Annual Report


 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

(Mark One)

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

For the fiscal year ended December 31, 2016

OR

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

For the transition period from                      to                     

Commission file number 0-27512

 

CSG SYSTEMS INTERNATIONAL, INC .

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

47-0783182

(State or other jurisdiction
of incorporation or organization)

 

(I.R.S. Employer
Identification No.)

9555 Maroon Circle

Englewood, Colorado 80112

(Address of principal executive offices, including zip code)

(303) 200-2000

(Registrant’s telephone number, including area code)

Securities Registered Pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

Common Stock, Par Value $0.01 Per Share

 

NASDAQ Stock Market LLC

Securities Registered Pursuant to Section 12(g) of the Act: None.

 

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

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

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       No  

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES       NO  

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

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

 

Large accelerated filer

 

Accelerated filer

 

Non-accelerated filer

 

Smaller reporting company

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

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant, computed by reference to the last sales price of such stock, as of the close of trading on June 30, 2016, was $1,141,220,683.

Shares of common stock outstanding at February 17, 2017: 32,844,169

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant's Proxy Statement for its 2017 Annual Meeting of Stockholders to be filed on or prior to April 30, 2017, are incorporated by reference into Part III of the Form 10-K.

 

 

 

 


 

CSG SYSTEMS INTERNATIONAL, INC.

2016 FORM 10-K

TABLE OF CONTENTS

 

 

 

 

  

Page

PART I

  

 

 

 

 

 

Item 1.

 

Business

  

3

Item 1A.

 

Risk Factors

  

8

Item 1B.

 

Unresolved Staff Comments

  

14

Item 2.

 

Properties

  

14

Item 3.

 

Legal Proceedings

  

15

Item 4.

 

Mine Safety Disclosures

  

15

 

 

 

PART II

  

 

 

 

 

 

Item 5.

 

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

  

18

Item 6.

 

Selected Financial Data

  

21

Item 7.

 

Management’s Discussion and Analysis (“MD&A”) of Financial Condition and Results of Operations

  

23

Item 7A.

 

Quantitative and Qualitative Disclosures About Market Risk

  

38

Item 8.

 

Financial Statements and Supplementary Data

  

40

Item 9.

 

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

  

70

Item 9A.

 

Controls and Procedures

  

70

Item 9B.

 

Other Information

  

70

 

 

 

PART III

  

 

 

 

 

 

Item 10.

 

Directors, Executive Officers and Corporate Governance

  

71

Item 11.

 

Executive Compensation

  

71

Item 12.

 

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

  

71

Item 13.

 

Certain Relationships and Related Transactions, and Director Independence

  

71

Item 14.

 

Principal Accounting Fees and Services

  

71

 

 

 

PART IV

  

 

 

 

 

 

Item 15.

 

Exhibits, Financial Statement Schedules

  

72

 

 

Signatures

  

73

 

 

 

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P ART I

 

I tem  1.

Business

Overview

CSG Systems International, Inc. (the “Company”, “CSG”, or forms of the pronoun “we”) is one of the world’s largest and most established providers of business support solutions, primarily serving the global communications industry. We have over thirty years of expertise supporting communications service providers (“CSPs”) as their businesses have evolved from a single product offering to highly complex and competitive multi-product offerings, while also requiring increasingly differentiated, real-time, and personalized experiences for their customers.

Our proven experience and world-class solutions support the mission critical management of our clients’ revenue, customer interactions, and digital ecosystem as they advance their video, voice, data, content, and digital services to consumers. Over the years, we have focused our research and development (“R&D”) and acquisition investments on expanding our solution set to address the complex, transformative needs of service providers. Our broad and deep solutions help our clients be competitive in a dynamically evolving global business environment, respond to changing consumer demands, quickly launch new compelling product offerings, provide enhanced customer experiences through relevant and targeted interactions, and cost-effectively streamline and scale operations.

Our principal executive offices are located at 9555 Maroon Circle, Englewood, Colorado 80112, and the telephone number at that address is (303) 200-2000. Our common stock is listed on the NASDAQ Stock Market LLC (“NASDAQ”) under the symbol “CSGS”. We are a S&P Small Cap 600 company.

Industry Overview

Background. We provide business support solutions (“BSS”) to the world’s leading CSPs, as well as clients in several evolving, highly competitive industries. Our solutions coordinate and manage many aspects of a service provider’s customer interactions, from the initial activation of customer accounts, to the support and fulfilment of various services, and through the calculation, presentment, and accounts receivables management of monthly customer statements. While our heritage is in serving the North American video and satellite market, through acquisition and organic growth, we have enhanced our solutions and approach to support the broad scope of participants in the global communications landscape such as carriers, media and entertainment, and digital content distribution.

Market Trends of Communications Industry. The global communications industry is going through an unprecedented level of change.  This dramatic disruption is driving the emergence of heightened competition, innovative digital products, compelling customer engagements, real-time operational processes, and intense cost pressures. There are some key trends that are emerging as CSPs try to evolve and compete in this highly complex ecosystem.

 

The first trend in the communications industry is the dramatic shift in purchasing power to the “always-connected” consumer, who ultimately demands any content, on any device at any time. Consumers have more choices now than ever before among various options for communication services, entertainment content, portable devices, and service providers. The competition among providers to obtain, retain, and grow their share of wallet has thus increased dramatically.  CSPs must provide compelling offerings and positive customer experiences to differentiate themselves and maintain long-term customer relationships.

 

The next critical trend faced by CSPs is meeting the consumer demands for a seamless, real-time, and personalized engagement with providers. Consumers have become accustomed to and value a simplified purchasing experience, much like they do with online apps like music or video downloads. And while many aspects of a consumer’s experience outwardly appear simpler, the complexity behind the comprehensive services framework dramatically increases with the integration of emerging services like over-the-top (“OTT”), digital services (home security, health services, etc.), and digital payment functionality. The increased velocity required in managing relevant pricing, packaging, promotions, and personalized experiences within this changing business environment requires increased flexibility and nimbleness in the CSPs’ operational platforms.

 

The third trend that we see is the evolution of the CSPs to a digital lifestyle services provider. In an “always-on” and connected digital society, some CSPs desire to be the key source for content in a highly personalized experience based on individual consumer needs, desires, and consumption history.  These providers look beyond their own network and provide ubiquitous access to digital services. The “brand” and the “experience” become much more important to these providers as brand loyalty and personalized experience play a larger role in purchasing decisions. They will no longer be competing solely with the traditional communication companies, but will also be competing against well-known brands like Apple, Amazon, Netflix, and Google for their share of the consumer’s wallet. And, importantly, they will be looking to create a digital

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services ecosystem that extends beyond the traditional video, entertainment , and content services and offer everything from e-books to health care monitoring services, thereby increasing thei r ecosystem and revenue management complexity.

 

Finally, the last trend relates to an increased pressure for CSPs to find new revenue sources, while also managing their cost structure and quality of service delivery during their business transformation. CSPs are seeing a decline in revenues and profits associated with their traditional services like wireline voice and video as a result of new or increased competition. In order to offset these declining revenues and profits, CSPs are looking for ways to improve their cost structure, grow through acquisitions, and launch new, revenue generating services with minimal capital investment. The result is many CSPs are cutting costs associated with their traditional systems, integrating disparate acquired business operations, and launching new digital services with highly-flexible, lower cost solutions.

Overall, these market trends drive the demand for scalable, flexible, and cost-efficient revenue and customer interaction management solutions, which we believe will provide us with revenue opportunities. As a result, we have historically invested a significant amount of our revenues in R&D and have acquired companies that enable us to expand our offerings in a timely and efficient manner. We believe that our scalable, modular, and flexible solutions combined with our rich domain expertise provide the industry with proven solutions to improve their profitability and consumers’ experiences.  We have specifically architected our solutions to provide operators with an incremental approach to transforming their businesses, thereby reducing the risk associated with this evolution.

Market Conditions of the Communications Industry.  As the majority of our clients operate within the global communications industry sector, the economic state of this industry directly impacts our business.  The global communications industry has undergone significant fluctuations in growth rates and capital investment cycles over the past several years due to multiple competitive and economic factors.  Current economic indices suggest a stabilization of the industry, but it is impossible to predict whether this stabilization will persist or be subject to future instability.  In addition, industry consolidation continues as CSPs look for ways to expand their product offerings, extend their market share, increase their revenues, and gain greater scale efficiencies in their operations.

The impact of these market factors has resulted in spending cautiousness with large transformational projects being displaced in favor of more incremental changes to business operations. Globally, mature operators are looking for ways to differentiate competitive offerings, foster customer loyalty, effectively control costs, streamline operations, and scale business operations, while operators in emerging markets are focusing on capitalizing on the rapid growth of new digital services and the explosion of connected devices. Regardless of the specific situation, companies continue to have an increased focus on investing in those solutions and services that have a demonstrable short-term return on investment, generate new revenues, and help businesses remain competitive and meet rapidly changing consumer demands.

Business Strategy

Our goal is to be the most trusted provider of world-class cloud and software-based solutions to service providers around the globe who depend upon the timely and accurate processing of complex, high-volume transactions to operate their business and deliver a superior customer experience. We believe that by successfully executing on this goal we can grow our revenues and earnings, and therefore, create long-term value for our clients, employees, and stockholders. Our strategic focus to accomplish this goal is as follows:

Expand Our Leadership Position in Cable and Satellite Markets. While we have a dominant market share position in the North American cable and satellite business already, we believe that we can expand this share further. Over the past year, we advanced our progress with this initiative with continued subscriber conversions to our platforms and extending our domain expertise and products globally.

Create More Long-Term, Recurring Relationships Within the Communications Industry . Our relentless, relationship-driven, customer-focused business approach is built on a foundation of respect, integrity, and collaboration. As a result, we enjoy long-term relationships with many of the world’s leading CSPs based on a true partnership aimed at helping providers enable sustainable growth, create efficiencies, and deliver differentiated services to their customers. We have seen successful adoption of our managed services approach with global CSPs based upon our compelling value proposition and proven track record.

Expand Our Product and Services Portfolio Through Continuous Innovation. We believe that our product technology, cloud-based solutions, and pre-integrated suite of solutions give service providers a competitive advantage. Our solutions allow providers to effectively manage their traditional businesses while being able to also quickly deliver new digital services directly to consumers with a modern, personalized, branded experience driving customer satisfaction, and loyalty. We continually add new, relevant capabilities to what we do as a company, both in terms of our people and our solutions. By doing this, we build very strong recurring relationships which are difficult for our competitors to displace.

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Deliver On Our Commitments. Our products and services are busi ness critical. We help our clients manage the entire customer lifecycle, from acquisition to servicing to billing for their end customers. As a result, it is imperative that we deliver on our commitments. For over 30 years, we have been helping blue-chip c ompanies manage periods of explosive and sustained market growth and change – helping them drive revenues, improve their profitability, and deliver positive customer experiences. Our track record of doing what we say we are going to do has enabled us to be a trusted advisor and integral member of our clients’ operations .

Bring New Skills and Talents to Market. In order to help our clients manage the rapid pace of change in the communications industry, we invest in our people so that they are prepared to bring the highest quality technical skills, interpersonal skills, and managerial skills to our business and our clients.

In summary, we are focused on helping our clients compete more effectively and successfully in an ever-changing market.

Description of Business

Key Clients . We work with the leading communication providers located around the world. A partial list of those service providers as of December 31, 2016 is included below:

 

América Móvil

  

Mediacom Communications

Bell Canada TV

 

MTN

Bharti Airtel

 

Singtel

Cable One Inc.

  

Telefônica

Charter Communications, Inc.  (“Charter”)

  

Telstra  

Comcast Corporation (“Comcast”)

 

Verizon

DISH Network Corporation (“DISH”)

  

Vodafone

Hutchinson Whampoa 3G

 

 

The North American communications industry has experienced significant consolidation over the past decade, resulting in a large percentage of the market being served by a limited number of service providers with greater size and scale, and there are possibilities of further consolidation, illustrated by the acquisition of Time Warner Cable, Inc. (“Time Warner”) by Charter. Consistent with this market concentration and our heritage in serving the North American cable and satellite markets, a large percentage of our historical revenues have been generated from our three largest clients, as shown in the table below. Clients that represented 10% or more of our revenues for 2016 and 2015 were as follows (in millions, except percentages):

 

 

  

2016

 

 

2015

 

 

  

Amount

 

  

% of Revenues

 

 

Amount

 

  

% of Revenues

 

Comcast

  

$

195

 

 

 

26

 

$

177

  

  

 

24

Charter/Time Warner (combined for all periods)

  

 

160

 

 

 

21

 

 

155

  

  

 

21

DISH

  

 

102

 

 

 

13

 

 

107

  

  

 

14

See the Significant Client Relationships section of our MD&A for additional information regarding our business relationships with these key clients.

Research and Development . Our clients around the world are facing competition from new entrants and at the same time, are deploying new services at a rapid pace and dramatically increasing the complexity of their business operations. Therefore, we continue to make meaningful investments in R&D to ensure that we stay ahead of our clients’ needs and advance our clients’ businesses as well as our own. We recognize these challenges and believe our value proposition is to provide solutions that help our clients ensure that each customer interaction is an opportunity to create value and deepen the business relationship. As a result of our R&D efforts, we have broadened our footprint within our client base with many new innovative product offerings.

Our total R&D expenses for 2016 and 2015 were $98.7 million and $102.0 million, respectively, or approximately 13% and 14%, respectively, of our total revenues.   We anticipate the level of R&D investment to trend up due to the heightened level of our planned investments for 2017.

There are certain inherent risks associated with significant technological innovations. Some of these risks are described in this report in our Risk Factors section below.

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Products and Services. Our products and services help companies with complex transa ction-centric business models manage the opportunities and challenges associated with accurately capturing, managing, generating, and optimizing the revenue associated with the immense volumes of customer interactions and then manage the intricate nature o f those customer relationships. Our primary product solutions include the following:

 

Revenue Management & Customer Experience Solutions:  Our revenue management solutions provide global service providers with a robust, integrated real-time revenue management framework in either a cloud-based or stand-alone environment to support a single view of the customer across all services and transactions.

 

o

Our Advanced Convergent Platform (“ACP”), is a private, cloud-based solution for cable and satellite providers in North America. ACP and our related business support solutions are relied upon every single day by over 58 million consumers of voice, video, and data services, and are used by more than 100,000 of our clients’ customer service agents, and 40,000 of our clients’ field force technicians, dispatchers, and routers.

 

o

Ascendon is deployed in some of the world’s leading media and entertainment companies and is a SaaS-based, cloud platform that provides a trusted path to digital transformation. With Ascendon, organizations can offer new, digital services right now, while moving purposefully toward a business model that dramatically reduces operational expenses, fully digitizes front and back offices, and unites a portfolio of services into a single customer relationship that allows for a deep customer engagement across all communication channels.

 

o

And, leading wireline, wireless, IP carriers, and Mobile Virtual Network Operators (MVNOs) rely on our Singleview solution to deliver real-time charging, pre-and post-paid billing for fully converged services from a single platform.  

 

Customer Interaction Management: Our customer interaction management solutions are a diverse and integrated suite of tools designed to manage and improve every aspect of the customer experience. We are an industry leader in supporting omni-channel communications between our clients and their customers, processing more than one billion interactive voice, SMS/text, print, e-mail, web, and fax messages each year.  

 

Managed Services: Our managed services offering leverages our 30+ year history in running highly scalable, complex business support solutions to improve operational efficiencies and effectiveness.  For our managed services clients, we assume long-term responsibility for delivering our software solutions and related operations under a defined scope and specified service levels.  Under managed services agreements, we may operate software products (primarily our software solutions) on behalf of our clients: (i) out of a client’s data center; (ii) out of a data center we own and operate; or (iii) out of a third-party data center (including public cloud providers) we contract with for such services.  

 

Mediation and Data Management: Our Total Service Mediation (“TSM”) solution provides a comprehensive framework enabling network operators to achieve maximum efficiency with the lowest cost for all interactions between the network and other business support solution applications and related processes. The TSM framework supports offline and real-time mediation requirements as well as service activation. Recognized for its high performance and exceptional throughput, TSM provides the event processing foundation to manage today’s exploding network traffic.

 

Wholesale Settlement and Routing: Our market-leading Wholesale Business Management Solution (“WBMS”) is a comprehensive and powerful settlements system delivered in either a cloud or stand-alone environment. It handles every kind of traffic – from simple voice to the most advanced data and content services – in a single, highly-integrated platform. It helps operators around the globe improve profits, meet strict regulatory and audit compliance requirements, and comply with the broadest range of global standards.

Historically, a substantial percentage of our total revenues have been generated from ACP and Customer Interaction Management solutions. These products and services are expected to provide a large percentage of our total revenues in the foreseeable future as well.

Business Acquisitions. Our strategy includes acquiring assets and businesses which provide the technology and personnel to expedite our product development efforts, provide complementary products and services, increase market share, and/or provide access to new markets and clients.

Professional Services. We employ professional services experts globally who bring a wide-ranging expertise – including solution architecture, project management, systems implementation, and business consultancy – to every project. We apply a proven methodology to each of our engagements, leveraging consistent world-class processes, best-practice programs, and systemized templates for all engagements.

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Sales and Marketing. We organize our sales efforts to clients primarily within our geographically dispersed, dedicated account teams, with senior level account managers who are responsible for new revenues and renewal of existing contracts within a client account. The account teams are supported by sales support personnel who are experienced in the various products and services that we provide.

Competition. The market for business support solutions products and services in the communications industry, as well as in other industries we serve, is highly competitive. We compete with both independent providers and in-house developers of customer management systems. We believe that our most significant competitors in our primary markets are Amdocs Limited and NEC Corporation; network equipment providers such as Ericsson and Huawei; and internally-developed solutions. Some of our actual and potential competitors have substantially greater financial, marketing, and technological resources than us and in some instances we may actually partner and collaborate with our competitors on large opportunities and projects.

We believe service providers in our industry use the following criteria when selecting a vendor for the mission critical management of their revenue, customer interactions and digital ecosystem: (i) functionality, scalability, flexibility, interoperability, and architecture of the software assets; (ii) the breadth and depth of pre-integrated product solutions; (iii) product quality, client service, and support; (iv) operational excellence and reliability; (v) quality of R&D efforts; and (vi) total cost of ownership. We believe that our products and services allow us to compete effectively in these areas.

Proprietary Rights and Licenses

We rely on a combination of trade secret, copyright, trademark, and patent laws in the United States (“U.S.”) and similar laws in other countries, and non-disclosure, confidentiality, and other types of contractual arrangements to establish, maintain, and enforce our intellectual property rights in our solutions. Despite these measures, any of our intellectual property rights could be challenged, invalidated, circumvented, or misappropriated. Although we hold a limited number of patents and patent applications on some of our newer solutions, we do not rely upon patents as a primary means of protecting our rights in our intellectual property. In any event, there can be no assurance that our patent applications will be approved, that any issued patents will adequately protect our intellectual property, or that such patents will not be challenged by third parties. Also, much of our business and many of our solutions rely on key technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties at all or on reasonable terms. Our failure to adequately establish, maintain, and protect our intellectual property rights could have a material adverse impact on our business, financial condition, and results of operations. For a description of the risks associated with our intellectual property rights, see “Item 1A - Risk Factors - Failure to Protect Our Intellectual Property Rights or Claims by Others That We Infringe Their Intellectual Property Rights Could Substantially Harm Our Business, Financial Condition and Results of Operations.”

Employees

As of December 31, 2016, we had a total of 3,312 employees, an increase of 35 employees when compared to the number of employees we had as of December 31, 2015. Our success is dependent upon our ability to attract and retain qualified employees. We are subject to various foreign employment laws and regulations based on the country in which our employees are located. We believe that our relations with our employees are good.

Available Information

Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy materials, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act are available free of charge on our website at www.csgi.com. Additionally, these reports are available at the SEC’s Public Reference Room at 100 F Street, NE., Washington, D.C. 20549 or on the SEC’s website at www.sec.gov. Information on the operation of the Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330.

Code of Conduct and Business Ethics

A copy of our Code of Conduct and Business Ethics (the “Code of Conduct”) is maintained on our website. Any future amendments to the Code of Conduct, or any future waiver of a provision of our Code of Conduct, will be timely posted to our website upon their occurrence. Historically, we have had minimal changes to our Code of Conduct, and have had no waivers of a provision of our Code of Conduct.

 

 


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I tem 1A.

Risk Factors

We or our representatives from time-to-time may make or may have made certain forward-looking statements, whether orally or in writing, including without limitation, any such statements made or to be made in MD&A contained in our various SEC filings or orally in conferences or teleconferences. We wish to ensure that such statements are accompanied by meaningful cautionary statements, so as to ensure, to the fullest extent possible, the protections of the safe harbor established in the Private Securities Litigation Reform Act of 1995.

Accordingly, the forward-looking statements are qualified in their entirety by reference to and are accompanied by the following meaningful cautionary statements identifying certain important risk factors that could cause actual results to differ materially from those in such forward-looking statements. This list of risk factors is likely not exhaustive. We operate in rapidly changing and evolving markets throughout the world addressing the complex needs of communication service providers, financial institutions, and many others, and new risk factors will likely emerge. Further, as we enter new market sectors such as financial services, as well as new geographic markets, we are subject to new regulatory requirements that increase the risk of non-compliance and the potential for economic harm to us and our clients. Management cannot predict all of the important risk factors, nor can it assess the impact, if any, of such risk factors on our business or the extent to which any risk factor, or combination of risk factors, may cause actual results to differ materially from those in any forward-looking statements. Accordingly, there can be no assurance that forward-looking statements will be accurate indicators of future actual results, and it is likely that actual results will differ from results projected in forward-looking statements and that such differences may be material.

We Derive a Significant Portion of Our Revenues From a Limited Number of Clients, and the Loss of the Business of a Significant Client Could Have a Material Adverse Effect on Our Financial Position and Results of Operations.

Over the past decade, the worldwide communications industry has experienced significant consolidation, resulting in a large percentage of the market being served by a limited number of service providers with greater size and scale, and there are possibilities of further consolidation. Consistent with this market concentration, we generate approximately 60% of our revenues from our three largest clients, which are (in order of size) Comcast, Charter (to include the recently acquired Time Warner business), and DISH, which each individually accounted for 10% or more of our total revenues. See the Significant Client Relationships section of MD&A for key renewal dates and a brief summary of our business relationship with these clients.

There are inherent risks whenever a large percentage of total revenues are concentrated with a limited number of clients. One such risk is that a significant client could: (i) undergo a formalized process to evaluate alternative providers for services we provide; (ii) terminate or fail to renew their contracts with us, in whole or in part for any reason; (iii) significantly reduce the number of customer accounts processed on our solutions, the price paid for our services, or the scope of services that we provide; or (iv) experience significant financial or operating difficulties. Any such development could have a material adverse effect on our financial position and results of operations and/or trading price of our common stock.

Our industry is highly competitive, and as a result, it is possible that a competitor could increase its footprint and share of customers serviced at our expense or a service provider could develop their own internal solutions. While our clients may incur some costs in switching to our competitors or their own internally-developed solutions, they may do so for a variety of reasons, including: (i) price; (ii) dissatisfaction with our solutions or service levels; or (iii) dissatisfaction with our relationships.

We May Not Realize Our Anticipated Growth With Comcast Related to New Customer Account Conversion Opportunities.

In July 2014, we entered into an expanded and extended contract with our largest client, Comcast. The expanded contract provides the framework for Comcast to consolidate its residential business onto our billing solution. Since that time, Comcast has added approximately seven million residential customer accounts onto our billing solution. We believe we have the opportunity to convert up to an additional two to three million Comcast customer accounts that are currently on one of our competitor’s platforms onto our solution over the next year as part of Comcast’s future standardization initiatives for their residential business.

Although Comcast has expressed to us their intention to consolidate their residential customer accounts to our platform, they have no financial or legal requirement to do so. The timing of and the number of customer accounts to be converted to CSG, if any, is at the discretion of Comcast. There can be no assurances, therefore, as to the timing or the number of any new customer accounts converted to us by Comcast.

We May Not Be Able to Efficiently and Effectively Implement New Solutions or Convert Clients onto Our Solutions.

Our continued growth plans include the implementation of new solutions, as well as migrating both new and existing clients to our solutions. Such implementations or conversions (collectively referred to hereafter in this section as “implementations”), regardless of whether they involve new solutions or new customers, have become increasingly more difficult because of the sophistication,

8


 

complexity , and interdependencies of the various software and network environments impacted, combined with the increasing complexity of the clients’ underlying business processes. In addition, the complexity of the implementations increases when the arrangement incl udes other vendors participating in the project, including but not limited to, prime and subcontractor relationships with our company. For these reasons, implementations subject our clients’ to potential business disruption, which could cause them to delay or even cancel future implementations.  

As a result, there is a risk that we may experience cancellations, delays, or unexpected costs associated with implementations. In addition, our inability to complete implementations in an efficient and effective manner could have a material adverse effect on our results of operations, and could damage our reputation in the market place, reducing our opportunity to grow our business with both new and existing clients.

The Delivery of Our Solutions is Dependent on a Variety of Computing Environments and Communications Networks Which May Not Be Available or May Be Subject to Security Attacks.

Our solutions are generally delivered through a variety of third-party and internally-operated computing environments (collectively referred to hereafter in this section as “Systems”). The end users are connected to our Systems through a variety of public and private communications networks, which we will collectively refer to herein as “Networks.” Our solutions are generally considered to be mission critical customer management systems by our clients. As a result, our clients are highly dependent upon the high availability and uncompromised security of our Networks and Systems to conduct their business operations.

Our Networks and Systems are subject to the risk of an extended interruption, outage, or security breach due to many factors such as: (i) planned changes to our Systems and Networks for such things as scheduled maintenance and technology upgrades, or conversions to other technologies, service providers, or physical location of hardware; (ii) defects in software program(s); (iii) human and machine error; (iv) acts of nature; and (v) intentional, unauthorized attacks from computer “hackers”, or cyber-attacks. Most recently, the marketplace is experiencing an ever-increasing exposure to both the number and severity of cyber-attacks.  In addition, we continue to expand our use of the Internet with our product offerings thereby permitting, for example, our clients’ customers to use the Internet to review account balances, order services or execute similar account management functions. Allowing access to our Networks and Systems via the Internet has the potential to increase their vulnerability to unauthorized access and corruption, as well as increasing the dependency of our Systems’ reliability on the availability and performance of the Internet and end users’ infrastructure they obtain through other third party providers.

The method, manner, cause and timing of an extended interruption, outage, or security breach in our Networks or Systems are impossible to predict. As a result, there can be no assurances that our Networks and Systems will not fail, not suffer a security breach or that our business continuity or remediation plans will adequately mitigate the negative effects of a disruption or security breach to our Networks or Systems. Further, our property, technology errors and omissions, and business interruption insurance may not adequately compensate us for losses that we incur as a result of such interruptions or security breaches. Should our Networks or Systems: (i) experience an extended interruption or outage; (ii) have their security breached; or (iii) have their data lost, corrupted or otherwise compromised, it would impede our ability to meet product and service delivery obligations, and likely have an immediate impact to the business operations of our clients. This would most likely result in an immediate loss to us of revenue or increase in expense, as well as damaging our reputation. The loss of confidential information could result in losing the customers’ confidence, as well as imposition of fines and damages. Any of these events could have an immediate, negative impact upon our financial position and our short-term revenue and profit expectations, as well as our long-term ability to attract and retain new clients.

The Occurrence or Perception of a Security Breach or Disclosure of Confidential Personally Identifiable Information Could Harm Our Business.

In providing solutions to our clients, we process, transmit, and store confidential and personally identifiable information (“PII”), including social security numbers and financial information. Our treatment of such information is subject to contractual restrictions and federal, state, and foreign data privacy laws and regulations, which continue to evolve resulting in greater scrutiny over the protection of PII. In response to these evolving restrictions and regulations, we leverage various data encryption strategies and have implemented measures to protect against unauthorized access to such information, and comply with these laws and regulations. These measures include standard industry practices (i.e. ISO-27002 guidelines), periodic security reviews of our systems by independent parties, network firewalls, procedural controls, intrusion detection systems, and antivirus applications. Because of the inherent risks and complexities to defend against cybercrime, these measures may fail to adequately protect this information. Any failure on our part to protect the privacy of personally identifiable information or comply with data privacy laws and regulations may subject us to contractual liability and damages, loss of business, damages from individual claimants, fines, penalties, criminal prosecution, and unfavorable publicity. Even the mere perception of a security breach or inadvertent disclosure of personally identifiable information could damage our reputation and inhibit market acceptance of our solutions. In addition, third party vendors that we engage to perform services for us may unintentionally release personally identifiable information or otherwise fail to comply with applicable laws and regulations. The occurrence of any of these events could have an adverse effect on our business, financial position, and results of operations.

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Our Business is Highly Dependent on the Global Communications Industry.

Since a large percentage of our revenues are generated from clients that operate within the global communications industry sector, we are highly dependent on the health and the business trends occurring within this industry (in particular for our North American cable and satellite clients).  Key factors within this industry that could potentially impact our clients’ businesses, and thus, our business, are as follows:

 

Key Market Conditions:   The global communications industry has undergone significant fluctuations in growth rates and capital investment cycles in the past decade. Current economic indices suggest a slow stabilization of the industry, but it is impossible to predict whether this stabilization will persist or be subject to future instability.

In addition, changes in demand for traditional services for CSPs are causing them to seek new revenue sources, while also managing their cost structure and quality of service delivery during their business transformation. The result is that many CSPs are delaying investment decision on maintaining/advancing legacy systems, and/or making investments in new solutions to drive their business forward into new areas.

 

Market Consolidation: The pace of consolidation within the industry continues to accelerate as service providers look to increase the scale of their operations and footprint within the entire communications ecosystem.  Potential byproducts of this consolidation that could impact us are as follows: (i) there could be fewer providers in the market, each with potentially greater bargaining power and economic leverage due to their larger size, which may result in our having to lower our prices to remain competitive, retain our market share, or comply with the surviving client’s current more favorable contract terms, and (ii) the controlling entity in a consolidation that is not our current client, may acquire one of our existing clients and choose to consolidate both entities onto the controlling entity’s software platform, thus reducing and possibly eliminating our business with our existing client.

Also, as consolidated entities execute upon their revenue and operational synergies, there is generally a slowdown in decision-making on large transformational projects, discretionary spending, and/or on new business initiatives.  While this could be a timing issue only, it could impact quarterly and annual results.  

 

Increased Competition : Our clients operate in a highly competitive environment. Competitors range from traditional wireline and wireless providers to new entrants like new digital lifestyle service providers such as Hulu, YouTube, Google, Netflix, Apple, and Amazon. Should these competitors be successful in their strategies, it could threaten our clients’ market share, pricing power, and level of services delivered, all of which could negatively impact our clients’ revenues, putting pressure on our source of revenues, as generally speaking, these companies do not use our core solutions and there can be no assurance that new entrants will become our clients. In addition, demand for spectrum, network bandwidth and content continues to increase and any changes in the regulatory environment could have a significant impact to not only our clients’ businesses, but in our ability to help our clients be successful.

The above industry factors are impacting our clients’ businesses, and thus could cause delays, cancellations/loss of business, and/or downward pricing pressure on our sales and services. This could cause us to either fall short of revenue expectations or have a cost model that is misaligned with revenues, either or both of which could have a material adverse effect on our financial position and results of operations.  

We May Not Be Able to Respond to Rapid Technological Changes.

The market for business support solutions, such as customer care and billing solutions, is characterized by rapid changes in technology and is highly competitive with respect to the need for timely product innovations and new product introductions. As a result, we believe that our future success in sustaining and growing our revenues depends upon: (i) our ability to continuously expand, adapt, modify, maintain, and operate our solutions to address the increasingly complex and evolving needs of our clients without sacrificing the reliability or quality of the solutions; (ii) the integration of acquired technologies and their widely distributed, complex worldwide operations; and (iii) creating and maintaining an integrated suite of customer care and billing solutions, which are portable to new verticals such as utilities, financial services, and content distribution.  In addition, the market is demanding that our solutions have greater architectural flexibility and interoperability, and that we are able to meet the demands for technological advancements to our solutions at a greater pace. Our attempts to meet these demands subjects our R&D efforts to greater risks.

As a result, substantial and effective R&D and product investment will be required to maintain the competitiveness of our solutions in the market. Technical problems may arise in developing, maintaining, integrating, and operating our solutions as the complexities are increased. Development projects can be lengthy and costly, and may be subject to changing requirements, programming difficulties, a shortage of qualified personnel, and/or unforeseen factors which can result in delays. In addition, we may be responsible for the implementation of new solutions and/or the conversion of clients to new solutions, and depending upon the specific solution, we may also be responsible for operations of the solution.

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There is an inherent risk in the successful development, implementation, conversion , integr ation, and operation of our solutions as the technological complexities, and the pace at which we must deliver these solutions to market, continue to increase. The risk of making an error that causes significant operational disruption to a client, or resul ts in incorrect customer or vendor data processing that we perform on behalf of our clients, increases proportionately with the frequency and complexity of changes to our solutions and new delivery models. There can be no assurance: (i) of continued market acceptance of our solutions; (ii) that we will be successful in the development of enhancements or new solutions that respond to technological advances or changing client needs at the pace the market demands; or (iii) that we will be successful in support ing the implementation, conversion , integration, and/or operations of enhancements or new solutions.

A Reduction in Demand for Our Key Business Support Solutions Could Have a Material Adverse Effect on Our Financial Position and Results of Operations.

Historically, a substantial percentage of our total revenues have been generated from our core cloud-based product, ACP, and related solutions. These solutions are expected to continue to provide a large percentage of our total revenues in the foreseeable future. Any significant reduction in demand for ACP and related solutions could have a material adverse effect on our financial position and results of operations. Likewise, a large percentage of revenues derived from our software license and services business have been derived from wholesale billing, retail billing and mediation products which are typically associated with large implementation projects. A sudden downward shift in demand for these products or for our professional services associated with these products could have a material adverse effect on our financial position and results of operations.

Failure to Attract and Retain Our Key Management and Other Highly Skilled Personnel Could Have a Material Adverse Effect on Our Business.

Our future success depends in large part on the continued service of our key management, sales, product development, professional services, and operational personnel. We believe that our future success also depends on our ability to attract and retain highly skilled technical, managerial, operational, and sales and marketing personnel, including, in particular, personnel in the areas of R&D, professional services, and technical support. Competition for qualified personnel at times can be intense, particularly in the areas of R&D, conversions, software implementations, and technical support. This risk is heightened with a widely dispersed customer base and employee populations. For these reasons, we may not be successful in attracting and retaining the personnel we require, which could have a material adverse effect on our ability to meet our commitments and new product delivery objectives.

Variability of Our Quarterly Revenues and Our Failure to Meet Revenue and Earnings Expectations Would Negatively Affect the Market Price of Our Common Stock.

From time to time, we may experience variability in quarterly revenues and operating results. Common causes of failure to meet revenue and operating expectations include, among others:

 

Inability to close and/or recognize revenue on certain transactions in the period originally anticipated;

 

Delays in renewal of multiple or individually significant agreements;

 

Inability to renew existing arrangements at anticipated rates;

 

Delays in timing of initiation and/or implementation of significant projects or arrangements;

 

Inability to meet client expectations materially within our cost estimates;

 

Changes in spending and investment levels;

 

Foreign currency fluctuations; and

 

Economic and political conditions.

Should we fail to meet our revenue and earnings expectations of the investment community, by even a relatively small amount, it would most likely have a disproportionately negative impact upon the market price of our common stock.

Our International Operations Subject Us to Additional Risks.

We currently conduct a portion of our business outside the U.S. We are subject to certain risks associated with operating internationally including the following items:

 

Product development not meeting local requirements;

 

Fluctuations in foreign currency exchange rates for which a natural or purchased hedge does not exist or is ineffective;

 

Staffing and managing foreign operations;

 

Longer sales cycles for new contracts;

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Longer collection cycles for client billings or accounts receivable, as well as he ightened client collection risks, especially in countries with highly inflationary economies and/or restrictions on the movement of cash out of the country;

 

Trade barriers;

 

Governmental sanctions;

 

Complying with varied legal and regulatory requirements across jurisdictions;

 

Reduced protection for intellectual property rights in some countries;

 

Inability to recover value added taxes and/or goods and services taxes in foreign jurisdictions;

 

Political instability and threats of terrorism; and

 

A potential adverse impact to our overall effective income tax rate resulting from, among other things:

 

Operations in foreign countries with higher tax rates than the U.S.;

 

The inability to utilize certain foreign tax credits; and

 

The inability to utilize some or all of losses generated in one or more foreign countries.

One or more of these factors could have a material adverse effect on our international operations, which could adversely impact our results of operations and financial position.

We May Not Be Successful in the Integration of Our Acquisitions.

As part of our growth strategy, we seek to acquire assets, technology, and businesses which will provide the technology and personnel to expedite our product development efforts, provide complementary solutions, or provide access to new markets and clients.

Acquisitions involve a number of risks and difficulties, including: (i) expansion into new markets and business ventures; (ii) the requirement to understand local business practices; (iii) the diversion of management’s attention to the assimilation of acquired operations and personnel; (iv) being bound by acquired client or vendor contracts with unfavorable terms; and (v) potential adverse effects on a company’s operating results for various reasons, including, but not limited to, the following items: (a) the inability to achieve financial targets; (b) the inability to achieve certain financial expectations, operating goals, and synergies; (c) costs incurred to exit current or acquired contracts or activities; (d) costs incurred to service any acquisition debt; and (e) the amortization or impairment of acquired intangible assets.

Due to the multiple risks and difficulties associated with any acquisition, there can be no assurance that we will be successful in achieving our expected strategic, operating, and financial goals for any such acquisition.

Our International Operations Require Us To Comply With Applicable U.S. and International Laws and Regulations.

Doing business on a worldwide basis requires our company and our subsidiaries to comply with the laws and the regulations of the U.S. government and various international jurisdictions.  In addition, the number of countries enacting anti-corruption laws and related enforcement activities is increasing. These regulations place restrictions on our operations, trade practices and trade partners. In particular, our international operations are subject to U.S. and foreign anti-corruption laws and regulations such as the Foreign Corrupt Practices Act (“FCPA”), the U.K. Anti-Bribery Act and economic sanction programs administered by the Office of Foreign Assets Control (“OFAC”).  

The FCPA prohibits us from providing anything of value to foreign officials for the purposes of influencing official decisions or obtaining or retaining business. In addition, the FCPA imposes accounting standards and requirements on publicly traded U.S. corporations and their foreign affiliates, which are intended to prevent the diversion of corporate funds to the payment of bribes and other improper payments, and to prevent the establishment of “off books” slush funds from which such improper payment can be made. As part of our business, we regularly deal with state-owned business enterprises, the employees of which are considered foreign officials for purposes of the FCPA. In addition, some of the international locations in which we operate lack a developed legal system and have higher than normal levels of corruption. We inform our personnel and third-party sales representatives of the requirements of the FCPA and other anti-corruption laws, including, but not limited to their reporting requirements. We have also developed and will continue to develop and implement systems for formalizing contracting processes, performing due diligence on agents and improving our recordkeeping and auditing practices regarding these regulations. However, there is no guarantee that our employees, third-party sales representatives or other agents have not or will not engage in conduct undetected by our processes and for which we might be held responsible under the FCPA or other anti-corruption laws.

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Economic sanctions programs restrict our business dealings with certain countries and individuals. From time to time, certain of our foreign subsidiaries have had limited business dealings with entities in jurisdictions subject to OFAC-administered sanctions. As a result of our worldwide business, we are exposed to a heightened risk of violating anti-corruption laws and OFAC regulations. Violations of these laws and regulations are punishable by civil penalties, including fines, injunctions, asset seizures, debarment from government contracts and revocations or restrictions of licenses, as well as criminal fines and imprisonment.

Our Use of Open Source Software May Subject Us to Certain Intellectual Property-Related Claims or Require Us to Re-Engineer Our Software, Which Could Harm Our Business.

We use open source software in connection with our solutions, processes, and technology. Companies that use or incorporate open source software into their products have, from time to time, faced claims challenging their use, ownership and/or licensing rights associated with that open source software. As a result, we could be subject to suits by parties claiming certain rights to what we believe to be open source software. Some open source software licenses require users who distribute open source software as part of their software to publicly disclose all or part of the source code in their software and make any derivative works of the open source code available on unfavorable terms or at no cost. In addition to risks related to license requirements, use of open source software can lead to greater risks than use of third party commercial software, as open source licensors generally do not provide warranties, support, or controls with respect to origin of the software. Use of open source software also complicates compliance with export-related laws. While we take measures to protect our use of open source software in our solutions, open source license terms may be ambiguous, and many of the risks associated with usage of open source software cannot be eliminated. If we were found to have inappropriately used open source software, we may be required to release our proprietary source code, re-engineer our software, discontinue the sale of certain solutions in the event re-engineering cannot be accomplished on a timely basis, or take other remedial action that may divert resources away from our development efforts, any of which could adversely affect our business, financial position, and results of operations.

We Face Significant Competition in Our Industry.

The market for our solutions is highly competitive. We directly compete with both independent providers and in-house solutions developed by existing and potential clients. In addition, some independent providers are entering into strategic alliances with other independent providers, resulting in either new competitors, or competitors with greater resources. Many of our current and potential competitors have significantly greater financial, marketing, technical, and other competitive resources than our company, many with significant and well-established domestic and international operations. There can be no assurance that we will be able to compete successfully with our existing competitors or with new competitors.

Failure to Protect Our Intellectual Property Rights or Claims by Others That We Infringe Their Intellectual Property Rights Could Substantially Harm Our Business, Financial Position and Results of Operations.

We rely on a combination of trade secret, copyright, trademark, and patent laws in the U.S. and similar laws in other countries, and non-disclosure, confidentiality, and other types of contractual arrangements to establish, maintain, and enforce our intellectual property rights in our solutions. Despite these measures, any of our intellectual property rights could be challenged, invalidated, circumvented, or misappropriated. Further, our contractual arrangements may not effectively prevent disclosure of our confidential information or provide an adequate remedy in the event of unauthorized disclosure of our confidential information. Others may independently discover trade secrets and proprietary information, which may complicate our assertion of trade secret rights against such parties. Costly and time consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and failure to obtain or maintain trade secret protection could adversely affect our competitive business position. In addition, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the U.S. Therefore, in certain jurisdictions, we may be unable to protect our proprietary technology adequately against unauthorized third party copying or use, which could adversely affect our competitive position.

Although we hold a limited number of patents and patent applications on some of our solutions, we do not rely upon patents as a primary means of protecting our rights in our intellectual property. In any event, there can be no assurance that our patent applications will be approved, that any issued patents will adequately protect our intellectual property, or that such patents will not be challenged by third parties. Also, much of our business and many of our solutions rely on key technologies developed or licensed by third parties, and we may not be able to obtain or continue to obtain licenses and technologies from these third parties at all or on reasonable terms.

Finally, third parties may claim that we, our clients, licensees or other parties indemnified by us are infringing upon their intellectual property rights. Even if we believe that such claims are without merit, they can be time consuming and costly to defend and distract management’s and technical staff’s attention and resources. Claims of intellectual property infringement also might require us to redesign affected solutions, enter into costly settlement or license agreements or pay costly damage awards, or face a temporary or permanent injunction prohibiting us from marketing or selling certain of our solutions. Even if we have an agreement to indemnify us against such costs, the indemnifying party may be unable to uphold its contractual obligations. If we cannot or do not license the

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infringed technology on reasonable pricing terms or at all, or substitute similar technology from another source, our business, financial position, and results of operations could be adversely impacted. Our failure to adequately establish, maintain, and protect our intellectual property rights could have a material adverse impact on our business, financial position, and results of operations.

We May Incur Material Restructuring Charges in the Future.

In the past, we have recorded restructuring charges related to involuntary employee terminations, various facility abandonments, and various other restructuring and reorganization activities. We continually evaluate ways to reduce our operating expenses through new restructuring opportunities, including more effective utilization of our assets, workforce, and operating facilities. As a result, there is a risk, which is increased during economic downturns and with expanded global operations, that we may incur material restructuring or reorganization charges in the future.

Substantial Impairment of Goodwill and Other Long-lived Assets in the Future May Be Possible.

As a result of various acquisitions and the growth of our company over the last several years, we have approximately $201 million of goodwill, and $104 million of long-lived assets other than goodwill (principally, property and equipment, software, and client contracts) as of December 31, 2016. These long-lived assets are subject to ongoing assessment of possible impairment summarized as follows:

 

Goodwill is required to be tested for impairment on an annual basis. We have elected to do our annual test for possible impairment as of July 31 of each year. In addition to this annual requirement, goodwill is required to be evaluated for possible impairment on a periodic basis (e.g., quarterly) if events occur or circumstances change that could indicate a possible impairment may have occurred.

 

Long-lived assets other than goodwill are required to be evaluated for possible impairment whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable.

We utilize our market capitalization and/or cash flow models as the primary basis to estimate the fair value amounts used in our goodwill and other long-lived asset impairment valuations. If an impairment was to be recorded in the future, it could materially impact our results of operations in the period such impairment is recognized, but such an impairment charge would be a non-cash expense, and therefore would have no impact on our cash flows.

 

I tem  1B.

Unresolved Staff Comments

None.

 

I tem 2.

Properties

As of December 31, 2016, we were operating in over 25 leased sites around the world, representing approximately 550,000 square feet.

Our corporate headquarters is located in Englewood, Colorado. In addition, we lease office space in the U.S. in Atlanta, Georgia; Bloomfield, New Jersey; Chicago, Illinois; Columbia, Maryland; Omaha, Nebraska; and Philadelphia, Pennsylvania. The leases for these office facilities expire in the years 2017 through 2025. We also maintain leased facilities internationally in Australia, Brazil, Canada, China, Colombia, Denmark, France, India, Ireland, Malaysia, South Africa, Sweden, United Arab Emirates, and the U.K. The leases for these international office facilities expire in the years 2017 through 2025. We utilize these office facilities primarily for the following: (i) client services, training, and support; (ii) product and operations support; (iii) systems and programming activities; (iv) professional services staff; (v) R&D activities; (vi) sales and marketing activities; and (vii) general and administrative functions.

Additionally, we lease two statement production and mailing facilities totaling approximately 176,000 square feet. These facilities are located in: (i) Omaha, Nebraska; and (ii) Crawfordville, Florida. The leases for these facilities expire in the 2018 and 2019, respectively.

We believe that our facilities are adequate for our current needs and that additional suitable space will be available as required. We also believe that we will be able to either: (i) extend our current leases as they terminate; or (ii) find alternative space without experiencing a significant increase in cost. See Note 9 to our Financial Statements for information regarding our obligations under our facility leases.

 

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I tem  3.

Legal Proceedings

From time-to-time, we are involved in litigation relating to claims arising out of our operations in the normal course of business. In the opinion of our management, we are not presently a party to any material pending or threatened legal proceedings.

 

I tem 4.

Mine Safety Disclosures

Not applicable.

************************************************************************************************

Executive Officers of the Registrant

Our executive officers are Bret C. Griess (President and Chief Executive Officer), Randy R. Wiese (Executive Vice President and Chief Financial Officer), Brian A. Shepherd (Executive Vice President and President Broadband, Cable and Satellite), and Kenneth M. Kennedy (Executive Vice President, Product Development).  We have employment agreements with each of the executive officers.

Bret C. Griess

President and Chief Executive Officer

Mr. Griess, 48, serves as our President and Chief Executive Officer.  He joined CSG in 1996 and held a variety of positions in Operations and Information Technology, until being appointed Executive Vice President of Operations in February 2009, Chief Operating Officer in March 2011, and President in June 2015. In January 2016, Mr. Griess was appointed President and Chief Executive Officer and a member of our Board.  Prior to joining CSG, Mr. Griess was Genesis Product Manager with Chief Automotive Systems from 1995 to 1996, and an information systems analyst with the Air Force from 1990 to 1995. Mr. Griess holds a M.A. degree in Management and a B.S. degree in Management from Bellevue University in Nebraska, an A.A.S. degree from the Community College of the Air Force, and an A.S. degree in Business Administration from Eastern Florida State College, formerly Brevard Community College.

Randy R. Wiese

Executive Vice President and Chief Financial Officer

Mr. Wiese, 57, serves as Executive Vice President and Chief Financial Officer for CSG. Mr. Wiese joined CSG in 1995 as Controller and later served as Chief Accounting Officer. He was named Executive Vice President and Chief Financial Officer in April 2006. Prior to joining CSG, he was manager of audit and business advisory services and held other accounting-related positions at Arthur Andersen & Co. Mr. Wiese is a member of the AICPA and the Nebraska Society of Certified Public Accountants. He holds a B.S. degree in Accounting from the University of Nebraska-Omaha.

Kenneth M. Kennedy

Executive Vice President, Product Development

Mr. Kennedy, 47, became Executive Vice President of Product Development in March 2016. In this role, he defines CSG’s product and technology roadmap while aligning the company’s technical vision with its business strategy. Mr. Kennedy is responsible for the definition, development and operations of CSG’s software solutions. Prior to this role, he served as CSG’s Chief Technology Officer and Senior Vice President of Product Management, Development and Operations from 2006 to 2016, managing CSG’s software development organization and implementing technology initiatives for CSG’s product offerings. Prior to his role at CSG, Mr. Kennedy was one of the original founders of Telution where he served as Vice President of Software Development and Professional Services from 1998 to 2006. Prior to Telution, Mr. Kennedy worked at Andersen Consulting where he was responsible for developing highly-scalable distributed software solutions for the manufacturing, financial services, and communications industries. Mr. Kennedy received a Bachelor of Business Administration and Management Information Systems from the University of Notre Dame.

Brian A. Shepherd

Executive Vice President and President, Global Broadband, Cable and Satellite Business

Mr. Shepherd, 49, serves as Executive Vice President and President of Global Broadband, Cable and Satellite Business for CSG. He joined CSG in 2016 to focus on accelerating the growth and strategic direction of CSG’s global broadband, cable and direct broadcast satellite business, where CSG has served as a trusted partner to the largest companies in the industry for more than 30 years. Mr.

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Shepherd is an international business expert with strong management, customer relationship, global sales, strategy and corporate growth experience. In previous executive roles at companies such as TeleTech, Amdocs, DST Innovis, and McKinsey & Company, Shepherd built wide and deep relationships with C-Suite leaders, decision-makers and policy influencers who have shaped these industries globally. Mr. Shepherd graduated Mag na cum laude in Economics from Wabash College and received a Master of Business Administration degree from Harvard Business School.

 

Board of Directors of the Registrant

Information related to our Board of Directors (the “Board”) is provided below.

Donald B. Reed

Mr. Reed, 72, was elected to the Board in May 2005 and has served as the Company’s non-executive Chairman of the Board since January 2010. Mr. Reed is presently retired. He served as Chief Executive Officer of Cable & Wireless Global from 2000 to 2003. Cable & Wireless Global, a subsidiary of Cable & Wireless plc, is a provider of internet protocol (“IP”) and data services to business customers in the U.S., United Kingdom, Europe, and Japan. From June 1998 until May 2000, Mr. Reed served Cable & Wireless in various other executive positions. Mr. Reed’s career includes 30 years at NYNEX Corporation (now part of Verizon), a regional telephone operating company. From 1995 to 1997, Mr. Reed served NYNEX Corporation as President and Group Executive with responsibility for directing the company’s regional, national, and international government affairs, public policy initiatives, legislative and regulatory matters, and public relations. Mr. Reed holds a B.A. degree in History from Virginia Military Institute.

Bret C. Griess

Mr. Griess’ biographical information is included in the “Executive Officers of the Registrant” section shown directly above.

David G. Barnes

Mr. Barnes, 55, was appointed to the Board in February 2014. He currently serves as Senior Vice President, Finance of Stantec Inc., a publicly traded global provider of engineering, consulting, and construction services. From 2009 through 2016 he served as Executive Vice President and Chief Financial Officer of MWH Global Inc., an employee-owned engineering and construction firm. MWH Global Inc. was acquired by Stantec Inc. in 2016.  From 2006 to 2008, he was Executive Vice President of Western Union Financial Services. From 2004 to 2006, Mr. Barnes served as Chief Financial Officer of Radio Shack Corporation. From 1999 to 2004, he was Vice President, Treasurer and U.S. Chief Financial Officer for Coors Brewing Company. Mr. Barnes holds a M.B.A. degree from the University of Chicago and a B.A. degree from Yale University.

Ronald H. Cooper

Mr. Cooper, 60, was elected to the Board in November 2006. He is presently retired.  He most recently served as the President and Chief Executive Officer of Clear Channel Outdoor Americas, Inc. from 2009 through 2012. Prior to this position, he was a Principal at Tufts Consulting LLC from 2006 through 2009. Previously, he spent nearly 25 years in the cable and telecommunications industry, most recently at Adelphia Communications where he served as President and Chief Operating Officer from 2003 to 2006. Prior to Adelphia, Mr. Cooper held a series of executive positions at AT&T Broadband, RELERA Data Centers & Solutions, MediaOne and its predecessor Continental Cablevision, Inc. He has served on various boards of directors and committees with the National Cable Television Association, California Cable & Telecommunications Association, Cable Television Association for Marketing, New England Cable Television Association, and Outdoor Advertising Association of America. Mr. Cooper holds a B.A. degree from Wesleyan University.

Marwan H. Fawaz

 

Mr. Fawaz, 54, was appointed to the Board in March 2016.  Mr. Fawaz is currently the CEO of Nest Labs, Inc., an Alphabet company. With more than 28 years of experience in the media, cable, telecommunications and broadband industries, Mr. Fawaz offers a wealth of knowledge and expertise, developed from his time as Executive Vice President and Chief Executive Officer of Google/Motorola Mobility from 2012 to 2013 and Executive Vice President of Strategy and Operations and Chief Technology Officer of Charter Communications from 2006 to 2011.  In addition, he served as Senior Vice President and Chief Technology Officer of Adelphia Communications from 2003 to 2006, and held leadership positions for other cable industry companies such as MediaOne, among others.  In addition, he was the founder and principal of Sarepta Advisors, a strategic advisory and consulting group supporting the technology, media and telecommunications industries.  He holds a M.S. degree in Electrical and Communication Engineering and a B.S. degree in Electrical Engineering, both from California State University at Long Beach.

16


 

John L. M. Hughes

Mr. Hughes, 65, was appointed to the Board in March 2011. Mr. Hughes previously served as Chairman of the Board for Intec Telecom Systems plc for nearly six years until it was acquired by us in 2010. Mr. Hughes currently serves as Chairman of the Board for Just-Eat Group plc and Spectris plc, and for privately-held IQSA Group. He is also a Director on the boards for Equinix, Inc. and privately-held Scorpion Ventures Limited.  During the past five years, Mr. Hughes was formerly a Director on the boards of the public companies of Sepura plc, Telecity Group plc, and Vitec Group plc. Mr. Hughes has been an advisor to Oakley Corporate Finance since 2012 and previously served as an advisor to Advent International, a private equity fund, from 2008 to 2011.  Prior to his board positions, from 2000 to 2004, Mr. Hughes served as Executive Vice President and Chief Operating Officer for Thales Group, a European provider of complex systems for the defense, aerospace, and commercial markets. Prior to 2000, he served as President of GSM/UMTS Wireless Networks of Lucent Technologies, and as a Director of Convex Global Field Operations and Vice President and Managing Director of Convex Europe, a division of Hewlett‑Packard Company. Mr. Hughes holds a B.S. degree in Electrical and Electronic Engineering from the Hatfield Polytechnic (now the University of Hertfordshire).

Janice I. Obuchowski

Ms. Obuchowski, 65, was elected to the Board in November 1997. Ms. Obuchowski is the founder and President of Freedom Technologies, Inc., a research and consulting firm providing public policy, strategic, and engineering advice to companies in the communications sector, government agencies, and international clients, a position she has held since 1992. In 2003, Ms. Obuchowski was appointed by President George W. Bush to serve as Ambassador and Head of the U.S. Delegation to the World Radiocommunication Conference. She has served as Assistant Secretary for Communications and Information at the Department of Commerce and Administrator for the National Telecommunications and Information Administration (“NTIA”) and as the head of international government relations at NYNEX Corporation. She also has served on several non-profit and other publicly traded company boards. She holds a J.D. degree from Georgetown University and a B.A. degree from Wellesley College, and also attended the University of Paris.

Frank V. Sica

Mr. Sica, 66, has served as a director of the Company since its formation in 1994. Mr. Sica is currently a Managing Partner of Tailwind Capital. From 2004 to 2005, Mr. Sica was a Senior Advisor to Soros Private Funds Management. From 2000 until 2003, he was President of Soros Private Funds Management, where he oversaw the direct real estate and private equity investment activities of Soros. In 1998, he joined Soros Fund Management where he was a Managing Director responsible for Soros’ private equity investments. Mr. Sica was previously Managing Director for Morgan Stanley Merchant Banking Division. He currently serves as a Director on the boards of JetBlue Airways, Kohl’s Corporation, and Safe Bulkers, Inc. Mr. Sica holds a M.B.A. degree from the Tuck School of Business at Dartmouth College and a B.A. degree from Wesleyan University.

Donald V. Smith

Mr. Smith, 74, was elected to the Board in January 2002. Mr. Smith is presently retired. Previously, he served as Senior Managing Director of Houlihan Lokey Howard & Zukin, Inc., an international investment banking firm with whom he had been associated from 1988 through 2009, and where he served on the board of directors. From 1978 to 1988, he served as Principal with Morgan Stanley & Co. Inc., where he headed the company’s valuation and reorganization services. He also serves on the board of directors of several non-profit organizations. Mr. Smith holds a M.B.A. degree from the Wharton Graduate School of the University of Pennsylvania and a B.S. degree from the United States Naval Academy.

James A. Unruh

Mr. Unruh, 76, was elected to the Board in June 2005. Mr. Unruh became a founding Principal of Alerion Capital Group, LLC (a private equity investment company) in 1998 and currently holds such position. Mr. Unruh was an executive with Unisys Corporation from 1987 to 1997, including serving as its Chairman and Chief Executive Officer from 1990 to 1997. From 1982 to 1986, Mr. Unruh held various executive positions, including Senior Vice President-Finance and Chief Financial Officer with Burroughs Corporation, a predecessor of Unisys Corporation. Prior to 1982, Mr. Unruh was Chief Financial Officer with Memorex Corporation and also held various executive positions with Fairchild Camera and Instrument Corporation, including Chief Financial Officer. Mr. Unruh currently serves as Director on the board of Tenet Healthcare Corporation, and formerly served as Director on the boards for Prudential Financial, Inc. and CenturyLink, Inc. during the past five years. He holds a M.B.A. degree from the University of Denver and a B.S. degree from the University of Jamestown.

 

17


 

P ART II

 

I tem  5.

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

Our common stock is listed on NASDAQ under the symbol ‘‘CSGS’’. The following table sets forth, for the fiscal quarters indicated, the high and low sale prices of our common stock as reported by NASDAQ.

 

2016 :

  

High

 

  

Low

 

  

Dividends
Declared

 

 

First quarter

  

$

45.96

  

  

$

32.45

  

  

$

0.185

  

Second quarter

  

 

46.54

  

  

 

38.47

  

  

 

0.185

  

Third quarter

  

 

44.76

  

  

 

39.38

  

  

 

0.185

  

Fourth quarter

  

 

49.85

  

  

 

36.33

  

  

 

0.185

  

 

2015 :

  

High

 

  

Low

 

  

Dividends
Declared

 

 

First quarter

  

$

30.95

  

  

$

23.72

  

  

$

0.175

  

Second quarter

  

 

32.80

  

  

 

28.69

  

  

 

0.175

  

Third quarter

  

 

33.20

  

  

 

29.18

  

  

 

0.175

  

Fourth quarter

  

 

38.85

  

  

 

30.54

  

  

 

0.175

  

On February 21, 2017, the last sale price of our common stock as reported by NASDAQ was $39.99 per share. On January 31, 2017, the number of holders of record of common stock was 140.

Dividends

In June 2013, our Board approved the initiation of a quarterly cash dividend to be paid to our stockholders for the first time in our history. Quarterly cash dividends were paid to stockholders in March, June, September, and December of 2016 and 2015, as detailed in the table above.  Going forward, we expect to continue to pay dividends each year in March, June, September, and December, with the amount and timing subject to the Board’s approval. In January 2017, our Board declared a dividend of $0.1975 per share of common stock to be paid on March 30, 2017 for shareholders of record as of the close of business on March 15, 2017.

The payment of dividends is subject to the covenants of our Credit Agreement, and has certain impacts to our convertible debt (the 2010 Convertible Notes and the 2016 Convertible Notes). See Note 5 to our Financial Statements for additional discussion of our long-term debt.


18


 

Stock Price Performance

The following graph compares the cumulative total stockholder return on our common stock, the Russell 2000 Index, and our Standard Industrial Classification (“SIC”) Code Index: Data Preparation and Processing Services during the indicated five-year period. The graph assumes that $100 was invested on December 31, 2011, in our common stock and in each of the two indexes, and that all dividends, if any, were reinvested.

 

 

 

As of December 31,

 

 

 

2011

 

 

2012

 

 

2013

 

 

2014

 

 

2015

 

 

2016

 

CSG Systems International, Inc.

 

$

100.00

 

 

$

123.59

 

 

$

203.45

 

 

$

177.56

 

 

$

260.52

 

 

$

356.63

 

Russell 2000 Index

 

 

100.00

 

 

 

116.35

 

 

 

161.52

 

 

 

169.43

 

 

 

161.95

 

 

 

196.45

 

Data Preparation and Processing Services

 

 

100.00

 

 

 

116.63

 

 

 

172.17

 

 

 

186.53

 

 

 

205.84

 

 

 

239.36

 

Equity Compensation Plan Information

The following table summarizes certain information about our equity compensation plans as of December 31, 2016:

 

Plan Category

 

Number of securities to be issued upon exercise of outstanding options, warrants, and rights

 

Weighted-average exercise price of outstanding options, warrants, and rights

 

 

Number of securities remaining available for future issuance

 

Equity compensation plans approved by security holders

 

 

$

-

 

 

 

3,971,423

 

Of the total number of securities remaining available for future issuance, 3,574,456 shares can be used for various types of stock-based awards, as specified in the equity compensation plan, with the remaining 396,967 shares to be used for our employee stock purchase plan. See Note 11 to our Financial Statements for additional discussion of our equity compensation plans.

19


 

Issuer Repurchases of Equity Securities

The following table presents information with respect to purchases of our common stock made during the fourth quarter of 2016 by CSG Systems International, Inc. or any “affiliated purchaser” of CSG Systems International, Inc., as defined in Rule 10b-18(a)(3) under the Exchange Act.

 

Period

 

Total

Number of Shares

Purchased (1) (2)

 

 

Average

Price Paid

Per Share

 

 

Total Number of

Shares Purchased as

Part of Publicly

Announced Plans or

Programs (2)

 

 

Maximum Number

(or Approximate

Dollar Value) of

Shares that May

Yet Be Purchased

Under the Plan or

Programs (2)

 

October 1 - October 31

 

 

42,357

 

 

$

38.44

 

 

 

41,019

 

 

 

6,754,777

 

November 1 - November 30

 

 

27,805

 

 

 

40.06

 

 

 

12,510

 

 

 

6,742,267

 

December 1 - December 31

 

 

-

 

 

 

-

 

 

 

-

 

 

 

6,742,267

 

Total

 

 

70,162

 

 

$

39.08

 

 

 

53,529

 

 

 

 

 

 

(1)

The total number of shares purchased that are not part of the Stock Repurchase Program represents shares purchased and cancelled in connection with stock incentive plans.

 

(2)

See Note 10 to our Financial Statements for additional information regarding our share repurchases.

 

 


20


 

I tem 6. Selected Financial Data

The following selected financial data have been derived from our audited financial statements. The selected financial data presented below should be read in conjunction with, and is qualified by reference to, our MD&A and our Financial Statements. The information below is not necessarily indicative of the results of future operations.

 

 

 

Year Ended December 31,

 

 

 

2016

 

 

2015

 

 

2014

 

 

2013

 

 

2012

 

 

 

(in thousands, except per share amounts)

 

Statements of Income Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues (1)(2)

 

$

760,958

 

 

$

752,520

 

 

$

751,286

 

 

$

747,468

 

 

$

756,866

 

Operating income (1)(2)

 

 

132,629

 

 

 

113,140

 

 

 

75,690

 

 

 

76,704

 

 

 

96,574

 

Net income

 

 

62,882

 

 

 

62,567

 

 

 

35,711

 

 

 

45,268

 

 

 

47,120

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted-average diluted shares outstanding

 

 

33,014

 

 

 

33,438

 

 

 

33,736

 

 

 

32,873

 

 

 

32,476

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted net income per common share

 

$

1.90

 

 

$

1.87

 

 

$

1.06

 

 

$

1.38

 

 

$

1.45

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividend declared per share (4)

 

$

0.74

 

 

$

0.70

 

 

$

0.62

 

 

$

0.45

 

 

$

-

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Key Capital Activities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares repurchased under Stock Repurchase Program (5)

 

 

318

 

 

 

1,838

 

 

 

733

 

 

 

500

 

 

 

823

 

Cost of shares repurchased under Stock Repurchase Program (5)

 

$

11,565

 

 

$

56,959

 

 

$

19,106

 

 

$

10,129

 

 

$

13,350

 

Dividends declared (4)

 

 

23,753

 

 

 

22,852

 

 

 

21,327

 

 

 

15,214

 

 

 

-

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance Sheet Data (at Period End):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash, cash equivalents and short-term investments (3)

 

$

276,498

 

 

$

240,936

 

 

$

201,800

 

 

$

210,837

 

 

$

169,321

 

Total assets (6)

 

 

891,879

 

 

 

862,731

 

 

 

839,367

 

 

 

848,705

 

 

 

817,964

 

Total debt (3)(6)

 

 

416,260

 

 

 

279,130

 

 

 

250,376

 

 

 

257,269

 

 

 

264,486

 

Total treasury stock (5)

 

 

826,002

 

 

 

814,437

 

 

 

757,478

 

 

 

738,372

 

 

 

728,243

 

Total stockholders' equity (4)

 

 

251,360

 

 

 

345,845

 

 

 

358,633

 

 

 

358,262

 

 

 

324,880

 

 

(1)

On July 13, 2012, we acquired the Ascade business, and as a result, approximately six months of their operations are included in our 2012 results (approximately $9 million of revenue impact) and a full twelve months of their operations are included in our 2013, through 2016 results. The overall cost of the Ascade acquisition was approximately $19 million, and was paid from existing cash.

(2)

In September 2015, we sold our cyber-security business, marketed under the Invotas brand, to certain former management personnel, resulting in a gain on the sale of $3.7 million.  In February 2016, this business was acquired by a third-party.  Based on the terms of the agreement, we received additional consideration upon a liquidation event, as defined in the agreement, which resulted in an additional gain on the sale of $6.6 million. The impact of Invotas to our business prior to the divestiture date was not material.

On July 1, 2013, we sold a small print operation, and on December 31, 2013, we sold our marketing analytics business marketed under the Quaero brand.  As a result of these divestitures, 2014 revenue levels were approximately $13 million lower when compared to our 2013 revenues generated from these businesses. We sold these businesses for a total of approximately $6 million, and recorded a total loss on the dispositions of approximately $3 million.

(3)

In March 2016, we completed an offering of $230 million of 4.25% senior convertible notes due March 15, 2036.  The net proceeds of approximately $223 million will be used to settle the outstanding 2010 Convertible Notes, due March 1, 2017.  As of December 31, 2016, we have repurchased approximately $115 million of the 2010 Convertible Notes for approximately $216 million.  The remainder of the proceeds will be used to settle the outstanding principal amount of the 2010 Convertible Notes.  

In February 2015, we refinanced our Credit Agreement.  As a result, under the refinanced Credit Agreement, we: (i) extended the term of the agreement to February 2020; (ii) increased the amount of the revolving credit facility from $100 million to $200 million; and (iii) borrowed $150 million, resulting in a net increase of available cash of $30 million, after paying off the outstanding $120 million balance from the term loan under the previous Credit Agreement.

In November 2012, we refinanced our Credit Agreement, and as a result, under the refinanced Credit Agreement, we: (i) borrowed $150 million, thus paying down $18 million of outstanding debt; and (ii) extended the term from 2015 to 2017.

See Note 5 to our Financial Statements for additional discussion of our debt.

(4)

In June 2013, our Board approved the initiation of a quarterly cash dividend to be paid to our stockholders for the first time in our history.  Quarterly dividends are typically paid each year in March, June, September, and December with the amount and timing subject to the Board’s approval.  Because of the timing of when we initiated our dividend, 2013 only includes three quarterly dividends.

(5)

In March 2015, we entered into an accelerated share repurchase (“ASR”) Agreement with a counterparty to repurchase $50 million of our common stock.  Final share settlement occurred in December 2015, with total shares purchased under the ASR Agreement of 1.6 million.

21


 

(6)

In 2016, we adopted Accounting Standards Update (“ASU”) 2015-03, Interest-Imputation of In terest (Subtopic 835-30) and ASU 2015-17, Income Taxes (Topic 740) .  ASU 2015-0 3 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a reduction from the carrying amount of that debt liability, cons istent with debt discounts.  ASU 2015-17 requires that all deferred tax liabilities and assets be classified as noncurrent. We adopted both ASU’s on January 1, 2016, which resulted in a reclassification of our Balance Sheets for the periods presented.

 

 


22


 

I tem 7.

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

Forward-Looking Statements

This report contains a number of forward-looking statements relative to our future plans and our expectations concerning our business and the industries we serve. These forward-looking statements are based on assumptions about a number of important factors, and involve risks and uncertainties that could cause actual results to differ materially from estimates contained in the forward-looking statements. Some of the risks that are foreseen by management are outlined above within Item 1A., “Risk Factors”. Item 1A. constitutes an integral part of this report, and readers are strongly encouraged to review this section closely in conjunction with MD&A.

MD&A Basis of Discussion - Impact of Divestiture

In September 2015, we sold our cyber-security business, marketed under the Invotas brand, to certain former management personnel, resulting in a gain on the sale of $3.7 million, which is included in restructuring and reorganization charges in our 2015 Income Statement.  The impact of Invotas to our business prior to the divestiture date was not material.  We retained a minority interest in the business such that the results of operations from the business are not included in our financial statements subsequent to the divestiture date.  

In February 2016, this business was acquired by a third-party.  Based on the terms of our agreement with former management personnel, we received additional consideration contingent upon a liquidation event, as defined in the agreement, resulting in an additional gain on the sale of approximately $6.6 million, which reduced our 2016 restructuring and reorganization charges in our Income Statement.

Management Overview

Results of Operations. A summary of our results of operations for 2016 and 2015, and other key performance metrics are as follows (in thousands, except percentages and per share amounts):

 

 

 

 

Year Ended December 31,

 

 

 

 

2016

 

 

2015

 

Revenues

 

 

$

760,958

 

 

$

752,520

 

Operating Results:

 

 

 

 

 

 

 

 

 

Operating income

 

 

 

132,629

 

 

 

113,140

 

Operating income margin

 

 

 

17.4

%

 

 

15.0

%

Diluted EPS

 

 

$

1.90

 

 

$

1.87

 

Supplemental Data:

 

 

 

 

 

 

 

 

 

Restructuring and reorganization charges

 

 

$

416

 

 

$

3,074

 

Stock-based compensation (1)

 

 

 

22,795

 

 

 

21,371

 

Amortization of acquired intangible assets

 

 

 

8,489

 

 

 

11,983

 

Amortization of OID

 

 

 

4,866

 

 

 

6,246

 

Loss on repurchase of convertible notes

 

 

 

(8,651

)

 

 

 

(1)

Stock-based compensation included in the table above excludes amounts that have been recorded in restructuring and reorganization charges.

Revenues. Our revenues for 2016 were $761.0 million, a 1% increase when compared to $752.5 million for 2015. The increase can be primarily attributed to a 5% increase in our cloud and related solutions revenues.  The increase in our cloud and related solutions revenues for 2016 was driven largely by the conversion of new customer accounts onto ACP during the year, and increases in revenues from recurring managed services arrangements.  These increases more than offset the decline in our software and services and maintenance revenues.

Operating Results. Operating income for 2016 was $132.6 million, or a 17.4% operating income margin percentage, compared to $113.1 million, or a 15.0% operating income margin percentage for 2015, with the increase mainly attributed to the scale benefits we are achieved from increasing the number of customer accounts to our cloud solutions, and operational cost improvements made throughout 2015 and 2016, to include the divestiture of Invotas in 2015, discussed above.

Diluted EPS. Diluted EPS for 2016 was $1.90 compared to $1.87 for 2015 with the increase primarily attributed to the higher operating margin, which more than offset the negative impact of the loss on the repurchase of the 2010 Convertible Notes and higher interest expense, both related to the refinancing of this instrument earlier this year.

23


 

Balance Sheet and Cash Flows. As of December 31, 2016, we had cash, cash equivalents, and short-term investments of $ 276.5 million, as compared to $240.9 million as of December 31, 2015. Cash flows from operatin g activities for 2016 were $ 84.2 million, compared to $137.0 million for 2015 . Cash flows from operations for 2016 were negatively impacted by year end working capital timing fluctuations and a payment made at year end as part of the closure of several ye ars of outstanding tax audits with the IRS.   See the Liquidity section below for further discussion of our cash flows.

Significant Client Relationships

Comcast . Comcast continues to be our largest client. For 2016 and 2015, revenues from Comcast were $196 million and $177 million, respectively, representing approximately 26% and 24% of our total revenues. This increase is driven primarily by the conversion of additional Comcast customer accounts to our platform, as noted below.  Our agreement with Comcast runs through June 30, 2019, with an option to extend the agreement for two consecutive one-year terms by exercising the renewal options no later than January 1, 2019 for the first extension option, and January 1, 2020 for the second extension option.

Since July 2014, when we entered into an expanded and extended contract with Comcast, we have converted approximately seven million residential Comcast customer accounts onto ACP. We believe we have the opportunity to convert up to an additional two to three million Comcast customer accounts that are currently on one of our competitor’s platforms onto our solution over the next year as part of Comcast’s future standardization initiatives for their residential business. However, the timing of and the number of additional customer accounts to be converted to CSG, if any, is at the discretion of Comcast. Therefore, there can be no assurances as to the timing or the number of additional customer accounts converted to us by Comcast, or whether we will experience any further material increase in revenues or profits under the Amended Agreement. See our Risk factors for additional discussion.

A copy of the Comcast agreement and related amendments, with confidential information redacted, is included in the exhibits to our periodic filings with the SEC.

Charter/Time Warner. In May 2016, Charter, our then fourth largest client, received final approval from regulators and closed on its acquisition of Time Warner, which was previously our third largest client.  Consequently, the Time Warner agreement was assigned to Charter in connection with the merger and the Time Warner customer accounts serviced by us are now owned by Charter.  As a result, Charter now receives more favorable volume-tier pricing terms due to their larger, combined business with us.  

Subsequent to this acquisition, Charter is our second largest client. Our revenues from the combined Charter/Time Warner entity for 2016 and 2015 were $160 million and $155 million, respectively, representing approximately 21% of our total revenues for both periods.  Our agreement with Charter runs through December 31, 2019.  The Time Warner customer accounts currently still operate under the assigned Time Warner agreement, which is set to expire on March 31, 2017. We are working with Charter to legally combine our contract with the two businesses under one master agreement.  Pending completion of this documentation, we intend to pursue an extension of the assigned Time Warner agreement.

Both the Charter and Time Warner agreements and related amendments, with confidential information redacted, are included in the exhibits to our periodic filings with the SEC.

DISH. DISH is our third largest client. For 2016 and 2015, revenues from DISH were $102 million and $107 million, respectively, representing approximately 13% and 14% of our total revenues. Our agreement with DISH runs through December 31, 2017, with two options to extend the term for two additional years each by exercising renewal options on or before June 30, 2017, and June 30, 2019.

The DISH agreement and related amendments, with confidential information redacted, is included in the exhibits to our periodic filings with the SEC.


24


 

Stock-Based Compensation Expense

Stock-based compensation expense is included in the following captions in our Income Statement (in thousands):

 

  

 

2016

 

 

2015

 

 

2014

 

Cost of cloud and related solutions

 

$

3,958

 

 

$

2,589

 

 

$

3,203

 

Cost of software and services

 

 

1,348

 

 

 

2,563

 

 

 

1,071

 

Cost of maintenance

 

 

371

 

 

 

204

 

 

 

201

 

Research and development

 

 

3,339

 

 

 

3,206

 

 

 

2,343

 

Selling, general and administrative

 

 

13,779

 

 

 

12,809

 

 

 

9,837

 

Restructuring

 

 

(80

)

 

 

(241

)

 

 

-

 

Total stock-based compensation expense

 

$

22,715

 

 

$

21,130

 

 

$

16,655

 

See Notes 2 and 11 to our Financial Statements for additional discussion of our stock-based compensation expense.

Amortization of Acquired Intangible Assets

Amortization of acquired intangible assets is included in the following captions in our Income Statement (in thousands):

 

 

 

2016

 

 

2015

 

 

2014

 

Cost of cloud and related solutions

 

$

1,092

 

 

$

1,347

 

 

$

1,305

 

Cost of maintenance

 

 

7,397

 

 

 

10,636

 

 

 

14,103

 

Total amortization of acquired intangible assets

 

$

8,489

 

 

$

11,983

 

 

$

15,408

 

  

See Note 4 to our Financial Statements for additional discussion of our amortization of acquired intangible assets.

Critical Accounting Policies

The preparation of our Financial Statements in conformity with accounting principles generally accepted in the U.S. requires us to select appropriate accounting policies, and to make judgments and estimates affecting the application of those accounting policies. In applying our accounting policies, different business conditions or the use of different assumptions may result in materially different amounts reported in our Financial Statements.

We have identified the most critical accounting policies that affect our financial position and the results of our operations. These critical accounting policies were determined by considering our accounting policies that involve the most complex or subjective decisions or assessments. The most critical accounting policies identified relate to: (i) revenue recognition; (ii) impairment assessments of goodwill and other long-lived assets; (iii) income taxes; and (iv) loss contingencies. These critical accounting policies, as well as our other significant accounting policies, are disclosed in the notes to our Financial Statements.

Revenue Recognition. The revenue recognition policy that involves the most complex or subjective decisions or assessments that may have a material impact on our business’ operations relates to the accounting for certain software license and services arrangements. For the 2016, 2015, and 2014, software and services revenues was approximately 10%, 12% and 14%, respectively, of our total revenues.

The accounting for software license arrangements, especially when software is sold in a multiple-element arrangement, can be complex and may require considerable judgment. Key factors considered in accounting for software license and related services include the following criteria: (i) the identification of the separate elements of the arrangement; (ii) the determination of whether any undelivered elements are essential to the functionality of the delivered elements; (iii) the assessment of whether the software, if hosted, should be accounted for as a services arrangement and thus outside the scope of the software revenue recognition literature; (iv) the determination of vendor specific objective evidence (“VSOE”) of fair value for the undelivered element(s) of the arrangement; (v) the assessment of whether the software license fees are fixed or determinable; (vi) the determination as to whether the fees are considered collectible; and (vii) the assessment of whether services included in the arrangement represent significant production, customization or modification of the software. The evaluation of these factors, and the ultimate revenue recognition decision, requires significant judgments to be made by us. The judgments made in this area could have a significant effect on revenues recognized in any period by changing the amount and/or the timing of the revenue recognized. In addition, because software licenses typically have little or no direct, incremental costs related to the recognition of the revenue, these judgments could also have a significant effect on our results of operations.

25


 

The initial sale of our software products generally requires significant production, modification or customization and thus falls under the guidelines of contract accounting. In these software license arrangements, the software license and professional services elements of the arrangement fee are typically combined and subject to contract accounting using the percentage-of-completion (“POC”) method of accounting. Under the POC method of accounting, software license and professional services revenues are typically recognized as the professional services related to the software implementation project are performed. We are using hours performed on the project as the measure to det ermine the percentage of the work completed.

A portion of our professional services revenues does not include an element of software delivery (e.g., business consulting services, etc.), and thus, do not fall within the scope of specific authoritative accounting literature for software arrangements. In these cases, revenues from fixed-price, professional service contracts are recognized using a method consistent with the proportional performance method, which is relatively consistent with our POC methodology. Under a proportional performance model, revenue is recognized by allocating revenue between reporting periods based on relative service provided in each reporting period, and costs are generally recognized as incurred. We utilize an input-based approach (i.e., hours worked) for purposes of measuring performance on these types of contracts. Our input measure is considered a reasonable surrogate for an output measure. In instances when the work performed on fixed price agreements is of relatively short duration, or if we are unable to make reasonably dependable estimates at the outset of the arrangement, we use the completed contract method of accounting whereby revenue is recognized when the work is completed.

Our use of the POC and proportional performance methods of accounting on professional services engagements requires estimates of the total project revenues, total project costs and the expected hours necessary to complete a project. Changes in estimates as a result of additional information or experience on a project as work progresses are inherent characteristics of the POC and proportional performance methods of accounting as we are exposed to various business risks in completing these engagements. The estimation process to support these methods of accounting is more difficult for projects of greater length and/or complexity. The judgments and estimates made in this area could: (i) have a significant effect on revenues recognized in any period by changing the amount and/or the timing of the revenue recognized; and/or (ii) impact the expected profitability of a project, including whether an overall loss on an arrangement has occurred. To mitigate the inherent risks in using the POC and proportional performance methods of accounting, we track our performance on projects and reevaluate the appropriateness of our estimates as part of our monthly accounting cycle.

Revenues are recognized only if we determine that the collection of the fees included in an arrangement is considered probable (i.e., we expect the client to pay all amounts in full when invoiced). In making our determination of collectability for revenue recognition purposes, we consider a number of factors depending upon the specific aspects of an arrangement, which may include, but is not limited to, the following items: (i) an assessment of the client’s specific credit worthiness, evidenced by its current financial position and/or recent operating results, credit ratings, and/or a bankruptcy filing status (as applicable); (ii) the client’s current accounts receivable status and/or its historical payment patterns with us (as applicable); (iii) the economic condition of the industry in which the client conducts the majority of its business; and/or (iv) the economic conditions and/or political stability of the country or region in which the client is domiciled and/or conducts the majority of its business. The evaluation of these factors, and the ultimate determination of collectability, requires significant judgments to be made by us. The judgments made in this area could have a significant effect on revenues recognized in any period by changing the amount and/or the timing of the revenue recognized.

Impairment Assessments of Goodwill and Other Long-Lived Assets.

Goodwill . Goodwill is required to be tested for impairment on an annual basis. We have elected to do our annual test for possible impairment as of July 31 of each year. In addition to this annual requirement, goodwill is required to be evaluated for possible impairment on a periodic basis (e.g., quarterly) if events occur or circumstances change that could indicate a possible impairment may have occurred. Goodwill is considered impaired if the carrying value of the reporting unit, which includes the goodwill, is greater than the estimated fair value of the reporting unit. If it is determined that an impairment has occurred, an impairment loss (equal to the excess of the carrying value of the goodwill over its estimated fair value) is recorded.

As of July 31, 2016, we had goodwill of approximately $208 million, which was assigned to a single reporting unit. Since we had only a single reporting unit, we used our public market capitalization as our primary means to estimate the fair value for that single reporting unit. Since our market capitalization exceeded the carrying value of our single reporting unit by a significant margin, we concluded there was no impairment of goodwill.

We believe that our approach for testing our goodwill for impairment was appropriate. However, if we experience a significant drop in our market capitalization due to company performance, and/or broader market conditions, it may result in an impairment loss. If a goodwill impairment was to be recorded in the future, it would likely materially impact our results of operations in the period such impairment is recognized, but such an impairment charge would be a non-cash expense, and therefore would have no impact on our cash flows, or on the financial position of our company.

Other Long-lived Assets. Long-lived assets other than goodwill, which for us relates primarily to property and equipment, software, and client contracts, are required to be evaluated for possible impairment whenever events or changes in

26


 

circumstances indicate that the carrying amount of these assets may not be recoverable. A long-lived asset (or group of long-lived assets) is impaired if estimated future undiscounted cash flows associated with that asset, without consideration of interest, are insufficient to recover the carrying amount of the long-lived asset. Once deemed impaired, even if by $1, the long-lived asset is written down to its fair value which could be considerably less than the carrying amount or future undiscounted cash flows. The determination of estimated future cash flows and, if required, the determination of the fair value of a long-lived asset, are by their nature, highly subjective judgments. Changes to one or more of the assumptions utilized in such an analysis could materially affect our impairment conclusions for long-lived assets.

Income Taxes. We are required to estimate our income tax liability in each jurisdiction in which we operate, which includes the U.S. (including both Federal and state income taxes) and numerous foreign countries.

Various judgments are required in evaluating our income tax positions and determining our provisions for income taxes. During the ordinary course of our business, there are certain transactions and calculations for which the ultimate income tax determination may be uncertain. In addition, we may be subject to examination of our income tax returns by various tax authorities which could result in adverse outcomes. For these reasons, we establish a liability associated with unrecognized tax benefits based on estimates of whether additional taxes and interest may be due. We adjust this liability based upon changing facts and circumstances, such as the closing of a tax audit, the closing of a tax year upon the expiration of a statute of limitations, or the refinement of an estimate. Should any of the factors considered in determining the adequacy of this liability change significantly, an adjustment to the liability may be necessary. Because of the potential significance of these issues, such an adjustment could be material.

One of the more complex items within our income tax expense is the determination of our annual research and experimentation income tax credit (“R&D credit”).  We incur approximately $100 million annually in R&D expense.  The calculation of the R&D tax credit involves the identification of qualifying projects, and then an estimation of the qualifying costs for such projects.  Because of the size, nature, and the number of projects worked on in any given year, the calculation can become complex and certain judgments are necessary in determining the amount of the R&D credits claimed.  

Loss Contingencies. In the ordinary course of business, we are subject to claims (and potential claims) related to various items including but not limited to the following: (i) legal and regulatory matters; (ii) client and vendor contracts; (iii) product and service delivery matters; and (iv) labor matters. Accounting and disclosure requirements for loss contingencies requires us to assess the likelihood of any adverse judgments in or outcomes to these matters, as well as the potential ranges of probable losses. A determination of the amount of reserves for such contingencies, if any, for these contingencies is based on an analysis of the issues, often with the assistance of legal counsel. The evaluation of such issues, and our ultimate accounting and disclosure decisions, are by their nature, subject to various estimates and highly subjective judgments. Should any of the factors considered in determining the adequacy of any required reserves change significantly, an adjustment to the reserves may be necessary. Because of the potential significance of these issues, such an adjustment could be material.

Detailed Discussion of Results of Operations

Total Revenues. Total revenues for: (i) 2016 were $761.0 million, a 1% increase from $752.5 million for 2015; and (ii) 2015 were $752.5 million, a slight increase from $751.3 million for 2014.

 

The 1% year-over-year increase in total revenues between 2016 and 2015 can be attributed to the 5% growth of our cloud and related solutions revenues, driven primarily from continued conversions of customer accounts onto ACP, and increases in revenues from recurring managed services arrangements.  These increases more than offset the decline in our software and services and maintenance revenues, and negative foreign currency movements of approximately $5 million.

 

The slight increase in revenues between 2015 and 2014 can be primarily attributed to growth in our cloud and related solutions revenues, offset by unfavorable foreign currency movements, which had a negative impact to total revenues of approximately $15 million.  The growth in our cloud and related solutions revenues for 2015 was driven largely by the conversions of new customer accounts onto ACP, and the continued revenue growth from our Ascendon solution and international managed services offering, offset by some of the decreases we experienced in our software and services revenues.

 

The components of total revenues, discussed in more detail below, are as follows:

27


 

 

 

Year Ended December 31,

 

 

 

2016

 

 

2015

 

 

2014

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

Cloud and related solutions

 

$

606,936

 

 

$

577,410

 

 

$

562,109

 

Software and services

 

 

79,400

 

 

 

93,678

 

 

 

102,585

 

Maintenance

 

 

74,622

 

 

 

81,432

 

 

 

86,592

 

Total revenues

 

$

760,958

 

 

$

752,520

 

 

$

751,286

 

Cloud and Relation Solutions Revenues. Cloud and related solutions revenues for: (i) 2016 increased 5% to $606.9 million, from $577.4 million for 2015; and (ii) 2015 increased 3% to $577.4 million, from $562.1 million for 2014.

 

The year-over-year increase between 2016 and 2015 in cloud and related solutions revenues can be mainly attributed to the conversion of customer accounts onto ACP, and increases in revenues from recurring managed services arrangements.  As previously discussed, Comcast added approximately two million customer accounts onto ACP during the second half of 2015 and an additional three million customer accounts onto ACP during 2016, of which half were converted during the fourth quarter of 2016.  Additionally, our recurring managed services revenues for 2016 grew by over 60% from 2015.  

 

The year-over-year increase between 2015 and 2014 in cloud and related solutions revenues is primarily the result of the conversion of new customer accounts onto ACP, and the continued revenue growth from our Ascendon solution and managed services offering.  As discussed above, Comcast added over two million customer accounts onto ACP during the fourth quarter of 2014, and approximately two million additional customer accounts during the second half of 2015.

Additionally, amortization of the investments in client contracts intangible asset (reflected as a reduction of cloud and related solutions revenues) for 2016, 2015, and 2014 was $6.6 million, $5.2 million, and $6.4 million, respectively.

Software and Services Revenues. Software and services revenues for: (i) 2016 decreased 15% to $79.4 million, from $93.7 million for 2015; and (ii) 2015 decreased 9% to $93.7 million, from $102.6 million for 2014.

 

The year-over-year decrease between 2016 to 2015 in software and services revenues can be primarily attributed to the continued low market demand for large transformational software and service deals.  We continue to transition this part of our business into a more predictable recurring revenue model, with our managed services arrangements and delivery of our cloud-based solutions.

 

The year-over-year decrease in software and services revenues between 2015 to 2014 is primarily attributed to foreign currency movements, and to a lesser degree, continued extended sales cycles in our software and professional services business and lower demand.

Maintenance Revenues . Maintenance revenues for: (i) 2016 decreased 8% to $74.6 million, from $81.4 million for 2015; and (ii) 2015 decreased 6% to $81.4 million, from $86.6 million for 2014.

 

The year-over-year decrease from 2016 to 2015 in maintenance revenues can be mainly attributed to the timing of maintenance renewals and related revenue recognition, and is consistent with our lower software and services revenues.

 

The year-over-year decrease in maintenance revenues from 2015 to 2014 can be attributed to foreign currency movements.

Total Operating Expenses. Our operating expenses for: (i) 2016 decreased 2% to $628.3 million, from $639.4 million for 2015; and (ii) 2015 decreased 5% to $639.4 million, from $675.6 million for 2014.

 

The $11.1 million decrease in total operating expenses between 2016 and 2015 is primarily due to favorable foreign currency movements of approximately $8 million, operational cost improvements, to include the divestiture of Invotas in September 2015, and lower restructuring and reorganization costs, which offset the increased cost of sales, reflective of our increased revenues.  

 

The $36.2 million decrease in total operating expenses between 2015 and 2014 is due mainly to $24 million of favorable foreign currency movements, our focus on cost improvements (to include the benefits we received from the 2014 restructuring activities), and a reduction in restructuring and reorganization costs.

 

The components of total expenses are discussed in more detail below. Cost of Cloud and Related Solutions (Exclusive of Depreciation). The cost of cloud and related solutions revenues consists principally of the following: (i) data processing and network communications costs; (ii) statement production costs (e.g., labor, paper, envelopes, equipment, equipment maintenance, etc.);

28


 

(iii) client support organizations (e.g., our client support call center, account management, etc.) ; (iv) various product delivery and support organizations (e.g., managed services delivery, product management, product maintenance, etc.); (v) facilities and infrastructure costs related to the statement production and support organizations; and (vi) amor tization of acquired intangibles. The costs related to new product development (including significant enhancements to existing products and services) are included in R&D expenses.

The cost of cloud and related solutions for: (i) 2016 increased 5% to $283.0 million, from $270.7 million for 2015; and (ii) 2015 decreased 2% to $270.7 million, from $277.1 million for 2014.  Total cloud and related solutions cost of revenues as a percentage of our cloud and related solutions revenues for 2016, 2015, and 2014, were 46.6%, 46.9%, and 49.3%, respectively.

 

The year-over-year increase in cost of cloud and related solutions between 2016 and 2015 is reflective of the increases we experienced in cloud and related solutions revenues and are primarily related to increased ACP cloud-based costs and the reassignment of personnel and the related costs from other areas of the business to client directed and funded work.

 

The year-over-year decrease in cost of cloud and related solutions between 2015 and 2014 is mainly due cost savings initiatives, and other decreases in variable costs, and to a lesser degree, favorable foreign currency movements.

Cost of Software and Services (Exclusive of Depreciation). The cost of software and services revenues consists principally of the following: (i) professional services organization; (ii) various product support organizations (e.g., delivery, etc.); (ii)  (iii) facilities and infrastructure costs related to these organizations; and (iv) third-party software costs and/or royalties related to certain software products. The costs related to new product development (including significant enhancements to existing products and services) are included in R&D expenses.

The cost of software and services for: (i) 2016 decreased 28% to $49.2 million, from $68.6 million for 2015; and (ii) 2015 decreased 14% to $68.6 million, from $79.6 million for 2014.  

 

The year-over-year decrease in cost of software and services between 2016 and 2015 is mainly due to targeted efficiencies and cost improvements within our professional services practice, estimated costs overruns recorded in the first quarter of 2015 related to a large software and services implementation project, discussed below, and foreign currency movements.  

 

The year-over-year decrease in cost of software and services between 2015 and 2014 is primarily attributed to favorable foreign currency movements, and to a lesser degree, targeted efficiencies and cost improvements within our professional services practice.

Total cost of software and services as a percentage of our software and services revenues for 2016, 2015, and 2014, were 62.0%, 73.2%, and 77.6%, respectively, with the level and variability of these percentages reflective of the negative impact of two large implementation projects.  In the first quarter of 2014, we incurred a loss of approximately $4 million related to a large software and implementation project (to be substantially completed in 2019) due to estimated cost overruns.  In the first quarter of 2015, we incurred a loss of approximately $5 million on another large software and services implementation project (substantially completed in the third quarter of 2016) due to estimated cost overruns.

Variability in quarterly revenues and operating results are inherent characteristics of companies that sell software licenses and perform professional services.  Our quarterly revenues for software licenses and professional services may fluctuate, depending on various factors, including the timing of executed contracts and revenue recognition, and the delivery of contracted solutions.  However, the costs associated with software and professional services revenues are not subject to the same degree of variability (e.g., these costs are generally fixed in nature within a relatively short period of time), and thus, fluctuations in our cost of software and services as a percentage of our software and services revenues will likely occur between periods.  

Cost of Maintenance (Exclusive of Depreciation). The cost of maintenance consists principally of the following: (i) client support organizations (e.g., our client support call center, account management, etc.); (ii) various product support organizations (e.g., product maintenance, product management, etc.); (iii) facilities and infrastructure costs related to these organizations; and (iv) amortization of acquired intangibles.

The cost of maintenance for: (i) 2016 increased 6% to $43.0 million, from $40.4 million for 2015; and (ii) 2015 increased 24% to $40.4 million, from $32.6 million for 2014. Total cost of maintenance as a percentage of our maintenance revenues for 2016, 2015, and 2014 were 57.6%, 49.6%, and 37.7%, respectively.

 

The increase in cost of maintenance between 2016 and 2015 can be primarily attributed to the reassignment of personnel and the related costs to maintenance projects from other projects, and an increase in third party maintenance costs.

 

The increase in cost of maintenance between 2015 and 2014 can be mainly attributed to the reassignment of personnel and the related costs to maintenance projects from other projects, offset by the favorable movements in foreign currency between years.

29


 

R&D Expense (Exclusive of Depreciation) . R&D expense for: (i) 2016 decreased 3 % to $ 98.7 million, from $102.0 million for 2015; and ( ii) 2015 decreased 3% to $102.0 million, from $104.7 million for 2014.

 

The decrease in R&D expense between 2016 and 2015 is primarily due to the reassignment of personnel and the related costs previously allocated to development projects to other area of the business.

 

The decrease in R&D expense between 2015 and 2014 can be attributed to favorable foreign currency movements.

Our R&D efforts are focused on the continued evolution of our solutions that enable service providers worldwide to provide a more personalized customer experience while introducing new digital products and services. This includes the continued investment in our business support solutions aimed at improving a providers’ time-to-market for new offerings, flexibility, scalability, and total cost of ownership.

As a percentage of total revenues, R&D expense for 2016, 2015, and 2014  was 13.0%, 13.5%, and 13.9%, respectively. We anticipate the level of R&D investment to trend up due to the heightened level of our planned investments for 2017.

Selling, General and Administrative Expense (Exclusive of Depreciation) (“SG&A”) . SG&A expense for: (i) 2016 was $140.5 million, relatively consistent when compared to $139.8 million for 2015; and (ii) 2015 decreased 9% to $139.8 million, from $153.5 million for 2014.

 

SG&A expense increased $0.7 million between 2016 and 2015, due primarily to higher incentive compensation for 2016, which was offset by favorable foreign currency movements.

 

The decrease in SG&A expense between 2015 and 2014 reflect: (i) the financial benefits of the restructuring activities undertaken in 2014 to reduce our sales and marketing costs; (ii) focus on cost improvements, to include the divestiture of Invotas; and (iii) impact of foreign currency movements. Additionally, it should be noted that 2014 SG&A expense benefited from a settlement agreement ending litigation that we had asserted against a third party for patent infringement and misappropriation of trade secrets.  In exchange for the release from the lawsuit we initiated, we recorded $3.9 million (net of a time value discount and legal costs incurred) as a reduction of SG&A expenses in that period.

As a percentage of total revenues, SG&A expense for 2016, 2015, and 2014 was 18.5%, 18.6%, and 20.4%, respectively.

Depreciation Expense . Depreciation expense for all property and equipment is reflected separately in the aggregate and is not included in the cost of revenues or the other components of operating expenses. Depreciation expense for: (i) 2016 was $13.6 million, an 8% decrease from $14.8 million for 2015; and (ii) 2015 was $14.8 million, a slight increase from $14.1 million for 2014. The decrease in depreciation expense between 2016 and 2015 is reflective of the reduced level of capital expenditures made over the last two years.  Going forward, we expect our capital expenditures to return to a more normal investment level.

Restructuring and Reorganization Charges. In 2016, 2015, and 2014, we implemented various cost reduction and efficiency initiatives that resulted in restructuring and reorganization charges of $0.4 million, $3.1 million, and $14.0 million, respectively. These initiatives included: (i) the divestitures of our Invotas cyber security business and our Quaero marketing analytics business; (ii) the reorganization of our Content Direct solution to facilitate its alignment across our offerings, including management programs and incentives; (iii) reducing our workforce to further align it around our long-term growth initiatives; and (iv) the abandonment of space at some of our facility locations. We completed these initiatives in order to better align and allocate our resources around our long-term growth initiatives.

See Note 6 to our Financial Statements for additional information regarding these initiatives.

30


 

Operating Income. Operating income and operating income margin for: (i) 2016 was $ 132.6 million, or 17.4 % of total revenues, compared to $113.1 million, or 15.0% of total revenues for 2015; and (ii) 2015 was $113.1 million, or 15.0% of total revenues, co mpared to $75.7 million, or 10.1% of total revenues for 2014.

 

The increases in operating income and operating income margin between 2016 and 2015 can be mainly attributed to the overall reduction in operating expenses, as discussed above, and to a lesser degree, the scale benefits from adding more customer accounts to our cloud solutions and higher revenues.

 

The increases in operating income and operating income margin between 2015 and 2014 are due primarily to the overall reduction in operating expenses, discussed above, and the scale benefits we are achieving from increasing the number of customer accounts and clients on our solutions.

For the fourth quarter of 2016, our operating margin percentage was 13.0%, which reflects our planned increased investments aimed at our long-term business growth, and coupled with higher levels of employee incentive compensation earned in the fourth quarter.  Going forward, we expect our operating income and operating margin percentage to trend downward from our 2016 full year level, as we look to increase our strategic investments in R&D, our go-to-market programs, and the operating environments for our cloud solutions (e.g. resiliency, security, etc.).

Interest Expense and Amortization of Original Issue Discount (“OID”). Our interest expense relates primarily to our 2010 and 2016 Convertible Notes and our Credit Agreement. See Note 5 to our Financial Statements for additional discussion of our long-term debt, to include the non-cash interest expense related to the amortization of the convertible debt OID.

Interest expense for: (i) 2016 increased 48% to $16.3 million, from $11.0 million for 2015; and (ii) 2015 increased to $11.0 million, from $10.5 million for 2014.

 

The increase in interest expense between 2016 and 2015 is mainly due to the interest on the 2016 Convertible Notes, which were issued in March 2016, offset by the decrease in interest on the 2010 Convertible Notes due to repurchases throughout 2016.

 

The increase in interest expense between 2015 and 2014 can be mainly attributed to the higher average debt balance outstanding in 2015 as compared to 2014 as a result of the additional $30 million that was borrowed in conjunction with the refinancing of the credit agreement in February 2015.

Loss on Repurchase of Convertible Notes.   During 2016, we repurchased $115.3 million aggregated principal amount of the 2010 Convertible Notes for an aggregated purchase price of $215.7 million, and recognized a loss on the repurchases of $8.7 million.  

Income Tax Provision. Our effective income tax rates for 2016, 2015, and 2014 were as follows:

 

2016

 

 

2015 (1)

 

 

2014 (1)

 

 

37

%

 

 

35

%

 

 

42

%

(1)

Our 2015 effective tax rate was positively impacted by improved earnings in our non-U.S. operations.

As further discussed in Note 2 to our consolidated financial statements, we will adopt Accounting Standards Update (“ASU”) 2016-09, Compensation – Stock Compensation (Topic 718) in the first quarter of 2017.  This ASU requires a change in the recognition of excess tax benefits and tax deficiencies, related to share-based payment transactions, which are currently recorded in equity, and will be recorded as a component of income tax expense in the income statement.  We anticipate the adoption of this ASU will have an approximate three to four percentage point decrease on our 2017 effective income tax rate.

Liquidity

Cash and Liquidity . As of December 31, 2016, our principal sources of liquidity included cash, cash equivalents, and short-term investments of $276.5 million, compared to $240.9 million as of December 31, 2015. We generally invest our excess cash balances in low-risk, short-term investments to limit our exposure to market and credit risks.

As part of our 2015 Agreement, we have a $200 million senior secured revolving loan facility (“Revolver”) with a syndicate of financial institutions that expires in February 2020.  As of December 31, 2016, there were no borrowings outstanding on the Revolver. The Credit Agreement contains customary affirmative covenants and financial covenants. As of December 31, 2016, and the date of this filing, we believe that we are in compliance with the provisions of the Credit Agreement.

31


 

Our cash, cash equivalents, and short-term investment balances as of the end of the in dicated periods were located in the following geographical regions (in thousands):

 

 

 

December 31,

 

 

December 31,

 

 

 

2016

 

 

2015

 

Americas (principally the U.S.)

 

$

220,269

 

 

$

199,117

 

Europe, Middle East and Africa

 

 

46,941

 

 

 

36,396

 

Asia Pacific

 

 

9,288

 

 

 

5,423

 

Total cash, equivalents and short-term investments

 

$

276,498

 

 

$

240,936

 

We generally have ready access to substantially all of our cash, cash equivalents, and short-term investment balances, but may face limitations on moving cash out of certain foreign jurisdictions due to currency controls. As of December 31, 2016, we had $4.3 million of cash restricted as to use to collateralize outstanding letters of credit.

Cash Flows From Operating Activities. We calculate our cash flows from operating activities beginning with net income, adding back the impact of non-cash items or non-operating activity (e.g., depreciation, amortization, amortization of OID, impairments, deferred income taxes, stock-based compensation, etc.), and then factoring in the impact of changes in operating assets and liabilities.

Our primary source of cash is from our operating activities. Our current business model consists of a significant amount of recurring revenue sources related to our long-term cloud-based and managed services arrangements (mostly billed monthly), and software maintenance agreements (billed monthly, quarterly, or annually). This recurring revenue base provides us with a reliable and predictable source of cash. In addition, software license fees and professional services revenues are sources of cash, but the payment streams for these items are less predictable.

The primary use of our cash is to fund our operating activities. Over half of our total operating costs relate to labor costs (both employees and contracted labor) for the following: (i) compensation; (ii) related fringe benefits; and (iii) reimbursements for travel and entertainment expenses. The other primary cash requirements for our operating expenses consist of: (i) data processing and related services and communication lines for our outsourced cloud-based business; (ii) paper, envelopes, and related supplies for our statement processing solutions; (iii) hardware and software; and (iv) rent and related facility costs. These items are purchased under a variety of both short-term and long-term contractual commitments. A summary of our material contractual obligations is provided below.

Our 2016 and 2015 net cash flows from operating activities, broken out between operations and changes in operating assets and liabilities, for the indicated quarterly periods are as follows (in thousands):  

 

 

 

 

 

 

 

 

 

 

Net Cash

 

 

 

 

 

 

 

Changes in

 

 

Provided by

 

 

 

 

 

 

 

Operating

 

 

(Used In) Operating

 

 

 

 

 

 

 

Assets and

 

 

Activities –

 

 

 

Operations

 

 

Liabilities

 

 

Totals

 

Cash Flows from Operating Activities:

 

 

 

 

 

 

 

 

 

 

 

 

2016:

 

 

 

 

 

 

 

 

 

 

 

 

March 31 (1)(2)

 

$

36,755

 

 

$

(26,081

)

 

$

10,674

 

June 30

 

 

28,880

 

 

 

11,211

 

 

 

40,091

 

September 30 (3)

 

 

31,309

 

 

 

(22,568

)

 

 

8,741

 

December 31 (4)

 

 

29,178

 

 

 

(4,498

)

 

 

24,680

 

Total

 

$

126,122

 

 

$

(41,936

)

 

$

84,186

 

2015:

 

 

 

 

 

 

 

 

 

 

 

 

March 31 (1)

 

$

26,193

 

 

$

(7,257

)

 

$

18,936

 

June 30

 

 

26,770

 

 

 

12,806

 

 

 

39,576

 

September 30

 

 

33,187

 

 

 

(7,353

)

 

 

25,834

 

December 31

 

 

27,688

 

 

 

24,925

 

 

 

52,613

 

Total

 

$

113,838

 

 

$

23,121

 

 

$

136,959

 

 

 

(1)

Cash flows from operating activities for the first quarter of 2016 and 2015 reflect the negative impacts of the payment of the 2015 and 2014 year-end accrued employee incentive compensation in the first quarter subsequent to the year-end accrual for those items.  

32


 

 

(2)

C ash flows from operating activities for the first quarter of 2016 were negatively impacted by a prospective change in the timing of payment terms for a key vendor related to postage.  

 

(3)

For the third quarter of 2016, cash flows from operating activities were negatively impacted by the increase in the accounts receivable balance primarily related to the timing around certain recurring client payments that were delayed at quarter-end.

 

(4)

Cash flows from operating activities for the fourth quarter of 2016 were negatively impacted by year-end working capital timing fluctuations, and a payment made at year-end as part of the closure of several years of outstanding tax audits with the IRS.

We believe the above table illustrates our ability to generate recurring quarterly cash flows from our operations, and the importance of managing our working capital items.  The quarterly and annual variations in our net cash provided by operating activities are related mostly to the changes in our operating assets and liabilities (related mostly to fluctuations in timing at quarter-end of client payments and changes in accrued expenses), and generally over longer periods of time, do not significantly impact our cash flows from operations.

Significant fluctuations in key operating assets and liabilities between 2016 and 2015 that impacted our cash flows from operating activities are as follows:

Billed Trade Accounts Receivable

Management of our billed accounts receivable is one of the primary factors in maintaining strong quarterly cash flows from operating activities. Our billed trade accounts receivable balance includes significant billings for several non-revenue items (primarily postage, sales tax, and deferred revenue items). As a result, we evaluate our performance in collecting our accounts receivable through our calculation of days billings outstanding (“DBO”) rather than a typical days sales outstanding (“DSO”) calculation. DBO is calculated by taking the average monthly net trade accounts receivable balance for the period divided by billings for the period (including non-revenue items).

Our gross and net billed trade accounts receivable and related allowance for doubtful accounts receivable (“Allowance”) as of the end of the indicated quarterly periods, and the related DBOs for the quarters then ended, are as follows (in thousands, except DBOs):

 

Quarter Ended

 

Gross

 

 

Allowance

 

 

Net Billed

 

 

DBOs

 

2016:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

March 31

 

$

185,297

 

 

$

(3,647

)

 

$

181,650

 

 

 

61

 

June 30

 

 

182,640

 

 

 

(3,726

)

 

 

178,914

 

 

 

63

 

September 30

 

 

204,516

 

 

 

(2,906

)

 

 

201,610

 

 

 

69

 

December 31

 

 

212,010

 

 

 

(3,080

)

 

 

208,930

 

 

 

70

 

2015:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

March 31

 

$

183,283

 

 

$

(3,187

)

 

$

180,096

 

 

 

64

 

June 30

 

 

176,206

 

 

 

(3,937

)

 

 

172,269

 

 

 

65

 

September 30

 

 

181,225

 

 

 

(3,878

)

 

 

177,347