10-Q 1 q3201710-q.htm 10-Q Document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 FORM 10-Q
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 31, 2017
 
¨

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 0-19417
 
PROGRESS SOFTWARE CORPORATION
(Exact name of registrant as specified in its charter)
 
 
DELAWARE
(State or other jurisdiction of
incorporation or organization)
 
04-2746201
(I.R.S. Employer
Identification No.)
14 Oak Park
Bedford, Massachusetts 01730
(Address of principal executive offices)(Zip code)
Telephone Number: (781) 280-4000
 
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  ý    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  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes  ¨ No  ý
As of September 27, 2017, there were 47,807,918 shares of the registrant’s common stock, $.01 par value per share, outstanding.



PROGRESS SOFTWARE CORPORATION
FORM 10-Q
FOR THE NINE MONTHS ENDED AUGUST 31, 2017
INDEX

 
 
 
PART I
 
 
 
 
Item 1.
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
PART II
 
 
 
 
Item 1.
Item 1A.
Item 2.
Item 6.
 
 
 
 
 

2


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

Condensed Consolidated Balance Sheets

(In thousands, except share data)
August 31,
2017
 
November 30, 2016
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
144,757

 
$
207,036

Short-term investments
46,559

 
42,718

Total cash, cash equivalents and short-term investments
191,316

 
249,754

Accounts receivable (less allowances of $834 and $1,143, respectively)
51,860

 
65,678

Other current assets
18,451

 
20,621

Total current assets
261,627

 
336,053

Property and equipment, net
43,283

 
50,105

Intangible assets, net
101,777

 
80,827

Goodwill
315,913

 
278,067

Deferred tax assets
1,221

 
6,601

Other assets
1,995

 
3,174

Total assets
$
725,816

 
$
754,827

Liabilities and shareholders’ equity
 
 
 
Current liabilities:
 
 
 
Current portion of long-term debt
$
14,643

 
$
15,000

Accounts payable
6,657

 
12,991

Accrued compensation and related taxes
25,269

 
26,212

Dividends payable to shareholders
5,975

 
6,067

Income taxes payable
2,275

 
1,509

Other accrued liabilities
19,354

 
12,999

Short-term deferred revenue
131,932

 
128,960

Total current liabilities
206,105

 
203,738

Long-term debt
108,303

 
120,000

Long-term deferred revenue
8,774

 
8,801

Deferred tax liabilities
5,793

 
3,901

Other noncurrent liabilities
5,239

 
11,758

Commitments and contingencies

 

Shareholders’ equity:
 
 
 
Preferred stock, $0.01 par value; authorized, 10,000,000 shares; issued, none

 

Common stock, $0.01 par value, and additional paid-in capital; authorized, 200,000,000 shares; issued and outstanding, 47,796,793 shares in 2017 and 48,536,516 shares in 2016
246,628

 
239,496

Retained earnings
162,139

 
195,694

Accumulated other comprehensive loss
(17,165
)
 
(28,561
)
Total shareholders’ equity
391,602

 
406,629

Total liabilities and shareholders’ equity
$
725,816

 
$
754,827

See notes to unaudited condensed consolidated financial statements.

3


Condensed Consolidated Statements of Operations
 
 
Three Months Ended
 
Nine Months Ended
(In thousands, except per share data)
August 31,
2017
 
August 31,
2016
 
August 31,
2017
 
August 31,
2016
Revenue:
 
 
 
 
 
 
 
Software licenses
$
28,529

 
$
33,624

 
$
78,443

 
$
86,366

Maintenance and services
68,781

 
68,394

 
203,050

 
201,251

Total revenue
97,310

 
102,018

 
281,493

 
287,617

Costs of revenue:
 
 
 
 
 
 
 
Cost of software licenses
1,337

 
1,424

 
4,347

 
4,139

Cost of maintenance and services
10,970

 
11,825

 
32,724

 
33,217

Amortization of acquired intangibles
5,768

 
3,940

 
14,129

 
11,818

Total costs of revenue
18,075

 
17,189

 
51,200

 
49,174

Gross profit
79,235

 
84,829

 
230,293

 
238,443

Operating expenses:
 
 
 
 
 
 
 
Sales and marketing
23,159

 
29,852

 
70,116

 
88,648

Product development
19,620

 
21,706

 
55,745

 
65,800

General and administrative
11,164

 
11,411

 
33,338

 
36,055

Amortization of acquired intangibles
3,319

 
3,186

 
9,721

 
9,556

Impairment of intangible assets

 
5,051

 

 
5,051

Restructuring expenses
923

 
(36
)
 
18,724

 
229

Acquisition-related expenses
751

 
53

 
844

 
449

Total operating expenses
58,936

 
71,223

 
188,488

 
205,788

Income from operations
20,299

 
13,606

 
41,805

 
32,655

Other (expense) income:
 
 
 
 
 
 
 
Interest expense
(1,221
)
 
(1,174
)
 
(3,455
)
 
(3,244
)
Interest income and other, net
239

 
260

 
717

 
686

Foreign currency (loss) gain, net
(418
)
 
(374
)
 
(1,561
)
 
(1,916
)
Total other (expense) income, net
(1,400
)
 
(1,288
)
 
(4,299
)
 
(4,474
)
Income before income taxes
18,899

 
12,318

 
37,506

 
28,181

Provision for income taxes
7,727

 
4,742

 
16,518

 
10,114

Net income
$
11,172

 
$
7,576

 
$
20,988

 
$
18,067

Earnings per share:
 
 
 
 
 
 
 
Basic
$
0.23

 
$
0.16

 
$
0.43

 
$
0.36

Diluted
$
0.23

 
$
0.15

 
$
0.43

 
$
0.36

Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
48,071

 
48,611

 
48,342

 
49,765

Diluted
48,370

 
49,135

 
48,631

 
50,310

 
 
 
 
 
 
 
 
Cash dividends declared per common share
$
0.125

 
$

 
$
0.375

 
$

See notes to unaudited condensed consolidated financial statements.

4


Condensed Consolidated Statements of Comprehensive Income

 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
August 31, 2017
 
August 31, 2016
Net income
$
11,172

 
$
7,576

 
$
20,988

 
$
18,067

Other comprehensive income, net of tax:
 
 
 
 
 
 
 
Foreign currency translation adjustments
5,920

 
(1,332
)
 
11,291

 
485

Reclassification adjustment for losses included in net income, net of tax of $0 for the third quarter and first nine months of 2016

 

 

 
256

Unrealized gains on investments, net of tax provision of $17 and $62 for the third quarter and first nine months of 2017, respectively and $16 for the third quarter and first nine months of 2016
27

 
30

 
105

 
27

Total other comprehensive income, net of tax
5,947

 
(1,302
)
 
11,396

 
768

Comprehensive income
$
17,119

 
$
6,274

 
$
32,384

 
$
18,835


See notes to unaudited condensed consolidated financial statements.


5


Condensed Consolidated Statements of Cash Flows
 
 
Nine Months Ended
(In thousands)
August 31,
2017
 
August 31,
2016
Cash flows from operating activities:
 
 
 
Net income
$
20,988

 
$
18,067

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization of property and equipment
5,794

 
6,480

Amortization of intangibles and other
25,530

 
23,316

Stock-based compensation
9,559

 
19,009

Loss on disposal of property
186

 
364

Asset impairment

 
5,051

Deferred income taxes
3,518

 
(996
)
Excess tax benefit from stock plans
(403
)
 
(305
)
Allowances for accounts receivable
53

 
(334
)
Changes in operating assets and liabilities:
 
 
 
Accounts receivable
15,769

 
11,209

Other assets
3,783

 
(3,866
)
Accounts payable and accrued liabilities
(10,971
)
 
(14,920
)
Income taxes payable
759

 
2,025

Deferred revenue
(1,394
)
 
3,810

Net cash flows from operating activities
73,171

 
68,910

Cash flows used in investing activities:
 
 
 
Purchases of investments
(30,482
)
 
(33,861
)
Sales and maturities of investments
25,904

 
17,275

Purchases of property and equipment
(865
)
 
(3,747
)
Proceeds from sale of property, plant and equipment, net
1,557

 

Payments for acquisitions, net of cash acquired
(77,149
)
 

Net cash flows used in investing activities
(81,035
)
 
(20,333
)
Cash flows used in financing activities:
 
 
 
Proceeds from stock-based compensation plans
7,245

 
8,166

Purchases of stock related to withholding taxes from the issuance of restricted stock units
(2,369
)
 
(2,751
)
Repurchases of common stock
(43,936
)
 
(71,507
)
Excess tax benefit from stock plans
403

 
305

Dividend payments to shareholders
(18,151
)
 

Payment of long-term debt
(11,250
)
 
(7,500
)
Net cash flows used in financing activities
(68,058
)
 
(73,287
)
Effect of exchange rate changes on cash
13,643

 
415

Net decrease in cash and cash equivalents
(62,279
)
 
(24,295
)
Cash and cash equivalents, beginning of period
207,036

 
212,379

Cash and cash equivalents, end of period
$
144,757

 
$
188,084


6


Condensed Consolidated Statements of Cash Flows, continued
 
Nine Months Ended
 
August 31,
2017
 
August 31,
2016
Supplemental disclosure:
 
 
 
Cash paid for income taxes, net of refunds of $3,584 in 2017 and $781 in 2016
$
10,469

 
$
11,918

Cash paid for interest
$
2,703

 
$
2,348

Non-cash investing and financing activities:
 
 
 
Total fair value of restricted stock awards, restricted stock units and deferred stock units on date vested
$
13,833

 
$
12,137

Dividends declared
$
5,975

 
$

See notes to unaudited condensed consolidated financial statements.

7


Notes to Condensed Consolidated Financial Statements

Note 1: Basis of Presentation

Company Overview - Progress offers the leading platform for developing and deploying mission-critical business applications. Progress empowers enterprises and independent software vendors (ISVs) to build and deliver cognitive-first applications that harness big data to derive business insights and competitive advantage. Progress offers leading technologies for easily building powerful user interfaces across any type of device, a reliable, scalable and secure backend platform to deploy modern applications, leading data connectivity to all sources, and award-winning predictive analytics that brings the power of machine learning to any organization. Over 1,700 ISVs, 100,000 enterprise customers, and 2 million developers rely on Progress to power their applications.

Our products are generally sold as perpetual licenses, but certain products also use term licensing models and our cloud-based offerings use a subscription based model. More than half of our worldwide license revenue is realized through relationships with indirect channel partners, principally application partners and original equipment manufacturers (OEMs). Application partners are ISVs that develop and market applications using our technology and resell our products in conjunction with sales of their own products that incorporate our technology. OEMs are companies that embed our products into their own software products or devices.

We operate in North America and Latin America (the Americas); Europe, the Middle East and Africa (EMEA); and the Asia Pacific region, through local subsidiaries as well as independent distributors.

Basis of Presentation and Significant Accounting Policies - We prepared the accompanying unaudited condensed consolidated financial statements pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) regarding interim financial reporting. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America (GAAP) for complete financial statements and these unaudited financial statements should be read in conjunction with the audited financial statements included in our Annual Report on Form 10-K for the fiscal year ended November 30, 2016.

We made no significant changes in the application of our significant accounting policies that were disclosed in our Annual Report on Form 10-K for the fiscal year ended November 30, 2016. We have prepared the accompanying unaudited condensed consolidated financial statements on the same basis as the audited financial statements included in our Annual Report on Form 10-K for the fiscal year ended November 30, 2016, and these financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results of the interim periods presented. The operating results for the interim periods presented are not necessarily indicative of the results expected for the full fiscal year.

Recent Accounting Pronouncements - In August 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update No. 2017-12, Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities (ASU 2017-12). ASU 2017-12 intends to better align an entity's risk management activities and financial reporting for hedging relationships through changes to both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. The amendments expand and refine hedge accounting for both nonfinancial and financial risk components and align the recognition and presentation of the effects of the hedging instrument and the hedged item in the financial statements. The guidance in ASU 2017-12 is required for annual reporting periods beginning after December 15, 2018, with early adoption permitted. We are currently evaluating the effect that implementation of this update will have upon adoption on our consolidated financial position and results of operations.

In May 2017, the FASB issued Accounting Standards Update No. 2017-09, Compensation - Stock Compensation (Topic 718), Scope of Modification Accounting (ASU 2017-09), which amends the scope of modification accounting for share-based payment awards. The guidance in ASU 2017-09 provides that modification accounting is required only if a change in the terms or conditions of an award results in a change to the fair value, the vesting conditions, or the classification of the award as equity or liability. The guidance in ASU 2017-09 is required for annual reporting periods beginning after December 15, 2017, with early adoption permitted. We do not expect the adoption of this standard to have a material impact on our consolidated financial position and results of operations.


8


In January 2017, the FASB issued Accounting Standards Update No. 2017-04, Intangibles - Goodwill and Other (Topic 350), Simplifying the Test for Goodwill Impairment (ASU 2017-04). ASU 2017-04 amends Topic 350 to simplify the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. This update requires the performance of an annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit's fair value. However, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The guidance in ASU 2017-04 is required for annual reporting periods beginning after December 15, 2019, with early adoption permitted. We are currently considering whether to adopt this update prior to the required adoption date.

In January 2017, the FASB issued Accounting Standards Update No. 2017-01, Business Combinations (Topic 805), Clarifying the Definition of a Business (ASU 2017-01). ASU 2017-01 provides a screen to determine when an integrated set of assets and activities is not a business. The screen requires that when substantially all of the fair value of the gross assets acquired (or disposed of) is concentrated in a single identifiable asset or group of similar identifiable assets, the set is not a business. This screen reduces the number of transactions that need to be further evaluated. The guidance in ASU 2017-01 is required for annual reporting periods beginning after December 15, 2017, with early adoption permitted. We are currently considering whether to adopt this update prior to the required adoption date and, in any event, do not expect the adoption to have a material impact on our consolidated financial position and results of operations.

In August 2016, the FASB issued Accounting Standards Update No. 2016-15, Statement of Cash Flows (Topic 230), Classification of Certain Cash Receipts and Cash Payments (ASU 2016-15). ASU 2016-15 is intended to add or clarify guidance on the classification of certain cash receipts and payments in the statement of cash flows and to eliminate the diversity in practice related to such classifications. The guidance in ASU 2016-15 is required for annual reporting periods beginning after December 15, 2017, with early adoption permitted. We are currently evaluating the effect that implementation of this update will have upon adoption on our consolidated statement of cash flows.

In March 2016, the FASB issued Accounting Standards Update No. 2016-09, Compensation - Stock Compensation (Topic 718), Improvements to Employee Share-Based Payment Accounting (ASU 2016-09). ASU 2016-09 is intended to simplify various aspects of the accounting for employee share-based payment transactions, including accounting for income taxes, forfeitures, and statutory tax withholding requirements, as well as classification in the statement of cash flows. The guidance in ASU 2016-09 is required for annual reporting periods beginning after December 15, 2016, with early adoption permitted. We are currently evaluating the effect that implementation of this update will have upon adoption on our consolidated financial position and results of operations.

In February 2016, the FASB issued Accounting Standards Update No. 2016-02, Leases (Topic 842) (ASU 2016-02), which requires lessees to record most leases on their balance sheets, recognizing a lease liability for the obligation to make lease payments and a right-to-use asset for the right to use the underlying asset for the lease term. The guidance in ASU 2016-02 is required for annual reporting periods beginning after December 15, 2018, with early adoption permitted. We currently expect that most of our operating lease commitments will be subject to the update and recognized as operating lease liabilities and right-of-use assets upon adoption. However, we are currently evaluating the effect that implementation of this update will have upon adoption on our consolidated financial position and results of operations.

In April 2015, the FASB issued Accounting Standards Update No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30) Simplifying the Presentation of Debt Issuance Costs (ASU 2015-03). ASU 2015-03 requires debt issuance costs to be presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability, consistent with the presentation of a debt discount. The guidance in ASU 2015-03 is required for annual reporting periods beginning after December 15, 2015, including interim periods within the reporting period. Accordingly, upon adoption in the first quarter of fiscal 2017, we reclassified $1.0 million from other assets to long-term debt in our condensed consolidated balance sheet.

In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606) (ASU 2014-09). ASU 2014-09 outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The guidance provided in Topic 606 requires entities to use a five-step model to recognize revenue by allocating the consideration from contracts to performance obligations on a relative standalone selling price basis. The standard also requires new disclosures regarding the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. This new guidance was initially effective for annual reporting periods (including interim reporting periods within those periods) beginning after December 15, 2016 and early adoption was not permitted. However, in July 2015, the FASB voted to defer the effective date of this ASU by one year for reporting periods beginning after December 15, 2017, with early adoption permitted as of the original effective date. As a result, the effective date for the Company will be December 1, 2018.


9


Entities have the option of using either a full retrospective or a modified approach to adopt the guidance. The Company plans to adopt this ASU in accordance with the full retrospective approach, effective December 1, 2018. Fiscal year 2019 quarterly results, and comparative prior periods, will be prepared in accordance with ASC 606. The first Annual Report on Form 10-K issued in accordance with ASC 606 will be for the period ended November 30, 2019.

Management is currently assessing the impact the adoption of this standard will have on the Company’s consolidated financial statements, but anticipates that the revenue recognition related to accounting for the following transactions will be most impacted:

Revenue from term licenses with extended payment terms over the term of the agreement within our Data Connectivity and Integration segment - These transactions are typically recognized when the amounts are billed to the customer under current revenue recognition guidance. In accordance with ASU 2014-09, revenue from term license performance obligations is expected to be recognized upon delivery and revenue from maintenance performance obligations is expected to be recognized over the contract term. To the extent the Company enters into future term licenses with extended payment terms after the adoption of ASU 2014-09, revenue from term licenses with extended payment terms will be recognized prior to the customer being billed and the Company will recognize a net contract asset on the balance sheet. Accordingly, license revenue will be accelerated under ASU 2014-09 as the Company currently does not recognize revenue until the amounts have been billed to the customer.

Revenue from transactions with multiple elements within our Application Development and Deployment segment (i.e., sales of perpetual licenses with maintenance and/or support) - These transactions are currently recognized ratably over the associated maintenance period as the Company does not have vendor specific objective evidence (VSOE) for maintenance or support. Under ASU 2014-09, the requirement to have VSOE for undelivered elements that exists under current guidance is eliminated. Accordingly, the Company will recognize a portion of the sales price as revenue upon delivery of the license instead of recognizing the entire sales price ratably over the maintenance period.

Note 2: Cash, Cash Equivalents and Investments

A summary of our cash, cash equivalents and available-for-sale investments at August 31, 2017 is as follows (in thousands):
 
 
Amortized Cost Basis
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Cash
$
137,911

 
$

 
$

 
$
137,911

Money market funds
5,846

 

 

 
5,846

State and municipal bond obligations
37,690

 
45

 

 
37,735

U.S. treasury bonds
3,523

 

 
(17
)
 
3,506

Corporate bonds
6,319

 

 
(1
)
 
6,318

Total
$
191,289

 
$
45

 
$
(18
)
 
$
191,316


A summary of our cash, cash equivalents and available-for-sale investments at November 30, 2016 is as follows (in thousands):
 
 
Amortized Cost Basis
 
Unrealized
Gains
 
Unrealized
Losses
 
Fair Value
Cash
$
196,863

 
$

 
$

 
$
196,863

Money market funds
10,173

 

 

 
10,173

State and municipal bond obligations
32,831

 

 
(107
)
 
32,724

U.S. treasury bonds
6,542

 

 
(29
)
 
6,513

Corporate bonds
3,485

 

 
(4
)
 
3,481

Total
$
249,894

 
$

 
$
(140
)
 
$
249,754



10


Such amounts are classified on our condensed consolidated balance sheets as follows (in thousands):
 
 
August 31, 2017
 
November 30, 2016
 
Cash and
Equivalents
 
Short-Term
Investments
 
Cash and
Equivalents
 
Short-Term
Investments
Cash
$
137,911

 
$

 
$
196,863

 
$

Money market funds
5,846

 

 
10,173

 

State and municipal bond obligations
1,000

 
36,735

 

 
32,724

U.S. treasury bonds

 
3,506

 

 
6,513

Corporate bonds

 
6,318

 

 
3,481

Total
$
144,757

 
$
46,559

 
$
207,036

 
$
42,718


The fair value of debt securities by contractual maturity is as follows (in thousands):
 
 
August 31,
2017
 
November 30,
2016
Due in one year or less
$
20,881

 
$
21,172

Due after one year (1)
25,678

 
21,546

Total
$
46,559

 
$
42,718


(1)
Includes state and municipal bond obligations, U.S. treasury bonds, and corporate bonds, which are securities representing investments available for current operations and are classified as current in the consolidated balance sheets.

We did not hold any investments with continuous unrealized losses as of August 31, 2017 or November 30, 2016.

Note 3: Derivative Instruments

We generally use forward contracts that are not designated as hedging instruments to hedge economically the impact of the variability in exchange rates on intercompany accounts receivable and loans receivable denominated in certain foreign currencies. We generally do not hedge the net assets of our international subsidiaries.

All forward contracts are recorded at fair value on the consolidated balance sheets at the end of each reporting period and expire from 30 days to one year. At August 31, 2017, $3.5 million was recorded in other accrued liabilities. At November 30, 2016, $6.6 million was recorded in other noncurrent liabilities. In the three and nine months ended August 31, 2017, realized and unrealized gains of $5.2 million and $9.6 million, respectively, from our forward contracts were recognized in foreign currency (loss) gain, net, in the condensed consolidated statements of operations. In the three and nine months ended August 31, 2016, realized and unrealized gains of $2.2 million and $1.4 million, respectively, from our forward contracts were recognized in foreign currency (loss) gain, net, in the condensed consolidated statements of operations. The gains were substantially offset by realized and unrealized losses on the offsetting positions.

The table below details outstanding foreign currency forward contracts where the notional amount is determined using contract exchange rates (in thousands):
 
 
August 31, 2017
 
November 30, 2016
 
Notional Value
 
Fair Value
 
Notional Value
 
Fair Value
Forward contracts to sell U.S. dollars
$
117,499

 
$
(3,539
)
 
$
74,690

 
$
(6,597
)
Forward contracts to purchase U.S. dollars
220

 
(1
)
 
1,673

 
(19
)
Total
$
117,719

 
$
(3,540
)
 
$
76,363

 
$
(6,616
)


11


Note 4: Fair Value Measurements

Recurring Fair Value Measurements

The following table details the fair value measurements within the fair value hierarchy of our financial assets and liabilities at August 31, 2017 (in thousands):
 
 
 
 
Fair Value Measurements Using
 
Total Fair
Value
 
Level 1
 
Level 2
 
Level 3
Assets
 
 
 
 
 
 
 
Money market funds
$
5,846

 
$
5,846

 
$

 
$

State and municipal bond obligations
37,735

 

 
37,735

 

U.S. treasury bonds
3,506

 

 
3,506

 

Corporate bonds
6,318

 

 
6,318

 

Liabilities
 
 
 
 
 
 
 
Foreign exchange derivatives
$
(3,540
)
 
$

 
$
(3,540
)
 
$


The following table details the fair value measurements within the fair value hierarchy of our financial assets and liabilities at November 30, 2016 (in thousands):
 
 
 
 
Fair Value Measurements Using
 
Total Fair
Value
 
Level 1
 
Level 2
 
Level 3
Assets
 
 
 
 
 
 
 
Money market funds
$
10,173

 
$
10,173

 
$

 
$

State and municipal bond obligations
32,724

 

 
32,724

 

U.S. treasury bonds
6,513

 

 
6,513

 

Corporate bonds
3,481

 

 
3,481

 

Liabilities
 
 
 
 
 
 
 
Foreign exchange derivatives
$
(6,616
)
 
$

 
$
(6,616
)
 
$


When developing fair value estimates, we maximize the use of observable inputs and minimize the use of unobservable inputs. When available, we use quoted market prices to measure fair value. The valuation technique used to measure fair value for our Level 1 and Level 2 assets is a market approach, using prices and other relevant information generated by market transactions involving identical or comparable assets. If market prices are not available, the fair value measurement is based on models that use primarily market based parameters including yield curves, volatilities, credit ratings and currency rates. In certain cases where market rate assumptions are not available, we are required to make judgments about assumptions market participants would use to estimate the fair value of a financial instrument.

We did not have any nonrecurring fair value measurements during the nine months ended August 31, 2017.


12


Note 5: Intangible Assets and Goodwill

Intangible Assets

Intangible assets are comprised of the following significant classes (in thousands):
 
 
August 31, 2017
 
November 30, 2016
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net Book
Value
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net Book
Value
Purchased technology
$
151,886

 
$
(82,245
)
 
$
69,641

 
$
109,886

 
$
(68,116
)
 
$
41,770

Customer-related
67,802

 
(43,632
)
 
24,170

 
67,602

 
(35,852
)
 
31,750

Trademarks and trade names
17,740

 
(9,774
)
 
7,966

 
15,140

 
(7,833
)
 
7,307

Total
$
237,428

 
$
(135,651
)
 
$
101,777

 
$
192,628

 
$
(111,801
)
 
$
80,827


The increase in intangible assets during the second and third quarters of fiscal year 2017 is related to the acquisitions of DataRPM Corporation (DataRPM) in March 2017 and Kinvey Inc. (Kinvey) in June 2017, respectively (Note 6).

In the three and nine months ended August 31, 2017, amortization expense related to intangible assets was $9.1 million and $23.9 million, respectively. In the three and nine months ended August 31, 2016, amortization expense related to intangible assets was $7.1 million and $21.4 million, respectively.

Future amortization expense for intangible assets as of August 31, 2017 is as follows (in thousands):
 
Remainder of 2017
$
9,096

2018
35,573

2019
34,449

2020
9,669

2021
9,550

Thereafter
3,440

Total
$
101,777


Goodwill

Changes in the carrying amount of goodwill in the nine months ended August 31, 2017 are as follows (in thousands):

Balance, November 30, 2016
$
278,067

Additions
37,794

Translation adjustments
52

Balance, August 31, 2017
$
315,913


The additions to goodwill during the second and third quarters of fiscal year 2017 are related to the acquisitions of DataRPM in March 2017 and Kinvey in June 2017, respectively (Note 6).

13



Changes in the goodwill balances by reportable segment in the nine months ended August 31, 2017 are as follows (in thousands):
 
November 30, 2016
 
Additions
 
Translation Adjustments
 
August 31, 2017
OpenEdge
$
212,062

 
$
37,794

 
$
52

 
$
249,908

Data Connectivity and Integration
19,040

 

 

 
19,040

Application Development and Deployment
46,965

 

 

 
46,965

Total goodwill
$
278,067

 
$
37,794

 
$
52

 
$
315,913


During the quarter ending August 31, 2017, no triggering events have occurred that would indicate that it is more likely than not that the carrying values of any of our reporting units exceeded their fair values.

Note 6: Business Combinations

Kinvey Acquisition

On June 1, 2017, we acquired by merger 100% of the outstanding securities of Kinvey for an aggregate sum of $49.2 million, which includes approximately $0.3 million held-back from the founder of Kinvey as an incentive to remain with the Company for at least two years following the acquisition. The $0.3 million held-back will be recorded to expense over the service period. Kinvey is a privately-held company providing Backend-as-a-Service (BaaS), which allows developers to set up, use, and operate a cloud backend for any native, hybrid, web, or IoT app built using any development tools. This acquisition, in combination with our existing frontend technologies, cognitive capabilities from DataRPM, our strong business logic and rules capabilities, and our strong data connectivity technologies, enables us to offer a premier platform for building and delivering cognitive business applications. The acquisition was accounted for as a business combination, and accordingly, the results of operations of Kinvey are included in our operating results as part of the OpenEdge business segment from the date of acquisition. We paid the purchase price in cash from available funds.

The total consideration, less the $0.3 million held-back discussed above, which is considered to be a compensation arrangement, has been preliminarily allocated to Kinvey's tangible assets, identifiable intangible assets and assumed liabilities based on their estimated fair values. The preliminary fair value estimates of the net assets acquired are based upon preliminary calculations and valuations, and those estimates and assumptions are subject to change as we obtain additional information for those estimates during the measurement period (up to one year from the acquisition date). The areas of the preliminary estimates that are not yet finalized relate to identifiable intangible assets and deferred taxes. The excess of the total consideration, less the amount held-back from the founder, over the tangible assets, identifiable intangible assets and assumed liabilities was recorded as goodwill.

The preliminary allocation of the purchase price is as follows (in thousands):
 
Total
 
Life
Net working capital
$
(891
)
 
 
Property, plant and equipment
26

 
 
Purchased technology
22,100

 
5 Years
Trade name
1,800

 
5 Years
Customer relationships
100

 
5 Years
Net deferred tax assets
533

 
 
Goodwill
25,211

 
 
Net assets acquired
$
48,879

 
 

The preliminary fair value of the intangible assets has been estimated using the income approach in which the after-tax cash flows are discounted to present value. The cash flows are based on estimates used to price the acquisition, and the discount rates applied were benchmarked with reference to the implied rate of return from the transaction model as well as the weighted average cost of capital.


14


Deferred taxes include deferred tax liabilities resulting from the tax effects of fair value adjustments related to identifiable intangible assets, partially offset by the value of deferred tax assets acquired from Kinvey. Tangible assets acquired and assumed liabilities were recorded at fair value.

We recorded the excess of the purchase price over the identified tangible and intangible assets as goodwill. We believe that the investment value of the future enhancement of our product and solution offerings created as a result of this acquisition has principally contributed to a purchase price that resulted in the recognition of $25.2 million of goodwill, which is not deductible for tax purposes.

Acquisition-related transaction costs (e.g., legal, due diligence, valuation, and other professional fees) are not included as a component of consideration paid, but are required to be expensed as incurred. We incurred $0.4 million of acquisition-related costs, which are included in acquisition-related expenses in our condensed consolidated statement of operations for the three months ended August 31, 2017.

We have not disclosed the amount of revenues and earnings of Kinvey since acquisition, nor pro forma financial information, as those amounts are not significant to our condensed consolidated financial statements.

Data RPM Acquisition

On March 1, 2017, we acquired by merger 100% of the outstanding securities of DataRPM for an aggregate sum of $30.0 million. Approximately $1.7 million of the purchase price was paid to DataRPM’s founders in the form of restricted stock units, subject to a two-year vesting schedule and continued employment. This will be recorded as stock-based compensation over the vesting term. DataRPM is a privately-held company and leader in cognitive predictive maintenance for the industrial IoT (IIoT) market. This acquisition is a key part of the Company's strategy to provide the best platform to build and deliver cognitive-first applications. The acquisition was accounted for as a business combination, and accordingly, the results of operations of DataRPM are included in our operating results as part of the OpenEdge business segment from the date of acquisition. We paid the purchase price in cash from available funds.

The total consideration, less the fair value of the granted restricted stock units discussed above, which are considered compensation arrangements, has been allocated to DataRPM’s tangible assets, identifiable intangible assets and assumed liabilities based on their estimated fair values. The preliminary fair value estimates of the net assets acquired are based upon preliminary calculations and valuations, and those estimates and assumptions are subject to change as we obtain additional information for those estimates during the measurement period (up to one year from the acquisition date). The areas of the preliminary estimates that are not yet finalized relate to identifiable intangible assets and deferred taxes. The excess of the total consideration, less the fair value of the restricted stock units, over the tangible assets, identifiable intangible assets and assumed liabilities was recorded as goodwill.

The preliminary allocation of the purchase price is as follows (in thousands):
 
Total
 
Life
Net working capital
$
(174
)
 
 
Property, plant and equipment
68

 
 
Purchased technology
19,900

 
5 Years
Trade name
800

 
5 Years
Customer relationships
100

 
5 Years
Deferred taxes
(5,006
)
 
 
Goodwill
12,583

 
 
Net assets acquired
$
28,271

 
 

The preliminary fair value of the intangible assets has been estimated using the income approach in which the after-tax cash flows are discounted to present value. The cash flows are based on estimates used to price the acquisition, and the discount rates applied were benchmarked with reference to the implied rate of return from the transaction model as well as the weighted average cost of capital.

Deferred taxes include deferred tax liabilities resulting from the tax effects of fair value adjustments related to identifiable intangible assets, partially offset by the fair value of deferred tax assets acquired from DataRPM. Tangible assets acquired and assumed liabilities were recorded at fair value.

15



We recorded the excess of the purchase price over the identified tangible and intangible assets as goodwill. We believe that the investment value of the future enhancement of our product and solution offerings created as a result of this acquisition has principally contributed to a purchase price that resulted in the recognition of $12.6 million of goodwill, which is not deductible for tax purposes.

As discussed above, approximately $1.7 million of the total consideration was paid to DataRPM’s founders in restricted stock units, subject to a vesting schedule and continued employment. We concluded that the restricted stock units are compensation arrangements and we have been recognizing stock-based compensation expense in accordance with the vesting schedule over the service period of the awards, which is 2 years. We recorded $0.2 million of stock-based compensation expense related to these restricted stock units as operating expenses in our condensed consolidated statement of operations for the three and nine months ended August 31, 2017.

Acquisition-related transaction costs (e.g., legal, due diligence, valuation, and other professional fees) are not included as a component of consideration transferred, but are required to be expensed as incurred. We incurred $0.3 million and $0.4 million of acquisition-related costs during the three and nine months ended August 31, 2017, respectively, which are included in acquisition-related expenses in our condensed consolidated statement of operations.

We have not disclosed the amount of revenues and earnings of DataRPM since acquisition, nor pro forma financial information, as those amounts are not significant to our condensed consolidated financial statements.

Note 7: Term Loan and Line of Credit

Our credit agreement provides for a $150 million secured term loan and a $150 million secured revolving credit facility, which may be made available in U.S. Dollars and certain other currencies. The revolving credit facility may be increased by up to an additional $75 million if the existing or additional lenders are willing to make such increased commitments. We borrowed the $150 million term loan included in our credit agreement to partially fund our acquisition of Telerik AD in December 2014. The revolving credit facility has sublimits for swing line loans up to $25.0 million and for the issuance of standby letters of credit in a face amount up to $25.0 million. We expect to use the revolving credit facility for general corporate purposes and may also use it for working capital.

The credit facility matures on December 2, 2019, when all amounts outstanding will be due and payable in full. The revolving credit facility does not require amortization of principal. The outstanding balance of the $150 million term loan as of August 31, 2017 was $123.8 million, with $15.0 million due in the next 12 months. The term loan requires repayment of principal at the end of each fiscal quarter, beginning with the fiscal quarter ended February 28, 2015. The first eight payments were in the principal amount of $1.9 million each, the following eight payments are in the principal amount of $3.8 million each, the next three payments are in the principal amount of $5.6 million each, and the last payment is of the remaining principal amount. Any amounts outstanding under the term loan thereafter would be due on the maturity date. The term loan may be prepaid before maturity in whole or in part at our option without penalty or premium. As of August 31, 2017, the carrying value of the term loan approximates the fair value, based on Level 2 inputs (observable market prices in less than active markets), as the interest rate is variable over the selected interest period and is similar to current rates at which we can borrow funds. The interest rate of the credit facility as of August 31, 2017 was 3.00%.

Costs incurred to obtain our long-term debt of $1.8 million are being amortized over the term of the debt agreement using the effective interest rate method. Amortization expense related to debt issuance costs of $0.1 million for the three months ended August 31, 2017 and August 31, 2016 and $0.3 million for the nine months ended August 31, 2017 and August 31, 2016, respectively, is recorded within interest expense in our condensed consolidated statements of operations. The unamortized portion of debt issuance costs of $0.8 million is recorded as a direct deduction from the carrying value of the debt liability in our condensed consolidated balance sheet as of August 31, 2017, with $0.4 million deducted from the current portion of long-term debt balance and $0.4 million deducted from the long-term debt balance. Prior to fiscal year 2017 and the adoption of ASU 2015-03, the unamortized portion of debt issuance costs were recorded in other assets in our condensed consolidated balance sheet (Note 1).

Revolving loans may be borrowed, repaid and reborrowed until December 2, 2019, at which time all amounts outstanding must be repaid. As of August 31, 2017, there were no amounts outstanding under the revolving line and $1.4 million of letters of credit.


16


As of August 31, 2017, aggregate principal payments of long-term debt for the remainder of the contract term are (in thousands):

Remainder of 2017
$
3,750

2018
15,000

2019
16,875

2020
88,125

Total
$
123,750


Note 8: Common Stock Repurchases

We repurchased and retired 0.6 million shares of our common stock for $19.0 million in the three months ended August 31, 2017 and 1.5 million shares for $43.9 million in the nine months ended August 31, 2017. In the three and nine months ended August 31, 2016, we repurchased and retired 0.4 million shares for $11.5 million and 2.8 million shares for $71.5 million, respectively. The shares were repurchased in all periods as part of our Board of Directors authorized share repurchase program.

In March 2016, our Board of Directors authorized a $100.0 million share repurchase program, which increased the total authorization to $214.5 million. As of August 31, 2017, there was $91.4 million remaining under this authorization. In September 2017, our Board of Directors increased the total share repurchase authorization from the $91.4 million remaining under the previous authorization to $250 million.


Note 9: Stock-Based Compensation

Stock-based compensation expense reflects the fair value of stock-based awards, less the present value of expected dividends, measured at the grant date and recognized over the relevant service period. We estimate the fair value of each stock-based award on the measurement date using the current market price of the stock or the Black-Scholes option valuation model.

In addition, during each fiscal year from 2014 through 2017 we granted performance-based restricted stock units that include a three-year market condition under a Long-Term Incentive Plan (“LTIP”) where the performance measurement period is three years. Vesting of the LTIP awards is based on our level of attainment of specified total shareholder return (TSR) targets relative to the percentage appreciation of a specified index of companies for the respective three year periods and is also subject to the continued employment of the grantees. In order to estimate the fair value of such awards, we used a Monte Carlo Simulation valuation model.

The Black-Scholes and Monte Carlo Simulation valuation models incorporate assumptions as to stock price volatility, the expected life of options or awards, a risk-free interest rate and dividend yield. We recognize stock-based compensation expense related to options and restricted stock units on a straight-line basis over the service period of the award, which is generally 4 years for options and 3 years for restricted stock units. We recognize stock-based compensation expense related to performance stock units and our employee stock purchase plan using an accelerated attribution method.

The following table provides the classification of stock-based compensation as reflected in our condensed consolidated statements of operations (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
 
August 31,
2017
 
August 31,
2016
 
August 31,
2017
 
August 31,
2016
Cost of maintenance and services
$
239

 
$
223

 
$
790

 
$
599

Sales and marketing
808

 
751

 
1,371

 
2,792

Product development
1,645

 
2,524

 
2,699

 
7,600

General and administrative
1,604

 
2,281

 
4,699

 
8,018

Total stock-based compensation
$
4,296

 
$
5,779

 
$
9,559

 
$
19,009



17


Note 10: Accumulated Other Comprehensive Loss

The following table summarizes the changes in accumulated balances of other comprehensive loss during the nine months ended August 31, 2017 (in thousands):

 
Foreign Currency Translation Adjustment
 
Unrealized Gains (Losses) on Investments
 
Accumulated Other Comprehensive Loss
Balance, December 1, 2016
$
(28,425
)
 
$
(136
)
 
$
(28,561
)
Other comprehensive loss before reclassifications, net of tax
11,291

 
105

 
11,396

Balance, August 31, 2017
$
(17,134
)
 
$
(31
)
 
$
(17,165
)

The tax effect on accumulated unrealized gains (losses) on investments was minimal as of August 31, 2017 and November 30, 2016.

Note 11: Restructuring Charges

The following table provides a summary of activity for all of the restructuring actions, the most significant of which are detailed further below (in thousands):

 
Excess
Facilities and
Other Costs
 
Employee Severance and Related Benefits
 
Total
Balance, December 1, 2016
$
107

 
$
1,443

 
$
1,550

Costs incurred
2,426

 
16,298

 
18,724

Cash disbursements
(1,194
)
 
(15,677
)
 
(16,871
)
Asset impairment
(762
)
 

 
(762
)
Translation adjustments and other
24

 
335

 
359

Balance, August 31, 2017
$
601

 
$
2,399

 
$
3,000


2017 Restructuring

During the first quarter of fiscal year 2017, we undertook certain operational restructuring initiatives intended to significantly reduce annual costs. As part of this action, management committed to a new strategic plan highlighted by a new product strategy and a streamlined operating approach. To execute these operational restructuring initiatives, we reduced our global workforce by approximately 20%. These workforce reductions commenced in the first fiscal quarter of 2017 and were substantially completed by the end of the second fiscal quarter of 2017.  These workforce reductions occurred in substantially all functional units and across all geographies in which we operate. We also consolidated offices in various locations during the first three quarters of fiscal year of 2017 and expect additional expenses related to facility closures during the remainder of fiscal year 2017. We do not expect these additional costs to be material.

Restructuring expenses are related to employee costs, including severance, health benefits and outplacement services (but excluding stock-based compensation), facilities costs, which include fees to terminate lease agreements and costs for unused space, net of sublease assumptions, and other costs, which include asset impairment charges.

As part of this first quarter of fiscal year 2017 restructuring, for the three and nine months ended August 31, 2017, we incurred expenses of $0.9 million and $18.6 million, respectively, which are recorded as restructuring expenses in the consolidated statements of operations.

18



A summary of the first nine months of fiscal year 2017 activity for this restructuring action is as follows (in thousands):
 
Excess
Facilities and
Other Costs
 
Employee Severance and Related Benefits
 
Total
Balance, December 1, 2016
$

 
$

 
$

Costs incurred
2,334

 
16,298

 
18,632

Cash disbursements
(1,015
)
 
(14,543
)
 
(15,558
)
Asset impairment
(762
)
 

 
(762
)
Translation adjustments and other
24

 
335

 
359

Balance, August 31, 2017
$
581

 
$
2,090

 
$
2,671


Cash disbursements for expenses incurred to date under this restructuring are expected to be made through the third quarter of fiscal year 2018. The short-term portion of the restructuring reserve of $2.4 million is included in other accrued liabilities and the long-term portion of $0.3 million is included in other noncurrent liabilities on the condensed consolidated balance sheet at August 31, 2017.

2016 Restructuring

During the fourth quarter of fiscal year 2016, our management approved, committed to and initiated plans to make strategic changes to our organization as a result of the appointment of our new Chief Executive Officer during the period. In connection with the new organizational structure, we eliminated the positions of Chief Product Officer and Chief Revenue Officer.

Restructuring expenses are related to employee costs, including severance, health benefits and outplacement services (but excluding stock-based compensation).

As part of this fourth quarter of fiscal year 2016 restructuring, for the three and nine months ended August 31, 2017, we incurred no additional expenses.

A summary of the first nine months of fiscal year 2017 activity for this restructuring action is as follows (in thousands):
 
Excess
Facilities and
Other Costs
 
Employee Severance and Related Benefits
 
Total
Balance, December 1, 2016
$

 
$
1,415

 
$
1,415

Cash disbursements

 
(1,114
)
 
(1,114
)
Balance, August 31, 2017
$

 
$
301

 
$
301


Cash disbursements for expenses incurred to date under this restructuring are expected to be made through the fourth quarter of fiscal year 2017. As a result, the total amount of the restructuring reserve of $0.3 million is included in other accrued liabilities on the consolidated balance sheet at August 31, 2017.

Note 12: Income Taxes

Our income tax provision for the third quarter of fiscal years 2017 and 2016 reflects our estimates of the effective tax rates expected to be applicable for the full fiscal years, adjusted for any discrete events which are recorded in the period they occur. The estimates are reevaluated each quarter based on our estimated tax expense for the full fiscal year.

Our effective income tax rate was 44% in the first nine months of fiscal year 2017 compared to 36% in the same period last year. The increase in our effective tax rate in the nine months ended August 31, 2017 compared to the same period in the prior year is primarily because during the preparation of our condensed consolidated financial statements for the three months ended May 31, 2016, we identified an error in our prior year income tax provision in which income tax expense was overstated for the year ended November 30, 2015 by $2.7 million related to our tax treatment of an intercompany gain. We determined that the error was not material to the prior year financial statements. We also concluded that recording an out-of-period correction would not be material and therefore corrected this error by recording an out-of-period $2.7 million tax benefit in our interim financial statements for the period ended May 31, 2016.


19


Our federal income tax returns have been examined or are closed by statute for all years prior to fiscal year 2015. Our state income tax returns have been examined or are closed by statute for all years prior to fiscal year 2012.

Tax authorities for certain non-U.S. jurisdictions are also examining returns, none of which are material to our consolidated balance sheets, cash flows or statements of income. With some exceptions, we are generally no longer subject to tax examinations in non-U.S. jurisdictions for years prior to fiscal year 2012.

Note 13: Earnings Per Share

We compute basic earnings per share using the weighted average number of common shares outstanding. We compute diluted earnings per share using the weighted average number of common shares outstanding plus the effect of outstanding dilutive stock options, restricted stock units and deferred stock units, using the treasury stock method. The following table sets forth the calculation of basic and diluted earnings per share on an interim basis (in thousands, except per share data):

 
Three Months Ended
 
Nine Months Ended
 
August 31,
2017
 
August 31,
2016
 
August 31,
2017
 
August 31,
2016
Net income
$
11,172

 
$
7,576

 
$
20,988

 
$
18,067

Weighted average shares outstanding
48,071

 
48,611

 
48,342

 
49,765

Dilutive impact from common stock equivalents
299

 
524

 
289

 
545

Diluted weighted average shares outstanding
48,370

 
49,135

 
48,631

 
50,310

Basic earnings per share
$
0.23

 
$
0.16

 
$
0.43

 
$
0.36

Diluted earnings per share
$
0.23

 
$
0.15

 
$
0.43

 
$
0.36


We excluded stock awards representing approximately 905,000 shares and 648,000 shares of common stock from the calculation of diluted earnings per share in the three and nine months ended August 31, 2017, respectively, because these awards were anti-dilutive. In the three and nine months ended August 31, 2016, we excluded stock awards representing 287,000 shares and 423,000 shares of common stock, respectively, from the calculation of diluted earnings per share as they were anti-dilutive.


20


Note 14: Business Segments and International Operations

Operating segments are components of an enterprise that engage in business activities for which discrete financial information is available and regularly reviewed by the chief operating decision maker in deciding how to allocate resources and assess performance. Our chief operating decision maker is our Chief Executive Officer.

The changes made to our organization during the fourth quarter of fiscal year 2016 and first quarter of fiscal year 2017, as discussed in Note 11, did not change our determination of the three reportable segments as our organizational structure maintains the focus of the three business segments.

We do not manage our assets or capital expenditures by segment or assign other income (expense) and income taxes to segments. We manage and report such items on a consolidated company basis.

The following table provides revenue and contribution from our reportable segments and reconciles to the consolidated income before income taxes:

 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
August 31, 2017
 
August 31, 2016
Segment revenue:
 
 
 
 
 
 
 
OpenEdge
$
68,135

 
$
67,534

 
$
198,533

 
$
198,595

Data Connectivity and Integration
8,987

 
14,251

 
22,911

 
30,852

Application Development and Deployment
20,188

 
20,233

 
60,049

 
58,170

Total revenue
97,310

 
102,018

 
281,493

 
287,617

Segment costs of revenue and operating expenses:
 
 
 
 
 
 
 
OpenEdge
18,374

 
18,180

 
52,538

 
53,539

Data Connectivity and Integration
2,200

 
2,828

 
6,531

 
8,863

Application Development and Deployment
6,369

 
11,021

 
19,896

 
29,555

Total costs of revenue and operating expenses
26,943

 
32,029

 
78,965

 
91,957

Segment contribution:
 
 
 
 
 
 
 
OpenEdge
49,761

 
49,354

 
145,995

 
145,056

Data Connectivity and Integration
6,787

 
11,423

 
16,380

 
21,989

Application Development and Deployment
13,819

 
9,212

 
40,153

 
28,615

Total contribution
70,367

 
69,989

 
202,528

 
195,660

Other unallocated expenses (1)
50,068

 
56,383

 
160,723

 
163,005

Income from operations
20,299

 
13,606

 
41,805

 
32,655

Other (expense) income, net
(1,400
)
 
(1,288
)
 
(4,299
)
 
(4,474
)
Income before income taxes
$
18,899

 
$
12,318

 
$
37,506

 
$
28,181

 
 
 
 
 
 
 
 
(1) The following expenses are not allocated to our segments as we manage and report our business in these functional areas on a consolidated basis only: product development, corporate marketing, administration, amortization of acquired intangibles, stock-based compensation, restructuring, and acquisition related expenses.
                                

21


Our revenues are derived from licensing our products and from related services, which consist of maintenance, hosting services, and consulting and education. Information relating to revenue from customers by revenue type is as follows (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31,
2017
 
August 31,
2016
 
August 31,
2017
 
August 31,
2016
Software licenses
$
28,529

 
$
33,624

 
$
78,443

 
$
86,366

Maintenance
60,536

 
60,368

 
179,572

 
178,189

Professional services
8,245

 
8,026

 
23,478

 
23,062

Total
$
97,310

 
$
102,018

 
$
281,493

 
$
287,617


In the following table, revenue attributed to North America includes sales to customers in the U.S. and sales to certain multinational organizations. Revenue from Europe, the Middle East and Africa (EMEA), Latin America and the Asia Pacific region includes sales to customers in each region plus sales from the U.S. to distributors in these regions. Information relating to revenue from external customers from different geographical areas is as follows (in thousands):
 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31,
2017
 
August 31,
2016
 
August 31,
2017
 
August 31,
2016
North America
$
55,703

 
$
58,275

 
$
157,438

 
$
160,732

EMEA
31,830

 
32,719

 
92,320

 
95,517

Latin America
5,009

 
4,667

 
15,669

 
12,749

Asia Pacific
4,768

 
6,357

 
16,066

 
18,619

Total
$
97,310

 
$
102,018

 
$
281,493

 
$
287,617


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

Cautionary Note Regarding Forward-Looking Statements

The Private Securities Litigation Reform Act of 1995 contains certain safe harbor provisions regarding forward-looking statements. This Form 10-Q, and other information provided by us or statements made by our directors, officers or employees from time to time, may contain “forward-looking” statements and information, which involve risks and uncertainties. Actual future results may differ materially. Statements indicating that we “expect,” “estimate,” “believe,” “are planning” or “plan to” are forward-looking, as are other statements concerning future financial results, product offerings or other events that have not yet occurred. There are various factors that could cause actual results or events to differ materially from those anticipated by the forward-looking statements, including but not limited to the following: (1) Economic, geopolitical and market conditions, including the continued difficult economic environment in Brazil, and the continued slow economic recovery in Europe, parts of the U.S. and other parts of the world, can adversely affect our business, results of operations and financial condition, including our revenue growth and profitability, which in turn could adversely affect our stock price. (2) We may fail to achieve our financial forecasts due to such factors as delays or size reductions in transactions, fewer large transactions in a particular quarter, fluctuations in currency exchange rates, or a decline in our renewal rates for contracts. (3) Our ability to successfully manage transitions to new business models and markets, including an increased emphasis on a cloud and subscription strategy, may not be successful. (4) If we are unable to develop new or sufficiently differentiated products and services, or to enhance and improve our existing products and services in a timely manner to meet market demand, partners and customers may not purchase new software licenses or subscriptions or purchase or renew support contracts. (5) We depend upon our extensive partner channel and we may not be successful in retaining or expanding our relationships with channel partners. (6) Our international sales and operations subject us to additional risks that can adversely affect our operating results, including risks relating to foreign currency gains and losses. (7) If the security measures for our software, services or other offerings are compromised or subject to a successful cyber-attack, or if such offerings contain significant coding or configuration errors, we may experience reputational harm, legal claims and financial exposure. (8) We have made acquisitions, and may make acquisitions in the future, and those acquisitions may not be successful, may involve unanticipated costs or other integration issues or may disrupt our existing operations and those factors discussed in Part II, Item 1A (Risk Factors) in this Quarterly Report on Form 10-Q, and in Part I, Item 1A (Risk Factors) in our Annual Report on Form 10-K for the fiscal year ended November 30, 2016. Although we have sought to identify the most significant risks to our business, we

22


cannot predict whether, or to what extent, any of such risks may be realized. We also cannot assure you that we have identified all possible issues which we might face. We undertake no obligation to update any forward-looking statements that we make.

Use of Constant Currency

Revenue from our international operations has historically represented a substantial portion of our total revenue. As a result, our revenue results have been impacted, and we expect will continue to be impacted, by fluctuations in foreign currency exchange rates. For example, if the local currencies of our foreign subsidiaries strengthen, our consolidated results stated in U.S. dollars are positively impacted.

As exchange rates are an important factor in understanding period to period comparisons, we believe the presentation of revenue growth rates on a constant currency basis enhances the understanding of our revenue results and evaluation of our performance in comparison to prior periods. The constant currency information presented is calculated by translating current period results using prior period weighted average foreign currency exchange rates. These results should be considered in addition to, not as a substitute for, results reported in accordance with accounting principles generally accepted in the United States of America (GAAP).

Overview

Progress offers the leading platform for developing and deploying mission-critical business applications. Progress empowers enterprises and independent software vendors (ISVs) to build and deliver cognitive-first applications that harness big data to derive business insights and competitive advantage. Progress offers leading technologies for easily building powerful user interfaces across any type of device, a reliable, scalable and secure backend platform to deploy modern applications, leading data connectivity to all sources, and award-winning predictive analytics that brings the power of machine learning to any organization. Over 1,700 ISVs, 100,000 enterprise customers, and 2 million developers rely on Progress to power their applications. We operate as three distinct segments: OpenEdge, Data Connectivity and Integration, and Application Development and Deployment.

Beginning in late October 2016, with the appointment of Yogesh Gupta as our new Chief Executive Officer, our Board of Directors and executive management team undertook a comprehensive review of our strategy and operations, including our expectations for fiscal year 2017 results.

On January 16, 2017, we announced a new strategic plan highlighted by a new product strategy and a streamlined operating approach with a tighter focus on areas of strength to more efficiently drive revenue. The key tenets of the new strategic plan are as follows:

Streamlined Operating Approach. In fiscal year 2017, we adapted our organization and operating principles to focus primarily on customer and partner retention and success for many of our core products. For selected products that have new customer acquisition potential, we are also strengthening our demand generation and high volume, low touch e-commerce capabilities.

New Product Strategy. As part of the new strategic plan, we undertook a new product strategy to provide the platform and tools enterprises need to build next generation applications that drive their businesses, known as “Cognitive Applications.” Our platform for Cognitive Applications will make it easy for developers to build machine learning into their applications, and it will include:

Our leading UI development tools which enable organizations to easily build engaging user interfaces for any device or front end;
Our NativeScript offering, which allows developers to use JavaScript to build native applications across multiple mobile platforms;
A mission-critical back-end-as-a-service platform that runs on any cloud, is secure, high-performing, and highly-scalable while supporting all modern user interfaces;
Automated and intuitive machine learning capabilities for accelerating the creation and delivery of Cognitive Applications;
Our data connectivity and integration capabilities; and
Our business logic and rules capabilities.

Restructuring. With the adoption of our new product strategy, we discontinued our investment in our Digital Factory strategy and re-aligned our resources consistent with our core operating approach. To that end, during the first quarter

23


of fiscal year 2017, we began to implement restructuring efforts including the consolidation of facilities, implementation of a simplified organizational structure and a reduction of marketing and other external expenses. In addition, we began to reduce headcount by approximately 400 employees, totaling over 20% of our workforce. Initial headcount reductions commenced in the fiscal first quarter of 2017 and were substantially completed by the end of the fiscal second quarter of 2017. After investments in our core business and our newly acquired businesses, we expect to reduce our full year expenses by approximately $28 million by the end of fiscal year 2017.

As of August 31, 2017, there was $91.4 million remaining under the $214.5 million Board of Directors-authorized share repurchase program. In September 2017, our Board of Directors increased the total share repurchase authorization from the $91.4 million remaining on the previous authorization to $250 million. The timing and amount of any shares repurchased will be determined by management based on its evaluation of market conditions and other factors, and the Board of Directors may choose to suspend, expand or discontinue the repurchase program at any time.

In September 2016, our Board of Directors approved the initiation of a quarterly cash dividend to Progress shareholders. Through August 31, 2017, the Board of Directors has declared a quarterly cash dividend of $0.125 per share of common stock, which has been paid quarterly since inception. On September 6, 2017, our Board of Directors increased our quarterly dividend by 12% and declared a quarterly cash dividend of $0.14 per share of common stock that will be paid on December 15, 2017 to shareholders of record as of the close of business on December 1, 2017. We expect this dividend to continue in subsequent quarters.

We derive a significant portion of our revenue from international operations, which are primarily conducted in foreign currencies. As a result, changes in the value of these foreign currencies relative to the U.S. dollar have significantly impacted our results of operations and may impact our future results of operations. During much of the past two years, the value of the U.S. dollar has strengthened in comparison to certain foreign currencies, including in Europe, Brazil and Australia. Since approximately one-third of our revenue is denominated in foreign currency, our revenue results during those periods were negatively impacted. Recent weakening of the U.S. dollar, however, resulted in a small positive impact during the third quarter of fiscal year 2017. We expect that we will continue to be impacted by fluctuations in foreign currency exchange rates.

On March 1, 2017, we acquired DataRPM for an aggregate sum of $30.0 million, which includes approximately $1.7 million of restricted stock units. DataRPM is a privately-held company and leader in cognitive predictive maintenance for the industrial IoT (IIoT) market. This acquisition is a key part of the Company's strategy to provide the best platform to build and deliver cognitive-first applications.

On June 1, 2017, we acquired Kinvey for an aggregate sum of $49.2 million, which includes approximately $0.3 million held-back for the founder of Kinvey as an incentive for the founder to remain with the Company for at least two years following the acquisition. Kinvey is the leading Backend-as-a-Service (BaaS) provider and allows developers to set up, use, and operate a cloud backend for any native, hybrid, web, or IoT app built using any development tools. This acquisition, in combination with our leading frontend technologies, including NativeScript and Kendo UI, along with cognitive capabilities from DataRPM, our strong business logic and rules capabilities, and our strong data connectivity technologies, enables us to offer the premier platform for building and delivering cognitive business applications to both new customers and partners as well as our existing OpenEdge partner and customer ecosystems.

We expect to continue to evaluate possible acquisitions and other strategic transactions designed to expand our business and/or add complementary products and technologies to our existing product sets. As a result, our expected uses of cash could change, our cash position could be reduced and we may incur additional debt obligations to the extent we complete additional acquisitions.

However, we believe that existing cash balances, together with funds generated from operations and amounts available under our credit facility, will be sufficient to finance our operations and meet our foreseeable cash requirements, including quarterly cash dividends and stock repurchases to Progress shareholders, through at least the next twelve months.


24


Results of Operations

Revenue

 
Three Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
Revenue
$
97,310

 
$
102,018

 
(5
)%
 
(5
)%
 
Nine Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
Revenue
$
281,493

 
$
287,617

 
(2
)%
 
(2
)%

The total revenue decrease in all periods was primarily a result of a decrease in license revenue as further described below. Changes in prices from fiscal year 2016 to 2017 did not have a significant impact on our revenue.

License Revenue

 
Three Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
License
$
28,529

 
$
33,624

 
(15
)%
 
(16
)%
As a percentage of total revenue
29
%
 
33
%
 
 
 
 
 
Nine Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
License
$
78,443

 
$
86,366

 
(9
)%
 
(9
)%
As a percentage of total revenue
28
%
 
30
%
 
 
 
 

License revenue decreased in all periods primarily due to decreases in license revenue in North America from products included in our Data Connectivity and Integration segment, due to the timing of certain OEM renewal agreements. In the third quarter of fiscal year 2016, we had a multi-million dollar deal for one of our largest OEMs.

Maintenance and Services Revenue
 
 
Three Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
Maintenance
$
60,536

 
$
60,368

 
%
 
%
As a percentage of total revenue
62
%
 
59
%
 
 
 
 
Services
8,245

 
8,026

 
3
%
 
2
%
As a percentage of total revenue
8
%
 
8
%
 
 
 
 
Total maintenance and services revenue
$
68,781

 
$
68,394

 
1
%
 
%
As a percentage of total revenue
71
%
 
67
%
 
 
 
 

25


 
Nine Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
Maintenance
$
179,572

 
$
178,189

 
1
%
 
1
%
As a percentage of total revenue
64
%
 
62
%
 
 
 
 
Services
23,478

 
23,062

 
2
%
 
2
%
As a percentage of total revenue
8
%
 
8
%
 
 
 
 
Total maintenance and services revenue
$
203,050

 
$
201,251

 
1
%
 
2
%
As a percentage of total revenue
72
%
 
70
%
 
 
 
 

Maintenance revenue increased in the third quarter and first nine months of fiscal year 2017 as compared to the same quarter and first nine months last year primarily due to higher maintenance revenue from our DevTools and Sitefinity products included in our Application Development and Deployment segment. The increase in services revenue in the third quarter and first nine months of fiscal year 2017 as compared to the same quarter and first nine months last year is primarily due to higher professional services revenue generated by our Application Development and Deployment segment.

Revenue by Region

 
Three Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
North America
$
55,703

 
$
58,275

 
(4
)%
 
(4
)%
As a percentage of total revenue
57
%
 
57
%
 
 
 
 
EMEA
$
31,830

 
$
32,719

 
(3
)%
 
(3
)%
As a percentage of total revenue
33
%
 
32
%
 
 
 
 
Latin America
$
5,009

 
$
4,667

 
7
 %
 
5
 %
As a percentage of total revenue
5
%
 
5
%
 
 
 
 
Asia Pacific
$
4,768

 
$
6,357

 
(25
)%
 
(26
)%
As a percentage of total revenue
5
%
 
6
%
 
 
 
 
 
Nine Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant
Currency
North America
$
157,438

 
$
160,732

 
(2
)%
 
(2
)%
As a percentage of total revenue
56
%
 
56
%
 
 
 
 
EMEA
$
92,320

 
$
95,517

 
(3
)%
 
 %
As a percentage of total revenue
33
%
 
33
%
 
 
 
 
Latin America
$
15,669

 
$
12,749

 
23
 %
 
14
 %
As a percentage of total revenue
5
%
 
4
%
 
 
 
 
Asia Pacific
$
16,066

 
$
18,619

 
(14
)%
 
(15
)%
As a percentage of total revenue
6
%
 
6
%
 
 
 
 

Total revenue generated in North America decreased $2.6 million, and total revenue generated outside North America decreased $2.1 million, in the third quarter of fiscal year 2017 as compared to the same quarter last year. Total revenue generated in North America decreased $3.3 million, and total revenue generated outside North America decreased $2.8 million, in the first nine months of fiscal year 2017 as compared to the same period last year. The decrease in all periods in North America was primarily due to license revenue decreases in our Data Connectivity and Integration segment. The decrease in all periods in EMEA was primarily due to maintenance revenue decreases in our OpenEdge segment, partially offset by an increase in maintenance revenue from our DevTools and Sitefinity products included in our Application Development and Deployment segment. The increase in all periods in Latin America was primarily due to license and maintenance increases in our OpenEdge segment. The decrease in all periods in Asia Pacific was primarily due to maintenance revenue decreases in our OpenEdge segment. The decrease in Asia Pacific in the first nine months of fiscal year 2017 was also related to a large deal in our Data Connectivity and Integration segment with a customer in Japan that occurred in the second quarter of fiscal year 2016.


26


Total revenue generated in markets outside North America represented 44% of total revenue in each of the first nine months of fiscal years 2017 and 2016. If exchange rates had remained constant in the first nine months of fiscal year 2017 as compared to the exchange rates in effect in the same period of fiscal year 2016, total revenue generated in markets outside North America would have remained at 44% of total revenue.

Revenue by Segment

 
Three Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant Currency
OpenEdge segment
$
68,135

 
$
67,534

 
1
 %
 
 %
Data Connectivity and Integration segment
8,987

 
14,251

 
(37
)%
 
(37
)%
Application Development and Deployment segment
20,188

 
20,233

 
 %
 
 %
Total revenue
$
97,310

 
$
102,018

 
(5
)%
 
(5
)%
 
Nine Months Ended
 
Percentage Change
(In thousands)
August 31, 2017
 
August 31, 2016
 
As Reported
 
Constant Currency
OpenEdge segment
$
198,533

 
$
198,595

 
 %
 
1
 %
Data Connectivity and Integration segment
22,911

 
30,852

 
(26
)%
 
(25
)%
Application Development and Deployment segment
60,049

 
58,170

 
3
 %
 
3
 %
Total revenue
$
281,493

 
$
287,617

 
(2
)%
 
(2
)%

Revenue in the OpenEdge segment increased in the third quarter of fiscal year 2017 primarily due to an increase in Corticon license sales offset by a decrease in OpenEdge maintenance revenue. OpenEdge maintenance revenue decreased in all periods, largely due to the negative impact of exchange rate fluctuations. Data Connectivity and Integration revenue decreased in all periods primarily due to the timing of certain OEM renewals. Application Development and Deployment revenue remained flat in the third quarter of fiscal year 2017 as compared to the same period last year. Application Development and Deployment revenue increased in the first nine months of fiscal year 2017 primarily as a result of higher maintenance revenue from our DevTools and Sitefinity products.

Cost of Software Licenses

 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
Percentage
Change
 
August 31, 2017
 
August 31, 2016
 
Percentage
Change
Cost of software licenses
$
1,337

 
$
1,424

 
(6
)%
 
$
4,347

 
$
4,139

 
5
%
As a percentage of software license revenue
5
%
 
4
%
 
 
 
6
%
 
5
%
 
 
As a percentage of total revenue
1
%
 
1
%
 
 
 
2
%
 
1
%
 
 

Cost of software licenses consists primarily of costs of royalties, electronic software distribution, duplication, and packaging. Cost of software licenses as a percentage of software license revenue varies from period to period depending upon the relative product mix.

Cost of Maintenance and Services

 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
Percentage
Change
 
August 31, 2017
 
August 31, 2016
 
Percentage
Change
Cost of maintenance and services
$
10,970

 
$
11,825

 
(7
)%
 
$
32,724

 
$
33,217

 
(1
)%
As a percentage of maintenance and services revenue
16
%
 
17
%
 
 
 
16
%
 
17
%
 
 
As a percentage of total revenue
11
%
 
12
%
 
 
 
12
%
 
12
%
 
 

27



Cost of maintenance and services consists primarily of costs of providing customer support, consulting, and education. The decrease in both periods is primarily due to lowered compensation-related costs resulting from a decrease in headcount.

Amortization of Acquired Intangibles
 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
Percentage
Change
 
August 31, 2017
 
August 31, 2016
 
Percentage
Change
Amortization of acquired intangibles
$
5,768

 
$
3,940

 
46
%
 
$
14,129

 
$
11,818

 
20
%
As a percentage of total revenue
6
%
 
4
%
 
 
 
5
%
 
4
%
 
 

Amortization of acquired intangibles included in costs of revenue primarily represents the amortization of the value assigned to technology-related intangible assets obtained in business combinations. Amortization of acquired intangibles increased in all periods due to the addition of intangible assets associated with the technology obtained in connection with the acquisition of DataRPM in the second quarter of fiscal year 2017 and technology obtained in connection with the acquisition of Kinvey in the third quarter of fiscal year 2017, partially offset by the impairment of intangible assets associated with the technology obtained in connection with the acquisition of Modulus as well as the completion of amortization of certain intangible assets acquired in prior years.

Gross Profit
 
 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
Percentage
Change
 
August 31, 2017
 
August 31, 2016
 
Percentage
Change
Gross profit
$
79,235

 
$
84,829

 
(7
)%
 
$
230,293

 
$
238,443

 
(3
)%
As a percentage of total revenue
81
%
 
83
%
 
 
 
82
%
 
83
%
 
 

Our gross profit decreased in the third quarter and first nine months of fiscal year 2017 primarily due to the decreases of license revenue and increases of amortization of acquired intangibles as described above.

Sales and Marketing

 
Three Months Ended
 
Nine Months Ended
(In thousands)
August 31, 2017
 
August 31, 2016
 
Percentage
Change
 
August 31, 2017
 
August 31, 2016
 
Percentage
Change
Sales and marketing
$
23,159

 
$
29,852

 
(22
)%