UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

_________________________

FORM 10-Q

_________________________

x	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended September 30, 2016
	OR
¨	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from  to

Commission File Number 001-36911

_________________________

ETSY, INC.

(Exact name of registrant as specified in its charter)

_________________________

Delaware	20-4898921
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)
117 Adams Street, Brooklyn, NY	11201
(Address of principal executive offices)	(Zip code)

(718) 855-7955

(Registrant's telephone number, including area code)

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 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

The number of shares of common stock outstanding as of October 14, 2016 was 115,568,802.

Etsy, Inc.

Table of Contents

Note Regarding Forward-Looking Statements

		Page
	Part I - Financial Information	4
Item 1.	Consolidated Financial Statements (Unaudited)	4
	Consolidated Balance Sheets as of December 31, 2015 and September 30, 2016	4
	Consolidated Statements of Operations for the three and nine months ended September 30, 2015 and 2016	5
	Consolidated Statements of Comprehensive Loss for the three and nine months ended September 30, 2015 and 2016	6
	Consolidated Statement of Changes in Stockholders' Equity for the nine months ended September 30, 2016	7
	Consolidated Statements of Cash Flows for the nine months ended September 30, 2015 and 2016	8
	Notes to Consolidated Financial Statements	10
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	22
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	35
Item 4.	Controls and Procedures	36
	Part II - Other Information	37
Item 1.	Legal Proceedings	37
Item 1A.	Risk Factors	37
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	56
Item 3.	Defaults Upon Senior Securities	56
Item 4.	Mine Safety Disclosures	56
Item 5.	Other Information	56
Item 6.	Exhibits	56
	Signatures	57
	Exhibit Index	58

Unless the context otherwise requires, we use the terms “Etsy,” the “Company,” “we,” “us” and “our” in this Quarterly Report on Form 10-Q, or Quarterly Report, to refer to Etsy, Inc. and, where appropriate, our consolidated subsidiaries.

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Operating and Financial Metrics” for the definitions of the following terms used in this Quarterly Report: “active buyer,” “active seller,” “adjusted EBITDA,” “GMS,” “International GMS,” “mobile visit” and “mobile GMS.”

NOTE REGARDING FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements within the meaning of the federal securities laws. Forward-looking statements include information related to our possible or assumed future results of operations and expenses, our outlook, our mission, business strategies and plans, business environment and future growth. Forward-looking statements include all statements that are not historical facts. In some cases, forward-looking statements can be identified by terms such as “anticipates,” “believes,” “could,” “estimates,” “expects,” “intends,” “may,” “plans,” “potential,” “predicts,” “projects,” “seeks,” “should,” “will,” “would” or similar expressions and the negatives of those terms.

Forward-looking statements are not guarantees of performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Those risks include those described in “Risk Factors,” “Management's Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this report. Given these uncertainties, you should read this report in its entirety and not place undue reliance on any forward-looking statements in this report.

Moreover, we operate in a competitive and rapidly changing environment. New risks and uncertainties emerge from time to time and it is not possible for us to predict all risks and uncertainties that could have an impact on the forward-looking statements made in this report. In light of these risks, uncertainties and assumptions, the future events and trends discussed in this report may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.

Forward-looking statements represent our beliefs and assumptions only as of the date of this report. We disclaim any obligation to update forward-looking statements.

PART I - FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (Unaudited).

Etsy, Inc.

Consolidated Balance Sheets (Unaudited)

(In thousands except share and per share data)

	As of December 31, 2015			As of September 30, 2016
ASSETS
Current assets:
Cash and cash equivalents	$	271,244		$	188,030
Short-term investments	21,620			82,338
Accounts receivable, net of allowance for doubtful accounts of $2,071 and $1,997 as of December 31, 2015 and September 30, 2016, respectively	20,275			20,886
Prepaid and other current assets	9,521			10,840
Deferred tax charge—current	17,132			17,132
Funds receivable and seller accounts	19,262			34,180
Total current assets	359,054			353,406
Restricted cash	5,341			5,341
Property and equipment, net of accumulated depreciation and amortization of $38,091 and $42,690 as of December 31, 2015 and September 30, 2016, respectively	105,021			123,708
Goodwill	27,752			37,765
Intangible assets, net	2,871			8,772
Deferred tax charge—net of current portion	51,396			39,169
Other assets	1,626			1,040
Total assets	$	553,061		$	569,201
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	14,382		$	7,323
Accrued expenses	31,253			20,037
Capital lease obligations—current	5,610			6,563
Funds payable and amounts due to sellers	19,262			34,180
Deferred revenue	4,712			5,595
Other current liabilities	4,903			3,880
Total current liabilities	80,122			77,578
Capital lease obligations—net of current portion	7,571			5,325
Deferred tax liabilities	61,420			62,882
Facility financing obligation	51,804			55,214
Other liabilities	21,646			23,746
Total liabilities	222,563			224,745
Stockholders’ equity:
Common stock ($0.001 par value, 1,400,000,000 shares authorized as of December 31, 2015 and September 30, 2016; 112,563,354 and 115,340,742 shares issued and outstanding as of December 31, 2015 and September 30, 2016, respectively)	113			115
Additional paid-in capital	406,020			433,894
Accumulated deficit	(86,440		)	(94,958		)
Accumulated other comprehensive income	10,805			5,405
Total stockholders’ equity	330,498			344,456
Total liabilities and stockholders’ equity	$	553,061		$	569,201

The accompanying notes are an integral part of these consolidated financial statements

4

Etsy, Inc.

Consolidated Statements of Operations (Unaudited)

(In thousands except share and per share data)

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
Revenue	$	65,696		$	87,562		$	185,604		$	254,758
Cost of revenue	24,165			29,314			66,783			86,323
Gross profit	41,531			58,248			118,821			168,435
Operating expenses:
Marketing	16,542			18,736			44,295			51,788
Product development	11,406			14,897			31,487			38,967
General and administrative	15,250			21,942			53,339			63,555
Total operating expenses	43,198			55,575			129,121			154,310
(Loss) income from operations	(1,667		)	2,673			(10,300		)	14,125
Other expense:
Interest expense and amortization of deferred financing costs	(512		)	(2,448		)	(1,056		)	(4,789		)
Interest and other income	59			402			117			1,313
Net unrealized gain (loss) on warrant and other liabilities	3			—			(3,136		)	—
Foreign exchange (loss) gain	(679		)	1,337			(15,727		)	3,071
Total other expense	(1,129		)	(709		)	(19,802		)	(405		)
(Loss) income before income taxes	(2,796		)	1,964			(30,102		)	13,720
Provision for income taxes	(4,095		)	(4,363		)	(19,729		)	(22,238		)
Net loss	$	(6,891	)	$	(2,399	)	$	(49,831	)	$	(8,518	)
Net loss per share:
Basic and diluted	$	(0.06	)	$	(0.02	)	$	(0.59	)	$	(0.08	)
Weighted average common shares outstanding:
Basic and diluted	111,329,917			113,757,212			84,195,227			112,980,639

The accompanying notes are an integral part of these consolidated financial statements

5

Etsy, Inc.

Consolidated Statements of Comprehensive Loss (Unaudited)

(In thousands)

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
Net loss	$	(6,891	)	$	(2,399	)	$	(49,831	)	$	(8,518	)
Other comprehensive (loss) income:
Cumulative translation adjustment	(235		)	(2,014		)	10,177			(5,442		)
Unrealized gains (losses) on marketable securities, net of tax	3			(66		)	8			42
Total other comprehensive (loss) income	(232		)	(2,080		)	10,185			(5,400		)
Comprehensive loss	$	(7,123	)	$	(4,479	)	$	(39,646	)	$	(13,918	)

The accompanying notes are an integral part of these consolidated financial statements

6

Etsy, Inc.

Consolidated Statement of Changes in Stockholders’ Equity (Unaudited)

(In thousands except share data)

	Common Stock				Additional Paid-in Capital			Accumulated Deficit			Accumulated Other Comprehensive Income			Total
	Shares		Amount
Balance as of December 31, 2015	112,563,354		$	113	$	406,020		$	(86,440	)	$	10,805		$	330,498
Stock-based compensation	—		—		9,504			—			—			9,504
Exercise of vested options	1,961,245		2		7,806			—			—			7,808
Vesting of restricted stock units, net of shares withheld	86,729		—		(633		)	—			—			(633		)
Exercise of warrants	97,931		—		159			—			—			159
Shares withheld in net exercise of warrants	(17,920	)	—		(159		)	—			—			(159		)
Retirement of restricted shares	(36,346	)	—		—			—			—			—
Issuance of common stock	685,749		—		6,965			—			—			6,965
Stock-based compensation—acquisitions	—		—		681			—			—			681
Conversion of liability-classified restricted shares upon vesting	—		—		1,942			—			—			1,942
Excess tax benefit from the exercise of options	—		—		1,609			—			—			1,609
Other comprehensive loss	—		—		—			—			(5,400		)	(5,400		)
Net loss	—		—		—			(8,518		)	—			(8,518		)
Balance as of September 30, 2016	115,340,742		$	115	$	433,894		$	(94,958	)	$	5,405		$	344,456

The accompanying notes are an integral part of these consolidated financial statements

7

Etsy, Inc.

Consolidated Statements of Cash Flows (Unaudited)

(In thousands)

	Nine Months Ended   September 30,
	2015			2016
Cash flows from operating activities
Net loss	$	(49,831	)	$	(8,518	)
Adjustments to reconcile net loss to net cash provided by operating activities:
Stock-based compensation expense	6,559			9,008
Stock-based compensation expense—acquisitions	3,158			2,582
Contribution of stock to Good Work Institute (formerly Etsy.org)	3,200			—
Depreciation and amortization expense	14,041			15,620
Bad debt expense	1,473			1,215
Foreign exchange loss (gain)	15,727			(3,071		)
Amortization of debt issuance costs	122			137
Non-cash interest expense	—			3,274
Interest on marketable securities	—			840
Net unrealized loss on warrant and other liabilities	3,136			—
Loss on disposal of assets	476			1,134
Amortization of deferred tax charge	15,093			12,227
Excess tax benefit from exercise of stock options	(2,472		)	(1,609		)
Changes in operating assets and liabilities:
Accounts receivable	(1,967		)	(1,750		)
Funds receivable and seller accounts	(6,710		)	(14,759		)
Prepaid expenses and other current assets	535			410
Other assets	152			436
Accounts payable	(3,530		)	(6,059		)
Accrued liabilities	17,719			(466		)
Funds payable and amounts due to sellers	6,710			14,759
Deferred revenue	671			831
Other liabilities	(5,255		)	2,000
Net cash provided by operating activities	19,007			28,241
Cash flows from investing activities
Acquisition of business, net of cash acquired	—			(7,880		)
Purchases of property and equipment	(9,524		)	(34,153		)
Development of internal-use software	(7,329		)	(8,441		)
Purchases of marketable securities	(18,552		)	(108,652		)
Sales of marketable securities	17,270			47,136
Net cash used in investing activities	(18,135		)	(111,990		)
Cash flows from financing activities
Repurchase of stock	—			(633		)
Proceeds from public offering	199,467			—
Proceeds from exercise of stock options	2,285			7,808
Excess tax benefit from the exercise of stock options	2,472			1,609
Payments on capitalized lease obligations	(2,262		)	(4,382		)
Deferred payments on acquisition of business	—			(649		)
Payments relating to public offering	(2,919		)	—
Net cash provided by financing activities	199,043			3,753
Effect of exchange rate changes on cash	(3,291		)	(3,218		)
Net increase (decrease) in cash and cash equivalents	196,624			(83,214		)
Cash and cash equivalents at beginning of period	69,659			271,244
Cash and cash equivalents at end of period	$	266,283		$	188,030

8

Etsy, Inc.

Consolidated Statements of Cash Flows (Unaudited)

(In thousands)

	Nine Months Ended   September 30,
	2015		2016
Supplemental non-cash disclosures
Equipment acquired under capital lease obligations	$	8,273	$	3,088
Stock-based compensation capitalized in development of capitalized software	$	342	$	496
Non-cash additions to development of internal-use software and property and equipment	$	797	$	1,362
Non-cash addition to construction in progress related to build-to-suit lease and facility financing obligation	$	6,608	$	—
Non-cash addition to capitalized public offering costs	$	969	$	—
Fair value of common stock issued in acquisition	$	—	$	6,966

The accompanying notes are an integral part of these consolidated financial statements

9

Etsy, Inc.

Notes to Consolidated Financial Statements

Note 1—Basis of Presentation and Summary of Significant Accounting Policies

Description of Business

Etsy, Inc. (the “Company” or “Etsy”) was incorporated in Delaware in February 2006. Etsy operates a marketplace where people around the world connect, both online and offline, to make, sell and buy unique goods. The Company generates revenue primarily from transaction and listing fees, Direct Checkout fees, Promoted Listings fees and Shipping Label sales.

Initial Public Offering

On April 21, 2015, the Company completed an initial public offering (the “IPO”) in which it issued and sold 13,333,333 shares of common stock at a public offering price of $16.00 per share. The Company received net proceeds of $194.4 million after deducting underwriting discounts of $13.9 million and other offering expenses of approximately $5.1 million. These expenses were recorded against the proceeds received from the IPO.

Certain selling stockholders sold an additional 5,833,332 shares of common stock in the IPO. The Company did not receive any proceeds from the sale of shares by the selling stockholders.

Upon the closing of the IPO, all outstanding shares of preferred stock of the Company converted into 53,448,243 shares of common stock. In addition, all outstanding warrants for preferred stock converted into warrants for 203,030 shares of common stock.

The Company effected a 1-for-2 reverse split of its common stock on March 25, 2015. The reverse split combined each two shares of the Company’s issued and outstanding common stock into one share of common stock and correspondingly adjusted the conversion prices of its convertible preferred stock. No fractional shares were issued in connection with the reverse split, and any fractional shares resulting from the reverse split were rounded down to the nearest whole share. All share, per share and related information presented in the consolidated financial statements and accompanying notes have been retroactively adjusted, where applicable, to reflect the reverse stock split.

Basis of Consolidation

The consolidated financial statements include the accounts of Etsy and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Unaudited Interim Financial Information

The accompanying consolidated balance sheet as of September 30, 2016, the consolidated statements of operations and comprehensive loss for the three and nine months ended September 30, 2015 and 2016, the consolidated statements of cash flows for the nine months ended September 30, 2015 and 2016 and the consolidated statement of changes in stockholders’ equity for the nine months ended September 30, 2016 are unaudited. The unaudited interim financial statements have been prepared on the same basis as the annual consolidated financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary to state fairly the Company’s financial position as of September 30, 2016, results of operations for the three and nine months ended September 30, 2015 and 2016 and cash flows for the nine months ended September 30, 2015 and 2016. The financial data and the other information disclosed in these notes to the consolidated financial statements related to these three and nine month periods are unaudited. These unaudited interim financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 1, 2016 (the “Annual Report”).

There have been no material changes in the Company's significant accounting policies from those that were disclosed in the Annual Report.

10

Etsy, Inc.

Notes to Consolidated Financial Statements

Use of Estimates

The preparation of the Company’s consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”) requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The accounting estimates that require management’s most difficult and subjective judgments include revenue recognition, income taxes, website development costs and internal-use software, purchase price allocations for business combinations, valuation of goodwill and intangible assets, leases and stock-based compensation. The Company evaluates its estimates and judgments on an ongoing basis and revises them when necessary. Actual results may differ from the original or revised estimates.

Income Taxes

The Company's income tax provision for interim periods is determined using an estimate of its annual effective tax rate adjusted for discrete items, if any, for relevant interim periods. The Company updates its estimate of the annual effective tax rate each quarter and makes cumulative adjustments if its estimated annual tax rate changes.

The Company's quarterly tax provision and quarterly estimate of its annual effective tax rate are subject to significant variations due to several factors, including variability in predicting its pretax and taxable income and the mix of jurisdictions to which those relate, changes of expenses or losses for which tax benefits are not recognized and changes in the laws, regulations and administrative practices of the jurisdictions in which the Company operates.

Build-to-Suit Lease

In May 2016, the Company took possession of its corporate headquarters in Brooklyn upon substantial completion of the construction phase of the build-out. Upon completion of the project, the Company performed a sale-leaseback analysis pursuant to Accounting Standards Codification (“ASC”) 840 - Leases, to determine the appropriateness of removing the previously capitalized assets from the consolidated balance sheets. The Company concluded that components of “continuing involvement” were evident as a result of this review, precluding the derecognition of the related assets from the consolidated balance sheets. In conjunction with the lease, the Company also recorded a facility financing obligation equal to the fair market value of the assets received from the landlord. At the end of the lease term, including exercise of any renewal options, the net remaining facility financing obligation over the net carrying value of the fixed asset will be recognized as a non-cash gain on sale of the property. The Company does not report rent expense for the lease. Rather, rental payments under the lease are recognized as a reduction of the financing obligation and interest expense, and the associated asset capitalized throughout the construction project is depreciated over its determined useful life.

Recently Issued Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board, or FASB, issued an accounting standards update that replaces existing revenue recognition guidance. The new guidance is effective for the annual and interim periods beginning after December 15, 2017. Among other things, the updated guidance requires companies to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The Company is currently evaluating the effect the guidance will have on its consolidated financial statements.

In August 2014, the FASB issued an accounting standard update under which management will be required to assess an entity’s ability to continue as a going concern and provide related disclosures in certain circumstances. The new guidance is effective for annual and interim periods ending after December 15, 2016. The adoption of this guidance is not expected to have an impact on the Company’s consolidated financial statements or disclosures.

In February 2016, the FASB issued an accounting standard update that requires a reporting entity to recognize right-of-use assets and lease liabilities on the balance sheet for operating leases to increase transparency and comparability. The new guidance is effective for annual and interim periods beginning after December 15, 2018, and early adoption is permitted. The Company is currently evaluating the effect the guidance will have on its consolidated financial statements.

11

Etsy, Inc.

Notes to Consolidated Financial Statements

In March 2016, the FASB issued an accounting standard update for share-based payment transactions that require a reporting entity to recognize excess tax benefits and deficiencies as income tax expense or benefit in the income statement. The new guidance is effective for annual and interim periods beginning after December 15, 2016, and early adoption is permitted for financial statements as of the beginning of an interim or annual reporting period. The Company will adopt this standard in the first quarter of 2017 and is currently evaluating the effect the guidance will have on its consolidated financial statements.

In August 2016, the FASB issued an accounting standard update to clarify how certain cash receipts and payments are presented and classified in the statement of cash flows. The new guidance is effective for annual and interim periods beginning after December 15, 2017, and early adoption is permitted for financial statements as of the beginning of an interim or annual reporting period. The Company is currently evaluating the effect the guidance will have on its consolidated financial statements.

In October 2016, the FASB issued an accounting standard update to align the recognition of income tax consequences for intra-entity transfers of assets other than inventory with International Financial Reporting Standards.The new guidance is effective for annual and interim periods beginning after December 15, 2017, and early adoption is permitted for financial statements as of the beginning of an annual reporting period. The Company is currently evaluating the effect the guidance will have on its consolidated financial statements.

Recently Adopted Accounting Pronouncements

In April 2015, the FASB issued an accounting standard under which customers will apply the same criteria as vendors to determine whether a cloud computing arrangement contains a software license or is solely a service contract. The new standard is effective for annual and interim periods beginning after December 15, 2015. The Company has adopted this guidance in the first quarter of 2016 noting no material impact to the current period consolidated financial statements.

In August 2015, the FASB issued an accounting standard update to address the presentation and subsequent measurement of debt issuance costs related to line-of-credit arrangements. The guidance affirms the Company's treatment of such costs, which is to defer and present the debt issuance costs as an asset and subsequently amortize the costs over the term of the line-of-credit arrangement. The new standard is effective for annual and interim periods beginning after December 15, 2015. The Company has adopted this guidance in the first quarter of 2016 noting no impact to the current period consolidated financial statements.

In September 2015, the FASB issued an accounting standard update that eliminates the requirement that an acquirer in a business combination account for measurement-period adjustments retrospectively. Instead, an acquirer will recognize a measurement-period adjustment during the period in which it determines the amount of the adjustment. The new guidance is effective for annual and interim periods beginning after December 15, 2015. The Company has adopted this guidance in the first quarter of 2016 noting no impact to the current period consolidated financial statements.

Note 2—Business Combinations

On September 19, 2016, the Company acquired all of the outstanding common stock of Blackbird Technologies, Inc. (“Blackbird”), a machine learning company, for $32.5 million. The Company completed this acquisition to improve the quality and relevance of search on Etsy.com. Total consideration for the acquisition was approximately $15.0 million, consisting of $8.1 million in cash and 513,304 shares of the Company’s common stock with a fair value of $6.9 million on the acquisition date. Additionally, the Company issued 184,230 shares of common stock or restricted stock units (“RSUs”) on the acquisition date with a fair value of $2.5 million which are tied to continuous service with the Company as an employee and are being accounted for as post-acquisition stock-based compensation expense over a three-year vesting period. The Company will pay up to an additional $8.8 million in cash and issue up to an additional 460,575 shares of RSUs post-close with a fair value of $6.2 million, both of which are also tied to continuous service with the Company as an employee and are being accounted for as post-acquisition stock-based and other compensation expense over a three-year vesting period. A portion of the consideration and post-acquisition compensation is subject to indemnification provisions.

12

Etsy, Inc.

Notes to Consolidated Financial Statements

The below table summarizes the components of the Blackbird purchase price and allocation of the purchase price at fair value (in thousands):

Cash paid	$	8,050
Common shares	6,966
Total purchase consideration	$	15,016
Working capital	$	81
Developed technology	7,500
Goodwill	9,407
Deferred tax liability	(1,972		)
Net assets acquired	$	15,016

Goodwill recorded in connection with the Blackbird acquisition is primarily attributed to synergies arising from the acquisition and the value of the acquired workforce. None of the resulting goodwill is deductible for tax purposes. Acquired technology intangible assets will amortize over three years. The Company recorded $0.1 million of amortization expense related to the intangible asset acquired for the three and nine months endedSeptember 30, 2016. This purchase price allocation is preliminary and is subject to change based on finalization of the valuation of the business.

The Company incurred approximately $0.5 million in acquisition-related costs, included in general and administrative expenses. This acquisition contributed $0.3 million to the Company’s consolidated net loss in the three and nine months ended September 30, 2016. The impact to net loss was primarily due to stock-based and other compensation expenses associated with the acquisition, as well as amortization of intangibles.

The following unaudited pro forma financial information presents the combined operating results of the Company and Blackbird as if the acquisition had occurred as of January 1, 2015. The unaudited pro forma financial information includes the accounting effects of the business combination, including adjustments to amortization of intangible assets, stock-based and other compensation expenses and professional fees associated with the acquisition. The unaudited pro forma information does not necessarily reflect the actual results that would have been achieved, nor is it necessarily indicative of our future consolidated results.

The unaudited pro forma financial information is presented in the table below for the three and nine months endedSeptember 30, 2015 and 2016 (in thousands except per share amounts):

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
Revenue	$	65,725		$	87,835		$	185,691		$	255,577
Net loss	(10,472		)	(3,753		)	(57,336		)	(14,235		)
Basic and diluted net loss per share	(0.09		)	(0.03		)	(0.68		)	(0.13		)

Note 3—Debt

Credit Agreement

In May 2014, the Company entered into a $35.0 million senior secured revolving credit facility pursuant to a Revolving Credit and Guaranty Agreement with several lenders (the “Credit Agreement”). In March 2015, the Company amended the Credit Agreement to increase the credit facility to $50.0 million. In December 2015, the Company amended the Credit Agreement to clarify certain provisions relating to permitted investments and to make other immaterial updates. As amended, the Credit Agreement will mature in May 2019. The Credit Agreement includes a letter of credit sublimit of $10.0 million and a swingline loan sublimit of $15.0 million.

13

Etsy, Inc.

Notes to Consolidated Financial Statements

Borrowings under the Credit Agreement (other than swingline loans) bear interest, at the Company’s option, at (i) a base rate equal to the highest of (a) the prime rate, (b) the federal funds rate plus 0.50% and (c) an adjusted LIBOR rate for a one-month interest period plus 1.00%, in each case plus a margin ranging from 0.00% to 0.25% or (ii) an adjusted LIBOR rate plus a margin ranging from 1.00% to 1.25%. Swingline loans under the Credit Agreement bear interest at the same base rate (plus the margin applicable to borrowings bearing interest at the base rate). These margins are determined based on the total leverage ratio for the preceding four-fiscal-quarter period. The Company is also obligated to pay other customary fees for a credit facility of this size and type, including an unused commitment fee and fees associated with letters of credit. As amended, the Credit Agreement also permits the Company, in certain circumstances, to request an increase in the facility by an amount of up to $50.0 million (and in minimum amounts of $10.0 million) at the same maturity, pricing and other terms.

The amended Credit Agreement contains customary representations and warranties applicable to the Company and its subsidiaries and customary affirmative and negative covenants applicable to the Company and its restricted subsidiaries. The negative covenants include restrictions on, among other things, indebtedness, liens, investments, mergers, dispositions, transactions with affiliates and dividends and other distributions. These restrictions do not prohibit a subsidiary of the Company from making pro rata payments to the Company or any other person that owns an equity interest in such subsidiary. The amended Credit Agreement contains a financial covenant that requires the Company and its subsidiaries to maintain a total leverage ratio (defined as net debt to adjusted EBITDA) not to exceed 3.50 to 1.00.

As amended, the Credit Agreement includes customary events of default, including a change in control and a cross-default on the Company’s material indebtedness. The Company’s obligations under the Credit Agreement are secured by substantially all of the Company and its subsidiaries’ assets, and its obligations under the Credit Agreement are guaranteed by certain of the Company’s subsidiaries.

At September 30, 2016, the Company did not have any borrowings under the Credit Agreement.

Note 4—Stock-based Compensation

The Company's 2015 Equity Incentive Plan (the “2015 Plan”) provides for the grant of incentive stock options, non-statutory stock options, stock appreciation rights, restricted stock, restricted stock units (“RSUs”) and performance cash awards to employees, directors and consultants. The number of shares available for issuance under the 2015 Plan may be increased annually by an amount equal to the lesser of 7,050,000 shares of common stock, 5% of the outstanding shares of common stock as of the last day of the immediately preceding fiscal year, or such other amount as determined by the Company's Board of Directors. The Board of Directors approved an increase of 2,814,083 shares available for issuance under the 2015 Plan as of January 4, 2016. Any awards issued under the 2015 Plan that are forfeited by the participant will become available for future grant under the 2015 Plan. The number of shares of the Company’s common stock initially reserved for issuance under the 2015 Plan equaled the sum of 14,100,000 shares plus up to 12,653,075 shares reserved for issuance or subject to outstanding awards under the 2006 Stock Plan. At September 30, 2016, 17,549,262 shares were authorized under the 2015 Plan, and 14,028,358 shares were available for future grant.

In the three and nine months ended September 30, 2016, the Company granted nonqualified stock options and RSUs to eligible participants. Options have a term of 10 years. For both options and RSUs, vesting is typically over a four-year period and is contingent upon continued employment with the Company on each vesting date.  In general, for newly-hired employees, options vest 25% after the first year of service and ratably each month over the remaining 36-month period. In general, for current employees who receive an additional grant, options vest ratably each month over a 48-month period. In general, for newly-hired employees, RSUs vest 25% after the first year following the vesting commencement date, which is the first day of the fiscal quarter closest to the date of grant, and then vest ratably each quarter over the remaining 12-quarter period. In general, for current employees who receive an additional grant, RSUs vest ratably each quarter over a 16-quarter period following the vesting commencement date, which is the first day of the fiscal quarter closest to the date of grant.

The fair value of each option award is estimated on the date of grant using the Black-Scholes option-pricing model using the inputs below. Prior to the IPO, the Company utilized equity valuations based on comparable publicly-traded companies, discounted free cash flows, an analysis of the Company's enterprise value and any other factors deemed relevant in estimating the fair value of its common stock. Subsequent to the IPO, the Company has used the closing price of its common stock on Nasdaq as the fair value of its common stock. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant for time periods that approximate the expected life of the option

14

Etsy, Inc.

Notes to Consolidated Financial Statements

awards. Expected volatilities are based on implied volatilities from market comparisons of certain publicly traded companies and other factors. The expected term of stock options granted has been determined using the simplified method, which uses the midpoint between the vesting date and the contractual term. The requisite service period is generally four years from the date of grant. The fair value of RSUs is determined based on the closing price of the Company's common stock on Nasdaq on the grant date.

The fair value of options granted in each year using the Black-Scholes pricing model has been based on the following assumptions:

	Three Months Ended   September 30,		Nine Months Ended   September 30,
	2015	2016	2015	2016
Volatility	44.1% - 44.7%	39.6%	40.4% - 45.0%	39.6% - 44.6%
Risk-free interest rate	1.7% - 1.9%	1.1% - 1.5%	1.3% - 1.9%	1.1% - 1.9%
Expected term (in years)	6.0 - 6.1	6.3	5.5 - 6.1	5.5 - 6.3
Dividend rate	—%	—%	—%	—%

The following table summarizes the activity for the Company's options:

	Shares		Weighted-Average Exercise Price		Weighted-Average Remaining Contract Term (in years)	Aggregate Intrinsic Value
Outstanding at December 31, 2015	11,068,859		$	6.94
Granted	1,478,569		8.95
Exercised	(1,961,245	)	3.98
Forfeited/Canceled	(873,143	)	9.50
Outstanding at September 30, 2016	9,713,040		7.61		6.60	$	68,001,717
Total exercisable at September 30, 2016	6,563,414		5.95		5.66	56,041,779
Total vested and expected to vest at September 30, 2016	9,523,368		7.54		6.56	67,355,632

The following table summarizes the weighted average grant date fair value of options granted, intrinsic value of options exercised and fair value of awards vested in the the three and nine months endedSeptember 30, 2015 and 2016:

	Three Months Ended   September 30,				Nine Months Ended   September 30,
	2015		2016		2015		2016
Weighted average grant date fair value of options granted	$	6.70	$	4.84	$	7.07	$	3.89
Intrinsic value of options exercised	1,363,740		8,129,031		12,043,023		14,239,206
Fair value of awards vested	2,231,820		1,702,647		5,824,711		7,911,377

The total unrecognized compensation at September 30, 2016 was $15.1 million, which will be recognized over a weighted-average period of 2.54 years.

15

Etsy, Inc.

Notes to Consolidated Financial Statements

The following table summarizes the activity for the Company's unvested RSUs:

	Shares		Weighted-Average Grant Date Fair Value
Unvested at December 31, 2015	395,846		$	13.70
Granted	2,769,633		9.82
Vested	(152,888	)	10.90
Forfeited/Canceled	(160,348	)	9.76
Unvested at September 30, 2016	2,852,243		10.31
Total expected to vest at September 30, 2016	2,630,522		10.39

The total unrecognized compensation at September 30, 2016 was $27.7 million, which will be recognized over a weighted-average period of 3.43 years.

Total stock-based compensation expense included in the consolidated statements of operations is as follows (in thousands):

	Three Months Ended   September 30,				Nine Months Ended   September 30,
	2015		2016		2015		2016
Cost of revenue	$	149	$	288	$	681	$	738
Marketing	120		229		349		628
Product development	756		1,234		1,981		3,117
General and administrative	1,898		2,334		6,706		7,107
Total stock-based compensation expense	$	2,923	$	4,085	$	9,717	$	11,590

Total stock-based compensation expense in the three months ended September 30, 2015 and 2016 includes $0.7 million and $1.1 million in acquisition-related stock-based compensation expense, respectively. Total stock-based compensation expense in the nine months ended September 30, 2015 and 2016 includes $3.2 million and $2.6 million in acquisition-related stock-based compensation expense, respectively.

Note 5—Income Taxes

In January 2015, the Company implemented an updated global corporate structure to more closely align with its global operations and future expansion plans outside of the United States. The new structure changed how the Company uses its intellectual property and implemented certain intercompany arrangements. The Company believes this may eventually result in a reduction in its overall effective tax rate and other operational efficiencies. The revised structure resulted in the setup of a deferred tax liability in the amount of $66.0 million on the taxable gain created in the transaction. In addition, the Company recorded an asset of $66.0 million for the deferred tax charge representing the future income tax on the gain, which will be amortized into income tax expense through 2019.

The amount of unrecognized tax benefits included in the consolidated balance sheets increased$1.3 million in the nine months ended September 30, 2016, from $22.2 million at December 31, 2015 to $23.5 million at September 30, 2016. In January 2015, the Company recorded an asset of $19.7 million for the deferred tax charge representing the future unrecognized tax benefit, which will be amortized into income tax expense through 2019. The total amount of unrecognized tax benefits that, if recognized, would favorably affect the effective tax rate is $10.6 million at September 30, 2016.

During the three and nine months endedSeptember 30, 2016, a total of $3.0 million and $12.2 million, respectively, of the deferred tax charge was amortized into tax expense ($2.3 million and $9.4 million, respectively, related to the updated global corporate structure, and $0.7 million and $2.8 million, respectively, related to the unrecognized tax benefit thereon). At September 30, 2016, the Company had a total deferred tax charge of $56.3 million, of which $17.1 million is expected to amortize in the next twelve months and therefore is classified as deferred tax charge—current and $39.2 million is deferred tax charge—net of current portion.

16

Etsy, Inc.

Notes to Consolidated Financial Statements

Note 6—Fair Value Measurements

The Company has characterized its investments in marketable securities, based on the priority of the inputs used to value the investments, into a three-level fair value hierarchy. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1), and lowest priority to unobservable inputs (Level 3). If the inputs used to measure the investments fall within different levels of the hierarchy, the categorization is based on the lowest level input that is significant to the fair value measurement of the investment. Investments recorded in the accompanying consolidated balance sheet are categorized based on the inputs to valuation techniques as follows:

Level 1—These are investments where values are based on unadjusted quoted prices for identical assets in an active market that the Company has the ability to access.

Level 2—These are investments where values are based on quoted market prices in markets that are not active or model derived valuations in which all significant inputs are observable in active markets.

Level 3—These are liabilities where values are derived from techniques in which one or more significant inputs are unobservable.

The following are the major categories of assets and liabilities measured at fair value on a recurring basis as of December 31, 2015 and September 30, 2016 (in thousands):

	As of December 31, 2015
	Level 1		Level 2		Level 3		Total
Asset
Cash equivalents:
Money market funds	$	212,390	$	—	$	—	$	212,390
U.S. Government bills	3		—		—		3
	212,393		—		—		212,393
Short-term investments:
U.S. Government and agency bills	21,620		—		—		21,620
	$	234,013	$	—	$	—	$	234,013
Liability
Acquisition–related contingent consideration classified as liability	$	—	$	—	$	2,357	$	2,357
	$	—	$	—	$	2,357	$	2,357

	As of September 30, 2016
	Level 1		Level 2		Level 3		Total
Asset
Cash equivalents:
Money market funds	$	105,160	$	—	$	—	$	105,160
U.S. Government bills	7,300		—		—		7,300
	112,460		—		—		112,460
Short-term investments:
Commercial paper	—		5,999		—		5,999
Corporate bonds	—		50,621		—		50,621
U.S. Government and agency bills	25,718		—		—		25,718
	25,718		56,620		—		82,338
	$	138,178	$	56,620	$	—	$	194,798
Liability
Acquisition–related contingent consideration classified as liability	$	—	$	—	$	2,315	$	2,315
	$	—	$	—	$	2,315	$	2,315

17

Etsy, Inc.

Notes to Consolidated Financial Statements

Level 1 instruments include money market funds and AAA-rated U.S. Government and agency securities, which are valued based on inputs including quotes from broker-dealers or recently executed transactions in the same or similar securities.

Level 2 instruments include fixed-income funds consisting of investments in commercial paper and corporate bonds, which are valued based on quoted market prices in markets that are not active or model derived valuations in which all significant inputs are observable in active markets.

Level 3 instruments include contingent consideration classified as a liability in connection with the acquisition of ALM. The contingent consideration is classified as a liability due to its affiliation with a related put option, which will expire upon vesting of the underlying consideration, and its fair value is determined based on the fair value of the Company's common stock at the period-end reporting date.

The table below provides a reconciliation of the beginning and ending balances for the liabilities measured at fair value using significant unobservable inputs (Level 3) (in thousands):

	Nine Months Ended   September 30, 2016
Balance at beginning of period	$	2,357
Acquired	—
Changes to liability-classified stock awards	1,900
Settled	—
Conversion of liability-classified restricted shares upon vesting	(1,942		)
Balance at end of period	$	2,315

Note 7—Marketable Securities

Short-term investments consist of marketable securities that are available-for-sale. The cost and fair value of available-for-sale securities were as follows as of the dates indicated (in thousands):

	Cost		Gross Unrealized Holding Loss			Gross Unrealized Holding Gain		Fair Value
December 31, 2015
U.S. Government and agency bills	$	21,636	$	(16	)	$	—	$	21,620
	$	21,636	$	(16	)	$	—	$	21,620
September 30, 2016
Commercial paper	$	5,999	$	—		$	—	$	5,999
Corporate bonds	50,610		(3		)	14		50,621
U.S. Government and agency bills	25,703		—			15		25,718
	$	82,312	$	(3	)	$	29	$	82,338

The Company’s investments in marketable securities consist primarily of investments in fixed-income funds and AAA-rated U.S. Government and agency bills. When evaluating investments for other-than-temporary impairment, the Company reviews factors such as length of time and extent to which fair value has been below cost basis, the financial condition of the issuer and the Company’s ability and intent to hold the investment for a period of time, which may be sufficient for anticipated recovery in market value. The Company evaluates fair values for each individual security in the investment portfolio.

18

Etsy, Inc.

Notes to Consolidated Financial Statements

Note 8—Goodwill and Intangible Assets

The following table summarizes the changes in the carrying amount of goodwill for the period indicated (in thousands):

	Nine Months Ended   September 30, 2016
Balance as of the beginning of the period	$	27,752
Acquisitions (1)	9,407
Foreign currency translation	606
Balance as of the end of the period	$	37,765

(1) The Company notes the purchase price allocation for the acquisition of Blackbird is preliminary and the resulting goodwill is subject to change based on finalization of the valuation of the business.

The Company did not recognize any goodwill impairments during the nine months ended September 30, 2016.

At December 31, 2015 and September 30, 2016, the gross book value and accumulated amortization of intangible assets were as follows (in thousands):

	As of December 31, 2015							As of September 30, 2016
	Gross book value		Accumulated amortization			Net book value		Gross book value		Accumulated amortization			Net book value
Trademarks	$	822	$	(427	)	$	395	$	839	$	(643	)	$	196
Technology (1)	3,882		(2,340		)	1,542		11,419		(3,303		)	8,116
Customer relationships	1,959		(1,024		)	935		1,997		(1,537		)	460
Intangible assets, net	$	6,663	$	(3,791	)	$	2,872	$	14,255	$	(5,483	)	$	8,772

(1) The Company notes the purchase price allocation for the acquisition of Blackbird is preliminary and gross intangible and related accumulated amortization balances are subject to change based on finalization of the valuation of the business.

Amortization expense for the nine months ended September 30, 2015 and 2016 was $1.7 million and $1.6 million, respectively.

Based on amounts recorded at September 30, 2016, the Company will recognize intangible asset amortization expense for the three months ending December 31, 2016 and years ending December 31, 2017, 2018, 2019 and thereafter as follows (in thousands):

2016	$	1,136
2017	3,365
2018	2,500
2019	1,771
Thereafter	—
Total amortization expense	$	8,772

19

Etsy, Inc.

Notes to Consolidated Financial Statements

Note 9—Net Loss Per Share

The following table presents the calculation of basic and diluted net loss per share for periods presented (in thousands, except share and per share data):

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
Net loss	$	(6,891	)	$	(2,399	)	$	(49,831	)	$	(8,518	)
Basic and diluted shares:
Weighted average common shares outstanding	111,329,917			113,757,212			84,195,227			112,980,639
Net loss per share attributable to common stockholders:
Basic and diluted net loss per share applicable to common stockholders	$	(0.06	)	$	(0.02	)	$	(0.59	)	$	(0.08	)

The following potential common shares were excluded from the calculation of diluted net loss per share attributable to common stockholders because their effect would have been anti-dilutive for the periods presented:

	Three Months Ended   September 30,		Nine Months Ended   September 30,
	2015	2016	2015	2016
Stock options	11,904,577	10,364,872	11,914,369	10,890,258
Restricted stock units	148,188	2,358,365	60,204	1,718,766
Warrants	203,030	—	203,030	44,677
Convertible preferred stock	—	—	21,731,703	—
Total anti-dilutive securities	12,255,795	12,723,237	33,909,306	12,653,701

Note 10—Segment and Geographic Information

The Company has determined it operates as one operating and reportable segment for purposes of allocating resources and evaluating financial performance.

Revenue by country is based on the billing address of the seller. The following table summarizes revenue by geographic area (in thousands):

	Three Months Ended   September 30,				Nine Months Ended   September 30,
	2015		2016		2015		2016
United States	$	51,593	$	66,204	$	145,326	$	194,018
International	14,103		21,358		40,278		60,740
Revenue	$	65,696	$	87,562	$	185,604	$	254,758

No individual international country’s revenue exceeded 10% of total revenue.

Note 11—Contingencies

Non-Income Tax Contingencies

The Company had reserves of $2.6 million and $1.2 million at December 31, 2015 and September 30, 2016, respectively, for certain non-income tax obligations, representing management’s best estimate of its potential liability.

The Company could also be subject to examination in various jurisdictions related to non-income tax matters. The resolution of these types of matters, if in excess of the recorded reserve, could have an adverse impact on the Company’s business.

20

Etsy, Inc.

Notes to Consolidated Financial Statements

Legal Proceedings

On May 13, 2015, a purported securities class action complaint (Altayyar v. Etsy, Inc., et al., Docket No. 1:15-cv-02785) was filed in the United States District Court for the Eastern District of New York against the Company and certain officers. The complaint was brought on behalf of a purported class consisting of all persons or entities who purchased or otherwise acquired shares of the Company's common stock from April 16, 2015 through and including May 10, 2015. It asserted violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 based on allegedly false or misleading statements and omissions with respect to, among other things, merchandise for sale on the Company's website that may be counterfeit or constitute trademark or copyright infringement. 

On October 22, 2015, the court appointed a lead plaintiff and lead plaintiff’s counsel. On January 21, 2016, the lead plaintiff filed an amended class action complaint alleging false or misleading statements or omissions with respect to substantially the same topics as the original complaint. The amended complaint adds certain outside directors and underwriters as defendants, expands the purported class period to be April 16, 2015 to August 4, 2015, inclusive, and asserts violations of Sections 11, 12(a)(2), and 15 of the Securities Act of 1933, as well as Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The amended complaint seeks certification as a class action and unspecified compensatory damages plus interest and attorneys' fees. The Company and the named officers and directors intend to defend themselves vigorously against this action. In light of, among other things, the early stage of the litigation, the Company is unable to predict the outcome of this matter and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from an unfavorable outcome.

On July 21, 2015, a purported securities class action complaint (Cervantes v. Dickerson, et.al., Case No. CIV 534768) was filed in the Superior Court of State of California, County of San Mateo, against the Company, certain officers, directors and underwriters. The complaint asserts violations of Sections 11 and 15 of the Securities Act of 1933.  As in the Altayyar litigation, the complaint alleges misrepresentations in the Company’s Registration Statement on Form S-1 and Prospectus with respect to, among other things, merchandise for sale on the Company's website that may be counterfeit or constitute trademark or copyright infringement. The complaint seeks certification as a class action and unspecified compensatory damages plus interest and attorneys' fees.

On November 5, 2015, another purported securities class action complaint (Weiss v. Etsy et al., No. CIV 536123) was filed in the Superior Court of State of California, County of San Mateo. The Weiss complaint names as defendants the Company and the same officers, directors and underwriters named in the Cervantes complaint, and also asserts violations of Sections 11 and 15 of the Securities Act of 1933 based on allegedly false or misleading statements or omissions with respect to, among other things, merchandise for sale on the Company's website that may be counterfeit or constitute trademark or copyright infringement. On December 24, 2015, the court consolidated the Cervantes and Weiss actions. The Company and the named officers and directors intend to defend themselves vigorously against these consolidated actions. On February 3, 2016, the court granted the Company’s motion to stay the consolidated actions. In light of, among other things, the early stage of the litigation, the Company is unable to predict the outcome of this matter and is unable to make a meaningful estimate of the amount or range of loss, if any, that could result from an unfavorable outcome.

In addition, from time to time in the normal course of business, various other claims and litigation have been asserted or commenced against the Company. Due to uncertainties inherent in litigation and other claims, the Company can give no assurance that it will prevail in any such matters, which could subject the Company to significant liability for damages. Any claims or litigation, regardless of their success, could have an adverse effect on the Company’s consolidated results of operations or cash flows in the period the claims or litigation are resolved. As of September 30, 2016, the Company does not believe that there are any material litigation exposures relating to these other claims.

21

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and related notes and other financial information included elsewhere in this Quarterly Report on Form 10-Q and with the audited consolidated financial statements included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on March 1, 2016. This discussion, particularly information with respect to our outlook, our plans and strategy for our business and our performance and future success, includes forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those discussed below. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly in the “Risk Factors” section, and in “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key Factors Affecting our Performance” in our Annual Report on Form 10-K.

Overview

We operate markets where people around the world connect, both online and offline, to make, sell and buy unique goods. Our business model is based on shared success: we make money when Etsy sellers make money, so we also offer services to Etsy sellers to help them create, scale and manage their businesses.

Our revenue is diversified, generated from a mix of marketplace activities and Seller Services. Marketplace revenue is made up of two components: the $0.20 listing fee that an Etsy seller pays for each item she lists and the 3.5% transaction fee she pays for each completed transaction. Seller Services revenue includes the fees our Etsy sellers pay Etsy for services, which include Direct Checkout, our payment processing service, Promoted Listings, our ad service for prominent placement in on-site search results, Shipping Labels, which allows Etsy sellers to purchase shipping labels through our platform, and Pattern by Etsy, our subscription service enabling sellers to create their own custom website. Other revenue includes the fees we receive from Paypal, a third-party payment processor, and revenue from commercial agreements related to business partnerships.

As of September 30, 2016, through our innovative, technology-based platform, we connected a community of 1.7 million active Etsy sellers and 27.1 million active Etsy buyers, in nearly every country in the world. In the three and nine months endedSeptember 30, 2016, Etsy sellers generated GMS of $677.2 million and $2.0 billion, respectively, of which approximately 49% and 48%, respectively, came from purchases made on mobile devices. We are a global company and 30.4% of our GMS in both the three and nine months endedSeptember 30, 2016 came from an Etsy seller or an Etsy buyer outside of the United States.

We completed our initial public offering (the “IPO”) of our common stock on April 21, 2015.

Key Operating and Financial Metrics

We collect and analyze operating and financial data to evaluate the health of our ecosystem, allocate our resources (such as capital, time and technology investments) and assess the performance of our business. The key operating and financial metrics we use are:

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
	(in thousands, except percentages)
GMS	$	568,787		$	677,221		$	1,646,899		$	1,976,092
Revenue	$	65,696		$	87,562		$	185,604		$	254,758
Marketplace revenue	$	32,232		$	38,133		$	92,852		$	111,268
Seller Services revenue	$	32,329		$	48,511		$	89,378		$	139,113
Net loss	$	(6,891	)	$	(2,399	)	$	(49,831	)	$	(8,518	)
Adjusted EBITDA	$	6,224		$	13,056		$	16,958		$	41,847
Active sellers	1,533			1,706			1,533			1,706
Active buyers	22,603			27,140			22,603			27,140
Percent mobile visits	60		%	65		%	60		%	64		%
Percent mobile GMS	44		%	49		%	43		%	48		%
Percent international GMS	29.3		%	30.4		%	30.0		%	30.4		%

22

GMS

Gross merchandise sales, or GMS, is the dollar value of items sold in our marketplace within the applicable period, excluding shipping fees and net of refunds associated with canceled transactions. GMS does not represent revenue earned by us. GMS relates only to Marketplace activity and does not reflect Seller Services activity. However, because our revenue and cost of revenue depend significantly on the dollar value of items sold in our marketplace, we believe that GMS is an indicator of the success of Etsy sellers, the satisfaction of Etsy buyers, the health of our ecosystem and the scale and growth of our business.

Adjusted EBITDA

Adjusted EBITDA represents our net loss adjusted to exclude: interest and other non-operating expense, net; provision for income taxes; depreciation and amortization; stock-based compensation expense; net unrealized (gain) loss on warrant and other liabilities; foreign exchange loss (gain); acquisition-related expenses; and our contribution to Good Work Institute (formerly Etsy.org). See “Non-GAAP Financial Measures” for additional information regarding our use of Adjusted EBITDA, including its limitations as a financial measure, and for a reconciliation of Adjusted EBITDA to net loss, the most directly comparable financial measure calculated in accordance with GAAP.

Active Sellers

An active seller is an Etsy seller who has incurred at least one charge from us in the last 12 months. Charges include transaction fees, listing fees and fees for Direct Checkout, Promoted Listings, Shipping Labels, Pattern by Etsy and Wholesale enrollment. An Etsy seller is someone who has created an account and has listed an item in our marketplace. An Etsy seller is identified by a unique e-mail address; a single person can have multiple Etsy seller accounts. We succeed when Etsy sellers succeed, so we view the number of active sellers as a key indicator of the awareness of our brand, the reach of our platform, the potential for growth in GMS and revenue and the health of our ecosystem.

Active Buyers

An active buyer is an Etsy buyer who has made at least one purchase in the last 12 months. An Etsy buyer is someone who has created an account in our marketplace. An Etsy buyer is identified by a unique e-mail address; a single person can have multiple Etsy buyer accounts. We succeed when Etsy buyers order items from Etsy sellers, so we view the number of active buyers as a key indicator of our potential for growth in GMS and revenue, the reach of our platform, awareness of our brand, the engagement and loyalty of Etsy buyers and the health of our ecosystem.

Mobile Visits

A visit represents activity from a unique browser or mobile app. A visit ends after 30 minutes of activity. A mobile visit is a visit that occurs on a mobile device, such as a tablet or a smartphone. Etsy sellers are increasingly using mobile devices to manage their listings and track their business performance on our platform. In addition, Etsy buyers increasingly use mobile devices to search, browse and purchase items on our platform. We view percent mobile visits as a key indicator of the level of engagement of Etsy sellers and Etsy buyers on our mobile website and mobile apps and of our ability to sustain GMS and revenue.

Mobile GMS

Mobile GMS is GMS that occurs on a mobile device, such as a tablet or a smartphone. Mobile GMS excludes orders initiated on mobile devices but ultimately completed on a desktop. We believe that mobile GMS indicates our success in converting mobile activity into mobile purchases and demonstrates our ability to grow GMS and revenue.

International GMS

International GMS is GMS from transactions where either the billing address for the Etsy seller or the shipping address for the Etsy buyer at the time of sale is outside of the United States. We believe that international GMS shows the level of engagement of our community outside the United States and demonstrates our ability to grow GMS and revenue.

23

Results of Operations

The following tables show our results of operations for the periods presented and express the relationship of certain line items as a percentage of revenue for those periods. The period-to-period comparison of financial results is not necessarily indicative of future results. For more information regarding the components of our results of operations, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Components of Our Results of Operations” in the Annual Report, which we incorporate by reference.

	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
	(in thousands)						(in thousands)
Revenue:
Marketplace	$	32,232		$	38,133		$	92,852		$	111,268
Seller Services	32,329			48,511			89,378			139,113
Other	1,135			918			3,374			4,377
Total revenue	65,696			87,562			185,604			254,758
Cost of revenue	24,165			29,314			66,783			86,323
Gross profit	41,531			58,248			118,821			168,435
Operating expenses:
Marketing	16,542			18,736			44,295			51,788
Product development	11,406			14,897			31,487			38,967
General and administrative	15,250			21,942			53,339			63,555
Total operating expenses	43,198			55,575			129,121			154,310
(Loss) income from operations	(1,667		)	2,673			(10,300		)	14,125
Other expense, net	(1,129		)	(709		)	(19,802		)	(405		)
(Loss) income before income taxes	(2,796		)	1,964			(30,102		)	13,720
Provision for income taxes	(4,095		)	(4,363		)	(19,729		)	(22,238		)
Net loss	$	(6,891	)	$	(2,399	)	$	(49,831	)	$	(8,518	)
	Three Months Ended   September 30,						Nine Months Ended   September 30,
	2015			2016			2015			2016
Revenue:
Marketplace	49.1		%	43.5		%	50.0		%	43.7		%
Seller Services	49.2			55.4			48.2			54.6
Other	1.7			1.0			1.8			1.7
Total revenue	100.0			100.0			100.0			100.0
Cost of revenue	36.8			33.5			36.0			33.9
Gross profit	63.2			66.5			64.0			66.1
Operating expenses:
Marketing	25.2			21.4			23.9			20.3
Product development	17.4			17.0			17.0			15.3
General and administrative	23.2			25.1			28.7			24.9
Total operating expenses	65.8			63.5			69.6			60.6
(Loss) income from operations	(2.5		)	3.1			(5.5		)	5.5
Other expense, net	(1.7		)	(0.8		)	(10.7		)	(0.2		)
(Loss) income before income taxes	(4.3		)	2.2			(16.2		)	5.4
Provision for income taxes	(6.2		)	(5.0		)	(10.6		)	(8.7		)
Net loss	(10.5		)	(2.7		)	(26.8		)	(3.3		)

24

Comparison of Three Months EndedSeptember 30, 2015 and 2016

Revenue

	Three Months Ended September 30,						Change
	2015			2016			$			%
	(in thousands, except percentages)
Revenue:
Marketplace	$	32,232		$	38,133		$	5,901		18.3	%
Percentage of total revenue	49.1		%	43.5		%
Seller Services	$	32,329		$	48,511		$	16,182		50.1	%
Percentage of total revenue	49.2		%	55.4		%
Other	$	1,135		$	918		$	(217	)	(19.1	)%
Percentage of total revenue	1.7		%	1.0		%
Total revenue	$	65,696		$	87,562		$	21,866		33.3	%

GMS increased $108.4 million, or 19.1%, to $677.2 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015. On a currency-neutral basis (excluding the direct impact of currency translation on GMS from goods that are not listed in U.S. dollars) GMS growth in the third quarter of 2016 would have been 20.1%, or approximately one percentage point higher than reported growth. Supporting this growth in GMS, active sellers increased11.3% to 1.7 million and active buyers increased20.1% to 27.1 million at September 30, 2016 compared to September 30, 2015.

During the three months ended September 30, 2016, mobile GMS increased as a percentage of total GMS to approximately 49%, up from approximately 44% for the three months ended September 30, 2015, as a result of increased mobile traffic and, to a lesser extent, continued improvements in our mobile offerings for Etsy buyers. During the third quarter, the mobile app conversion rate expanded more than mobile web and desktop conversion rates resulting in a slight narrowing of thegap between mobile visits and mobile GMS. Year-over-year, mobile app and mobile web GMS each continued to grow faster than desktop GMS during the three months ended September 30, 2016. We believe that we will continue to see the gap between mobile visits and mobile GMS narrow over time. 

For the three months ended September 30, 2016, international GMS increased as a percentage of total GMS to 30.4%, from 29.3% for the three months ended September 30, 2015. We expect our percent international GMS to remain stable for the remainder of 2016, assuming that currencies remain stable compared to average levels in December 2015. We continue to believe that we can grow international GMS, over time, to represent 50% of total GMS. The improved performance in percent international GMS was largely driven by GMS growth between U.S. buyers and international sellers and GMS growth between buyers and sellers outside of the U.S., both in the same country and cross-border. We continue to believe the decline of GMS between U.S. sellers and international buyers, which decreased7% year-over-year during the third quarter, is indicative of the indirect impact of fluctuating currency exchange rates on international buyer behavior, which is difficult to estimate. Finally, GMS growth between international buyers and sellers in the same country remains the fastest growing category of international GMS. Excluding our French marketplace ALM, GMS between international buyers and sellers in the same country grew65% year-over-year during the third quarter. This category has grown to be more similar in size to GMS between U.S. sellers and international buyers and GMS between international buyers and sellers in different countries, although it remains our smallest category of international GMS. We believe the growth in this segment demonstrates the progress we are making on our strategy to build local marketplaces, globally.

Revenue increased $21.9 million, or 33.3%, to $87.6 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, of which 43.5% of the total consisted of Marketplace revenue and 55.4% consisted of Seller Services revenue.

Marketplace revenue increased $5.9 million, or 18.3%, to $38.1 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015. This growth corresponded with a 19.1%increase in GMS to a total of $677.2 million for the three months ended September 30, 2016. As our GMS increased, our Marketplace revenue increased, primarily due to growth in transaction fee revenue and, to a lesser extent, an increase in listing fee revenue.

Seller Services revenue increased $16.2 million, or 50.1%, to $48.5 million in the three months ended September 30, 2016compared tothe three months ended September 30, 2015. Thegrowthin Seller Services revenue was primarily driven by an

25

increasein revenue from Direct Checkout, which continued to benefit from the integration of Paypal. During the fourth quarter, we will anniversary the integration of Paypal into Direct Checkout, which has been a substantial driver of year-over-year Seller Services revenue growth, and therefore, we expect Direct Checkout and Seller Services revenue growth to decelerate. Seller Services revenue also benefited from the growth in revenue from Promoted Listings and, to a lesser extent, Shipping Labels as well as from a modest contribution from Pattern by Etsy, our newest Seller Service that we launched in April. The increase in Promoted Listings revenue was due to higher click volume and overall product enhancements. Growth in Seller Services revenue continued to outpace growth in Marketplace revenue in the third quarter of 2016. We expect Seller Services revenue related to our existing offerings to continue to grow, driven by increased adoption and product enhancements. Additionally, we expect to see modest contributions to revenue related to new product launches and types of Seller Services, including Pattern by Etsy. We do not expect the incremental revenue related to these new product launches and types of Seller Services to be material in comparison to total revenue in 2016.

Other revenue decreased19.1% to $0.9 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, mainly due to the reduction of fees from Paypal, a third-party payment processor, as a result of its integration into Direct Checkout.

Cost of Revenue

	Three Months Ended September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
Cost of revenue	$	24,165		$	29,314		$	5,149	21.3	%
Percentage of total revenue	36.8		%	33.5		%

Cost of revenue increased $5.1 million, or 21.3%, to $29.3 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, primarily as a result of additional costs to support the increase in Direct Checkout revenue and, to a lesser extent, an increase in employee-related costs. Our cost of revenue growth was benefited by a one-time payment from a third-party payment processor of $1.1 million during the third quarter of 2016. Excluding the impact of this payment, comparable cost of revenue in the three months ended September 30, 2016 increased 25.7% compared to the three months ended September 30, 2015. Cost of revenue decreased as a percentage of revenue due to the leverage we achieved in costs related to our technology infrastructure, the aforementioned one-time payment and employee-related costs.

Operating Expenses

For the full year 2016, we expect total operating expenses as a percentage of revenue to decline as compared to 2015, which will create leverage in our operating cost structure. There were 979 total employees on September 30, 2016, compared with 921 on June 30, 2016. We expect to continue to hire at a slightly slower pace in the three months ended December 31, 2016 as compared to the three months ended September 30, 2016 and at a faster pace compared with the three months endedDecember 31,2015.

Marketing

	Three Months Ended September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
Marketing	$	16,542		$	18,736		$	2,194	13.3	%
Percentage of total revenue	25.2		%	21.4		%

Marketing expenses increased $2.2 million, or 13.3%, to $18.7 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, primarily as a result of increased spend on brand marketing campaigns and an increase in employee-related expenses on our marketing team, which includes our public relations, communications and seller development teams. This increase was partially offset by a year-over-year decrease in spend on product listing ads. During the fourth quarter of 2016, we expect to accelerate our pace of marketing spend mainly driven by digital and brand marketing expenses, but overall, as a percent of revenue, marketing will decrease in 2016.

26

Product development

	Three Months Ended September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
Product development	$	11,406		$	14,897		$	3,491	30.6	%
Percentage of total revenue	17.4		%	17.0		%

Product development expenses increased $3.5 million, or 30.6%, to $14.9 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, primarily as a result of an increase in employee-related expenses in our product and engineering teams. For 2016, as a result of additional expenses related to the acquisition of Blackbird Technologies, Inc. (“Blackbird”), we expect product development expense as a percent of revenue to remain in line with 2015.

General and administrative

	Three Months Ended September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
General and administrative	$	15,250		$	21,942		$	6,692	43.9	%
Percentage of total revenue	23.2		%	25.1		%

General and administrative expenses increased $6.7 million, or 43.9%, to $21.9 million in the three months ended September 30, 2016 compared to the three months ended September 30, 2015, primarily driven by an increase in employee-related costs, overhead related to our new office locations, including depreciation expense related to our new Brooklyn headquarters and professional services mainly related to compliance with Sarbanes-Oxley. Overall in 2016, we expect general and administrative expenses to decline as a percent of revenue.

Other Expense, net

	Three Months Ended September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
Other expense, net	$	(1,129	)	$	(709	)	$	420	(37.2	)%
Percentage of total revenue	(1.7		)%	(0.8		)%

Other expense, net was $1.1 million in the three months ended September 30, 2015 mainly due to a foreign currency loss due to intercompany debt in connection with the revised global corporate structure that we implemented on January 1, 2015 in addition to interest expense on leased computer equipment. Other expense, net was $0.7 million in the three months ended September 30, 2016 mainly due to interest expense largely associated with the build-to-suit lease accounting related to our new corporate headquarters, partially offset by a foreign currency gain related to the intercompany debt and, to a lesser extent, interest income.

27

Provision for Income Taxes

	Three Months Ended September 30,						Change
	2015			2016			$			%
	(in thousands, except percentages)
Provision for income taxes	$	(4,095	)	$	(4,363	)	$	(268	)	6.5	%
Percentage of total revenue	(6.2		)%	(5.0		)%

Our income tax provision for the three months ended September 30, 2015 and September 30, 2016 was $4.1 million and $4.4 million, respectively. The primary drivers of our income tax provision for the three months endedSeptember 30, 2015 were the recognition of $4.8 million of tax expense related to our updated corporate structure, $4.5 million of tax benefit for an R&D tax credit, and forecasted pretax income. The primary drivers of our income tax provision for the three months endedSeptember 30, 2016 were the recognition of $3.0 million tax expense related to our updated corporate structure, and forecasted pretax income. For both periods, other drivers include the disallowance of the benefit of losses in certain foreign jurisdictions, the mix of income and losses in jurisdictions with a wide range of tax rates, and the amount of non-deductible stock-based compensation expense.

Comparison of Nine Months EndedSeptember 30, 2015 and 2016

Revenue

	Nine Months Ended   September 30,						Change
	2015			2016			$		%
	(in thousands, except percentages)
Revenue:
Marketplace	$	92,852		$	111,268		$	18,416	19.8	%
Percentage of total revenue	50.0		%	43.7		%
Seller Services	$	89,378		$	139,113		$	49,735	55.6	%
Percentage of total revenue	48.2		%	54.6		%
Other	$	3,374		$	4,377		$	1,003	29.7	%
Percentage of total revenue	1.8		%	1.7		%
Total revenue	$	185,604		$	254,758		$	69,154	37.3	%

GMS increased $329.2 million, or 20.0%, to $2.0 billion in the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015. On a currency-neutral basis (excluding the direct impact of currency translation on GMS from goods that are not listed in U.S. dollars) GMS growth for the nine months ended September 30, 2016 would have been 20.7%, or approximately 0.7 percentage points higher than reported growth. Supporting this growth in GMS, active sellers increased11.3% to 1.7 million and active buyers increased20.1% to 27.1 million at September 30, 2016 compared to September 30, 2015.

During the nine months ended September 30, 2016, mobile GMS increased as a percentage of total GMS to approximately 48%, up from approximately 43% for the nine months ended September 30, 2015 as a result of increased mobile traffic and, to a lesser extent, continued improvements in our mobile offerings for Etsy buyers. For the nine months ended September 30, 2016, conversion rates increased across desktop, mobile web and mobile app. Desktop conversion rates expanded at a slower rate than overall mobile conversion rates, and as a result, the gap between mobile visits and mobile GMS narrowed slightly. Year-over-year, mobile app and mobile web GMS each continued to grow faster than desktop GMS during the nine months ended September 30, 2016. We believe that we will continue to see the gap between mobile visits and mobile GMS narrow over time. 

For the nine months ended September 30, 2016, international GMS increased as a percentage of total GMS to 30.4%, from 30.0% for the nine months ended September 30, 2015. We expect our percent international GMS to remain stable for the remainder of 2016, assuming that currencies remain stable compared to average levels in December 2015. We continue to believe that we can grow international GMS, over time, to represent 50% of total GMS. The improved performance in percent international GMS was largely driven by GMS growth between U.S. buyers and international sellers and GMS growth between

28

buyers and sellers outside of the U.S., both in the same country and cross-border. We continue to believe the decline of GMS between U.S. sellers and international buyers, which decreased9% in the nine months ended September 30, 2016, is indicative of the indirect impact of fluctuating currency exchange rates on international buyer behavior, which is difficult to estimate. Finally, GMS growth between international buyers and sellers in the same country remains the fastest growing category of international GMS. Excluding our French marketplace ALM, GMS between international buyers and sellers in the same country grew63% year-over-year during the nine months ended September 30, 2016. This category has grown to be more similar in size to GMS between U.S. sellers and international buyers and GMS between international buyers and sellers in different countries, although it remains our smallest category of international GMS. We believe the growth in this segment demonstrates the progress we are making on our strategy to build local marketplaces, globally.

Revenue increased $69.2 million, or 37.3%, to $254.8 million in the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015, of which 43.7% consisted of Marketplace revenue and 54.6% consisted of Seller Services revenue. Additionally, we recognized $1.7 million in revenue from accumulated unused gift card funds received from our third-party service provider during the first quarter of 2016. Excluding this one-time payment, revenue would have increased36.3% in the nine months ended September 30, 2016 compared to the nine months ended September 30, 2015.

Marketplace revenue increased $18.4 million, or 19.8%, to $11