Quarterly Report


Table of Contents

 
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 JULY 31, 2017
 
OR
 
o          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 001-35498
 ____________________________________________________

SPLUNK INC.
(Exact name of registrant as specified in its charter)
_____________________________________________________
Delaware
 
86-1106510
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
270 Brannan Street
San Francisco, California 94107
(Address of principal executive offices)
(Zip Code)
 
(415) 848-8400
(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 ý NO o
 
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 o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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. (Check one):
Large accelerated filer x
 
Accelerated filer o
 
 
 
Non-accelerated filer o
 
Smaller reporting company o
(Do not check if a smaller reporting company)
 
 
 
 
 
Emerging growth company o

 
 
 
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. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES o NO ý

There were 139,990,162 shares of the registrant’s Common Stock issued and outstanding as of August 30, 2017 .
 


Table of Contents

TABLE OF CONTENTS
 
 
 
Page
No.
 
 
 
 
 
 
 
 
 
 
 
 
 


Table of Contents

PART I. FINANCIAL INFORMATION

  Item 1. Financial Statements (Unaudited)

Splunk Inc.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
(Unaudited)
 
 
 
July 31, 2017

January 31, 2017
Assets
 
 

 
 

Current assets
 
 

 
 

Cash and cash equivalents
 
$
419,810

 
$
421,346

Investments, current portion
 
663,737

 
662,096

Accounts receivable, net
 
208,082

 
238,281

Prepaid expenses and other current assets
 
49,412

 
38,650

Total current assets
 
1,341,041

 
1,360,373

Investments, non-current
 
5,000

 
5,000

Property and equipment, net
 
161,954

 
166,395

Intangible assets, net
 
34,577

 
37,713

Goodwill
 
138,681

 
124,642

Other assets
 
22,901

 
24,423

Total assets
 
$
1,704,154

 
$
1,718,546

Liabilities and Stockholders' Equity
 
 

 
 

Current liabilities
 
 

 
 

Accounts payable
 
$
8,984

 
$
7,503

Accrued payroll and compensation
 
93,843

 
100,092

Accrued expenses and other liabilities
 
84,002

 
81,071

Deferred revenue, current portion
 
482,196

 
478,707

Total current liabilities
 
669,025

 
667,373

Deferred revenue, non-current
 
167,004

 
146,752

Other liabilities, non-current
 
100,163

 
99,260

Total non-current liabilities
 
267,167

 
246,012

Total liabilities
 
936,192

 
913,385

Commitments and contingencies (Note 3)
 


 


Stockholders’ equity
 
 

 
 

Common stock: $0.001 par value; 1,000,000,000 shares authorized; 139,880,265 shares issued and outstanding at July 31, 2017, and 137,169,481 shares issued and outstanding at January 31, 2017
 
140

 
137

Accumulated other comprehensive loss
 
(1,349
)
 
(3,013
)
Additional paid-in capital
 
1,973,386

 
1,828,821

Accumulated deficit
 
(1,204,215
)
 
(1,020,784
)
Total stockholders’ equity
 
767,962

 
805,161

Total liabilities and stockholders’ equity
 
$
1,704,154

 
$
1,718,546

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

1


Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
 
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2017
 
2016
 
2017
 
2016
Revenues
 
 
 
 
 
 
 
 
License
 
$
142,851

 
$
115,695

 
$
259,577

 
$
216,687

Maintenance and services
 
137,113

 
97,058

 
262,835

 
182,018

Total revenues
 
279,964

 
212,753

 
522,412

 
398,705

Cost of revenues  (1)
 
 
 
 
 
 
 
 
License
 
3,159

 
2,868

 
6,087

 
5,830

Maintenance and services
 
56,717

 
41,748

 
111,952

 
78,286

Total cost of revenues
 
59,876

 
44,616

 
118,039

 
84,116

Gross profit
 
220,088

 
168,137

 
404,373

 
314,589

Operating expenses  (1)
 
 
 
 
 
 
 
 
Research and development
 
71,774

 
67,224

 
143,072

 
134,595

Sales and marketing
 
191,284

 
150,228

 
365,232

 
295,379

General and administrative
 
39,139

 
34,312

 
75,635

 
66,385

Total operating expenses
 
302,197

 
251,764

 
583,939

 
496,359

Operating loss
 
(82,109
)
 
(83,627
)
 
(179,566
)
 
(181,770
)
Interest and other income (expense), net
 
 
 
 
 
 
 
 
Interest income (expense), net
 
(164
)
 
(797
)
 
(692
)
 
(1,200
)
Other income (expense), net
 
(874
)
 
(1,063
)
 
(1,482
)
 
(2,188
)
Total interest and other income (expense), net
 
(1,038
)
 
(1,860
)
 
(2,174
)
 
(3,388
)
Loss before income taxes
 
(83,147
)
 
(85,487
)
 
(181,740
)
 
(185,158
)
Income tax provision
 
353

 
1,110

 
1,691

 
2,335

Net loss
 
$
(83,500
)
 
$
(86,597
)
 
$
(183,431
)
 
$
(187,493
)

 
 
 
 
 
 
 
 
Basic and diluted net loss per share
 
$
(0.60
)
 
$
(0.65
)
 
$
(1.33
)
 
$
(1.42
)

 
 
 
 
 
 
 
 

Weighted-average shares used in computing basic and diluted net loss per share
 
139,063

 
133,041

 
138,436

 
132,310

 
(1) Amounts include stock-based compensation expense, as follows:  
Cost of revenues
 
$
8,410


$
7,310


$
16,602

 
$
14,865

Research and development
 
25,991


27,742


52,788

 
56,948

Sales and marketing
 
42,652


39,371


83,295

 
79,604

General and administrative
 
15,314


14,440


29,737

 
28,816


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

2


Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
(Unaudited)
 
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2017
 
2016
 
2017
 
2016
Net loss
 
$
(83,500
)
 
$
(86,597
)
 
$
(183,431
)
 
$
(187,493
)
Other comprehensive loss
 
 
 
 
 
 
 
 
Net unrealized gain (loss) on investments
 
33

 
17

 
(449
)
 
356

Foreign currency translation adjustments
 
2,207

 
(558
)
 
2,113

 
1,640

Total other comprehensive gain (loss)
 
2,240

 
(541
)
 
1,664

 
1,996

Comprehensive loss
 
$
(81,260
)
 
$
(87,138
)
 
$
(181,767
)
 
$
(185,497
)
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

3


Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
 
 
Six Months Ended July 31,
 
 
2017
 
2016
Cash flows from operating activities
 
 

 
 

Net loss
 
$
(183,431
)

$
(187,493
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
19,916


14,635

Amortization of investment premiums
 
342

 
447

Stock-based compensation
 
182,422


180,233

Deferred income taxes
 
(866
)

(698
)
Excess tax benefits from employee stock plans
 


(1,027
)
Changes in operating assets and liabilities, net of acquisition:
 
 
 
 
Accounts receivable, net
 
30,199


50,403

Prepaid expenses, other current and non-current assets
 
(7,883
)

(3,177
)
Accounts payable
 
1,963


265

Accrued payroll and compensation
 
(6,264
)

(30,985
)
Accrued expenses and other liabilities
 
4,407


13,579

Deferred revenue
 
23,741


17,856

Net cash provided by operating activities
 
64,546


54,038

Cash flows from investing activities
 
 
 
 
Purchases of investments
 
(340,697
)
 
(316,528
)
Maturities of investments
 
338,265


290,275

Acquisition, net of cash acquired
 
(17,223
)
 

Purchases of property and equipment
 
(8,513
)

(14,250
)
Other investment activities
 

 
(3,500
)
Net cash used in investing activities
 
(28,168
)

(44,003
)
Cash flows from financing activities
 
 
 
 
Proceeds from the exercise of stock options
 
1,973

 
5,603

Excess tax benefits from employee stock plans
 

 
1,027

Proceeds from employee stock purchase plan
 
19,282

 
15,183

Taxes paid related to net share settlement of equity awards
 
(59,109
)
 
(46,822
)
Repayment of financing lease obligation
 
(802
)
 

Net cash used in financing activities
 
(38,656
)

(25,009
)
Effect of exchange rate changes on cash and cash equivalents
 
742


382

Net decrease in cash and cash equivalents
 
(1,536
)

(14,592
)
Cash and cash equivalents at beginning of period
 
421,346


424,541

Cash and cash equivalents at end of period
 
$
419,810

 
$
409,949

Supplemental disclosures
 
 
 
 
Cash paid for income taxes
 
$
3,883

 
$
1,726

Cash paid for interest expense related to financing lease obligation
 
3,974

 
1,920

Non-cash investing and financing activities
 
 
 
 
Increase (decrease) in accrued purchases of property and equipment
 
26

 
1,016

Increase in capitalized construction costs related to build-to-suit lease
 

 
10,065


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

4


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
(1)  Description of the Business and Significant Accounting Policies
 
Business
 
Splunk Inc. (“we,” “us,” “our”) provides innovative software solutions that enable organizations to gain real-time operational intelligence by harnessing the value of their data. Our offerings enable users to collect, index, search, explore, monitor, correlate and analyze data regardless of format or source. Our offerings address large and diverse data sets, commonly referred to as big data, and are specifically tailored for machine data. Machine data is produced by nearly every software application and electronic device and contains a definitive, time-stamped record of various activities, such as transactions, customer and user activities and security threats. Our offerings help users derive new insights from machine data that can be used to, among other things, improve service levels, reduce operational costs, mitigate security risks, demonstrate and maintain compliance, and drive better business decisions. We were incorporated in California in October 2003 and reincorporated in Delaware in May 2006.
 
Fiscal Year
 
Our fiscal year ends on January 31. References to fiscal 2018 or fiscal year 2018, for example, refer to the fiscal year ending January 31, 2018.
 
Basis of Presentation
 
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) and applicable rules and regulations of the Securities and Exchange Commission (“SEC”) regarding interim financial reporting. Certain information and note disclosures normally included in the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. The condensed consolidated balance sheet data as of January 31, 2017 was derived from audited financial statements, but does not include all disclosures required by GAAP. Therefore, these condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in the Annual Report on Form 10-K for the fiscal year ended  January 31, 2017 , filed with the SEC on March 29, 2017 . There have been no changes in the significant accounting policies from those that were disclosed in the audited consolidated financial statements for the fiscal year ended January 31, 2017 included in the Annual Report on Form 10-K.
 
In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to state fairly the financial position, results of operations, comprehensive loss and cash flows for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year 2018.

Use of Estimates
 
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting periods covered by the financial statements and accompanying notes. In particular, we make estimates with respect to the fair value of multiple elements in revenue recognition, uncollectible accounts receivable, the assessment of the useful life and recoverability of long-lived assets (property and equipment, goodwill and identified intangibles), stock-based compensation expense, the fair value of assets acquired and liabilities assumed for business combinations, income taxes, leases and contingencies. Actual results could differ from those estimates.

Segments

We operate our business as one operating segment: the development and marketing of software solutions that enable our customers to gain real-time operational intelligence by harnessing the value of their data. Our chief operating decision maker is our Chief Executive Officer, who reviews financial information presented on a consolidated basis for purposes of making operating decisions, assessing financial performance and allocating resources.

Principles of Consolidation

5


 
The accompanying unaudited condensed consolidated financial statements include the accounts of Splunk Inc. and its direct and indirect wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated upon consolidation.

Strategic Investments
 
We hold certain non-marketable equity securities which are accounted for using the cost method of accounting. These investments are recorded at cost in "Investments, non-current" on our condensed consolidated balance sheets and are adjusted only for other-than-temporary impairments and additional investments.

Recently Adopted Accounting Standards

In March 2016, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2016-09 (Topic 718), Compensation - Stock Compensation, which has been issued as part of its Simplification Initiative. The new guidance requires companies to recognize stock-based compensation excess tax benefits, net of detriments (if any) to the condensed consolidated statements of operations, as opposed to additional paid-in capital within equity, when the awards vest or are exercised. Additionally, net excess tax benefit cash flows resulting from share-based payments are required to be reported as operating activities in the statement of cash flows. These updates are to be adopted either prospectively or retrospectively. The new guidance also allows companies to make a policy election to account for forfeitures as they occur, which, if elected, must be adopted using a modified retrospective approach with a cumulative effect adjustment recorded to opening retained earnings.

The ASU is effective for public companies for fiscal years beginning after December 15, 2016 and interim periods within those fiscal years. We adopted this guidance during the first quarter of fiscal year 2018. Excess tax benefits on stock plans have been recorded to the condensed consolidated statements of operations rather than to additional paid-in capital within equity on a prospective basis. At April 30, 2017, we recorded $301.6 million of previously unrecognized excess tax benefits, which are fully offset by the related valuation allowance. We did not record an adjustment to our accumulated deficit as a result of adopting ASC 2016-09. We also elected to prospectively apply the change in presentation requirement wherein income tax effects of awards are classified as operating activities in the condensed consolidated statement of cash flows. Prior period classification of cash flows related to excess tax benefits have not been adjusted. We did not elect an accounting policy change to record forfeitures as they occur and we will continue to estimate forfeitures at each period.

Recently Issued Accounting Pronouncements

In May 2017, the FASB issued ASU No. 2017-09 (Topic 718), Scope of Modification Accounting. The new standard clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. The standard is effective for our first quarter of fiscal 2019, although early adoption is permitted. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.    

In January 2017, the FASB issued ASU No. 2017-04 (Topic 350) Intangibles - Goodwill and Other. The new standard simplifies how companies are required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit's goodwill with the carrying amount of that goodwill. Instead, if the carrying amount of a reporting unit exceeds its fair value, an impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit. The standard is effective for our first quarter of fiscal 2021, although early adoption is permitted. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-01 (Topic 805) Business Combinations - Clarifying the Definition of a Business. The new standard narrows the definition of a business to assist companies with evaluating when a set of transferred assets and activities is a business. The standard is effective for our first quarter of fiscal 2019. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.

In October 2016, the FASB issued ASU No. 2016-16 (Topic 740), Intra-Entity Transfers of Assets Other Than Inventory. The new standard will require companies to recognize, as opposed to defer, the tax effects from intercompany transfers of certain assets when the transfer occurs. The standard is effective for our first quarter of fiscal 2019. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.


6


In June 2016, the FASB issued ASU No. 2016-13 (Topic 326), Financial Instruments - Credit Losses. The amendments in this update require a financial asset (or a group of financial assets) measured at an amortized cost basis to be presented at the net amount expected to be collected. The new approach to estimating credit losses (referred to as the current expected credit losses model) applies to most financial assets measured at amortized cost and certain other instruments, including trade and other receivables, loans and held-to-maturity debt securities. The standard is effective for our first quarter of fiscal 2021, although early adoption is permitted. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02 (Topic 842), Leases, which supersedes the lease recognition requirements in ASC Topic 840, Leases. The standard requires an entity to recognize right-of-use assets and lease liabilities arising from a lease for operating leases, initially measured at the present value of the lease payments on the condensed consolidated balance sheets. The impact of such leases on the condensed consolidated statements of operations and cash flows will continue to be treated in a similar manner under current GAAP. The standard also requires additional qualitative and quantitative disclosures. The standard is effective for our first quarter of fiscal 2020, although early adoption is permitted. We are currently evaluating the impact of this standard on our condensed consolidated financial statements and related disclosures. We anticipate that most of our office leases will be recognized as lease liabilities and corresponding right-of-use assets, and will accordingly have a material impact on our condensed consolidated balance sheets upon adoption.

In May 2014, the FASB issued ASU No. 2014-09 (Topic 606), Revenue from Contracts with Customers, which supersedes the revenue recognition requirements in Accounting Standards Codification 605, Revenue Recognition and establishes a new revenue standard. This ASU is based on the principle that revenue is recognized to depict the transfer of 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 ASU also requires additional disclosure about the nature, amount, timing and uncertainty of revenues and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract.

In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers: Principal versus Agent Considerations, which clarifies the guidance in the new revenue standard on assessing whether an entity is a principal or an agent in a revenue transaction. This conclusion impacts whether an entity reports revenue on a gross or net basis. In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing, which clarifies the guidance in the new revenue standard regarding an entity’s identification of its performance obligations in a contract. In May 2016, the FASB issued ASU No. 2016-12, Narrow-Scope Improvements and Practical Expedients, which amends the guidance in the new revenue standard on collectability, non-cash consideration, presentation of sales tax, and transition. In December 2016, the FASB issued ASU No. 2016-20, Technical Corrections and Improvements to Topic 606, which clarifies narrow aspects of ASC 606 or corrects unintended application of the guidance.

The new revenue standard, as amended by ASU No. 2015-14, is effective in the first quarter of fiscal 2019 and may be applied retrospectively to each prior period presented or with the cumulative effect recognized as of the date of initial application. We currently plan to adopt the standard using the cumulative effect transition method.

We are still evaluating the total impact of the new revenue standard on our condensed consolidated financial statements, accounting policies, systems and processes. We have allocated internal and external resources to assist in our implementation and evaluation of the new standard. We have also made investments in systems to assist in financial reporting under the new standard. While we cannot reasonably estimate the expected financial statement impact at this time, we believe the adoption of this new standard will have a material impact on our condensed consolidated financial statements, including the way we account for arrangements involving a term license, deferred revenue and sales commissions. Under the new revenue standard, we would be required to recognize term license revenues upfront and the associated maintenance revenues over the contract period. Under the current revenue standard, we recognize both the term license and maintenance revenues ratably over the contract period. In addition, some deferred revenue recorded in accordance with the current revenue standard will never be recognized as revenue upon adoption of the new revenue standard and instead will be part of the cumulative effect adjustment within accumulated deficit. We have also considered the impact of the guidance in ASC 340-40, Other Assets and Deferred Costs; Contracts with Customers, under Topic 606. Under ASC 340-40, we would be required to capitalize and amortize incremental costs of obtaining a contract, such as sales commission costs. Under our current accounting policy, we do not capitalize sales commission costs but rather recognize these costs when they are incurred.    

(2)  Investments and Fair Value Measurements
 
The carrying amounts of certain of our financial instruments including cash equivalents, accounts receivable, accounts payable and accrued liabilities approximate fair value due to their short-term maturities.

7


 
Assets and liabilities recorded at fair value in the financial statements are categorized based upon the level of judgment associated with the inputs used to measure their fair value. Hierarchical levels that are directly related to the amount of subjectivity associated with the inputs to the valuation of these assets or liabilities are as follows:
 
Level 1—Observable inputs, such as quoted prices in active markets for identical assets or liabilities.
 
Level 2—Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
 
Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
 
Assets and liabilities measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires management to make judgments and consider factors specific to the asset or liability.

The following table sets forth the fair value of our financial assets and liabilities that were measured on a recurring basis as of July 31, 2017 and January 31, 2017 (in thousands): 
 
 
July 31, 2017
 
January 31, 2017
 
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Money market funds
 
$
390,400

 
$

 
$

 
$
390,400

 
$
345,959

 
$

 
$

 
$
345,959

U.S. treasury securities
 

 
663,737

 

 
663,737

 

 
662,096

 

 
662,096

Other
 

 

 

 

 

 

 
3,000

 
3,000

Reported as:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Assets:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Cash and cash equivalents
 
 

 
 

 
 

 
$
390,400

 
 

 
 

 
 

 
$
345,959

Investments, current portion
 
 
 
 
 
 
 
663,737

 
 
 
 
 
 
 
662,096

Investments, non-current
 
 
 
 
 
 
 

 
 
 
 
 
 
 
3,000

Total
 
 

 
 

 
 

 
$
1,054,137

 
 

 
 

 
 

 
$
1,011,055


Our investments in money market funds are measured at fair value on a recurring basis. These money market funds are actively traded and reported daily through a variety of sources. The fair value of the money market fund investments is classified as Level 1.

The following table represents our investments in U.S. treasury securities, which we have classified as available-for-sale investments as of July 31, 2017 (in thousands): 
 
 
July 31, 2017
 
 
Amortized Cost
 
Unrealized Gains
 
Unrealized Losses
 
Fair Value
Investments, current portion:
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
664,417

 
$

 
$
(680
)
 
$
663,737

Total available-for-sale investments in U.S. treasury securities
 
$
664,417

 
$

 
$
(680
)
 
$
663,737


As of July 31, 2017 , the following marketable securities were in an unrealized loss position (in thousands):

8


 
 
Less than 12 Months
 
12 Months or Greater
 
Total
 
 
Fair Value
 
Unrealized Losses
 
Fair Value
 
Unrealized Losses
 
Fair Value
 
Unrealized Losses
U.S. treasury securities
 
$
663,737

 
$
(680
)
 
$

 
$

 
$
663,737

 
$
(680
)

As of July 31, 2017 , we did not consider any of our investments to be other-than-temporarily impaired.

The contractual maturities of our investments are as follows (in thousands):
 
 
July 31, 2017
Due within one year
 
$
663,737

Total
 
$
663,737


Investments with maturities of less than 12 months from the balance sheet date are classified as current assets, which are available for use to fund current operations. Investments with maturities greater than 12 months from the balance sheet date are classified as long-term assets.

Strategic Investments

We hold strategic investments in the form of non-marketable equity securities which are recorded at cost. During the first quarter of fiscal 2018,  $3.0 million  of our investments in the form of convertible promissory notes in a privately-held company were automatically converted into preferred stock. As a result, these non-marketable equity securities are no longer classified as Level 3 investments measured at fair value and are now accounted for as cost method investments. As of July 31, 2017 , our cost method investments totaled $5.0 million .    

(3)  Commitments and Contingencies
 
Operating Lease Commitments
 
We lease our office spaces under non-cancelable leases. Rent expense for our operating leases was $5.5 million and $3.5 million for the three months ended July 31, 2017 and 2016 , respectively, and $10.8 million and $6.8 million for the six months ended July 31, 2017 and 2016 , respectively.

On August 24, 2015, we entered into an office lease for approximately 235,000 square feet located at 3098 Olsen Drive, San Jose, California for a term of 129 months. Rent expense for this lease commenced in the third quarter of fiscal 2017. Our total obligation for the base rent is approximately $120.5 million .

The following summarizes our operating lease commitments as of July 31, 2017 (in thousands):
 
 
Payments Due by Period
 
 
Total
 
Less Than 1
year
 
1-3 years
 
3-5 years
 
More Than 5
years
Operating lease commitments (1)
 
$
167,265

 
$
22,899

 
$
41,091

 
$
35,848

 
$
67,427

 _________________________
(1) We entered into sublease agreements for portions of our office space and the future rental income of $5.7 million from these agreements has been included as an offset to our future minimum rental payments.

Financing Lease Obligation

On April 29, 2014, we entered into an office lease (the “Lease”) for approximately 182,000 square feet located at 270 Brannan Street, San Francisco, California (the “Premises”). The Premises is allocated between the "Initial Premises" and "Additional Premises," which are each approximately 91,000 square feet of rentable space. The term of the Additional Premises begins one year after the Initial Premises, which began in August 2015, and each have a term of 84 months. Our total obligation for the base rent is approximately $92.0 million . On May 13, 2014, we entered into an irrevocable, standby letter of credit with Silicon Valley Bank for $6.0 million to serve as a security deposit for the Lease.

As a result of our involvement during the construction period, whereby we had certain indemnification obligations related to the construction, we were considered, for accounting purposes only, the owner of the construction project under

9


build-to-suit lease accounting. We have recorded project construction costs incurred by the landlord as an asset and a corresponding long-term liability in “Property and equipment, net” and “Other liabilities, non-current,” respectively, on our condensed consolidated balance sheets. We moved into the Premises in February 2016. We have determined that the lease does not meet the criteria for “sale-leaseback” treatment, due to our continuing involvement in the construction project resulting from our standby letter of credit. Accordingly, the Lease will continue to be accounted for as a financing obligation.

As of July 31, 2017 , future payments on the financing lease obligation are as follows (in thousands):
Fiscal Period:
 
 
Remaining six months of fiscal 2018
 
$
6,105

Fiscal 2019
 
12,552

Fiscal 2020
 
12,928

Fiscal 2021
 
13,316

Fiscal 2022
 
13,715

Fiscal 2023
 
14,127

Fiscal 2024
 
8,142

Total future minimum lease payments
 
$
80,885


Facility Exit Costs
 
In fiscal 2017, we relocated certain of our corporate offices in the San Francisco Bay Area and as a result, a portion of our leased office spaces are no longer in use. Accordingly, we calculated and recorded a liability at the "cease-use" date related to those operating leases based on the difference between the present value of the estimated future sublease rental income and the present value of our remaining lease obligations, adjusted for the effects of any prepaid or deferred items. We recorded a facility exit charge of approximately $8.6 million to "General and administrative" expenses in the condensed consolidated statements of operations associated with the recognition of the liability. The short-term portion of the liability is recorded in "Accrued expenses and other liabilities" and the long-term portion of the liability is recorded in "Other liabilities, non-current," on the condensed consolidated balance sheets. As of July 31, 2017 , the remaining "cease-use" liability was $6.7 million .

Legal Proceedings
 
We are subject to certain routine legal and regulatory proceedings, as well as demands and claims that arise in the normal course of our business. We make a provision for a liability relating to legal matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impact of negotiations, estimated settlements, legal rulings, advice of legal counsel and other information and events pertaining to a particular matter. In our opinion, resolution of any pending claims (either individually or in the aggregate) is not expected to have a material adverse impact on our condensed consolidated results of operations, cash flows or financial position, nor is it possible to provide an estimated amount of any such loss. However, depending on the nature and timing of any such dispute, an unfavorable resolution of a matter could materially affect our future results of operations or cash flows, or both, in a particular quarter.

Indemnification Arrangements
 
During the ordinary course of business, we may indemnify, hold harmless and agree to reimburse for losses suffered or incurred, our customers, vendors and each of their affiliates for certain intellectual property infringement and other claims by third parties with respect to our offerings, in connection with our commercial license arrangements or related to general business dealings with those parties.

As permitted under Delaware law, we have entered into indemnification agreements with our officers, directors and certain employees, indemnifying them for certain events or occurrences while they serve as our officers or directors or those of our direct and indirect subsidiaries.
 
To date, there have not been any costs incurred in connection with such indemnification obligations; therefore, there is no accrual of such amounts at July 31, 2017 . We are unable to estimate the maximum potential impact of these indemnifications on our future results of operations.

(4)  Property and Equipment

10


 
Property and equipment are stated at cost, net of accumulated depreciation and amortization. These assets are depreciated and amortized using the straight-line method over their estimated useful lives. Property and equipment consisted of the following (in thousands):
 
 
As of
 
 
July 31, 2017
 
January 31, 2017
Computer equipment and software
 
$
66,822

 
$
59,396

Furniture and fixtures
 
16,555

 
16,194

Leasehold and building improvements
 
59,440

 
58,569

Building (1)
 
82,250

 
82,250

 
 
225,067

 
216,409

Less: accumulated depreciation and amortization
 
(63,113
)
 
(50,014
)
Property and equipment, net
 
$
161,954

 
$
166,395

 _________________________ 
(1) This relates to the capitalization of construction costs in connection with our financing lease obligation, where we are considered the owner of the asset, for accounting purposes only. There is a corresponding long-term liability for this obligation on our condensed consolidated balance sheets under “Other liabilities, non-current.” Refer to Note 3 “Commitments and Contingencies” for details.

Depreciation and amortization expense on Property and Equipment, net was $6.6 million and $5.1 million for the three months ended July 31, 2017 and 2016 , respectively, and $13.0 million and $8.4 million for the six months ended July 31, 2017 and 2016 , respectively.

(5)  Acquisition, Goodwill and Intangible Assets
    
Acquisition

On May 15, 2017, we acquired  100%  of the voting equity interest of a privately-held Delaware corporation, which develops technology for search-driven analytics on enterprise data. This acquisition has been accounted for as a business combination. The purchase price of $17.3 million , paid in cash, was preliminarily allocated as follows: $3.8 million to identifiable intangible assets and $0.5 million to net deferred tax liability, with the excess $14.0 million of the purchase price over the fair value of net assets acquired recorded as goodwill. Goodwill is primarily attributable to the value expected from the synergies of the combination, including developing a more intuitive search experience for our products. This goodwill is not deductible for income tax purposes. The results of operations of the acquired entity, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Pro forma and historical results of operations of the acquired entity have not been presented as we do not consider the results to have a material effect on any of the periods presented in our condensed consolidated statements of operations. We are still finalizing the allocation of the purchase price, which may be subject to change as additional information becomes available to us.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):
 
 
Fair Value
 
 Useful Life (months)
Developed technology
 
$
3,500

 
48
Other acquired intangible assets
 
300

 
24
Total intangible assets acquired
 
$
3,800

 
 

Goodwill

As of July 31, 2017, we had goodwill of  $138.7 million . There were no impairments to goodwill during the three or six months ended July 31, 2017 or during prior periods. Goodwill balances are presented below (in thousands):

11


 
 
Carrying amount
Balance as of January 31, 2017
 
$
124,642

Goodwill acquired
 
14,039

Balance as of July 31, 2017
 
$
138,681


Intangible Assets

Intangible assets subject to amortization realized from acquisitions as of July 31, 2017 are as follows (in thousands, except useful life):
 
 
Gross Fair Value
 
Accumulated Amortization
 
Net Book Value
 
Weighted Average Remaining Useful Life
(months)
Developed technology
 
$
62,870

 
$
(28,742
)
 
$
34,128

 
45
Customer relationships
 
1,810

 
(1,752
)
 
58

 
11
Other acquired intangible assets
 
1,480

 
(1,089
)
 
391

 
27
Total intangible assets subject to amortization
 
$
66,160

 
$
(31,583
)
 
$
34,577

 
 

Amortization expense from acquired intangible assets was $ 4.2 million and $3.1 million for the three months ended July 31, 2017 and 2016 , respectively, and $6.9 million and $6.2 million for the six months ended July 31, 2017 and 2016 , respectively.
    
The expected future amortization expense for acquired intangible assets as of July 31, 2017 is as follows (in thousands):
Fiscal Period:
 
 
Remaining six months of fiscal 2018
 
$
5,383

Fiscal 2019
 
9,016

Fiscal 2020
 
8,600

Fiscal 2021
 
8,283

Fiscal 2022
 
3,295

Total amortization expense
 
$
34,577


(6)  Debt Financing Facilities

On May 9, 2013, we entered into a Loan Agreement with Silicon Valley Bank, which was most recently amended in May 2017. As amended, the agreement provides for a revolving line of credit facility, which expires May 9, 2018. Under the agreement, we are able to borrow up to $25 million . Interest on any drawdown under the revolving line of credit accrues either at the prime rate ( 4.25% in July 2017) or the LIBOR rate plus 2.75% . As of July 31, 2017 , we had no balance outstanding under this agreement. The agreement contains customary financial covenants and other affirmative and negative covenants. We were in compliance with all covenants as of July 31, 2017 .

(7)  Stock Compensation Plans
 
The following table summarizes the stock option, restricted stock unit (“RSU”) and performance unit (“PSU”) award activity during the six months ended July 31, 2017

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Options Outstanding
 
RSUs and PSUs
Outstanding
 
 
Shares Available
for Grant
 
Shares
 
Weighted-
Average
Exercise
Price
Per Share
 
Weighted-
Average
Remaining
Contractual
Term
 
Aggregate
Intrinsic
Value  (1)
 
Shares
 
 
 
 
 
 
 
 
(in years)
 
(in thousands)
 
 
Balances as of January 31, 2017
 
10,401,789

 
2,057,894

 
$
4.67

 
3.28
 
$
109,571

 
13,924,414

Additional shares authorized
 
6,858,474

 
 
 
 
 
 
 
 
 


Options exercised
 


 
(569,089
)
 
3.46

 

 


 


Options forfeited and expired
 
6,172

 
(6,172
)
 
50.38

 

 


 


RSUs and PSUs granted
 
(1,862,988
)
 


 


 

 


 
1,862,988

RSUs and PSUs vested
 


 
 
 
 
 
 
 
 
 
(2,725,292
)
Shares withheld related to net share settlement of RSUs and PSUs
 
993,508

 
 
 
 
 
 
 
 
 


RSUs and PSUs forfeited and canceled
 
1,005,466

 


 


 

 


 
(1,005,466
)
Balances as of July 31, 2017
 
17,402,421

 
1,482,633

 
$
4.94

 
2.85
 
$
81,650

 
12,056,644

Vested and expected to vest
 
 
 
1,482,577

 
$
4.94

 
2.85
 
$
81,646

 
11,712,148

Exercisable as of July 31, 2017
 
 
 
1,459,282

 
$
5.00

 
2.78
 
$
80,279

 
 
 _________________________ 
(1) The intrinsic value is calculated as the difference between the exercise price of the underlying stock option award and the closing market price of our common stock as of July 31, 2017 .

Under net settlement procedures applicable to our outstanding RSUs for current employees, upon each settlement date, RSUs are withheld to cover the required withholding tax, which is based on the value of the RSU on the settlement date as determined by the closing price of our common stock on the trading day of the applicable settlement date. These shares withheld by us as a result of the net settlement of RSUs are not considered issued and outstanding, thereby reducing our shares outstanding used to calculate earnings per share. These shares are returned to the reserves and are available for future issuance under our 2012 Equity Incentive Plan.

Beginning in fiscal 2016, we granted PSUs to certain executives under our 2012 Equity Incentive Plan. The number of PSUs earned and eligible to vest will be determined after a one-year performance period, based on achievement of certain company financial performance measures and the recipient's continued service with us. The number of shares of our stock to be received at vesting can range from 0% to 200% of the target amount. Compensation expense for PSUs is measured using the fair value at the date of grant and recorded over the vesting period under the graded-vesting attribution method, and may be adjusted over the vesting period based on interim estimates of performance against the pre-set objectives.

At July 31, 2017 , total unrecognized compensation cost related to stock options was $1.3 million , adjusted for estimated forfeitures, which is expected to be recognized over a weighted-average period of 1.1 years . At July 31, 2017 , total unrecognized compensation cost was $507.7 million related to RSUs, adjusted for estimated forfeitures, which is expected to be recognized over the next 2.6 years . At July 31, 2017 , total unrecognized compensation cost was $31.3 million related to PSUs, adjusted for estimated forfeitures, which is expected to be recognized over the next 2.9 years . Additionally, during fiscal 2016, we issued 671,782 restricted shares of our common stock (“RSAs”) and at July 31, 2017 , total unrecognized compensation cost was $4.0 million related to RSAs, adjusted for estimated forfeitures, which is expected to be recognized over the next 1.4 years . At July 31, 2017 , 414,943 RSAs were vested, 186,003 RSAs were forfeited and canceled and 70,836 RSAs were outstanding.
 
The total intrinsic value of options exercised during the six months ended July 31, 2017 was $32.8 million . The weighted-average grant date fair value of RSUs granted was $61.05 per share for the six months ended July 31, 2017 . The weighted-average grant date fair value of PSUs granted was $60.25 per share for the six months ended July 31, 2017 . The weighted-average grant date fair value of RSAs granted was $69.00 per share during fiscal 2016. No RSAs were granted during the six months ended July 31, 2017 .

(8)  Geographic Information

13


 
Revenues

Revenues by geography are based on the shipping address of the customer. The following table presents our revenues by geographic region for the periods presented (in thousands):
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2017

2016
 
2017
 
2016
United States
 
$
213,040

 
$
165,073

 
$
395,252

 
$
302,878

International
 
66,924

 
47,680

 
127,160

 
95,827

Total revenues
 
$
279,964

 
$
212,753

 
$
522,412

 
$
398,705

 
Other than the United States, no other individual country exceeded 10% of total revenues during any of the periods presented. One channel partner represented 28% and 25% of total revenues during the three months ended July 31, 2017 and 2016 , respectively, and approximately 28% and 24% of total revenues during the six months ended July 31, 2017 and 2016 , respectively. A second channel partner represented approximately 19% and 17% of total revenues during the three months ended July 31, 2017 and 2016 , respectively, and approximately  18%  and  16%  of total revenues during the six months ended July 31, 2017  and  2016 , respectively. The revenues from these channel partners are comprised of a number of customer transactions, none of which were individually greater than 10% of total revenues for the three months or six months ended July 31, 2017 or 2016 .

At July 31, 2017 , one channel partner represented 31% and a second channel partner represented 14% of total accounts receivable. At January 31, 2017 , one channel partner represented 30% of total accounts receivable.

Property and Equipment

The following table presents our property and equipment, net of depreciation, by geographic region for the periods presented (in thousands):
 
 
As of
 
 
July 31, 2017
 
January 31, 2017
United States
 
$
155,372

 
$
159,428

International
 
6,582

 
6,967

Total property and equipment, net
 
$
161,954

 
$
166,395


Other than the United States, no other country represented 10% or more of our total property and equipment as of July 31, 2017 or January 31, 2017 .

(9)  Income Taxes
 
For the three months ended July 31, 2017 and 2016 , we recorded $0.4 million and $1.1 million in income tax expense, respectively. For the six months ended July 31, 2017 and 2016 , we recorded $1.7 million and $2.3 million in income tax expense, respectively. The decrease in income tax expense for the three and six months ended July 31, 2017 was primarily due to the partial release of the valuation allowance as a result of an acquisition.

During the six months ended July 31, 2017 , there were no material changes to our unrecognized tax benefits, and we do not expect to have any significant changes to unrecognized tax benefits through the end of the fiscal year. Because of our history of tax losses, all years remain open to tax audit.

(10)  Net Loss Per Share
 
Basic net loss per share is computed by dividing the net loss by the weighted-average number of shares of common stock outstanding during the period, less the weighted-average unvested common stock subject to repurchase or forfeiture. Diluted net loss per share is computed by giving effect to all potential shares of common stock, including preferred stock, stock options, RSUs, PSUs and RSAs to the extent dilutive.
 
The following table sets forth the computation of historical basic and diluted net loss per share (in thousands, except per share data):

14


 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2017
 
2016
 
2017
 
2016
Numerator:
 
 

 
 

 
 

 
 

Net loss
 
$
(83,500
)
 
$
(86,597
)
 
$
(183,431
)
 
$
(187,493
)
Denominator:
 
 

 
 

 
 

 
 

Weighted-average common shares outstanding
 
139,135

 
133,624

 
138,509

 
132,873

Less: Weighted-average unvested common shares subject to repurchase or forfeiture
 
(72
)
 
(583
)
 
(73
)
 
(563
)
Weighted-average shares used to compute net loss per share, basic and diluted
 
139,063

 
133,041

 
138,436

 
132,310

Net loss per share, basic and diluted
 
$
(0.60
)
 
$
(0.65
)
 
$
(1.33
)
 
$
(1.42
)
 
Since we were in a net loss position for all periods presented, basic net loss per share is the same as diluted net loss per share for all periods as the inclusion of all potentially dilutive securities outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands):
 
 
As of July 31,
 
 
2017
 
2016
Shares subject to outstanding common stock options
 
1,483

 
2,709

Shares subject to outstanding RSUs, PSUs and RSAs
 
12,127

 
14,386

Employee stock purchase plan
 
344

 
323

Total
 
13,954

 
17,418

 
(11)  Related Party Transactions
 
Certain members of our board of directors serve on the board of directors of and/or are executive officers of, and, in some cases, are investors in, companies that are customers or vendors of ours. Certain of our executive officers also serve on the board of directors of companies that are customers or vendors of ours. All contracts with related parties are executed in the ordinary course of business. We recognized revenues from sales to these companies of $3.3 million and $1.2 million for the three months ended July 31, 2017 and 2016 , respectively, and $6.1 million and $2.4 million for the six months ended July 31, 2017 and 2016 , respectively. We recorded $0.3 million and $0.1 million in expenses related to purchases from these companies during the three months ended July 31, 2017 and 2016 , respectively, and $0.5 million and $0.2 million for the six months ended July 31, 2017 and 2016 , respectively. We had $1.4 million and $1.9 million of accounts receivable from these companies as of July 31, 2017 and January 31, 2017 , respectively. There were no accounts payable to these companies as of July 31, 2017 or January 31, 2017 .
 
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q. The following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Statements that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements are often identified by the use of words such as, but not limited to, “anticipate,” “believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “might,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would” and similar expressions or variations intended to identify forward-looking statements. Such statements include, but are not limited to, statements concerning our market opportunity, our future financial and operating results; our planned investments, particularly in our product development efforts; our planned expansion of our sales and marketing organization; our expectation that we will continue to use acquisitions to contribute to our growth objectives; our growth and product integration strategies; our continued efforts to market and sell both domestically and internationally; our expectations about seasonal trends; our expectations regarding our revenues mix; our expectations regarding our cost of revenues and gross margin; use of non-GAAP (as defined below) financial measures; our expectations regarding our operating expenses, including increases in research and development, sales and marketing, and general and administrative expenses; our expectations regarding our capital expenditures; sufficiency of cash to meet cash needs for at least the next 12 months; exposure to interest rate changes; inflation; anticipated income tax rates; our

15


expectations regarding our leases; exposure to exchange rate fluctuations and our ability to manage such exposure; and our expected cash flows and liquidity.

These statements are based on the beliefs and assumptions of our management based on information currently available to us. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included under Part II, Item 1A below. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances that occur after the date of this report.

Overview

Splunk provides innovative software solutions that enable organizations to gain real-time operational intelligence by harnessing the value of their data. Our offerings enable users to collect, index, search, explore, monitor, correlate and analyze data regardless of format or source. Our offerings address large and diverse data sets commonly referred to as big data and are specifically tailored for machine data. Machine data is produced by nearly every software application and electronic device in an organization and contains a definitive, time-stamped record of various activities, such as transactions, customer and user activities, and security threats. Beyond an organization's traditional information technology (“IT”) and security infrastructure, data from the industrial internet, including industrial control systems, sensors, SCADA systems, networks, manufacturing systems, smart meters and Internet-of-Things ("IoT"), which includes consumer-oriented systems, such as electronic wearables, mobile devices, automobiles and medical devices, are also continuously generating machine data. Our offerings help organizations gain value from all of these different sources and forms of machine data.

We believe the market for products that provide operational intelligence presents a substantial opportunity as data grows in volume and diversity, creating new risks, opportunities and challenges for organizations. Since our inception, we have invested a substantial amount of resources developing our offerings to address this market, specifically with respect to machine data.
 
Our offerings are designed to deliver rapid return-on-investment for our customers. They generally do not require customization, long deployment cycles or extensive professional services commonly associated with traditional enterprise software applications. Prospective users can get started with our free online sandboxes that enable our customers to immediately try and experience Splunk offerings. Users that prefer to deploy the software on-premises can take advantage of our free 60-day trial of Splunk Enterprise, which converts into a limited free perpetual license of up to 500 megabytes of data per day. Paying users can sign up for Splunk Cloud and avoid the need to provision, deploy and manage internal infrastructure. Alternatively, they can simply download and install the software, typically in a matter of hours, to connect to their relevant machine data sources. Customers can also provision a compute instance on Amazon Web Services via a pre-built Amazon Machine Image, which delivers a pre-configured virtual machine instance with our Splunk Enterprise software. In fiscal 2017, we introduced free development-test licenses for certain commercial customers, allowing users to explore new data and use cases in a non-production environment without incurring additional fees. We also offer support, training and professional services to our customers to assist in the deployment of our software.

For Splunk Enterprise, we base our license fees on the estimated daily data indexing capacity our customers require. A substantial portion of our license revenues consist of revenues from perpetual licenses, whereby we generally recognize the license fee portion of these arrangements upfront. As a result, the timing of when we enter into large perpetual licenses may lead to fluctuations in our revenues and operating results because our expenses are largely fixed in the short-term. Additionally, we license our software under term licenses, which are generally recognized ratably over the contract term. From time to time, we also enter into transactions that are designed to enable broad adoption of our software within an enterprise, referred to as enterprise adoption agreements. These agreements often include provisions that require revenue deferral and recognition over time.

Splunk Cloud delivers the core capabilities of Splunk Enterprise as a scalable, reliable cloud service. Splunk Cloud customers pay an annual subscription fee based on the combination of the volume of data indexed per day and the length of the data retention period. Splunk Light provides log search and analysis that is designed, priced and packaged for small IT environments, where a single-server log analytics solution is sufficient. Splunk Enterprise Security ("ES") addresses emerging security threats and security information and event management ("SIEM") use cases through monitoring, alerts and analytics. Splunk IT Service Intelligence ("ITSI") monitors the health and key performance indicators of critical IT and business services. Splunk User Behavior Analytics ("UBA") detects cyber-attacks and insider threats using data science, machine learning and advanced correlation.

16



We intend to continue investing for long-term growth. We have invested and intend to continue to invest heavily in product development to deliver additional features and performance enhancements, deployment models and solutions that can address new end markets. For example, we released new versions of existing offerings such as Splunk Enterprise and introduced new offerings for the security and IT markets during fiscal 2017. In addition, we expect to continue to aggressively expand our sales and marketing organizations to market and sell our software both in the United States and internationally. We have utilized and expect to continue to utilize acquisitions to contribute to our long-term growth objectives.
 
Our goal is to make our software the platform for delivering operational intelligence and real-time business insights from machine data. The key elements of our growth strategy are to:
 
Extend our technological capabilities.

Continue to expand our direct and indirect sales organization, including our channel relationships, to increase our sales capacity and enable greater market presence.

Further penetrate our existing customer base and drive enterprise-wide adoption.

Enhance our value proposition through a focus on solutions which address core and expanded use cases.

Grow our user communities and partner ecosystem to increase awareness of our brand, target new use cases, drive operational leverage and deliver more targeted, higher value solutions.

Continue to deliver a rich developer environment to enable rapid development of enterprise applications that leverage machine data and the Splunk platform.
 
We believe the factors that will influence our ability to achieve our goals include, among other things, our ability to deliver new offerings as well as additional product functionality; acquire new customers across geographies and industries; cultivate incremental sales from our existing customers by driving increased use of our software within organizations; provide additional solutions that leverage our core machine data platform to help organizations understand and realize the value of their machine data in specific end markets and use cases; add additional original equipment manufacturer ("OEM") and strategic relationships to enable new sales channels for our software as well as extend our integration with third-party products; help software developers leverage the functionality of our machine data platform through software development kits ("SDKs") and application programming interfaces ("APIs"); and successfully integrate acquired businesses and technologies.

Financial Summary

For the three months ended July 31, 2017 and 2016 , our total revenues were $280.0 million and $212.8 million , respectively. For the three months ended July 31, 2017 and 2016 , approximately 24% and 22% of our total revenues, respectively, were derived from customers located outside the United States. Our customers and end-users represent the public sector and a wide variety of industries, including financial services, manufacturing, retail and technology, among others. As of July 31, 2017 , we had over 14,000 customers, including over 85 of the Fortune 100 companies.

For the three months ended July 31, 2017 and 2016 , our GAAP operating loss was $82.1 million and $83.6 million , respectively. Our non-GAAP operating income was $14.7 million and $8.2 million for the three months ended July 31, 2017 and 2016 , respectively.

For the three months ended July 31, 2017 and 2016 , our GAAP net loss was $83.5 million and $86.6 million , respectively. Our non-GAAP net income was $11.5 million and $6.6 million for the three months ended July 31, 2017 and 2016 , respectively.

Our quarterly results reflect seasonality in the sale of our offerings. Historically, a pattern of increased license sales in the fourth fiscal quarter as a result of industry buying patterns has positively impacted sales activity in that period, which can result in lower sequential revenues in the following first fiscal quarter. Our gross margins and operating losses have been affected by these historical trends because the majority of our expenses are relatively fixed in the short-term. The majority of our expenses are personnel-related and include salaries, stock-based compensation, benefits and incentive-based compensation plan expenses. As a result, we have not experienced significant seasonal fluctuations in the timing of expenses from period to period.


17


Non-GAAP Financial Results
 
To supplement our condensed consolidated financial statements, which are prepared and presented in accordance with GAAP, we provide investors with certain non-GAAP financial measures, including non-GAAP cost of revenues, non-GAAP gross margin, non-GAAP research and development expense, non-GAAP sales and marketing expense, non-GAAP general and administrative expense, non-GAAP operating income (loss), non-GAAP operating margin, non-GAAP net income (loss) and non-GAAP net income (loss) per share (collectively the “non-GAAP financial measures”). These non-GAAP financial measures exclude all or a combination of the following (as reflected in the following reconciliation tables): stock-based compensation expense, employer payroll tax expense related to employee stock plans, amortization of acquired intangible assets, adjustments related to a financing lease obligation and the partial release of the valuation allowance due to acquisition. The adjustments for the financing lease obligation are to reflect the expense we would have recorded if our build-to-suit lease arrangement had been deemed an operating lease instead of a financing lease and is calculated as the net of actual ground lease expense, depreciation and interest expense over estimated straight-line rent expense. The non-GAAP financial measures are adjusted for our estimated tax rate on non-GAAP income (loss). To determine the annual non-GAAP tax rate, we evaluate a financial projection based on our non-GAAP results. The annual non-GAAP tax rate takes into account other factors including our current operating structure, our existing tax positions in various jurisdictions and key legislation in major jurisdictions where we operate. The annual non-GAAP tax rate applied to the three and six months ended July 31, 2017 was 27%. We will utilize this annual non-GAAP tax rate in fiscal 2018 and will provide updates to this rate on an annual basis, or more frequently if material changes occur. In addition, non-GAAP financial measures include free cash flow, which represents cash from operations less purchases of property and equipment, and billings, which represents revenues plus the change in deferred revenue during the period. The presentation of the non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP. We use these non-GAAP financial measures for financial and operational decision-making purposes and as a means to evaluate period-to-period comparisons. We believe that these non-GAAP financial measures provide useful information about our operating results, enhance the overall understanding of past financial performance and future prospects and allow for greater transparency with respect to key metrics used by management in our financial and operational decision making. In addition, these non-GAAP financial measures facilitate comparisons to competitors’ operating results.

We exclude stock-based compensation expense because it is non-cash in nature and excluding this expense provides meaningful supplemental information regarding our operational performance and allows investors the ability to make more meaningful comparisons between our operating results and those of other companies. We exclude employer payroll tax expense related to employee stock plans in order for investors to see the full effect that excluding that stock-based compensation expense had on our operating results. These expenses are tied to the exercise or vesting of underlying equity awards and the price of our common stock at the time of vesting or exercise, which may vary from period to period independent of the operating performance of our business. We also exclude amortization of acquired intangible assets, the partial release of the valuation allowance due to acquisition, and make adjustments related to a financing lease obligation from our non-GAAP financial measures because these are considered by management to be outside of our core operating results. Accordingly, we believe that excluding these expenses provides investors and management with greater visibility to the underlying performance of our business operations, facilitates comparison of our results with other periods and may also facilitate comparison with the results of other companies in our industry. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can be used for strategic opportunities, including investing in our business, making strategic acquisitions and strengthening our balance sheet. We consider billings to be a useful measure for management and investors because it provides visibility into our sales activity for a particular period, which is not necessarily reflected in our revenues given that we recognize term licenses and subscriptions for cloud services ratably.

There are limitations in using non-GAAP financial measures because the non-GAAP financial measures are not prepared in accordance with GAAP, may be different from non-GAAP financial measures used by our competitors and exclude expenses that may have a material impact upon our reported financial results. Further, stock-based compensation expense has been and will continue to be for the foreseeable future a significant recurring expense in our business and an important part of the compensation provided to our employees. The non-GAAP financial measures are meant to supplement and be viewed in conjunction with GAAP financial measures.

The following table reconciles our net cash provided by operating activities to free cash flow for the three and six months ended July 31, 2017 , and 2016 (in thousands):

18


 
Three Months Ended
 
Six Months Ended
 
July 31,
 
July 31,
 
July 31,
 
July 31,
 
2017
 
2016
 
2017
 
2016
Net cash provided by operating activities
$
23,188

 
$
18,349

 
$
64,546

 
$
54,038

Less purchases of property and equipment
(2,908
)
 
(10,541
)
 
(8,513
)
 
(14,250
)
Free cash flow (non-GAAP)
$
20,280

 
$
7,808

 
$
56,033

 
$
39,788

Net cash used in investing activities
$
(63,155
)
 
$
(30,627
)
 
$
(28,168
)
 
$
(44,003
)
Net cash used in financing activities
$
(7,364
)
 
$
(5,634
)
 
$
(38,656
)
 
$
(25,009
)

The following table reconciles our GAAP to Non-GAAP Financial Measures for the three months ended July 31, 2017 (in thousands, except per share amounts):
 
 
GAAP
 
Stock-based compensation
 
Employer payroll tax on employee stock plans
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Partial release of the valuation allowance due to acquisition
 
Income tax effects related to non-GAAP adjustments (3)
 
Non-GAAP
Cost of revenues
 
$
59,876

 
$
(8,410
)
 
$
(277
)
 
$
(2,870
)
 
$
309

 
$

 
$

 
$
48,628

Gross margin
 
78.6
 %
 
3.0
%
 
0.1
%
 
1.0
%
 
(0.1
)%
 
%
 
%
 
82.6
%
Research and development
 
71,774

 
(25,991
)
 
(559
)
 
(55
)
 
495

 

 

 
45,664

Sales and marketing
 
191,284

 
(42,652
)
 
(1,185
)
 
(1,316
)
 
1,174

 

 

 
147,305

General and administrative
 
39,139

 
(15,314
)
 
(377
)
 

 
227

 

 

 
23,675

Operating income (loss)
 
(82,109
)
 
92,367

 
2,398

 
4,241

 
(2,205
)
 

 

 
14,692

Operating margin
 
(29.3
)%
 
32.9
%
 
0.9
%
 
1.5
%
 
(0.8
)%
 
%
 
%
 
5.2
%
Income tax provision
 
353

 

 

 

 

 
546

 
3,356

 
4,255

Net income (loss)
 
$
(83,500
)
 
$
92,367

 
$
2,398

 
$
4,241

 
$
(99
)
(2  
)  
$
(546
)
 
$
(3,356
)
 
$
11,505

Net income (loss) per share (1)
 
$
(0.60
)
 


 


 


 

 
 
 

 
$
0.08

_________________________
(1) GAAP net loss per share calculated based on 139,063 weighted-average shares of common stock. Non-GAAP net income per share calculated based on 142,852 diluted weighted-average shares of common stock, which includes 3,789 potentially dilutive shares related to employee stock awards. GAAP to non-GAAP net income (loss) per share is not reconciled due to the difference in the number of shares used to calculate basic and diluted weighted-average shares of common stock.
(2) Includes $2.1 million of interest expense related to the financing lease obligation.
(3) Represents the tax effect of the non-GAAP adjustments based on the estimated annual effective tax rate of 27%.

The following table reconciles our GAAP to non-GAAP Financial Measures for the three months ended July 31, 2016 (in thousands, except per share amounts):

19


 
 
GAAP
 
Stock-based compensation
 
Employer payroll tax on employee stock plans
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Income tax effects related to non-GAAP adjustments (3)
 
Non-GAAP
Cost of revenues
 
$
44,616

 
$
(7,310
)
 
$
(208
)
 
$
(2,886
)
 
$
259

 
$

 
$
34,471

Gross margin
 
79.0
 %
 
3.4
%
 
0.1
%
 
1.4
%
 
(0.1
)%
 
%
 
83.8
%
Research and development
 
67,224

 
(27,742
)
 
(676
)
 
(59
)
 
555

 

 
39,302

Sales and marketing
 
150,228

 
(39,371
)
 
(791
)
 
(151
)
 
1,131

 

 
111,046

General and administrative
 
34,312

 
(14,440
)
 
(388
)
 

 
251

 

 
19,735

Operating income (loss)
 
(83,627
)
 
88,863

 
2,063

 
3,096

 
(2,196
)
 

 
8,199

Operating margin
 
(39.3
)%
 
41.7
%
 
1.0
%
 
1.5
%
 
(1.0
)%
 
%
 
3.9
%
Income tax provision
 
1,110

 

 

 

 

 
651

 
1,761

Net income (loss)
 
$
(86,597
)
 
$
88,863

 
$
2,063

 
$
3,096

 
$
(147
)
(2)  
$
(651
)
 
$
6,627

Net income (loss) per share (1)
 
$
(0.65
)
 


 


 


 

 

 
$
0.05

_________________________
(1) GAAP net loss per share calculated based on 133,041 weighted-average shares of common stock. Non-GAAP net income per share calculated based on 136,430 diluted weighted-average shares of common stock, which includes 3,389 potentially dilutive shares related to employee stock awards. GAAP to non-GAAP net income (loss) per share is not reconciled due to the difference in the number of shares used to calculate basic and diluted weighted-average shares of common stock.
(2) Includes $2.0 million of interest expense related to the financing lease obligation.
(3) For consistency, prior year non-GAAP net loss has been adjusted to reflect the tax effect of the non-GAAP adjustments based on the annual effective tax rate of 21%.

The following table reconciles our GAAP to non-GAAP Financial Measures for the six months ended July 31, 2017 (in thousands, except per share amounts):
 
 
GAAP
 
Stock-based compensation
 
Employer payroll tax on employee stock plans
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Partial release of the valuation allowance due to acquisition
 
Income tax effects related to non-GAAP adjustments (3)
 
Non-GAAP
Cost of revenues
 
$
118,039

 
$
(16,602
)
 
$
(718
)
 
$
(5,519
)
 
$
615

 
$

 
$

 
$
95,815

Gross margin
 
77.4
 %
 
3.2
%
 
0.1
%
 
1.1
%
 
(0.1
)%
 
%
 
%
 
81.7
%
Research and development
 
143,072

 
(52,788
)
 
(1,810
)
 
(83
)
 
1,026

 

 

 
89,417

Sales and marketing
 
365,232

 
(83,295
)
 
(2,957
)
 
(1,332
)
 
2,344

 

 

 
279,992

General and administrative
 
75,635

 
(29,737
)
 
(1,054
)
 

 
464

 

 

 
45,308

Operating income (loss)
 
(179,566
)
 
182,422

 
6,539

 
6,934

 
(4,449
)
 

 

 
11,880

Operating margin
 
(34.4
)%
 
35.0
%
 
1.3
%
 
1.3
%
 
(0.9
)%
 
%
 
%
 
2.3
%
Income tax provision
 
1,691

 

 

 

 

 
546

 
1,523

 
3,760

Net income (loss)
 
$
(183,431
)
 
$
182,422

 
$
6,539

 
$
6,934

 
$
(228
)
(2  
)  
$
(546
)
 
$
(1,523
)
 
$
10,167

Net income (loss) per share (1)
 
$
(1.33
)
 
 
 
 
 
 
 
 
 
 
 
 
 
$
0.07

_________________________
(1) GAAP net loss per share calculated based on 138,436 weighted-average shares of common stock. Non-GAAP net income per share calculated based on 142,602 diluted weighted-average shares of common stock, which includes 4,166 potentially dilutive shares related to employee stock awards. GAAP to non-GAAP net income (loss) per share is not reconciled due to the difference in the number of shares used to calculate basic and diluted weighted-average shares of common stock.
(2) Includes $4.2 million of interest expense related to the financing lease obligation.
(3) Represents the tax effect of the non-GAAP adjustments based on the estimated annual effective tax rate of 27%.

The following table reconciles our GAAP to non-GAAP Financial Measures for the six months ended July 31, 2016 (in thousands, except per share amounts):

20


 
 
GAAP
 
Stock-based compensation
 
Employer payroll tax on employee stock plans
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Income tax effects related to non-GAAP adjustments (3)
 
Non-GAAP
Cost of revenues
 
$
84,116

 
$
(14,865
)
 
$
(470
)
 
$
(5,798
)
 
$
285

 
$

 
$
63,268

Gross margin
 
78.9
 %
 
3.7
%
 
0.1
%
 
1.5
%
 
(0.1
)%
 
%
 
84.1
%
Research and development
 
134,595

 
(56,948
)
 
(1,432
)
 
(130
)
 
613

 

 
76,698

Sales and marketing
 
295,379

 
(79,604
)
 
(1,817
)
 
(302
)
 
1,249

 

 
214,905

General and administrative
 
66,385

 
(28,816
)
 
(829
)
 

 
277

 

 
37,017

Operating income (loss)
 
(181,770
)
 
180,233

 
4,548

 
6,230

 
(2,424
)
 

 
6,817

Operating margin
 
(45.6
)%
 
45.2
%
 
1.1
%
 
1.6
%
 
(0.6
)%
 
%
 
1.7
%
Income tax provision (benefit)
 
2,335

 

 

 

 

 
(871
)
 
1,464

Net income (loss)
 
$
(187,493
)
 
$
180,233

 
$
4,548

 
$
6,230

 
$
1,117

(2)  
$
871

 
$
5,506

Net income (loss) per share (1)
 
$
(1.42
)
 
 
 
 
 
 
 
 
 
 
 
$
0.04

_________________________
(1) GAAP net loss per share calculated based on 132,310 weighted-average shares of common stock. Non-GAAP net income per share calculated based on 135,348 diluted weighted-average shares of common stock, which includes 3,038 potentially dilutive shares related to employee stock awards. GAAP to non-GAAP net income (loss) per share is not reconciled due to the difference in the number of shares used to calculate basic and diluted weighted-average shares of common stock.
(2) Includes $3.5 million of interest expense related to the financing lease obligation.
(3) For consistency, prior year non-GAAP net loss has been adjusted to reflect the tax effect of the non-GAAP adjustments based on the annual effective tax rate of 21%.

The following table reconciles our total revenues to billings for the three and six months ended July 31, 2017 , and 2016 (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
 
July 31,
 
July 31,
 
July 31,
 
July 31,
 
 
2017
 
2016
 
2017
 
2016
Total revenues
 
$
279,964

 
$
212,753

 
$
522,412

 
$
398,705

Increase in deferred revenue
 
23,408

 
16,582

 
23,741

 
17,856

Billings (non-GAAP)
 
$
303,372

 
$