Net income

   $ 7,971      $ 8,598      $ 5,886   
  

 

 

   

 

 

   

 

 

 

 

(1) Total cost of revenue and operating expenses include the following amounts related to stock-based compensation:

 

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     Year Ended December 31,  
     2011      2010      2009  
     (in thousands)  

Cost of revenue

   $ 1,004       $ 523       $ 332   

Research and development

     610         331         280   

Sales and marketing

     861         694         461   

General and administrative

     1,238         958         563   

 

     Year Ended December 31,  
     2011     2010     2009  

Revenue:

      

Subscription

     70.0     73.7     79.6

Professional services

     30.0        26.3        20.4   
  

 

 

   

 

 

   

 

 

 

Total revenue

     100.0        100.0        100.0   
  

 

 

   

 

 

   

 

 

 

Cost of revenue:

      

Subscription

     20.7        21.5        22.7   

Professional services

     27.2        22.0        18.7   
  

 

 

   

 

 

   

 

 

 

Total cost of revenue

     47.9        43.5        41.4   
  

 

 

   

 

 

   

 

 

 

Gross profit

     52.1        56.5        58.6   
  

 

 

   

 

 

   

 

 

 

Operating expenses:

      

Research and development

     10.0        11.3        12.1   

Sales and marketing

     24.7        22.2        23.2   

General and administrative

     8.5        8.7        8.6   

Gain on acquisition

     (1.6     —          —     
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     41.6        42.2        43.9   
  

 

 

   

 

 

   

 

 

 

Operating income

     10.5        14.3        14.7   

Other income (expense), net

     (0.2     1.2        0.3   
  

 

 

   

 

 

   

 

 

 

Income before provision for income taxes

     10.3        15.5        15.0   

Provision for income taxes

     (4.3     (6.2     (6.1

Equity in net loss of unconsolidated affiliates

     (0.1     (0.2     —     
  

 

 

   

 

 

   

 

 

 

Net income

     5.9     9.1     8.9
  

 

 

   

 

 

   

 

 

 

Comparison of Years Ended December 31, 2011, 2010 and 2009

Revenue.

 

    Year Ended December 31,     Year Ended December 31,  
                Change in                 Change in  
    2011     2010     $      %     2010     2009     $      %  
    (dollars in thousands)     (dollars in thousands)  

Subscription revenue

  $ 94,501      $ 69,284      $ 25,217         36.4   $ 69,284      $ 53,044      $ 16,240         30.6

Percentage of total revenue

    70.0     73.7          73.7     79.6     

Professional services revenue

  $ 40,438      $ 24,787      $ 15,651         63.1   $ 24,787      $ 13,599      $ 11,188         82.3

Percentage of total revenue

    30.0     26.3          26.3     20.4     

Subscription revenue.

Subscription revenue for the year ended December 31, 2011 increased by $25.2 million over the year ended December 31, 2010. The increase was primarily due to an increase in contractually committed messaging of $11.5 million from new customers, including $5.1 million of revenue from customers acquired through our

 

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acquisition of Eservices, and a net increase of $10.3 million from existing customers. In addition, revenue from messages sent above contracted levels increased in absolute dollars to $19.3 million from $15.9 million, but decreased to 20.4% of subscription revenue from 22.9% of subscription revenue, for the years ended December 31, 2011 and 2010, respectively.

Subscription revenue for the year ended December 31, 2010 increased by $16.2 million over the year ended December 31, 2009. The increase was primarily due to an increase in contractually committed messaging of $7.4 million from new customers and a net increase of $5.4 million from existing customers. In addition, revenue from messages sent above contracted levels increased in absolute dollars to $15.9 million from $12.8 million, but decreased to 22.9% of subscription revenue from 24.0% of subscription revenue, for the years ended December 31, 2010 and 2009, respectively.

Professional services revenue.

Professional services revenue for the year ended December 31, 2011 increased by $15.7 million over the year ended December 31, 2010. The increase was primarily due to a $9.1 million increase from new customers, including $6.3 million of revenue from customers acquired through our acquisition of Eservices, and a net increase of $6.5 million from existing customers.

Professional services revenue for the year ended December 31, 2010 increased by $11.2 million over the year ended December 31, 2009. The increase was primarily due to an $8.0 million increase from existing customers and a $2.8 million increase from new customers.

Cost of Revenue.

 

     Year Ended December 31,     Year Ended December 31,  
                 Change in                 Change in  
     2011     2010     $      %     2010     2009     $      %  
     (dollars in thousands)     (dollars in thousands)  

Cost of subscription revenue

   $ 27,918      $ 20,221      $ 7,697         38.1   $ 20,221      $ 15,109      $ 5,112         33.8

Percentage of subscription revenue

     29.5     29.2          29.2     28.5     

Gross margin

     70.5     70.8          70.8     71.5     

Cost of professional services revenue

   $ 36,747      $ 20,697      $ 16,050         77.5   $ 20,697      $ 12,478      $ 8,219         65.9

Percentage of professional services revenue

     90.9     83.5          83.5     91.8     

Gross margin

     9.1     16.5          16.5     8.2     

Cost of subscription revenue.

Cost of subscription revenue for the year ended December 31, 2011 increased by $7.7 million over the year ended December 31, 2010. The increase was primarily due to a $4.2 million increase in personnel expenses due to the addition of employees, a $2.1 million increase in depreciation and maintenance expenses associated with equipment for our data centers and a $1.0 million increase in bandwidth expenses due to an expansion of our capacity in order to accommodate growth.

Cost of subscription revenue for the year ended December 31, 2010 increased by $5.1 million over the year ended December 31, 2009. The increase was primarily due to a $2.5 million increase in personnel expenses due to the addition of employees, a $1.2 million increase in bandwidth expenses due to an expansion of our capacity in order to accommodate growth, a $1.0 million increase in depreciation and maintenance expenses associated with equipment for our data centers and a $0.3 million increase in information technology expenses to support our higher headcount.

Cost of professional services revenue.

Cost of professional services revenue for the year ended December 31, 2011 increased by $16.1 million over the year ended December 31, 2010. The increase was primarily due to a $12.4 million increase in personnel

 

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expenses due to the addition of employees, a $0.7 million increase in facility expenses, a $0.6 million increase in outside consulting expenses due to an increased demand for our services, a $0.6 million increase in information technology expenses to support our larger professional services team, a $0.6 million increase in travel and entertainment expenses, a $0.4 million increase in stock-based compensation and a $0.3 million increase in depreciation and maintenance expenses. Professional services gross margin declined for the year ended December 31, 2011 compared to the year ended December 31, 2010 as we increased our professional services capacity in anticipation of growing demand for those services. In addition, the gross margin on professional services provided by Eservices was lower than that of other professional services.

Cost of professional services revenue for the year ended December 31, 2010 increased by $8.2 million over the year ended December 31, 2009. The increase was primarily due to a $5.8 million increase in personnel expenses due to the addition of employees, a $0.8 million increase in outside consulting expenses due to an increased demand for our services, a $0.7 million increase in information technology expenses to support our larger professional services team and a $0.5 million increase in travel and entertainment expenses.

Operating Expenses.

Research and Development.

 

     Year Ended December 31,     Year Ended December 31,  
                 Change in                 Change in  
     2011     2010     $      %     2010     2009     $      %  
     (dollars in thousands)     (dollars in thousands)  

Research and development

   $ 13,544      $ 10,597      $ 2,947         27.8   $ 10,597      $ 8,052      $ 2,545         31.6

Percentage of total revenue

     10.0     11.3          11.3     12.1     

Research and development expenses for the year ended December 31, 2011 increased by $2.9 million over the year ended December 31, 2010. The increase was primarily due to a $2.9 million increase in personnel expenses due to the addition of employees and a $0.3 million increase in stock-based compensation expenses, partially offset by a $0.4 million decrease in consulting services expenses as we brought more software development related to items not eligible for capitalization in-house.

Research and development expenses for the year ended December 31, 2010 increased by $2.5 million over the year ended December 31, 2009. The increase was primarily due to a $1.7 million increase in personnel expenses due to the addition of employees, a $0.3 million increase in hardware and software expenses and a $0.2 million increase in outside consulting services expenses.

Sales and Marketing.

 

     Year Ended December 31,     Year Ended December 31,  
                 Change in                 Change in  
     2011     2010     $      %     2010     2009     $      %  
     (dollars in thousands)     (dollars in thousands)  

Sales and marketing

   $ 33,300      $ 20,849      $ 12,451         59.7   $ 20,849      $ 15,494      $ 5,355         34.6

Percentage of total revenue

     24.7     22.2          22.2     23.2     

Sales and marketing expenses for the year ended December 31, 2011 increased by $12.5 million over the year ended December 31, 2010. The increase was primarily due to a $4.7 million increase in personnel expenses due to the addition of employees, a $2.1 million increase in amortization expense related to intangible assets acquired through the acquisition of Eservices, a $1.5 million increase in commission expense as a result of an increase in new customers and increased revenue from existing customers, a $1.3 million increase in advertising and promotion expenses primarily due to our user conference that was held in February 2011, a $1.3 million increase in travel and entertainment expenses, a $0.8 million increase in bonus expense and a $0.2 million increase in facility and telephone expenses.

 

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Sales and marketing expenses for the year ended December 31, 2010 increased by $5.4 million over the year ended December 31, 2009. The increase was primarily due to a $2.4 million increase in personnel expenses due to the addition of employees, a $0.7 million increase in travel and entertainment expenses, a $0.5 million increase in commission expense as a result of an increase in new customers and increased revenue from existing customers, a $0.5 million increase in advertising and promotion expenses due to expansion of our domestic and international sales and marketing activities, a $0.3 increase in bonus expense, a $0.2 million increase in information technology expenses and a $0.2 million increase in stock-based compensation.

General and Administrative.

 

     Year Ended December 31,     Year Ended December 31,  
                 Change in                 Change in  
     2011     2010     $      %     2010     2009     $      %  
     (dollars in thousands)     (dollars in thousands)  

General and administrative

   $ 11,463      $ 8,225      $ 3,238         39.4   $ 8,225      $ 5,746      $ 2,479         43.1

Percentage of total revenue

     8.5     8.7          8.7     8.6     

General and administrative expenses for the year ended December 31, 2011 increased by $3.2 million over the year ended December 31, 2010. The increase was primarily due to a $2.0 million increase in personnel expenses due to the addition of employees, a $0.5 million increase in consulting expenses and a $0.3 million increase in stock-based compensation.

General and administrative expenses for the year ended December 31, 2010 increased by $2.5 million over the year ended December 31, 2009. The increase was primarily due to a $1.4 million increase in legal and accounting expenses as a result of a multi-year audit and legal activity to support company growth, a $0.5 million increase in personnel expenses due to the addition of employees, a $0.4 million increase in expenses due to the acquisition of a non-controlling interest in Eservices, a $0.4 million increase in stock-based compensation and a $0.5 million increase in outside consulting expenses, partially offset by a $0.9 million decrease in sales and use tax liability.

Gain on Acquisition.

 

     Year Ended December 31,      Year Ended December 31,  
                   Change in                    Change in  
     2011      2010      $      %      2010      2009      $      %  
     (dollars in thousands)      (dollars in thousands)  

Gain on acquisition

   $ (2,220    $ —         $ (2,220      *       $ —         $ —         $ —           *   

 

*— Not meaningful

Gain on acquisition for the year ended December 31, 2011 consisted of approximately $1.0 million for the fair value adjustment of our initial investment in Eservices and $1.2 million for the recognition of foreign exchange gains upon the acquisition of the remaining equity interests in January 2011.

Total Other Income (Expense), Net.

 

     Year Ended December 31,     Year Ended December 31,  
                   Change in                   Change in  
     2011      2010      $      %     2010      2009      $      %  
     (dollars in thousands)     (dollars in thousands)  

Other income (expense), net

   $ (268    $ 1,171       $ (1,439      (122.9 )%    $ 1,171       $ 185       $ 986         533.0

Other income (expense), net for the year ended December 31, 2011 decreased by $1.4 million over the year ended December 31, 2010. The decrease was primarily due to the $1.5 million adjustment in the fair value of our call and put options to purchase the remaining equity interest in Eservices that occurred in 2010 for which there was no corresponding amount in 2011.

 

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Other income (expense), net for the year ended December 31, 2010 increased by $1.0 million over the year ended December 31, 2009. The increase was primarily due to a $1.5 million adjustment in the fair value of our call and put options to purchase the remaining equity interest in Eservices and partially offset by unfavorable Euro and British Pound Sterling currency exchange rate fluctuations.

Provision for Income Taxes.

 

     Year Ended December 31,     Nine Months Ended September 30,  
                 Change in                 Change in  
     2011     2010     $      %     2010     2009     $      %  
     (dollars in thousands)     (dollars in thousands)  

Provision for income taxes

   $ (5,824   $ (5,821   $ (3      0.1   $ (5,821   $ (4,063   $ (1,758      43.3

Effective tax rate

     41.8     39.7          39.7     40.8     

Our effective tax rate for the years ended December 31, 2011, 2010, and 2009 was 41.8%, 39.7% and 40.8%, respectively. Our tax rate is affected by recurring items, such as tax rates in foreign jurisdictions and the relative amount of income we earn in jurisdictions, which we expect to be fairly consistent in the near term. It is also affected by discrete items that may occur in any given year, but are not consistent from year to year. In addition, state income taxes, research tax credits and non-deductible stock-based compensation expenses had the most significant impact on the difference between our statutory U.S. federal income tax rate of 34% and our effective tax rate during the years ended December 31, 2011, 2010 and 2009.

Equity in Net Loss of Unconsolidated Affiliates.

 

     Year Ended December 31,     Nine Months Ended September 30,  
                   Change in                   Change in  
     2011      2010      $      %     2010      2009      $      %  
     (dollars in thousands)     (dollars in thousands)  

Equity in net loss of unconsolidated affiliates

   $ (124    $ (234    $ 110         (47.0 )%    $ (234    $ —         $ (234      *   

 

*—Not meaningful

Equity in net loss of unconsolidated affiliates for the year ended December 31, 2011 decreased by $0.1 million over the year ended December 31, 2010. We recognized a loss in unconsolidated affiliates for the year ended December 31, 2011 as a result of our non-controlling equity investment in Responsys Denmark A/S and for the year ended December 31, 2010 as a result of our non-controlling equity investments in Eservices and Responsys Denmark A/S.

Liquidity and Capital Resources

 

     Year Ended December 31,  
     2011     2010     2009  
     (in thousands)  

Net cash provided by operating activities

   $ 23,000      $ 19,420      $ 12,902   

Net cash used in investing activities

     (35,837     (15,685     (3,960

Net cash provided by (used in) financing activities

     72,485        (5,715     (341

Effect of foreign exchange rate changes on cash and cash equivalents

     (76     114        19   
  

 

 

   

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

   $ 59,572      $ (1,866   $ 8,620   
  

 

 

   

 

 

   

 

 

 

To date, we have financed our operations primarily through private placements of preferred stock and common stock, our initial public offering of our common stock and cash from operating activities. As of December 31, 2011, we had $73.5 million of cash and cash equivalents and $104.6 million of working capital.

 

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Net cash provided by operating activities.

Cash provided by operating activities is significantly influenced by the amount of cash we invest in personnel and infrastructure to support the anticipated growth of our business, the increase in the number of customers using our on-demand software and professional services and the amount and timing of customer payments. Cash provided by operations has historically resulted from net income driven by sales of subscriptions to our on-demand software and professional services, and adjusted for non-cash expense items such as depreciation and amortization of property and equipment, stock-based compensation and changes in our deferred tax assets.

For the year ended December 31, 2011, net cash provided by operating activities was the result of $8.0 million of net income primarily due to the increased growth of our revenue derived from sales of subscriptions to our on-demand software and professional services, increased by non-cash items such as depreciation and amortization of $9.7 million, including $2.1 million related to the amortization of Eservices intangibles, deferred tax assets of $4.4 million, stock-based compensation of $3.7 million, which was partially offset by $2.2 million resulting from a gain on acquisition related to our acquisition of Eservices and $1.4 million of excess tax benefits from our stock-based compensation. Changes in operating assets and liabilities provided $0.7 million in cash. Sources of cash totaled $4.0 million and were primarily related to a $2.9 million increase in accrued compensation resulting from an increase in accrued commission and bonus amounts and a $1.1 million increase in other accrued liabilities. Uses of cash totaled $3.3 million and were primarily related to a $1.7 million decrease in deferred revenue, a $0.7 million increase in other assets as we made payments for additional maintenance and support for our data center equipment and an increase of $0.5 million in accounts receivable.

For the year ended December 31, 2010, net cash provided by operating activities was a result of $8.6 million of net income primarily due to the increased growth of our revenue derived from sales of subscriptions to our on-demand software and professional services, increased by non-cash items such as depreciation and amortization of $5.8 million, stock-based compensation of $2.5 million, deferred tax assets of $4.6 million which was partially offset by $1.5 million resulting from a gain from the fair value adjustment of our call and put options related to our investment in Eservices. Changes in operating assets and liabilities used $0.7 million in cash. Sources of cash totaled $5.3 million and were primarily related to a $3.4 million increase in deferred revenue, a $0.6 million increase in our accounts payable balance and a $0.5 million increase in other long term liabilities primarily due to an increase in our deferred tax liability. Uses of cash totaled $6.0 million and were primarily related to a $4.4 million increase in our accounts receivable balance and a $1.6 million increase in prepaid expenses.

For the year ended December 31, 2009, net cash provided by operating activities was the result of $5.9 million of net income primarily due to the increased growth of our revenue derived from sales of subscriptions to our on-demand software and professional services, increased by $9.6 million for non-cash items. In addition, we had a decrease in net cash provided by operating activities due to changes in our operating assets and liabilities in the amount of $2.6 million, which was primarily the result of an increase in our accounts receivable balance in the amount of $4.0 million due to our growth, partially offset by an increase of $0.5 million in deferred revenue, and an increase in accrued compensation in the amount of $1.3 million, which resulted from an increase in employee bonuses and sales commissions.

Net cash used in investing activities.

For the year ended December 31, 2011, cash used in investing activities consisted of $21.4 million in net purchases of U.S. Treasury and Agency bonds, $7.5 million for purchases of property and equipment, $6.1 million in payments, net of $0.9 million cash acquired, to complete the acquisition of Eservices, a $0.4 million payment related to our initial investment in Eservices and $0.4 million of capitalized software costs. In general, our purchases of property and equipment are primarily for data center equipment and network infrastructure to support the operation of our on-demand software, as well as computer equipment for our increasing employee headcount.

 

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For the year ended December 31, 2010, cash used in investing activities consisted of $7.9 million for purchases of property and equipment, $7.0 million used to make equity investments in unconsolidated affiliates, $0.4 million of capitalized software costs and $0.3 million for an additional payment related to the Smith-Harmon acquisition.

For the year ended December 31, 2009, cash used in investing activities consisted of $2.2 million for purchases of property and equipment, $0.8 million of capitalized software costs and $0.9 million for the initial payment for the Smith-Harmon acquisition.

Net cash provided by (used in) financing activities.

For the year ended December 31, 2011, cash provided by financing activities consisted of net proceeds of $72.2 million received from the issuance of our common stock in connection with our initial public offering, $1.4 million in excess tax benefits from our stock-based compensation, $1.2 million in proceeds from the issuance of our common stock in connection with stock option exercises and $0.2 million in proceeds from the early exercise of stock options. Cash used in financing activities consisted of $1.7 million in payments for direct costs incurred in connection with the preparation of our registration statement and $0.8 million in payments in connection with our capital lease obligations.

For the year ended December 31, 2010, cash used in financing activities consisted of $5.7 million in payments for the repurchase of our common stock, $0.7 million in payments for direct costs incurred in connection with the preparation of our registration statement and $0.4 million in payments in connection with our capital lease obligations, partially offset by $0.3 million in proceeds from the issuance of our common stock in connection with stock option exercises, $0.6 million in proceeds from the early exercise of stock options and $0.2 million in excess tax benefits from our stock-based compensation.

For the year ended December 31, 2009, cash used in financing activities consisted of $0.5 million in payments on our capital lease obligations, which was partially offset by $0.2 million in proceeds from the issuance of our common stock in connection with stock option exercises.

Capital resources

As of December 31, 2011, we have not provided for U.S. federal and state income taxes on approximately $2.5 million of undistributed earnings of our foreign subsidiaries, since such earnings are considered indefinitely reinvested outside the United States. If we decide to repatriate such foreign earnings in the future, we would incur incremental U.S. federal and state income tax, reduced by the current amount of our U.S. federal and state net operating loss and tax credit carryforwards. However, our intent is to keep these funds indefinitely reinvested outside of the United States and our current plans do not contemplate a need to repatriate them to fund our U.S. operations.

In March 2012, we used $1.7 million of cash to acquire a 19.9% interest in PM Comunicação LTDA. See Note 17 of the notes to our consolidated financial statements for more information.

We believe that our existing sources of liquidity will be sufficient to fund our operations for at least the next 12 months. Our future capital requirements will depend on many factors, including our rate of revenue growth; the expansion of our sales and marketing activities; the timing and extent of spending to support product development efforts and expansion into new territories; the timing of introductions of new features and enhancements to our on-demand software; and expenditures related to occupying and equiping new facilities. To the extent that existing cash and cash equivalents and cash from operations are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. We may also seek to invest in, or acquire complementary businesses, applications or technologies, any of which could also require us to seek additional equity or debt financing. Additional funds may not be available on terms favorable to us or at all.

 

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Commitments

We generally do not enter into long-term minimum purchase commitments. Our principal commitments consist of obligations under operating leases for our facilities and capital leases. The following table includes information about our contractual obligations that impact our short- and long-term liquidity and capital needs. The table includes information about payments due under specified contractual obligations and is aggregated by type of contractual obligation as of December 31, 2011:

 

     Payment Due by Period  
     Total      Less than
1 Year
     1-3
Years
     3-5
Years
     More than
5 Years
 

Operating lease obligations

   $ 15,058       $ 3,331       $ 5,375       $ 3,802       $ 2,550   

Capital lease obligations

     2,116         934         1,182         —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total contractual obligations

   $ 17,174       $ 4,265       $ 6,557       $ 3,802       $ 2,550   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Purchase orders are not included in the table above. Our purchase orders represent authorizations to purchase rather than binding agreements. The contractual commitment amounts in the table above are associated with agreements that are enforceable and legally binding and that specify all significant terms, including: fixed or minimum services to be used; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Obligations under contracts that we can cancel without a significant penalty are not included in the table above.

Other noncurrent liabilities consist primarily of deferred tax liabilities, gross unrecognized tax benefits and the related gross interest and penalties. As of December 31, 2011, we had noncurrent deferred tax liabilities of $4.1 million, gross unrecognized tax benefits of $1.6 million and an immaterial amount of gross interest and penalties classified as noncurrent liabilities. At this time, we are unable to make a reasonably reliable estimate of the timing of payments in individual years in connection with these tax liabilities; therefore, such amounts are not included in the above contractual obligations table.

From time to time, in the normal course of business, we indemnify third parties with whom we enter into contractual relationships, including customers, lessors and parties to other transactions, with respect to certain matters. We have agreed, under certain conditions, to hold these third parties harmless against specified losses, such as those arising from a breach of representations or covenants, other third-party claims that our on-demand software when used for its intended purpose infringes the intellectual property rights of such other third parties, or other claims made against certain parties. It is not possible to determine the maximum potential amount of liability under these indemnification obligations due to our limited history of prior indemnification claims and the unique facts and circumstances that are likely to be involved in each particular claim. Historically, payments made under these obligations have not been material.

Off-Balance Sheet Arrangements

During the periods presented, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses, and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions.

 

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We believe that of our significant accounting policies, which are described in Note 2 of the notes to our consolidated financial statements, the following accounting policies involve a greater degree of judgment and complexity. Accordingly, these are the policies we believe are the most critical to aid in fully understanding and evaluating our consolidated financial condition and results of operations.

Revenue Recognition.

We recognize revenue in accordance with Accounting Standards Codification, or ASC, 605-25, Revenue Recognition. Our revenue is primarily derived from sales of subscriptions to our on-demand software. Subscription revenue primarily consists of revenue from contractually committed messaging and revenue from messages sent above contracted levels. Customers do not have the contractual right to take possession of our on-demand software. Accordingly, we recognize subscription revenue equal to the lesser of (1) the cumulative amount of the aggregate contractually committed subscription fee on a straight-line basis over the subscription term less amounts previously recognized or (2) the cumulative amount we have the right to invoice our customer less amounts previously recognized, provided that an enforceable contract has been signed by both parties, access to our software has been granted to the customer, the fee for the subscription is fixed or determinable and collection is reasonably assured. Should a customer exceed the contractually committed messaging volume, per-message fees are billed for the excess volume. Revenue for messages sent above contractually committed messaging levels is recognized in the period in which the messages are sent. We also derive revenue from setup fees when the services are first activated. The setup fees are initially recorded as deferred revenue and recognized as revenue ratably over the estimated life of the customer relationship.

We also derive revenue from professional services. Professional services revenue consists primarily of fees associated with campaign services, creative and strategic marketing services, technical services and education services. Revenue from professional services is recognized as services are rendered for time and material engagements or using a proportional performance model based on services performed for fixed fee consulting engagements. Education services revenue is recognized after the services are performed. Except for the setup fees described above, professional services sold with on-demand software subscriptions are accounted for separately as they have value to the customer on a standalone basis.

At the inception of a customer contract, we make an assessment as to that customer’s ability to pay for the services provided. We base our assessment on a combination of factors, including a financial review or a credit check and our collection experience with the customer. If we subsequently determine that collection from the customer is not reasonably assured, we cease recognizing revenue until cash is received from the customer. Changes in our estimates and judgments about whether collection is reasonably assured would change the timing of the revenue we recognize and/or the amount of bad debt expense that we record.

Deferred revenue represents amounts billed to customers for which revenue has not been recognized. Deferred revenue primarily consists of the unearned portion of professional services fees or the unearned portion of fees from subscriptions to our on-demand software.

Revenue recognition for arrangements with multiple deliverables.

A multiple-element arrangement includes the sale of a subscription to our on-demand software with one or more associated professional service offerings, each of which are individually considered separate units of accounting. In determining whether professional services represent a separate unit of accounting we consider the availability of the services from other vendors. We allocate revenue to each element in a multiple-element arrangement based upon the relative selling price of each deliverable.

We are not able to demonstrate vendor-specific objective evidence, or VSOE, because we do not have sufficient instances of standalone subscription sales of our on-demand software nor are we able to demonstrate sufficient pricing consistency with respect to such sales. In addition, we do not have third-party evidence, or

 

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TPE, of selling price with respect to subscription sales of our on-demand software because we were unable to identify another vendor that sells similar subscriptions due to the unique nature and functionality of our service offering. Therefore, we have determined our best estimate of selling price, or BESP, of subscriptions to our on-demand software based on the following:

 

   

The list price, which represents a component of our current go-to-market strategy, as established by senior management taking into consideration factors such as the competitive and economic environment.

 

   

An analysis of the historical pricing with respect to both our bundled and standalone arrangements for subscriptions to our on-demand software.

We have established VSOE of selling price for those professional services for which we are able to demonstrate sufficient pricing consistency. For all other professional services, we have determinined BESP based on an analysis of separate sales of such professional services.

Accounting for Income Taxes.

Our income tax expense, deferred tax assets and liabilities, and reserves for unrecognized tax benefits reflect management’s best assessment of estimated future taxes to be paid. We are subject to income taxes in both the United States and various foreign jurisdictions. Significant judgments and estimates are required in determining the consolidated income tax expense.

Deferred income taxes arise from temporary differences between the tax and financial statement recognition of revenue and expense. In evaluating our ability to recover our deferred tax assets within the jurisdiction from which they arise, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax-planning strategies and results of recent operations. In projecting future taxable income, we begin with historical results adjusted for changes in accounting policies and incorporate assumptions including the amount of future state, federal and foreign pretax operating income, the reversal of temporary differences and the implementation of feasible and prudent tax-planning strategies. These assumptions require significant judgment about the forecasts of future taxable income and are consistent with the plans and estimates we are using to manage the underlying business. In evaluating the objective evidence that historical results provide, we consider our results of operations.

As of December 31, 2011, we had federal and state net operating loss carryforwards for financial reporting purposes of approximately $20.2 million and $22.8 million, respectively. The net operating loss carryforwards will expire beginning in 2021 and 2014, respectively, if not utilized. Changes in tax laws and rates could also affect recorded deferred tax assets and liabilities in the future. Management is not aware of any such changes that would have a material effect on our results of operations, cash flows, or financial position.

The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax laws and regulations in a multitude of jurisdictions across our global operations. ASC 740, Income Taxes, provides that a tax benefit from an uncertain tax position may be recognized when it is more likely than not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, on the basis of the technical merits. ASC 740 also provides guidance on measurement, derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

We recognize tax liabilities in accordance with ASC 740 and we adjust these liabilities when our judgment changes as a result of the evaluation of new information not previously available. Because of the complexity of some of these uncertainties, the ultimate resolution may result in a payment that is materially different from our current estimate of the tax liabilities. These differences will be reflected as increases or decreases to income tax expense in the period in which new information is available.

 

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As of December 31, 2011, we had federal research tax credit carryforwards of approximately $1.8 million that will expire beginning in 2012. We have recorded unrecognized tax benefits under ASC 740-10 related to federal research tax credit carryforwards of $0.8 million. We have also recorded unrecognized tax benefits under ASC 740-10 related to state research tax credits utilized of $0.7 million, of which $0.6 were utilized. We believe that our unrecognized tax benefits related to research credits could change within the coming year as additional information becomes available. The direction and magnitude of any change is uncertain. We will update the unrecognized tax benefits of research tax credits as new information becomes available.

We consider the earnings of our non-U.S. subsidiaries to be indefinitely invested outside the United States on the basis of estimates that future domestic cash generation will be sufficient to meet future domestic cash needs. We have recorded $0.8 million of deferred tax liability for certain acquisition-related basis differences. We have not recorded a deferred tax liability of approximately $0.2 million related to the U.S. federal and state income taxes and foreign withholding taxes on approximately $2.5 million of undistributed earnings of foreign subsidiaries indefinitely invested outside the United States. Should we decide to repatriate the foreign earnings, we would have to adjust the income tax provision in the period we determined that the earnings will no longer be indefinitely invested outside the United States.

Goodwill.

Goodwill represents the excess of the aggregate purchase price paid over the fair value of the net tangible and identifiable intangible assets acquired. In accordance with ASC 350-10, Intangibles—Goodwill and Other, goodwill is not amortized and is tested for impairment at least annually or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We have determined that we operate in one reporting unit and have selected November 30 as the date to perform our annual impairment test. In the valuation of our goodwill, we must make assumptions regarding estimated future cash flows to be derived from our reporting unit. If these estimates or their related assumptions change in the future, we may be required to record impairment for these assets. We have the option to assess qualitative factors to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount. In 2011, we elected to bypass the qualitative assessment and perform an impairment test that involves a two-step process. The first step of the impairment test involves comparing the fair value of our reporting unit to its net book value, including goodwill. If the net book value exceeds the reporting unit’s fair value, then we would perform the second step of the goodwill impairment test to determine the amount of the impairment loss. The impairment loss would be calculated by comparing the implied fair value of our company to its net book value. In calculating the implied fair value of our goodwill, the fair value of our company would be allocated to all of the other assets and liabilities based on their fair values. The excess of the fair value of our company over the amount assigned to its other assets and liabilities is the implied fair value of goodwill. An impairment loss would be recognized when the carrying amount of goodwill exceeds its implied fair value. We were not required to perform the second step of the goodwill impairment test in 2011. We did not record any charges related to goodwill impairment during the years ended December 31, 2011, 2010 and 2009.

Long-lived Assets, Purchased Intangible Assets and Equity Method Investments.

Purchased intangible assets with a determinable economic life and long-lived assets are carried at cost, less accumulated amortization and depreciation. Amortization and depreciation is computed over the estimated useful life of each asset on a straight-line basis. Equity method investments are carried at cost and are adjusted for our share of the equity method investment earnings. We review our long-lived assets, purchased intangible assets and equity method investments for impairment in accordance with ASC 360-10, Property, Plant and Equipment, whenever events or changes in circumstances indicate that the carrying amount of an asset may no longer be recoverable. When these events occur, we measure impairment by comparing the carrying value of the assets to the estimated undiscounted future cash flows expected to result from the use of the assets and their eventual disposition. If the sum of the expected undiscounted cash flows is less than the carrying amount of the assets, we would recognize an impairment loss based on the fair value of our assets.

 

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Accounting for Stock-based Awards.

We record stock-based compensation expense in accordance with ASC 718-20, Compensation—Stock Compensation, which requires us to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. We recognize stock-based compensation expense over the requisite service period of the individual grant, generally, equal to the vesting period. As of December 31, 2011, we had approximately $24.3 million and $3.9 million of unrecognized stock-based compensation expense related to non-vested stock option awards and restricted stock units, respectively, that we expect to be recognized over a weighted-average period of 4.45 years and 3.67 years, respectively.

To date, we have generally granted stock options to employees that vest 25% one year from the vesting commencement date and 1/48th each month thereafter; however, during 2011 we granted certain stock options to employees that vest 20% one year from the vesting commencement date and 1/60th each month thereafter. Stock options have a contractual term of 10 years.

Restricted stock units vest 25% on each anniversary of the grant date.

The Black-Scholes pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable; these characteristics are not present in our option grants. Existing valuation models, including the Black-Scholes model, may not provide reliable measures of the fair value of our stock-based compensation. Consequently, there is a risk that our estimates of the fair value of our stock-based compensation awards on the grant dates may bear little resemblance to the actual values realized upon exercise. Stock options may expire or result in zero intrinsic value as compared to the fair values originally estimated on the grant date and reported in our financial statements. Alternatively, values may be realized from these instruments that are significantly higher than the fair values originally estimated on the grant date and reported in our financial statements.

We calculated the fair value of options granted using the Black-Scholes pricing model with the following assumptions:

 

     Year Ended December 31,
     2011   2010   2009

Dividend yield (1)

   —  %   —  %   —  %

Risk-free rate (2)

   1.22-2.61%   2.12-2.52%   2.94-3.48%

Expected volatility (3)

   50.00-53.00%   50.00-51.02%   48.89-50.94%

Expected term—in years (4)

   5.27-6.53   6.06   3.77-6.06

 

(1) We have not declared or paid dividends to date and do not anticipate declaring dividends.
(2) The risk-free interest rate is based on the implied yield currently available on U.S. Treasury zero coupon issues with an equivalent remaining term at the grant date.
(3) Prior to our initial public offering (“IPO”) in April 2011, there was no market for our common stock. Therefore, we estimated volatility for option grants by evaluating the average historical volatility of a peer group of companies for the period immediately preceding the option grant for a term that is approximately equal to the options’ expected life. We have continued to use this method subsequent to our IPO because of the limited trading history of our common stock.
(4) The expected term of our options represents the period that the stock-based awards are expected to be outstanding. We have elected to use the simplified method described in SAB No. 107 to compute the expected term. Our stock plan provides for options that have a 10-year term.

We determine the fair value of restricted stock units to be the fair market value of the shares of common stock underlying the restricted stock units at the date of grant.

 

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New Accounting Pronouncements

Accounting Standards Adopted During 2011.

In December 2010, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, 2010-29, Business Combinations Topic (805): Disclosure of Supplementary Pro Forma Information for Business Combinations. ASU 2010-29 provides clarification on the presentation of pro forma information for business combinations and applies to public entities. ASU 2010-29 specifies that the pro forma disclosure should include revenue and earnings of the combined entity as though the business combination(s) during the current year had occurred as of the beginning of the comparable prior annual reporting period only if comparative financial statements are presented. ASU 2010-29 also expands the supplemental pro forma disclosures to include a description of the nature and amount of the material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. The amendments are effective on a prospective basis for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2010. We adopted this update as of January 1, 2011, and its adoption resulted in additional disclosures related to our business combination acquisition of Eservices that was completed in January 2011.

In September 2011, the FASB issued ASU 2011-08, Testing Goodwill for Impairment, to simplify how entities test goodwill for impairment. The guidance in this update is effective for fiscal years and interim periods beginning after December 15, 2011. Early application is permitted. We early adopted this pronouncement in the fourth quarter of 2011 and its adoption did not have a material effect on our financial position or results of operations.

Recently Issued Accounting Standards.

In June 2011, the FASB issued ASU 2011-05, Presentation of Comprehensive Income, which will require companies to present the components of net income and other comprehensive income either in a single continuous statement or in two separate but consecutive statements. ASU 2011-05 eliminates the option to present components of other comprehensive income as part of the statement of changes in stockholders’ equity. ASU 2011-05 does not change the items which must be reported in other comprehensive income, how such items are measured or when they must be reclassified to net income. Additionally, ASU 2011-05 does not affect the calculation or reporting of earnings per share. ASU 2011-05 is effective for reporting periods beginning after December 15, 2011. Early application is permitted. In December 2011, the FASB issued ASU 2011-12, Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05. ASU 2011-12 defers the changes in ASU 2011-05 that pertain to how, when and where reclassification adjustments are presented. We will adopt these ASUs in the first quarter of 2012, which will have no effect on our financial position or results of operations but will affect the way we present comprehensive income.

In May 2011, the FASB issued ASU 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs, which is intended to result in convergence between U.S. GAAP and International Financial Reporting Standards requirements for measurement of, and disclosures about, fair value. ASU 2011-04 clarifies or changes certain fair value measurement principles and enhances the disclosure requirements particularly for Level 3 fair value measurements. This pronouncement is effective for reporting periods beginning after December 15, 2011, with early adoption prohibited. The new guidance will require prospective application. We will adopt this ASU in the first quarter of 2012, and we do not expect its adoption to have a material effect on our financial position or results of operations.

 

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Item 7A. Quantitative and Qualitative Disclosure About Market Risk

Foreign Currency Exchange Risk

Our expenses are incurred primarily in the United States, Australia, the United Kingdom and India. Our results of operations and cash flows are, therefore, subject to fluctuations due to changes in foreign currency exchange rates. Certain of our cash, accounts receivable and payable balances are denominated in a currency other than the functional currency of the respective entity. Therefore, a portion of our operating results are subject to foreign currency risks. The effect of an immediate 10% adverse change in exchange rates as of December 31, 2011 would result in a loss of approximately $0.3 million. As of December 31, 2011, we did not have outstanding hedging contracts, although we may enter into such contracts in the future. We intend to monitor our foreign currency exposure. Future exchange rate fluctuations may have a material negative impact on our business.

Interest Rate Sensitivity

Interest income and expense are sensitive to changes in the general level of U.S. interest rates. Our cash equivalents are invested in money market funds, for which the interest rates vary with the current market rates. Therefore, there is minimal risk to the principal invested in these funds. Our short-term investements are in U.S. Treasury and Agency bonds. The interest rates on these instruments are fixed but current U.S. Treasury policy indicates that interest rates are not likely to rise in the near term. Therefore, we believe there is minimal risk to the principal invested in these instruments. A 10% increase in interest rates as of December 31, 2011 would not have a material impact on the fair value of our cash equivalents and short-term investments.

 

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Item 8. Consolidated Financial Statements and Supplementary Data

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

 

     Page  

Reports of Independent Registered Public Accounting Firm

     58   

Consolidated Balance Sheets

     59   

Consolidated Statements of Income

     60   

Consolidated Statements of Stockholders’ Equity and Comprehensive  Income (Loss)

     61   

Consolidated Statements of Cash Flows

     62   

Notes to Consolidated Financial Statements

     63   

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of

Responsys, Inc.

San Bruno, California

We have audited the accompanying consolidated balance sheets of Responsys, Inc. and subsidiaries (the “Company”) as of December 31, 2011 and 2010, and the related consolidated statements of income, stockholders’ equity and comprehensive income (loss), and cash flows for each of the three years in the period ended December 31, 2011. Our audits also included the financial statement schedule listed in Item 15. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2011 and 2010, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2011, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ DELOITTE & TOUCHE LLP

San Jose, California

March 30, 2012

 

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RESPONSYS, INC.

Consolidated Balance Sheets

(in thousands, except per share data)

 

     As of December 31,  
     2011     2010  

Assets

    

Current assets:

    

Cash and cash equivalents

   $ 73,456      $ 13,884   

Short-term investments

     21,300        —     

Accounts receivable, net of allowances of $82 and $174 as of December 31, 2011 and 2010, respectively

     20,706        18,101   

Deferred taxes

     5,393        7,288   

Prepaid expenses and other current assets

     3,599        5,347   
  

 

 

   

 

 

 

Total current assets

     124,454        44,620   

Property and equipment—net

     14,663        10,822   

Goodwill

     14,048        1,301   

Intangible assets—net

     3,386        529   

Deferred taxes—noncurrent

     5,057        5,190   

Investment in unconsolidated affiliates

     34        8,057   

Other assets

     904        1,381   
  

 

 

   

 

 

 

Total assets

   $ 162,546      $ 71,900   
  

 

 

   

 

 

 

Liabilities and stockholders’ equity

    

Current liabilities:

    

Accounts payable

   $ 1,739      $ 1,162   

Accrued compensation

     6,916        3,516   

Other accrued liabilities

     2,914        3,866   

Current portion of capital lease obligations

     879        387   

Current portion of deferred revenue

     7,387        8,642   
  

 

 

   

 

 

 

Total current liabilities

     19,835        17,573   

Capital lease obligations—noncurrent

     1,154        —     

Deferred revenue—noncurrent

     323        382   

Other long-term liabilities

     977        770   
  

 

 

   

 

 

 

Total liabilities

     22,289        18,725   
  

 

 

   

 

 

 

Commitments and contingencies (Note 10)

    

Stockholders’ equity:

    

Convertible preferred stock, $.0001 par value, no and 38,729 shares authorized as of December 31, 2011 and 2010, respectively; no and 30,159 shares issued and outstanding as of December 31, 2011 and 2010, respectively

     —          62,028   

Preferred stock, $.0001 par value, 5,000 and no shares authorized as of December 31, 2011 and 2010, respectively; no shares issued and outstanding as of December 31, 2011 and 2010, respectively

     —          —     

Common stock, $.0001 par value; 250,000 and 62,500 shares authorized as of December 31, 2011 and 2010, respectively; 47,632 and 8,448 shares issued and outstanding at December 31, 2011 and 2010, respectively

     5        1   

Additional paid-in capital

     155,428        12,860   

Accumulated deficit

     (14,794     (22,765

Accumulated other comprehensive income (loss)

     (382     1,051   
  

 

 

   

 

 

 

Total stockholders’ equity

     140,257        53,175   
  

 

 

   

 

 

 

Total liabilities and stockholders’ equity

   $ 162,546      $ 71,900   
  

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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RESPONSYS, INC.

Consolidated Statements of Income

(in thousands, except per share data)

 

     Year Ended December 31,  
     2011     2010     2009  

Revenue:

      

Subscription

   $ 94,501      $ 69,284      $ 53,044   

Professional services

     40,438        24,787        13,599   
  

 

 

   

 

 

   

 

 

 

Total revenue

     134,939        94,071        66,643   
  

 

 

   

 

 

   

 

 

 

Cost of revenue:

      

Subscription

     27,918        20,221        15,109   

Professional services

     36,747        20,697        12,478   
  

 

 

   

 

 

   

 

 

 

Total cost of revenue

     64,665        40,918        27,587   
  

 

 

   

 

 

   

 

 

 

Gross profit

     70,274        53,153        39,056   
  

 

 

   

 

 

   

 

 

 

Operating expenses:

      

Research and development

     13,544        10,597        8,052   

Sales and marketing

     33,300        20,849        15,494   

General and administrative

     11,463        8,225        5,746   

Gain on acquisition

     (2,220     —          —     
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     56,087        39,671        29,292   
  

 

 

   

 

 

   

 

 

 

Operating income

     14,187        13,482        9,764   
  

 

 

   

 

 

   

 

 

 

Other income (expense):

      

Interest income

     60        4        16   

Interest expense

     (121     (32     (45

Other income (expense), net

     (207     1,199        214   
  

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (268     1,171        185   
  

 

 

   

 

 

   

 

 

 

Income before income taxes

     13,919        14,653        9,949   

Provision for income taxes

     (5,824     (5,821     (4,063

Equity in net loss of unconsolidated affiliates

     (124     (234     —     
  

 

 

   

 

 

   

 

 

 

Net income

   $ 7,971      $ 8,598      $ 5,886   
  

 

 

   

 

 

   

 

 

 

Net income attributable to common stockholders:

      

Basic

   $ 5,019      $ 802      $ 186   
  

 

 

   

 

 

   

 

 

 

Diluted

   $ 5,190      $ 1,179      $ 299   
  

 

 

   

 

 

   

 

 

 

Net income per share attributable to common stockholders:

      

Basic

   $ 0.14      $ 0.09      $ 0.02   
  

 

 

   

 

 

   

 

 

 

Diluted

   $ 0.12      $ 0.08      $ 0.02   
  

 

 

   

 

 

   

 

 

 

Shares used in computation of net income per share attributable to common stockholders:

      

Basic

     35,278        8,527        7,518   
  

 

 

   

 

 

   

 

 

 

Diluted

     41,734        14,464        14,302   
  

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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RESPONSYS, INC.

Consolidated Statements of Stockholders’ Equity and Comprehensive Income (Loss)

(in thousands)

 

     Convertible
Preferred Stock
    Common Stock      Additional
Paid-In
Capital
    Deferred
Stock
Compensation
    Accumulated
Deficit
    Accumulated
Other

Comprehensive
Income (Loss)
    Total
Stockholders’
Equity
 
                 
     Shares     Amount     Shares     Amount             

BALANCE—December 31, 2008

     29,434      $ 60,078        7,430      $ 1       $ 6,096      $ (79   $ (29,875   $ (184   $ 36,037   

Cumulative adjustment to beginning balance upon adoption of Accounting Standards Codification No. 815-40, Derivatives and Hedging—Contracts in Entity’s Own Equity

     —          (160     —          —           —          —          (1,781     —          (1,941

Exercise of common stock options

     —          —          896        —           177        —          —          —          177   

Issuance of vested common stock options for business acquisition

     —          —          —          —           31        —          —          —          31   

Exercise of preferred stock warrants

     725        2,110        —          —           —          —          —          —          2,110   

Stock-based compensation expense

     —          —          —          —           1,557        79        —          —          1,636   

Tax benefit from employees stock plans

     —          —          —          —           843        —          —          —          843   

Net income

     —          —          —          —           —          —          5,886        —          5,886   

Foreign currency translation adjustment

     —          —          —          —           —          —          —          38        38   
                   

 

 

 

Comprehensive income

     —          —          —          —           —          —          —          —          5,924   
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE—December 31, 2009

     30,159        62,028        8,326        1         8,704        —          (25,770     (146     44,817   

Exercise of common stock options

     —          —          960        —           322        —          —          —          322   

Stock-based compensation expense

     —          —          —          —           2,506        —          —          —          2,506   

Repurchase of common stock

     —          —          (838     —           (107     —          (5,593     —          (5,700

Tax benefit from employees stock plans

              1,435              1,435   

Net income

     —          —          —          —           —          —          8,598        —          8,598   

Foreign currency translation adjustment

     —          —          —          —           —          —          —          1,197        1,197   
                   

 

 

 

Comprehensive income

     —          —          —          —           —          —          —          —          9,795   
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE—December 31, 2010

     30,159        62,028        8,448        1         12,860        —          (22,765     1,051        53,175   

Exercise of common stock options

     —          —          2,378        —           1,487        —          —          —          1,487   

Issuance of common stock, net

     —          —          6,482        1         69,894        —          —          —          69,895   

Conversion of preferred stock

     (30,159     (62,028     30,159        3         62,025        —          —          —          —     

Warrant exercise

     —          —          16        —           —          —          —          —          —     

Stock-based compensation expense

     —          —          —          —           3,713        —          —          —          3,713   

Tax benefit from employees stock plans

     —          —          —          —           4,260        —          —          —          4,260   

Issuance of common stock in connection with business acquisition

     —          —          149        —           1,189        —          —          —          1,189   

Net income

     —          —          —          —           —          —          7,971        —          7,971   

Foreign currency translation adjustment

     —          —          —          —           —          —          —          (1,436     (1,436

Unrealized short-term investment gains

     —          —          —          —           —          —          —          3        3   
                   

 

 

 

Comprehensive income

     —          —          —          —           —          —          —          —          6,538   
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE—December 31, 2011

     —        $ —          47,632      $ 5       $ 155,428      $ —        $ (14,794   $ (382   $ 140,257   
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

See notes to consolidated financial statements.

 

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RESPONSYS, INC.

Consolidated Statements of Cash Flows

(in thousands)

 

     Year Ended December 31,  
     2011     2010     2009  

Cash flows from operating activities:

      

Net income

   $ 7,971      $ 8,598      $ 5,886   

Adjustments to reconcile net income to net cash provided by operating activities:

      

Provision for bad debts

     (79     63        521   

Depreciation and amortization

     9,669        5,779        4,329   

Stock-based compensation

     3,713        2,506        1,636   

Gain on acquisition

     (2,220     —          —     

Net change in call and put options

     —          (1,517     —     

Deferred tax assets

     4,375        4,605        2,932   

Excess tax benefits from stock-based compensation

     (1,387     (172     —     

Equity in net loss of unconsolidated affiliates

     124        234        —     

Other

     88        —          169   

Changes in operating assets and liabilities—net of business acquired:

      

Accounts receivable

     (491     (4,420     (3,956

Prepaid expenses and other current assets

     (307     (1,552     (119

Other assets

     (668     —          (41

Accounts payable

     (116     604        (1,292

Accrued compensation

     2,874        312        1,332   

Other accrued liabilities

     1,069        438        949   

Deferred revenue

     (1,699     3,440        507   

Other long-term liabilities

     84        502        49   
  

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

     23,000        19,420        12,902   
  

 

 

   

 

 

   

 

 

 

Cash flows from investing activities:

      

Purchases of property and equipment

     (7,535     (7,917     (2,245

Addition of capitalized software development costs

     (439     (430     (823

Business acquisition, net of cash received

     (6,101     (325     (892

Purchase of short-term investments

     (24,131     —          —     

Redemption of short-term investments

     2,750        —          —     

Investment in unconsolidated affiliates

     (381     (7,013     —     
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (35,837     (15,685     (3,960
  

 

 

   

 

 

   

 

 

 

Cash flows from financing activities:

      

Proceeds from issuance of common shares

     1,189        322        177   

Proceeds from early exercise of stock options

     153        643        —     

Proceeds from initial public offering, net

     72,182        —          —     

Repurchase of common stock

     —          (5,700     —     

Payments of offering costs

     (1,674     (735     —     

Principal payments on capital lease obligations

     (752     (417     (518

Excess tax benefits from stock-based compensation

     1,387        172        —     
  

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     72,485        (5,715     (341
  

 

 

   

 

 

   

 

 

 

Effect of foreign exchange rate changes on cash and cash equivalents

     (76     114        19   
  

 

 

   

 

 

   

 

 

 

Net increase in cash and cash equivalents

     59,572        (1,866     8,620   

Cash and cash equivalents at beginning of period

     13,884        15,750        7,130   
  

 

 

   

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 73,456      $ 13,884      $ 15,750   
  

 

 

   

 

 

   

 

 

 

Noncash financing and investing activities:

      

Issuance of vested common stock options in connection with business acquisition

   $ —        $ —        $ 31   
  

 

 

   

 

 

   

 

 

 

Cashless exercise of Series E preferred stock warrants

   $ —        $ —        $ 2,110   
  

 

 

   

 

 

   

 

 

 

Issuance of common stock in connection with business acquisition

   $ 1,189      $ —        $ —     
  

 

 

   

 

 

   

 

 

 

Fair value of put option

   $ —        $ 523      $ —     
  

 

 

   

 

 

   

 

 

 

Fair value of call option

   $ —        $ 2,208      $ —     
  

 

 

   

 

 

   

 

 

 

Unpaid consideration for investment in unconsolidated affiliates

   $ —        $ 381      $ —     
  

 

 

   

 

 

   

 

 

 

Unpaid deferred offering costs

   $ —        $ 399      $ —     
  

 

 

   

 

 

   

 

 

 

Purchase of property and equipment under capital lease

   $ 2,398      $ 87      $ —     
  

 

 

   

 

 

   

 

 

 

Purchase of property and equipment on account

   $ 637      $ 128      $ 773   
  

 

 

   

 

 

   

 

 

 

Supplemental disclosure of cash flow information:

      

Cash paid during the period for interest

   $ 103      $ 32      $ 45   
  

 

 

   

 

 

   

 

 

 

Cash paid during the period for taxes

   $ 903      $ 486      $ 1,010   
  

 

 

   

 

 

   

 

 

 

See notes to consolidated financial statements.

 

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RESPONSYS, INC.

Notes to Consolidated Financial Statements

 

1. ORGANIZATION AND DESCRIPTION OF BUSINESS

Responsys, Inc. (the “Company”) was incorporated in California on February 3, 1998 and reincorporated from the state of California to the state of Delaware in March 2011. The Company’s solution is comprised of its on-demand software and professional services. The Company’s core offering, the Responsys Interact Suite, provides marketers with a set of integrated applications to create, execute, optimize and automate marketing campaigns across the key interactive channels—email, mobile, social and the web. The Company has offices in North America, Australia, India and the United Kingdom, and its principal markets are in North America, Asia Pacific and Europe.

In April 2011, the Company completed an initial public offering (“IPO”) of its common stock in which it issued and sold 6,467,948 shares of common stock, at a price of $12.00 per share. The Company raised a total $72.2 million in net proceeds after deducting underwriting discounts and commissions of $5.4 million. Offering costs totaled $2.4 million and as of December 31, 2011, all offering costs had been paid. Upon the closing of the offering, all shares of the Company’s then-outstanding convertible preferred stock automatically converted into 30,158,928 shares of common stock.

Certain Significant Risks and Uncertainties.

The Company participates in a dynamic high-technology industry. Changes in any of the following areas could have a material adverse effect on the Company’s future financial position, results of operations or cash flows: competition; advances and trends in new technologies and industry standards; the early stage of some of the Company’s target markets; customer retention rates; security risks; market acceptance of the Company’s offerings; litigation or claims against the Company based on intellectual property rights, patent, product, regulatory or other factors; general economic conditions; and the Company’s ability to attract and retain employees necessary to support its growth.

 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation.

These consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) and include the accounts of the Company and its wholly owned subsidiaries. Intercompany transactions have been eliminated.

The Company purchased the remaining equity interests in Eservices Group Pty Ltd (“Eservices”), an Australian company, in January 2011, and as such, the accounts of Eservices were consolidated with the accounts of the Company as of and for the year ended December 31, 2011.

Foreign Currency Translation.

The functional currency of the Company’s foreign subsidiaries is the local currency. The Company translates all assets and liabilities to U.S. dollars at the current exchange rates as of the applicable balance sheet date. Revenue and expenses are translated at the average exchange rate prevailing during the period. Gains and losses resulting from the translation of the foreign subsidiary’s financial statements are recorded as a component of accumulated other comprehensive income (loss). The Company records net gains and losses resulting from foreign exchange transactions as a component of other income (expense), net. Such amounts were not significant during any of the periods presented.

 

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Use of Estimates.

The preparation of the Company’s consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. The most significant estimates and assumptions relate to management’s determination of the estimated selling prices of subscriptions and professional services, the fair values of equity awards issued, the fair value of its initial 50% investment in Eservices immediately prior to the acquisition of the remaining 50%, the fair value of its call and put options related to the Company’s initial 50% equity investment in Eservices, the valuation of intangible assets acquired in business combinations and the valuation allowance on deferred tax assets. The Company bases these estimates on historical and anticipated results, trends and various other assumptions that the Company believes are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for making judgments about the carrying values of assets and liabilities and recorded revenue and expenses that are not readily apparent from other sources. Actual results could differ from those estimates.

Concentration of Credit Risk.

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents, short-term investments and accounts receivable. The Company’s cash equivalents are invested in interest bearing money market funds that invest in short-term U.S. government obligations, which include U.S. Treasury and other securities issued or guaranteed by the U.S. government or any of its agencies, authorities, instrumentalities or sponsored entities and related repurchase agreements. The Company’s short-term investments consist of U.S. Treasury and other securities issued or guaranteed by the U.S. government or its agencies. The Company does not hold or issue financial instruments for trading purposes. As part of the Company’s cash management process, the Company performs periodic evaluations of the relative credit standings of these financial institutions.

The Company does not require its customers to provide collateral to support accounts receivable. The Company performs ongoing credit evaluations of its customers’ financial condition and maintains allowances for estimated credit losses. No single customer accounted for 10% or more of the Company’s revenue for the years ended December 31, 2011, 2010 and 2009 or 10% or more of the Company’s accounts receivable as of December 31, 2011 and 2010.

Fair Value of Financial Instruments.

Cash equivalents and short-term investments are recorded at fair value. The carrying amount of cash, accounts receivable, accounts payable and accrued expenses approximates fair value due to the short-term nature of these items. Management believes that the Company’s capital lease obligations bear interest at rates which approximate prevailing market rates for instruments with similar characteristics and, accordingly, the carrying values for these instruments approximate fair value.

Cash and Cash Equivalents.

The Company considers all highly liquid securities with original maturities of three months or less from the date of purchase to be cash equivalents. Cash equivalents consist of amounts held in interest-bearing money market funds that were readily convertible to cash and for which the cost approximates fair value.

Short-term Investments

Short-term investments consist of U.S. Treasury and Agency securities that are classified as available-for-sale and recorded at fair value. The determination of fair value is further detailed in Note 14. The Company regularly reviews its investment portfolio to identify and evaluate investments that have indications of possible impairment.

 

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Unrealized gains and losses, net of tax, are included in accumulated other comprehensive income. The amortization of premiums and discounts on the investments and realized gains and losses on available-for-sale debt securities are included in other income (expense), net. The Company uses the specific-identification method to determine cost in calculating realized gains and losses upon sale of short-term investments.

Accounts Receivable.

The Company records accounts receivable at the invoiced amount and it does not charge interest. Management reviews accounts receivable on a periodic basis to determine if any receivables will potentially be uncollectible. The Company reserves for receivables that are determined to be uncollectible, if any, in its allowance for doubtful accounts. After the Company has exhausted all collection efforts, the outstanding receivable is written off against the allowance.

Property and Equipment.

Property and equipment are stated at cost less accumulated depreciation and are depreciated using the straight-line method over the estimated useful lives of the assets, generally over the following periods:

 

    

Depreciation Life (Years)

Computers and equipment

   3 years

Software

   3-5 years

Furniture and fixtures

   3-5 years

Capitalized software

   5 years

Leasehold improvements

   Shorter of remaining lease term or useful life

Goodwill.

Goodwill represents the excess of the aggregate purchase price paid over the fair value of the net tangible and identifiable intangible assets acquired. In accordance with Accounting Standards Codification (“ASC”) 350-10, IntangiblesGoodwill and Other, goodwill is not amortized and is tested for impairment at least annually or whenever events or changes in circumstances indicate that the carrying value may not be recoverable. The Company has determined that it operates as one reporting unit and has selected November 30 as the date to perform its annual impairment test. In the valuation of its goodwill, the Company must make assumptions regarding estimated future cash flows to be derived from the Company. If these estimates or their related assumptions change in the future, the Company may be required to record impairment for these assets. The Company has the option to assess qualitative factors to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount. In 2011, the Company elected to bypass the qualitative assessment and perform an impairment test that involves a two-step process. The first step of the impairment test involves comparing the fair value of the reporting unit to its net book value, including goodwill. If the net book value exceeds its fair value, then the Company would perform the second step of the goodwill impairment test to determine the amount of the impairment loss. The impairment loss would be calculated by comparing the implied fair value of the Company to its net book value. In calculating the implied fair value of the Company’s goodwill, the fair value of the Company would be allocated to all of the other assets and liabilities based on their fair values. The excess of the fair value of the Company over the amount assigned to its other assets and liabilities is the implied fair value of goodwill. An impairment loss would be recognized when the carrying amount of goodwill exceeds its implied fair value. The Company was not required to perform the second step of the goodwill impairment test in 2011. There was no impairment of goodwill recorded for the years ended December 31, 2011, 2010 or 2009.

Long-lived Assets, Purchased Intangible Assets and Equity Method Investments.

Purchased intangible assets with a determinable economic life and long-lived assets are carried at cost, less accumulated amortization and depreciation. Amortization and depreciation is computed over the estimated useful

 

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life of each asset on a straight-line basis. Equity method investments are carried at cost and are adjusted for the Company’s share in the equity method investment income (loss). The Company reviews its long-lived assets, purchased intangible assets and equity method investments for impairment in accordance with ASC 360-10, Property, Plant and Equipment, whenever events or changes in circumstances indicate that the carrying amount of an asset may no longer be recoverable. When these events occur, impairment is measured by comparing the carrying value of the assets to the estimated undiscounted future cash flows expected to result from the use of the assets and their eventual disposition. If the sum of the expected undiscounted cash flows is less than the carrying amount of the assets, an impairment loss would be recognized based on the fair value of the assets. There was no impairment recorded for the years ended December 31, 2011, 2010 and 2009.

Segment Reporting.

The Company is organized and operates in one reportable industry segment: the delivery of on-demand marketing service and related professional services. The Company’s chief operating decision maker, the chief executive officer, reviews financial information presented on a consolidated basis for purposes of making operating decisions and assessing financial performance.

Revenue by geographic region is based on the billing address of the customer. Subscription and professional services revenue by geographic region were as follows (in thousands):

 

     Year Ended December 31,  
     2011      2010      2009  

Subscription

        

United States

   $ 77,168       $ 61,124       $ 45,546   

International

     17,333         8,160         7,498   

Professional services

        

United States

     29,560         22,801         12,133   

International

     10,878         1,986         1,466   
  

 

 

    

 

 

    

 

 

 

Total revenue

   $ 134,939       $ 94,071       $ 66,643   
  

 

 

    

 

 

    

 

 

 

No individual country other than the United States accounted for 10% or more of revenue for the years ended December 31, 2011, 2010 and 2009.

Property and equipment by geographic region were as follows (in thousands):

 

     As of December 31,  
     2011      2010  

United States

   $ 13,853       $ 10,414   

International

     810         408   
  

 

 

    

 

 

 

Total property and equipment—net

   $ 14,663       $ 10,822   
  

 

 

    

 

 

 

Revenue Recognition.

The Company recognizes revenue in accordance with ASC 605-25, Revenue Recognition. The Company’s revenue is primarily derived from sales of subscriptions to its on-demand software. Subscription revenue primarily consists of revenue from contractually committed messaging and revenue from messages sent above contracted levels. Customer agreements are non-cancellable for a minimum period, generally one year but ranging up to three years. Customers do not have the contractual right to take possession of the Company’s on-demand software. Accordingly, the Company recognizes subscription revenue equal to the lesser of (1) the cumulative amount of the aggregate contractually committed subscription fee on a straight-line basis over the subscription term less amounts previously recognized or (2) the cumulative amount the Company has the right to invoice its customer less amounts previously recognized, provided that an enforceable contract has been signed

 

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by both parties, access to its software has been granted to the customer, the fee for the subscription is fixed or determinable and collection is reasonably assured. Should a customer exceed the contractually committed messaging volume, per-message fees are billed for the excess volume. Revenue for messages sent above contractually committed messaging levels is recognized in the period in which the messages are sent. The Company also derives revenue from setup fees when the services are first activated. The setup fees are initially recorded as deferred revenue and recognized as revenue ratably over the estimated life of the customer relationship.

The Company also derives revenue from professional services. Professional services revenue consists primarily of fees associated with campaign services, creative and strategic marketing services, technical services and education services. Revenue from professional services is recognized as services are rendered for time and material engagements or using a proportional performance model based on services performed for fixed fee consulting engagements. Education services revenue is recognized after the services are performed. Except for the setup fees described above, professional services sold with on-demand software subscriptions are accounted for separately as they have value to the customer on a standalone basis.

At the inception of a customer contract, the Company makes an assessment as to that customer’s ability to pay for the services provided. The Company bases its assessment on a combination of factors, including a financial review or a credit check and its collection experience with the customer. If the Company subsequently determines that collection from the customer is not reasonably assured, the Company ceases recognizing revenue until cash is received from the customer. Changes in its estimates and judgments about whether collection is reasonably assured would change the timing of the revenue the Company recognizes and/or the amount of bad debt expense that it records.

Deferred revenue represents amounts billed to customers for which revenue has not been recognized. Deferred revenue primarily consists of the unearned portion of professional services fees or the unearned portion of fees from subscriptions to the Company’s on-demand software.

Revenue is recorded net of any sales, use or other similar taxes that the Company is required to collect from customers for remittance to governmental authorities.

Revenue recognition for arrangements with multiple deliverables.

A multiple-element arrangement includes the sale of a subscription to the Company’s on-demand software with one or more associated professional service offerings, each of which are individually considered separate units of accounting. In determining whether professional services represent a separate unit of accounting the Company considers the availability of the services from other vendors. The Company allocates revenue to each element in a multiple-element arrangement based upon the relative selling price of each deliverable.

The Company is not able to demonstrate vendor-specific objective evidence (“VSOE”) because it does not have sufficient instances of standalone subscription sales of its on-demand software nor is it able to demonstrate sufficient pricing consistency with respect to such sales. In addition, the Company does not have third-party evidence (“TPE”) of selling price with respect to subscription sales of its on-demand software because it was unable to identify another vendor that sells similar subscriptions due to the unique nature and functionality of its service offering. Therefore, the Company has determined its best estimate of selling price (“BESP”) of subscriptions to its on-demand software based on the following:

 

   

The list price, which represents a component of the Company’s current go-to-market strategy, as established by senior management taking into consideration factors such as the competitive and economic environment.

 

   

An analysis of the historical pricing with respect to both the Company’s bundled and standalone arrangements to subscriptions to its on-demand software.

 

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The Company has established VSOE of selling price for those professional services for which it is able to demonstrate sufficient pricing consistency. For all other professional services, the Company has determined BESP based on an analysis of separate sales of such professional services.

Cost of Revenue.

Cost of subscription revenue primarily consists of hosting costs, data communications expenses, personnel and related costs, including salaries and employee benefits, allocated overhead, software license fees, costs associated with website development activities, amortization expense associated with capitalized software and depreciation and amortization expense associated with computer equipment. Cost of professional services revenue primarily consists of personnel and related costs and allocated overhead.

Stock-based Compensation.

The Company records stock-based compensation expense in accordance with ASC 718-20, CompensationStock Compensation, which requires companies to measure the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. The Company recognizes stock-based compensation expense over the requisite service period of the individual grant, generally equal to the vesting period. Generally, stock options granted to employees vest over a four-year period, with 25% vesting one year from the vesting commencement date and 1/48th each month thereafter. In 2011 certain stock options were granted with a five-year vesting term, with 20% vesting one year from the vesting commencement date and 1/60th each month thereafter. Options have a contractual term of 10 years. Restricted stock units vest 25% on each anniversary of the grant date.

Determining Fair Value.

The Company calculates the fair value of options granted by using the Black-Scholes pricing model with the following assumptions:

Expected Volatility

Prior to the Company’s IPO in April 2011, there was no market for the Company’s common stock. Therefore, the Company estimated volatility for option grants by evaluating the average historical volatility of a peer group of companies for the period immediately preceding the option grant for a term that is approximately equal to the options’ expected life. The Company has contuned to use this method subsequent to its IPO because of the limited trading history of its common stock.

Expected Term

The expected term of the Company’s options represents the period that the stock-based awards are expected to be outstanding. The Company has elected to use the simplified method described in SAB No. 107 to compute the expected term. The Company’s stock plan provides for options that have a 10-year term.

Risk-Free Interest Rate

The risk-free interest rate is based on the implied yield currently available on U.S. Treasury zero coupon issues with an equivalent remaining term at the grant date.

Dividend Yield

The Company has not declared or paid dividends to date and does not anticipate declaring dividends. As such, the dividend yield has been estimated to be zero.

 

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Website Development Costs and Software Development Costs.

Costs incurred in connection with the development of the Company’s on-demand software solution are accounted for in accordance with ASC 350-50, Website Development Costs, and ASC 350-40, Internal-use Software. All costs incurred in the preliminary project and post-implementation stages are expensed as incurred, and certain costs incurred in the development stage of the project are capitalized if certain criteria are met. Once the software is available for general release, the capitalized costs are amortized over the expected useful life of the software on a straight-line basis. The Company currently estimates a useful life of five years with respect to its capitalized software.

The Company capitalized $0.4 million, $0.4 million and $0.8 million of costs in the years ended December 31, 2011, 2010 and 2009, respectively. Amortization expense totaled approximately $0.5 million, $0.5 million and $0.2 million for the years ended December 31, 2011, 2010 and 2009, respectively. Capitalized software, net of accumulated amortization, was $1.8 million and $1.8 million at December 31, 2011 and 2010, respectively.

Research and Development Costs.

Research and development costs are expensed as incurred.

Advertising Costs.

Advertising costs are expensed as incurred. Advertising expenses were $0.3 million, $0.3 million and $0.2 million for the years ended December 31, 2011, 2010 and 2009, respectively.

Income Taxes.

The Company accounts for income taxes using an asset and liability approach to record deferred income taxes. Deferred income taxes reflect the impact of temporary differences between assets and liabilities recognized for financial reporting purposes, and such amounts recognized for income tax purposes, net of operating loss carryforwards and other tax credits, measured by applying currently enacted tax laws. Valuation allowances are provided when necessary to reduce deferred tax assets to an amount that is more-likely-than-not to be realized. The Company recognizes uncertain tax positions when it is more likely than not that the position will be sustained upon examination. Interest and penalties related to uncertain tax positions are included in income tax expense.

Comprehensive Income.

Accumulated other comprehensive income consisted of the following (in thousands):

 

     As of December 31,  
     2011     2010  

Accumulated translation adjustments

   $ (385   $ 1,051   

Unrealized investment gain

     3        —     
  

 

 

   

 

 

 

Total accumulated other comprehensive income

   $ (382   $ 1,051   
  

 

 

   

 

 

 

Comprehensive income consisted of the following (in thousands):

 

     Year Ended December 31,  
     2011     2010      2009  

Net income

   $ 7,971      $ 8,598       $ 5,886   

Other comprehensive income (loss):

       

Foreign currency translation gain (loss)

     (1,436     1,197         38   

Unrealized short-term investment gains

     3        —           —     
  

 

 

   

 

 

    

 

 

 

Comprehensive income

   $ 6,538      $ 9,795       $ 5,924   
  

 

 

   

 

 

    

 

 

 

 

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