SPS Commerce Inc: Form 10-Q for the period ended Jun 30, 2021

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements regarding us, our business prospects and our results of operations are subject to certain risks and uncertainties posed by many factors and events, many of which may be amplified by the coronavirus (COVID-19) pandemic, that could cause our actual business, prospects, and results of operations to differ materially from those that may be anticipated by such forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. In some cases, you can identify forward-looking statements by the following words: “anticipate,” “assumes,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “ongoing,” “plan,” “potential,” “predict,” “project,” “should,” “will,” “would,” or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words. Similarly, statements that describe our future plans, objectives or goals are also forward-looking. Forward-looking statements may also be made from time to time in oral presentations, including telephone conferences and/or webcasts open to the public. Shareholders, potential investors and others are cautioned that all forward-looking statements involve risks and uncertainties that could cause results in future periods to differ materially from those anticipated by some of the statements made in this report, including the risks and uncertainties described under the heading “Risk Factors” appearing in our Annual Report on Form 10-K for the year ended December 31, 2020, as may be updated in our subsequent Quarterly Reports on Form 10-Q from time to time, including the updates in this Quarterly Report on Form 10-Q. We expressly disclaim any intent or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Readers are urged to carefully review and consider the various disclosures made by us in this report and in our other reports filed with the SEC that advise interested parties of the risks and factors that may affect our business.

Overview

SPS Commerce is a leading provider of cloud-based solutions that make it easier for retailers, suppliers, grocers, distributors, and logistics firms to orchestrate the management of item data, order fulfillment, inventory control and sales analytics across all channels. The solutions offered by SPS Commerce eliminate the need for on-premise software and support staff by taking on that capability on the customer’s behalf. We derive the majority of our revenues from numerous monthly recurring subscriptions from businesses that utilize our solutions.

We plan to continue to grow our business by further penetrating the supply chain management market, increasing revenues from our customers as their businesses grow, expanding our distribution channels, expanding our international presence and, from time to time, developing new solutions and applications. We also intend to selectively pursue acquisitions that will add customers, allow us to expand into new regions, or allow us to offer new functionalities.

For the three months ended June 30, 2021, our revenues were $94.5 million, an increase of 25% from the comparable period in 2020, and represented our 82nd consecutive quarter of increased revenues. Total operating expenses increased 23% for the same period in 2021 from 2020.

Key Financial Terms and Metrics

We have several key financial terms and metrics, including annualized average recurring revenues per recurring revenue customer. Beginning in 2021, we added Adjusted EBITDA Margin as a financial metric. There were no additional changes in the definitions of our key financial terms and metrics, which are discussed in more detail under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the SEC.

To supplement our financial statements, we provide investors with Adjusted EBITDA, Adjusted EBITDA Margin, and non-GAAP income per share, all of which are non-GAAP financial measures. We believe that these non-GAAP measures provide useful information to our management, board of directors, and investors regarding certain financial and business trends relating to our financial condition and results of operations. Our management uses these non-GAAP measures to compare the Company’s performance to that of prior periods for trend analyses and planning purposes. Adjusted EBITDA is also used for purposes of determining executive and senior management incentive compensation.

These non-GAAP measures should not be considered a substitute for, or superior to, financial measures calculated in accordance with GAAP. These non-GAAP financial measures exclude significant expenses and income that are required by GAAP to be recorded in our financial statements and are subject to inherent limitations. Investors should review the reconciliations of non-GAAP financial measures to the comparable GAAP financial measures that are included in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

SPS COMMERCE, INC. 18 Form 10-Q for the Quarterly Period ended June 30, 2021

Critical Accounting Policies and Estimates

This discussion of our financial condition and results of operations is based upon our condensed consolidated financial statements, which are prepared in accordance with GAAP and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. The preparation of these financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. We base our estimates of the carrying value of certain assets and liabilities on historical experience and on various other assumptions that we believe to be reasonable. Our actual results may differ from these estimates under different assumptions or conditions.

A critical accounting policy is one that is both material to the presentation of our financial statements and requires us to make difficult, subjective, or complex judgments relating to uncertain matters that could have a material effect on our financial condition and results of operations. Accordingly, we believe that our policies for revenue recognition, internal-use software, and business combinations are the most critical to fully understand and evaluate our financial condition and results of operations.

During the six months ended June 30, 2020, there were no changes in our critical accounting policies or estimates. See Note A to our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the SEC, for additional information regarding our accounting policies.

Results of Operations

Three Months Ended June 30, 2021 Compared to Three Months Ended June 30, 2020

The following table presents our results of operations for the periods indicated:

(dollars in thousands)

Revenues - The increase in revenues resulted from two primary factors: the increase in recurring revenue customers and an increase in annualized average recurring revenues per recurring revenue customer, which we also refer to as wallet share.

• The number of recurring revenue customers increased 10% to 34,550 at June 30, 2021 from 31,450 at June 30, 2020.
• Wallet share increased 12% to $10,150 for the three months ended June 30, 2021 from $9,100 for the same period in 2020. The increase was primarily attributable to increased usage of our solutions by our recurring revenue customers.

Recurring revenues from recurring revenue customers accounted for 92% and 94% of our total revenues for the three months ended June 30, 2021 and 2020, respectively. We anticipate that the number of recurring revenue customers and wallet share will increase as we increase the number of solutions we offer and increase the penetration of those solutions across our customer base.

Cost of Revenues - The increase in cost of revenues for the three months ended June 30, 2021 was primarily due to increased headcount which resulted in an increase of $6.1 million in personnel-related costs and an increase of $0.8 million in stock-based compensation. Additionally, as we continued to invest in the infrastructure supporting our platform, depreciation expense increased by $0.4 million.

SPS COMMERCE, INC. 19 Form 10-Q for the Quarterly Period ended June 30, 2021

Sales and Marketing Expenses - The increase in sales and marketing expense for the three months ended June 30, 2021 was primarily due to an increase of $1.4 million in variable compensation earned by sales personnel and referral partners. Additionally, an increase of $1.2 million in personnel-related costs and an increase of $0.7 million in stock-based compensation contributed to the overall increase.

Research and Development Expenses - The increase in research and development expense for the three months ended June 30, 2021 was primarily due to increased headcount which resulted in an increase in personnel costs of $0.9 million and an increase in software subscription expense of $0.3 million.

General and Administrative Expenses - The increase in general and administrative expense for the three months ended June 30, 2021 was driven by increases in personnel-related costs of $1.5 million and stock-based compensation of $0.7 million. Additionally, an increase of $0.4 million in software subscriptions contributed to the overall increase.

Amortization of Intangible Assets - The increase in amortization of intangible assets was driven by the amortization of the acquired intangible assets related to Data Masons, which we acquired in December 2020.

Other Income (Expense), Net - The change in other expense, net of $0.4 million, compared to the other income, net of $1.5 million in the prior year period, was primarily due to larger foreign currency exchange losses.

Income Tax Expense - The increase in income tax expense was primarily due to an increase in nondeductible executive compensation as well as a decrease in both the discrete tax benefits from stock activity and research and development credits. Excess tax benefits generated upon the settlement or exercise of stock awards are recognized as a reduction to income tax expense and, as a result, we expect that our annual effective income tax rate will fluctuate.

Adjusted EBITDA - Adjusted EBITDA, which is a non-GAAP measure of financial performance, consists of net income adjusted for depreciation and amortization expense, investment income or loss, realized gain or loss from foreign currency on cash and investments held, income tax expense, stock-based compensation expense, and other adjustments as necessary for a fair presentation. Other adjustments include the expense impact from the disposals of certain capitalized internally developed software and cloud hosting arrangement implementation costs. The following table provides a reconciliation of net income to Adjusted EBITDA:

(In thousands)

Adjusted EBITDA Margin. Adjusted EBITDA Margin, which is a non-GAAP measure of financial performance, consists of Adjusted EBITDA divided by revenue. Margin, the comparable GAAP measure of financial performance, consists of net income divided by revenue. The following table provides a comparison of Margin to Adjusted EBITDA Margin:

(In thousands, except Margin and Adjusted EBITDA Margin)

SPS COMMERCE, INC. 20 Form 10-Q for the Quarterly Period ended June 30, 2021

Non-GAAP Income per Share. Non-GAAP income per share, which is a non-GAAP measure of financial performance, consists of net income adjusted for stock-based compensation expense, amortization expense related to intangible assets, realized gain or loss from foreign currency on cash and investments held, and other adjustments as necessary for a fair presentation, divided by the weighted average number of shares of common stock outstanding during each period. Other adjustments include the expense impact of the disposal of certain capitalized internally developed software and cloud hosting arrangement implementation costs. To quantify the tax effects, we recalculated income tax expense excluding the direct book and tax effects of the specific items constituting the non-GAAP adjustments. The difference between this recalculated income tax expense and GAAP income tax expense is presented as the income tax effect of the non-GAAP adjustments.

The following table provides a reconciliation of net income to non-GAAP income per share:

(In thousands, except per share amounts)

Six Months Ended June 30, 2021 Compared to Six Months Ended June 30, 2020

The following table presents our results of operations for the periods indicated:

Revenues - The increase in revenues resulted from two primary factors: the increase in recurring revenue customers and an increase in annualized average recurring revenues per recurring revenue customer, which we also refer to as wallet share.

• The number of recurring revenue customers increased 10% to 34,550 at June 30, 2021 from 31,450 at June 30, 2020.
• Wallet share increased 11% to $10,100 for the six months ended June 30, 2021 from $9,100 for the same period in 2020. The increase was primarily attributable to increased usage of our solutions by our recurring revenue customers.

SPS COMMERCE, INC. 21 Form 10-Q for the Quarterly Period ended June 30, 2021

Recurring revenues from recurring revenue customers accounted for 92% and 94% of our total revenues for the six months ended June 30, 2021 and 2020, respectively. We anticipate that the number of recurring revenue customers and wallet share will increase as we increase the number of solutions we offer and increase the penetration of those solutions across our customer base.

Cost of Revenues - The increase in cost of revenues for the six months ended June 30, 2021 was primarily due to increased headcount which resulted in an increase of $11.4 million in personnel-related costs and an increase of $1.5 million in stock-based compensation. Additionally, as we continued to invest in the infrastructure supporting our platform, depreciation expense increased by $0.8 million.

Sales and Marketing Expenses - The increase in sales and marketing expense for the six months ended June 30, 2021 was primarily due to an increase of $2.4 million in variable compensation earned by sales personnel and referral partners. Additionally, an increase of $2.4 million in personnel-related costs and an increase of $1.4 million in stock-based compensation contributed to the overall increase.

Research and Development Expenses - The increase in research and development expense for the six months ended June 30, 2021 was primarily due to increased headcount which resulted in an increase in personnel costs of $1.8 million and an increase in software subscription expense of $0.6 million.

General and Administrative Expenses - The increase in general and administrative expense for the six months ended June 30, 2021 was driven by increases in personnel-related costs of $2.0 million and stock-based compensation of $2.0 million. Additionally, an increase of $0.7 million in charitable contributions led to the overall increase.

Amortization of Intangible Assets - The increase in amortization of intangible assets was driven by the amortization of the acquired intangible assets related to Data Masons, which we acquired in December 2020.

Other Income (Expense), Net - The change in other expense, net of $0.7 million, compared to the other income, net of $0.8 million in the prior year period, was primarily due to larger foreign currency exchange losses and decreased investment income.

Income Tax Expense - The increase in income tax expense was primarily due to an increase in nondeductible executive compensation as well as a decrease in both the discrete tax benefits from stock activity and research and development credits. Excess tax benefits generated upon the settlement or exercise of stock awards are recognized as a reduction to income tax expense and, as a result, we expect that our annual effective income tax rate will fluctuate.

Adjusted EBITDA - Adjusted EBITDA, which is a non-GAAP measure of financial performance, consists of net income adjusted for depreciation and amortization expense, investment income or loss, realized gain or loss from foreign currency on cash and investments held, income tax expense, stock-based compensation expense, and other adjustments as necessary for a fair presentation. Other adjustments include the expense impact from the disposals of certain capitalized internally developed software and cloud hosting arrangement implementation costs and an earn-out liability fair value adjustment. Additionally, as part of executing a lease amendment, we incurred accelerated depreciation, included within Depreciation and amortization of property and equipment, and offsetting accelerated tenant improvement benefit, which is included within Other. The following table provides a reconciliation of net income to Adjusted EBITDA:

SPS COMMERCE, INC. 22 Form 10-Q for the Quarterly Period ended June 30, 2021

Adjusted EBITDA Margin. Adjusted EBITDA Margin, which is a non-GAAP measure of financial performance, consists of Adjusted EBITDA divided by revenue. Margin, the comparable GAAP measure of financial performance, consists of net income divided by revenue. The following table provides a comparison of Margin to Adjusted EBITDA Margin:

(In thousands, except Margin and Adjusted EBITDA Margin)

Non-GAAP Income per Share. Non-GAAP income per share, which is a non-GAAP measure of financial performance, consists of net income adjusted for stock-based compensation expense, amortization expense related to intangible assets, realized gain or loss from foreign currency on cash and investments held, and other adjustments as necessary for a fair presentation, divided by the weighted average number of shares of common stock outstanding during each period. Other adjustments included the impact of the fair value adjustment for the EDIAdmin earn-out liability and accelerated tenant improvement benefit as part of executing a lease amendment. To quantify the tax effects, we recalculated income tax expense excluding the direct book and tax effects of the specific items constituting the non-GAAP adjustments. The difference between this recalculated income tax expense and GAAP income tax expense is presented as the income tax effect of the non-GAAP adjustments.

The following table provides a reconciliation of net income to non-GAAP income per share:

SPS COMMERCE, INC. 23 Form 10-Q for the Quarterly Period ended June 30, 2021

Liquidity and Capital Resources

At June 30, 2021, our principal sources of liquidity were cash and cash equivalents, certificates of deposit and short-term investments totaling $233.4 million and accounts receivable, net of provision for credit losses, of $37.9 million. Certificates of deposit and investments are invested in accordance with our investment policy, with a goal of maintaining liquidity and capital preservation. Our cash equivalents and short-term investments are held in highly liquid money market funds, commercial paper, federal agency securities and corporate debt securities.

The summary of activity within the condensed consolidated statements of cash flows was as follows:

(In thousands)

Net Cash Flows from Operating Activities

The increase in cash provided by operating activities was primarily driven by the changes in assets and liabilities, principally the increases in deferred revenue and accrued compensation balances. Additionally, business expansion resulted in increased depreciation and amortization of property and equipment, amortization of intangibles assets, and stock-based compensation expense that contributed to the increase.

Net Cash Flows from Investing Activities

The decrease in net cash used in investing activities was primarily due to a decrease of net purchases of investments.

Net Cash Flows from Financing Activities

The change in net cash used in financing activities was primarily due to the decreases in cash used for share repurchases and net proceeds from stock option exercises.

Effect of Foreign Currency Exchange Rate Changes

For information regarding the effect of foreign currency exchange rate changes, refer to the section entitled “Foreign Currency Exchange Risk,” included in Part I, Item 3, “Quantitative and Qualitative Disclosures About Market Risk” of this Quarterly Report on Form 10-Q.

Adequacy of Capital Resources

Our future capital requirements may vary significantly from those now planned and will depend on many factors, including:

• costs to develop and implement new solutions and applications, if any;
• sales and marketing resources needed to further penetrate our market and gain acceptance of new solutions and applications that we may develop;
• expansion of our operations in the U.S. and internationally;
• response of competitors to our solutions and applications; and
• use of capital for acquisitions, if any.

Historically, we have experienced increases in our expenditures consistent with the growth in our operations, and we anticipate that our expenditures will continue to increase as we expand our business.

We believe our cash, cash equivalents, investments and our cash flows from operations will be sufficient to meet our working capital and capital expenditure requirements for at least the next twelve months.

SPS COMMERCE, INC. 24 Form 10-Q for the Quarterly Period ended June 30, 2021

Inflation and changing prices did not have a material effect on our business during the six months ended June 30, 2021 and we do not expect that inflation or changing prices will materially affect our business in the foreseeable future.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements, investments in special purpose entities or undisclosed borrowings or debt. Additionally, we are not a party to any derivative contracts or synthetic leases.

Contractual and Commercial Commitment Summary

Our contractual obligations and commercial commitments as of June 30, 2021 are as follows:

SPS COMMERCE, INC. 25 Form 10-Q for the Quarterly Period ended June 30, 2021

Interest Rate Sensitivity Risk

The principal objectives of our investment activities are to preserve principal, provide liquidity and maximize income consistent with minimizing risk of material loss. We are exposed to market risk related to changes in interest rates. However, based on the nature and current level of our cash, cash equivalents, and investments, we believe there is no material risk of exposure. We do not enter into investments for trading or speculative purposes.

We did not have any variable interest rate outstanding debt as of June 30, 2021. Therefore, we do not have any material risk to interest rate fluctuations.

Foreign Currency Exchange Risk

We have revenue, expenses, assets, and liabilities that are denominated in currencies other than the U.S. dollar, primarily the Australian dollar and Canadian dollar. As of June 30, 2021, we maintained approximately 6% of our total cash and cash equivalents outside of the U.S. in foreign currencies. We believe that a hypothetical 10% change in foreign currency exchange rates or an inability to access foreign funds would not affect our ability to meet our operational needs or result in a material foreign currency loss. As we expand internationally, our results of operations and cash flows may be impacted by changes in foreign currency exchange rates and would be adversely impacted when the U.S. dollar appreciates relative to other foreign currencies. We have not used any forward contracts or currency borrowings to hedge our exposure to foreign currency exchange risk, although we may do so in the future.

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this Quarterly Report on Form 10-Q, our management has evaluated, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). Disclosure controls and procedures are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of June 30, 2021.

Changes in Internal Control over Financial Reporting

In December 2020, we acquired the Data Masons business. Pursuant to the SEC’s general guidance that an assessment of a recently acquired business may be omitted from our scope for a period not to exceed one year from the date of acquisition, the scope of our most recent assessment did not include Data Masons. We are currently in the process of incorporating internal controls specific to Data Masons that we believe are appropriate and necessary to consolidate and report upon our financial results. Our assessment of the effectiveness of internal control over financial reporting as of December 31, 2021 will include Data Masons. As of and for the three and six months ended June 30, 2021, excluding net intangible assets and goodwill, Data Masons represented approximately 3% of our consolidated assets and 6% of our consolidated revenues.

With the exception of the internal control related to integration activities associated with our acquisition of Data Masons, there were no changes in our internal control over financial reporting during the quarter ended June 30, 2021 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

SPS COMMERCE, INC. 26 Form 10-Q for the Quarterly Period ended June 30, 2021

There have been no material changes in our risk factors from those disclosed under the heading “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the SEC.