DUCK CREEK TECHNOLOGIES, INC. The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from the forward-looking statements included herein. Factors that could cause or contribute to such differences include, but are not limited to, those identified below and those discussed in the section entitled Part II, "Item 1A. Risk Factors" and elsewhere in this Quarterly Report on Form 10-Q.
Overview
We are a leading SaaS provider of core systems for the P&C insurance industry. We have achieved our leadership position by combining over twenty years of deep domain expertise with the differentiated SaaS capabilities and low-code configurability of our technology platform. We believe we are the first company to provide carriers with an end-to-end suite of enterprise-scale core system software that is purpose-built as a SaaS solution. Our product portfolio is built on our modern technology foundation, the Duck Creek Platform, and works cohesively to improve the operational efficiency of insurers' core processes (policy administration, claims management and billing) as well as other critical functions. The Duck Creek Platform enables our customers to be agile and rapidly capitalize on market opportunities, while reducing their total cost of technology ownership. Our deep understanding of the P&C insurance industry has enabled us to develop a single, unified suite of insurance software products that is tailored to address the key challenges faced by carriers worldwide. Our solutions promote carriers' nimbleness by enabling rapid integration and streamlining the ability to capture, access and utilize data more effectively. The Duck Creek Suite includes several products that support the P&C insurance process lifecycle, such as:
• Duck Creek Policy: a solution that enables insurers to develop and launch
new insurance products and manage all aspects of policy administration,
from product definition to quoting, binding and servicing
• Duck Creek Billing: a solution that supports fundamental payment and
invoicing capabilities (such as billing and collections, commission
processing, disbursement management and general ledger capabilities) for
all insurance lines and bill types
• Duck Creek Claims: a solution that supports the entire claims lifecycle
from first notice of loss through investigation, payments, negotiations,
reporting and closure
In addition, we offer other innovative solutions, such as Duck Creek Rating, Duck Creek Insights, Duck Creek Digital Engagement, Duck Creek Distribution Management, Duck Creek Reinsurance Management, Duck Creek Anywhere Managed Integrations and Duck Creek Industry Content, which provide additional features and functionalities that further help our customers meet the increasing and evolving demands of the P&C industry. Our customers purchase and deploy Duck Creek OnDemand, our SaaS solution, either individually or as a suite. We sell our SaaS solutions through recurring fee arrangements where revenue is recognized on a monthly basis following deployment to the customer, which we refer to as subscription revenue. Substantially all of our new bookings come from the sale of SaaS subscriptions of Duck Creek OnDemand. For the three months endedNovember 30, 2021 and 2020, SaaS ACV bookings represented 94% and 95% of our total ACV bookings, respectively. Historically, we have also sold our products through perpetual and term license arrangements, most commonly installed on-premise, where license revenue is typically recognized in full upon delivery of the software to the customer. We generally price our SaaS and license arrangements at individually negotiated rates based on the amount of a customer's DWP that will be managed by our solutions with pre-determined fee adjustments as the customer's DWP increases over the term of the contract, which typically ranges from three to seven years for our SaaS arrangements. We typically invoice our customers monthly, in advance, for SaaS fees whereas our term licenses are typically invoiced annually, in advance. The total cost of a perpetual license is billed in full upon contract signing. We also derive revenue from maintenance and support services on our perpetual and term license products (primarily software updates, rights to unspecified software upgrades on a when-and-if-available basis and remote support services). We recognize revenue on a monthly basis as maintenance and support services are provided to customers. We generate revenue by providing professional services for both our SaaS solutions and perpetual and term license products (primarily related to implementation services) to the extent requested by our customers. The vast majority of our professional services revenue is recognized on a time and materials basis as the work is delivered to our customers. Our customers may also choose to obtain implementation services through our network of third-party SI partners who provide implementation and other related services to our customers. Our partnerships with leading SIs allow us to grow our business more efficiently by giving us scale to service our growing customer base. We continue to grow our services organization, including increasing the number of qualified consultants we employ and investing time and resources to develop relationships with new SI partners in existing and new markets. 19 -------------------------------------------------------------------------------- We sell our products and services to a wide variety of carriers, including many of the largest and most recognizable brands in the P&C insurance industry, as well as smaller national and regional carriers. Our direct sales team focuses on obtaining new customers, which includes carriers that currently operate internally developed or competing systems, as well as selling into our existing customer base, which includes marketing our SaaS solutions to our term and perpetual license customers to drive adoption of our SaaS solutions and cross-selling additional applications. We are committed to continued training and development in order to increase the productivity of our sales team, with regional sales centers inNorth America ,Europe andAustralia . Our sales team is complemented by our partnerships with third-party partners, including leading SIs and solution partners. These partners provide additional market validation to our offerings, enhance our sales force through co-marketing efforts and offer greater speed and efficiency of implementation capabilities and related services to our customers. We also engage in a variety of traditional and online marketing activities designed to provide sales support and build brand recognition and enhance our reputation as an industry leader. We believe our strong customer relationships are a result of our ability to develop innovative technology and incorporate our deep domain expertise into products that serve mission critical functions in our customers' day-to-day operations. We have over 150 insurance customers, of which approximately 70 have purchased one or more of our SaaS solutions. For customer concentration purposes, customers are assessed two ways: individual entities (customers) and combining customers that are under common control (consolidated entities). We had one consolidated entity that accounted for more than 10% of our total revenue in the first quarter of fiscal 2022 and a different consolidated entity that accounted for more than 10% of our total revenue in the first quarter of fiscal 2021.
Key Factors and Trends Affecting Our Results of Operations
Increased focus on the sale of our SaaS solutions and resulting changing revenue mix. A central part of our strategy is to continue to grow our subscription revenue by signing new SaaS customers and increasing sales to our existing SaaS customers. Additionally, over time we also expect to migrate existing term and perpetual license customers to our SaaS solutions. As a result, our software revenue mix will continue to change over time as the portion of license revenue (primarily recognized up-front) decreases and the portion of subscription revenue (recognized monthly) increases, which may make our results in any one period difficult to compare to any other period. For the three months endedNovember 30, 2021 and 2020, subscription revenue was 81% and 79% of software revenue, respectively. Continued and increased adoption of our solutions by customers. Strong customer relationships are a key driver of our success given the importance of customer references for new sales. Our long-term relationships with existing customers provide us with significant opportunities to reach customer decision-makers and sell our product offerings that address the specific customer's needs, allowing us to recognize incremental sales with lower sales and marketing spend than for a new customer. With the continued launch of new functionality for the Duck Creek Suite, we have the opportunity to realize incremental value by selling additional functionality to customers that do not currently utilize our full product portfolio and by encouraging existing term and perpetual license customers to adopt our SaaS solutions. As we demonstrate our value to customers, we believe we will have the opportunity to sell them additional solutions. Moreover, because our products are priced on the basis of the amount of DWP generated by our customers, we expect our revenue will grow as our customers grow their businesses. Timing of license revenue recognition and changing contract terms. Because our offerings are typically priced based on a customer's DWP, and our business relies on a relatively small number of high-value contracts, the license revenues recognized in any fiscal period in which we sign a term license with a large global carrier may be disproportionally higher than revenues recognized in a period in which we only sign term licenses with smaller carriers. We generally experience lengthy sales cycles because potential customers typically undertake a rigorous pre-purchase decision-making and evaluation process. Additionally, our license revenue may significantly increase in any given period in which a new license contract is signed. In fiscal 2018, we revised our contracting practices and began to sell our term licenses with an initial two-year committed term and optional annual renewals instead of our historical three to six year committed terms. This contracting change has impacted historical period-over-period revenue comparisons. However, because of our revenue mix shift to subscription and since our contracts going forward are expected to have, initial two-year committed terms, this change is not expected to have a material impact on the comparability of our results and in future periods. Our term license revenue accounted for 4% of software revenue during both the three months endedNovember 30, 2021 and 2020. Investment in sales and marketing organization. We plan to continue to invest in our sales and marketing efforts to grow our customer base, increase sales of additional functionality to existing customers and encourage carriers who currently operate legacy systems or use one or more of our competitor's applications to adopt our SaaS solutions. We expect to add sales personnel and expand our marketing activities. We also intend to continue to expand our international sales and marketing organization, which we believe will be an important factor in our continued growth. Our sales and marketing expenses totaled$13.2 million and$12.6 million in the three months endedNovember 30, 2021 and 2020, respectively. We expect sales and marketing expenses to continue to increase in absolute dollars for the foreseeable future. 20 -------------------------------------------------------------------------------- Investment in SaaS operations. We will continue to invest inDuck Creek OnDemand, including through our new SaaS operations center and continued growth in the number of our cloud and SaaS operations experts, to further our goal of delivering the best experience for our SaaS customers. Personnel related costs of our SaaS operations team and data hosting costs are the fastest growing components of our cost of subscription revenue. Our cost of subscription revenue totaled$14.6 million and$10.1 million in the three months endedNovember 30, 2021 and 2020, respectively. Investment in technology and research and development efforts. We are committed to continuing to deliver market-leading software to carriers and believe that maintaining our product leadership is critical to driving further revenue growth. As a result, we intend to continue to make significant investments in our research and development efforts to extend the functionality and breadth of our current solutions as well as develop and launch new products and tools to address the evolving needs of the P&C insurance industry. Our research and development expenses totaled$12.3 million and$11.1 million during the three months endedNovember 30, 2021 and 2020, respectively. We expect research and development expenses to increase in absolute dollars for the foreseeable future. Mix of professional services revenue. Our professional services teams ensure the successful configuration and integration of our solutions and provide continuous support to our customers. We recognize most of our professional services revenue during initial deployment and recognize additional revenue for services provided over the lifetime of a customer's use of our software. Over time, a customer's spend on professional services decreases as a percentage of their overall spend with us. In addition, although we plan on increasing our professional services headcount in the long-term, we expect to shift an increasing percentage of implementation work to our network of third-party SIs to better enable us to meet growing market demand. As a result, we expect our overall professional services revenue to increase in absolute dollars due to the growth in the number of our SaaS customers, but to decrease as a percentage of total revenue. During the three months endedNovember 30, 2021 and 2020, our professional services revenue was$29.5 million and$23.5 million , respectively. COVID-19 expenses. InMarch 2020 , we implemented various measures in response to the ongoing COVID-19 pandemic to ensure the safety of our employees. Over a two-day period, we shifted 100% of our employee base to work from home and suspended international and domestic travel. This policy remained largely in place throughout fiscal year 2021, with only certain exceptions being made on a case-by-case basis. In the beginning of fiscal year 2022, we began re-opening offices and resumed some business travel. As a result, there have been slight increases in travel-related expenses in fiscal year 2022. Due to the success of our work from home program, we have established a remote-first policy for all employees. Under this policy, employees can work from home but have the option to work out of physical office locations when they would like.
Share-based Compensation. For the three months ended
Components of Results of Operations
Revenue
We generate our revenue from selling subscriptions to our SaaS solutions, licensing our term and perpetual software applications, providing maintenance and support services (primarily software updates, rights to unspecified software upgrades on a when-and-if-available basis and remote support services) to our term and perpetual license customers and providing professional services (primarily related to implementation services) to the extent requested by either our SaaS or term and perpetual license customers. We generally price our SaaS and licenses arrangements based on the amount of a customer's DWP that will be managed by our software solutions and may include volume-based pricing for customers managing a higher amount of DWP with our solutions. Our SaaS and license contracts generally include provisions for additional fees when the amount of the customer's DWP managed by our software solutions exceed agreed-upon caps within defined reporting periods, which are recognized on an as incurred basis. Software revenue is comprised of subscription revenue and revenue from licenses and maintenance and support services. Total revenue is comprised of software revenue plus revenue from our professional services.
Subscription
Our subscription revenue is comprised of fees from customers accessing our Duck Creek OnDemand platform and other SaaS solutions. Revenue for a reporting period is generally recognized ratably in proportion to the total contractual DWP, beginning when the service has been made available to the customer. Our subscription revenue accounted for 81% and 79% of software revenue during the three months endedNovember 30, 2021 and 2020, respectively.
Licenses
On an increasingly limited basis, we sell licenses for our solutions on either a
renewable term basis or a perpetual basis. The total contractual consideration
allocated to the license is recognized as revenue upon delivery of the software
to a customer, assuming
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-------------------------------------------------------------------------------- all other revenue recognition criteria are satisfied. We sell our term licenses with an initial two-year committed term and optional annual renewals, with the revenue allocated to the initial two-year license period recognized in full upon delivery of the license. We expect potential volatility across quarters for our license revenue due to the timing of license renewals and sales. Our license revenue accounted for 4% of software revenue during both the three months endedNovember 30, 2021 and 2020, respectively.
Maintenance and Support
In connection with our term and perpetual license arrangements, we offer maintenance and support under renewable, fee-based contracts that include unspecified software updates and upgrades released when and if available, software patches and fixes and email and phone support. Our maintenance and support fees are typically priced as a fixed percentage of the associated license fees. We recognize maintenance and support revenue from customers ratably over the committed term of the contract. Substantially all term and perpetual license customers purchase an agreement for maintenance and support. We expect to continue to generate a relatively consistent stream of revenue from the maintenance and support services we provide to our existing license customers. However, we expect revenue from maintenance and support services to decrease as a percentage of software revenue as we continue to deemphasize license sales in favor of our SaaS solutions. Our maintenance and support revenue accounted for 14% and 17% of software revenue during the three months endedNovember 30, 2021 and 2020, respectively.
Professional Services
We offer professional services, primarily related to implementation of our products, in connection with both our SaaS solutions and software license products. The vast majority of professional services engagements are billed to customers on a time and materials basis and revenue is generally recognized upon delivery of our services. We expect our professional services revenue to grow over time in absolute dollars due to customer growth and an increasing need for implementation services, but decrease as a percentage of total revenue. We believe the rate at which we sell our software will drive a greater need for implementation services that will support both an increase in our professional services revenue and an increase in demand for the services provided by our third-party SIs. Our professional services revenue generates lower gross margins than our software revenue and accounted for 40% of our total revenue for both the three months endedNovember 30, 2021 and 2020.
Cost of Revenue
Our cost of revenue has fixed and variable components and depends on the type of revenue earned in each period. Cost of revenue includes amortization expense associated with acquired technology and other operating expenses directly related to the cost of products and services, including depreciation expense. We expect our cost of revenue to increase in absolute dollars as we continue to hire personnel, to provide hosting services, technical support and consulting services to our growing customer base.
Cost of Subscriptions
Our cost of subscription revenue is primarily comprised of cloud infrastructure costs, royalty fees paid to third-parties, amortization of acquired technology intangible assets and personnel-related expenses for our SaaS operations teams, including salaries and other direct personnel-related costs.
Cost of Licenses
Our cost of license revenue is primarily comprised of royalty fees paid to third-parties and amortization of acquired technology intangible assets.
Cost of Maintenance and Support
Our cost of maintenance and support revenue is comprised of personnel-related expenses for our technical support team, including salaries and other direct personnel-related costs. While we expect the cost of maintenance and support revenue will increase in the near term, it may decrease in the future if we successfully transition our term and perpetual license customers to our SaaS solutions. Cost of Professional Services
Our cost of professional services revenue is primarily comprised of personnel-related expenses for our professional service employees and contractors, including salaries and other direct personnel-related costs.
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--------------------------------------------------------------------------------Gross Margins
Gross margins have been and will continue to be affected by a variety of factors, including the average sales price of our products and services, DWP volume growth, the mix of revenue between SaaS solutions, software licenses, maintenance and support and professional services and changes in cloud infrastructure and personnel costs. As we transition our product mix to include more SaaS customers, we expect our overall gross margin percentages to decrease in the near-term due to our SaaS gross margin percentages being lower than our license gross margin percentages. Over time, we expect gross margins to increase as we onboard additional customers, achieve growth within existing customers and realize greater economies of scale.
Operating Expenses
Research and Development
Our research and development expenses consist primarily of costs incurred for personnel-related expenses for our technical staff, including salaries and other direct personnel-related costs. Additional expenses include consulting and professional fees for third-party development resources. We expect our research and development expenses to increase in absolute dollars for the foreseeable future as we continue to dedicate substantial resources to develop, improve and expand the functionality of our solutions. Costs incurred in the preliminary design and development stages of our SaaS projects are generally expensed as incurred in accordance with FASB ASC 350-40,Internal-Use Software . Once a SaaS project has reached the application development stage, certain internal, external, direct and indirect costs may be subject to capitalization. Generally, costs are capitalized until the technology is available for its intended use. Subsequent costs incurred for the development of future upgrades and enhancements, which are expected to result in additional functionality, follow the same protocol for capitalization.
Sales and Marketing Expenses
Our sales and marketing expenses consist primarily of personnel related costs for our sales and marketing functions, including salaries and other direct personnel-related costs. Additional expenses include marketing program costs, including costs related to our Formation (held annually, when possible) conference and amortization of acquired intangible assets related to customer relationships. While we expect our sales and marketing expenses to increase on an absolute dollar basis in the near term as we continue to increase investments to support our growth, we also anticipate that sales and marketing expenses will remain relatively consistent as a percentage of total revenue.
General and Administrative Expenses
Our general and administrative expenses consist primarily of personnel-related costs for our executive, finance, human resources, information technology and legal functions, including salaries and other direct personnel-related costs. Additional expenses include professional fees, amortization of acquired trademarks, tradenames and domain name intangible assets, insurance and acquisition-related costs. While we expect other general and administrative expense to increase on an absolute dollar basis in the near term as we continue to increase investments to support our growth and as a result of our becoming a public company, we also anticipate that general and administrative expenses will decrease as a percentage of total revenue over time.
Change in Fair Value of Contingent Consideration
Certain of our acquisitions have included a component of contingent consideration to be paid to the sellers if certain performance levels are achieved by the acquired entity over a specific period of time. Contingent consideration was initially recorded at fair value on the acquisition date based, in part, on a range of estimated probabilities for achievement of these performance levels. The fair value was periodically adjusted as actual performance levels become known and updates were made to the estimated probabilities for future performance. A gain or loss was recognized in the income statement for fair value adjustments. As a result of additional acquisitions, it is possible that we will incur gains or losses in the future due to the change in the fair value of contingent consideration.
Other Income (Expense), Net
Other income (expense), net consists primarily of foreign exchange gains and losses resulting from fluctuations in foreign exchange rates on receivables and payables denominated in currencies other than theU.S. dollar. 23 --------------------------------------------------------------------------------
Interest Expense, Net
Interest expense, net comprises interest expense accrued or paid on our indebtedness, net of interest income earned on our cash balances. We expect interest income (expense) to vary each reporting period depending on the amount of outstanding indebtedness, cash, cash equivalents, and investment balances, and prevailing interest rates.
Provision for Income Taxes
We are subject to taxes inthe United States as well as other tax jurisdictions or countries in which we conduct business. Earnings from our non-U.S. activities are subject to local country income tax and may be subject to currentU.S. income tax. Due to cumulative losses, we maintain a valuation allowance against our deferred tax assets, except in certain foreign subsidiaries that generate income. We consider all available evidence, both positive and negative, in assessing the extent to which a valuation allowance should be applied against our deferred tax assets. Realization of ourU.S. deferred tax assets depends upon future earnings, the timing and amount of which are uncertain.
Results of Operations
Comparison of the Three Months Ended
The following table sets forth our consolidated results of operations for the
periods indicated, expressed in total dollar terms and as a percentage of total
revenue:
Three Months Ended November 30,
(dollars in thousands) 2021 2020
Percent of Percent of
Total Revenue Total Revenue
Revenue
Subscription $ 35,705 48 % $ 27,909 47 %
License 1,912 3 1,350 2
Maintenance and support 6,277 9 6,190 11
Professional services 29,527 40 23,457 40
Total revenue 73,421 100 58,906 100
Cost of revenue
Subscription 14,585 20 10,084 17
License 244 - 388 1
Maintenance and support 880 1 842 1
Professional services 15,242 21 13,716 23
Total cost of revenue 30,951 42 25,030 42
Gross margins 42,470 58 33,876 58
Operating expenses
Research and development 12,321 17 11,104 19
Sales and marketing 13,167 18 12,597 21
General and administrative 15,035 20 14,418 25
Change in fair value of contingent
consideration 67 - 3 -
Total operating expense 40,590 55 38,122 65
Income (loss) from operations 1,880 3 (4,246 ) (7 )
Other expense, net (696 ) (1 ) (47 ) -
Interest expense, net (118 ) - (43 ) -
Income (loss) before income taxes 1,066 (2 ) (4,336 ) (7 )
Provision for income taxes 374 1 315 -
Net income (loss) $ 692 1 % $ (4,651 ) (7 )%
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The following table sets forth share-based compensation expense included in our results of operations for the periods indicated:
Three Months Ended November 30,
2021 2020
Cost of subscription revenue $ 42 $
80
Cost of maintenance and support revenue 8 7 Cost of services revenue (100 ) 610 Research and development 229 511 Sales and marketing (60 ) 899 General and administrative 1,093 985
Total share-based compensation expense $ 1,212 $
3,092 Revenue Subscription Subscription revenue increased$7.8 million , or 28%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 , due to a combination of sales to new customers and increased revenue generated from existing customers, which includes sales of new services and contractual growth.
License
License revenue increased$0.6 million , or 42%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to a line of business expansion for an existing on-premise customer, partially offset by the timing of multi-year licenses.
Maintenance and Support
Maintenance and support revenue increased 1%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to renewal term increases of maintenance and support fees charged to customers during the period. Professional services Professional services revenue increased$6.1 million , or 26%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to growth of our existing software customer base and the launch of several large implementation projects, partially offset by a decrease from completed project implementations.
Cost of Revenue
Cost of revenue increased
Cost of Subscriptions
Cost of subscription revenue increased$4.5 million , or 45%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to an increase in SaaS customers, and is comprised of a$2.4 million increase in hosting costs due to usage increase, a$1.1 million increase in payroll and related costs including bonuses as we added employees to build out the SaaS operations team, a$0.5 million increase in computer hardware and software costs, a$0.2 million increase in professional services, and a$0.2 million increase in contingent labor.
Cost of License
Cost of license revenue decreased 37% in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to a decrease in royalties paid to third parties. 25 --------------------------------------------------------------------------------
Cost of Maintenance and Support
Cost of maintenance and support revenue increased 5%, in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to an increase in personnel-related costs required to support our term and perpetual license customers.
Cost of Professional Services
Cost of professional services revenue increased$1.5 million , or 11%, in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 . Payroll and related costs increased$1.7 million , driven by increased headcount and contingent labor increased$0.5 million . These increases were offset by a$0.7 million decrease in share-based compensation expense.
Gross Margins
Gross margins increased$8.6 million , or 25%, in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 , primarily due to a$3.3 million increase in subscription gross margin, a$4.5 million increase in professional services gross margin, a$0.7 million increase in license gross margin, and a nominal increase in maintenance and support gross margin. The increase in subscription gross margins was driven by strong growth in subscription revenue, as well as cost growth below expected levels primarily based on the timing of new hires. Our gross margin percentage was flat at 58% for both the three months endedNovember 30, 2020 andNovember 30, 2021 . However, there were shifts within gross margin. The subscription gross margin percentage decreased, professional services gross margin percentage and license gross margin percentage increased and maintenance and support gross margin percentage remained static.
Operating Expenses
Research and Development Expense
Research and development expense increased$1.2 million , or 11%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 , primarily due to a$1.0 million increase in payroll costs and bonuses from increased headcount, a$0.2 million increase in the amortization of capitalized software costs, a$0.1 million increase in computer hardware and software costs, and a$0.1 million increase in hosting costs. These increases were partially offset by a$0.3 million decrease in share-based compensation.
Sales and Marketing Expense
Sales and marketing expense increased$0.6 million , or 5%, during the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 , primarily due to a$0.9 million increase in payroll costs and bonuses from increased headcount, a$0.2 million increase in recruiting, a$0.2 million increase in travel and entertainment, a$0.1 million increase in commission expense, and a$0.1 million increase in training, partially offset by a$0.9 million decrease in share-based compensation, and a$0.2 million decrease in marketing programs.
General and Administrative Expense
General and administrative expense increased$0.6 million , or 4%, in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 , primarily due to a$0.8 million increase in bad debt expense, a$0.5 million increase in payroll costs and bonuses from increased headcount, a$0.2 million increase in computer hardware and software costs, a$0.1 million increase in share-based compensation, a$0.1 million increase in insurance, and a$0.1 million increase in contingent labor. These increases were partially offset by a$1.2 million decrease in professional services expense primarily due to costs associated with our secondary follow-on offering in the first quarter of fiscal 2021 and a$0.2 million decrease in facilities.
Change in Fair Value of Contingent Consideration
Change in fair value of contingent consideration is due to changes in estimated contingent consideration as well as present value calculations related to the contingent consideration estimates of the acquisition ofOutline Systems LLC , a provider of P&C distribution channel management software and longstanding member of our partner ecosystem (now Duck Creek Distribution Management). The final contingent consideration has been paid in full as ofNovember 30, 2021 .
Other Income (Expense), Net
Other income (expense), net increased$0.6 million during the three months endedNovember 30, 2021 as compared to the three months endedNovember 30, 2020 , primarily due to fluctuations in foreign exchange rates on receivables and payables denominated in currencies other than theU.S. dollar, partially offset by a$0.1 million gain on the derecognition of a lease liability. 26 --------------------------------------------------------------------------------
Interest Expense, Net
Interest expense, net increased slightly in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 . Interest expense consists of fees paid to maintain the revolving credit facility, though there were no outstanding borrowings in either period. These expenses were partially offset by interest income received from cash, cash equivalents, and short-term investments. Provision for Income Taxes Provision for income taxes increased 19% in the three months endedNovember 30, 2021 versus the three months endedNovember 30, 2020 primarily due to the impact of goodwill amortized for tax not for book, impact of higher profits in foreign subsidiaries and state taxes.
Liquidity and Capital
To date, we have financed our operations primarily through cash provided by operating activities, our revolving credit facility, and, most recently, through net proceeds received from our IPO. As ofNovember 30, 2021 , we had$251.7 million in cash and cash equivalents,$96.0 million of short-term investments, no outstanding borrowings under our revolving credit facility and$0.9 million of outstanding letters of credit. We also had$44.1 million of additional principal availability under our revolving credit facility. We believe that our existing cash and cash equivalents and short-term investments, together with cash provided by operating activities and amounts available under our revolving credit facility, will be sufficient to meet our operating working capital and capital expenditure requirements over at least the next twelve months. Our future cash requirements will depend on many factors, including our rate of revenue growth, the expansion of our sales and marketing activities, the timing and extent of our spending to support our research and development efforts, investments in cloud infrastructure and operating costs, and expansion into other markets. At any given time, we may be evaluating one or more potential investments in, or acquisitions of, businesses or technologies, which could require us to seek additional equity or debt financing. Additional sources of liquidity and capital resources, including equity or debt financing, may not be available on terms favorable to us or at all. As ofNovember 30, 2021 ,$116.3 million of cash was held by our foreign subsidiaries. Of this cash balance,$100.0 million is the result of repaying an intercompany loan during the three months endedNovember 30, 2021 and is held in aU.S. dollar-based bank account. We currently do not anticipate a need to repatriate these funds to finance ourU.S. operations; however, we may utilize all or part of the$100.0 million to finance future acquisitions.
Summary of Cash Flows for the Three Months Ended
The following summarizes our cash flows from operating, investing and financing activities for the periods indicated:
Three Months Ended
November 30,
($ in thousands) 2021 2020
Net cash used in operating activities $ (24,603 ) $ (22,172 )
Net cash provided by (used in) investing activities 95,061 (724 )
Net cash (used in) financing activities (4,376 ) (5,822 )
Net increase (decrease) in cash and cash equivalents 66,082 (28,718 )
Cash and cash equivalents - beginning of period 185,657 389,878
Cash and cash equivalents - end of period $ 251,739 $ 361,160
Operating Activities
We used $24.6 million of cash from operating activities during the three months
ended November 30, 2021 , resulting from our net income, after excluding the
impact of non-cash charges, of $7.7 million and $32.3 million of cash used in
working capital activities. Cash used in working capital activities during the
three months ended November 30, 2021 was primarily due to annual bonus payments
of $18.8 million , an increase in accounts receivable and unbilled revenue of
$7.7 million , an increase in prepaid expenses of $2.5 million , a payment of
contingent earnout liability in excess of its fair value at acquisition of $1.7
million , and a decrease in deferred revenue of $3.7 million .
We used $22.2 million of cash from operating activities during the three months
ended November 30, 2020 , resulting from our net income, after excluding the
impact of non-cash charges, of $3.7 million and $25.9 million of cash used in
working capital activities. Cash used in working capital activities during the
three months ended November 30, 2020 was primarily due to annual bonus payments
of $18.2 million and Phantom unit settlement payments of $6.7 million .
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--------------------------------------------------------------------------------Non-cash charges in all periods include depreciation and amortization, share-based compensation expense, deferred taxes, and change in fair value of contingent earn-out liability.
Investing Activities
Net cash used in investing activities consists of purchases of property and equipment, capitalization of internal use software costs, and investments in short-term, government backed securities.
We had cash provided by investing activities of$95.1 million during the three months endedNovember 30, 2021 compared to cash used in investing activities of$0.7 million in the three months endedNovember 30, 2020 . During the three months endedNovember 30, 2021 , we had maturities of short-term investments of$95.9 million . The Company had not yet made these investments in the prior year. In the three months endedNovember 30, 2021 , we spent approximately$0.5 million on purchases of property, plant and equipment, compared to$0.2 million during the three months endedNovember 30, 2020 . Additionally, our capitalized costs for internal use software were$0.2 million less during the three months endedNovember 30, 2021 compared to the prior year period.
Financing Activities
We used$4.4 million in financing activities during the three months endedNovember 30, 2021 , compared to cash used in financing activities of$5.8 million during the three months endedNovember 30, 2020 . Cash used in financing activities during the three months endedNovember 30, 2021 primarily related to a$3.9 million contingent earnout liability payment, as compared to a$1.9 million contingent earnout liability payment in the prior year. During the three months endedNovember 30, 2020 , the Company made$3.7 million in payments of deferred IPO costs and a$0.2 million payment for deferred Class E units offering costs.
Other Financial Data and Key Metrics
Non-GAAP Financial Measures
We report our financial results in accordance with accounting principles generally accepted inthe United States ("GAAP"); however, management believes evaluating the Company's ongoing operating results may be enhanced if investors have additional non-GAAP financial measures. Specifically, management reviews Adjusted EBITDA, Free Cash Flow, Non-GAAP Gross Margin, Non-GAAP Income from Operations and Non-GAAP Net Income (Loss), each of which is a non-GAAP financial measure, to manage our business, make planning decisions, evaluate our performance and allocate resources and, for the reasons described below, considers them to be effective indicators, for both management and investors, of our financial performance over time. We believe that Adjusted EBITDA, Free Cash Flow, Non-GAAP Gross Margin, Non-GAAP Income from Operations and Non-GAAP Net Income (Loss) help investors and analysts in comparing our results across reporting periods on a consistent basis by excluding items that we do not believe are indicative of our core operating performance. These non-GAAP financial measures have limitations as analytical tools and should not be considered in isolation from, or as a substitute for, the analysis of other GAAP financial measures, including net income and cash flows from operating activities. For example, with respect to Adjusted EBITDA, some of these limitations include:
• it does not reflect our cash expenditures, or future requirements, for
capital expenditures or contractual commitments;
• it does not reflect changes in, or cash requirements for, our working
capital needs;
• it does not reflect interest expense, or the cash requirements necessary to
service interest or principal payments, on our indebtedness;
• it does not reflect our income tax expense or the cash requirements to pay
our taxes; and
• although depreciation and amortization are non-cash charges, the assets
being depreciated and amortized will often have to be replaced in the
future, and Adjusted EBITDA does not reflect any cash requirements for such
replacements.
These non-GAAP financial measures are not universally consistent calculations,
limiting their usefulness as comparative measures. Other companies may calculate
similarly titled financial measures differently than we do or may not calculate
them at all. Additionally, these non-GAAP financial measures are not
measurements of financial performance or liquidity under GAAP. In order to
facilitate a clear understanding of our consolidated historical operating
results, you should examine our non-GAAP financial measures in conjunction with
our historical combined financial statements and notes thereto included
elsewhere in this Quarterly Report.
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--------------------------------------------------------------------------------The non-GAAP financial measures and principal metrics we use in managing our business are set forth below:
Adjusted EBITDA. We define Adjusted EBITDA as net loss before interest expense, net; other income (expense), net; provision for income taxes; depreciation of property and equipment; amortization of intangible assets; share-based compensation expense; and the change in fair value of contingent consideration. We believe Adjusted EBITDA provides investors and other users of our financial information consistency and comparability with our past financial performance and facilitates period-to-period comparisons of operations. Adjusted EBITDA was$7.8 million and$3.6 million for the three months endedNovember 30, 2021 and 2020, respectively. A reconciliation of Adjusted EBITDA to net loss, the most directly comparable GAAP financial measure, is presented below for the periods indicated. Three Months Ended November 30, ($ in thousands) 2021 2020 GAAP Net Income (Loss) $ 692 $ (4,651 ) Provision for income taxes 374 315 Other expense, net 696 47 Interest expense, net 118 43 Depreciation of property and equipment 704 787 Amortization of intangible assets 3,929 3,994 Share-based compensation expense 1,212 3,092 Change in fair value of contingent earnout liability 67 3 Adjusted EBITDA $ 7,792 $ 3,630 Adjusted EBITDA as a percent of total revenue 11 % 6 % Free Cash Flow. We define Free Cash Flow as net cash provided by operating activities, less purchases of property and equipment and capitalized internal-use software. We consider Free Cash Flow to be an important measure in facilitating period-to-period comparisons of liquidity. We use Free Cash Flow in conjunction with traditional GAAP measures as part of our overall assessment of liquidity. Free Cash Flow was($25.5) million and($22.9) million for the three months endedNovember 30, 2021 andNovember 30, 2020 , respectively. A reconciliation of Free Cash Flow to net cash provided by (used in) operating activities, the most directly comparable GAAP financial measure, is presented below for the periods indicated. Three Months Ended November 30, ($ in thousands) 2021 2020
Net cash used in operating activities
(366 ) (536 )
Free Cash Flow $ (25,509 ) $ (22,896 )
Non-GAAP Gross Margin. We define Non-GAAP Gross Margin as GAAP gross margin
before the portion of share-based compensation expense; amortization of
intangible assets; and amortization of capitalized internal-use software that is
included in cost of revenue. We believe Non-GAAP Gross Margin provides investors
and other users of our financial information consistency and comparability with
our past financial performance and facilitates period-to-period comparisons of
gross margin. Non-GAAP Gross Margin was $44.1 million and $36.3 million for the
three months ended November 30, 2021 and 2020, respectively. A reconciliation of
Non-GAAP Gross Margin to gross margin, the most directly comparable GAAP
financial measure, is presented below for the periods indicated.
Three Months Ended November 30,
($ in thousands) 2021 2020
GAAP Gross Margin $ 42,470 $ 33,876
Share-based compensation expense (50 ) 697
Amortization of intangible assets 1,121 1,186
Amortization of capitalized internal-use software 561 498
Non-GAAP Gross Margin $ 44,102 $ 36,257
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-------------------------------------------------------------------------------- Non-GAAP Income from Operations. We define Non-GAAP Income from Operations as GAAP loss from operations before share-based compensation expense; amortization of intangible assets; and the change in fair value of contingent consideration. We believe Non-GAAP Income from Operations provides investors and other users of our financial information consistency and comparability with our past financial performance and facilitates period-to-period comparisons of operations. Non-GAAP Income from Operations was$7.1 million and$2.8 million for the three months endedNovember 30, 2021 and 2020, respectively. A reconciliation of Non-GAAP Income from Operations to loss from operations, the most directly comparable GAAP financial measure, is presented below for the periods indicated. Three Months Ended November 30, ($ in thousands) 2021 2020 GAAP Income (Loss) from Operations $ 1,880 $ (4,246 ) Share-based compensation expense 1,212 3,092 Amortization of intangible assets 3,929 3,994 Change in fair value of contingent earnout liability 67 3 Non-GAAP Income from Operations $ 7,088 $ 2,843 Non-GAAP Net Income (Loss). We define Non-GAAP Net Income as GAAP net loss before share-based compensation expense; amortization of intangible assets; and change in fair value of contingent earnout liability. We believe Non-GAAP Net Income provides investors and other users of our financial information consistency and comparability with our past financial performance and facilitates period-to-period comparisons of operations. Non-GAAP Net Income was$4.8 million and$2.1 million for the three months endedNovember 30, 2021 and 2020, respectively. A reconciliation of Non-GAAP Net Income to net loss, the most directly comparable GAAP financial measure, is presented below for the periods indicated. Three Months Ended November 30, ($ in thousands) 2021 Per Share 2020 Per Share GAAP Net Income (Loss) (1) $ 692$ 0.01 $ (4,651 ) $ (0.04 ) Add: GAAP tax provision 374 315 GAAP pre-tax income (loss) 1,066 (4,336 ) Share-based compensation expense 1,212 3,092 Amortization of intangible assets 3,929 3,994 Change in fair value of contingent earnout liability 67 3 Non-GAAP pre-tax income 6,274 2,753 Non-GAAP tax provision applied at a 24% tax rate (1) 1,506 661 Non-GAAP Net Income (1)$ 4,768 $ 0.04 $ 2,092 $ 0.02 Shares used in computing Non-GAAP income per share
amounts:
GAAP weighted-average shares - basic 132,038,274
130,788,359
GAAP dilutive shares 2,173,936 -
Non-GAAP dilutive shares excluded from GAAP
loss per share calculation (using the treasury stock method) -
3,227,281
Non-GAAP weighted-average shares - diluted 134,212,210 134,015,640
(1) Our GAAP tax provision is primarily related to state taxes and income taxes
in profitable foreign jurisdictions. We maintain a full valuation
allowance against our deferred tax assets in the U.S. For purposes of
determining our Non-GAAP Net Income, we have applied a tax rate of 24%
which represents our estimated effective tax rate.
Net Dollar Retention Rate. We calculate SaaS Net Dollar Retention Rate by
annualizing SaaS revenue recorded in the last month of the measurement period
for those revenue-generating customers in place throughout the entire
measurement period (the latest twelve-month period). We divide the result by
annualized SaaS revenue from the month that is immediately prior to the
beginning of the measurement period, for all revenue-generating customers in
place at the beginning of the measurement period. Our SaaS Net Dollar Retention
Rate was 122% and 118% as of November 30, 2021 and 2020, respectively. Our
calculation excludes one existing contract for a service no longer offered on a
standalone basis by the Company. We believe SaaS Net Dollar Retention Rate is an
important metric for the Company because, in addition to providing a measure of
retention, it indicates our ability to grow revenue within existing customer
accounts. SaaS Net Dollar Retention Rate is included in a set of metrics that we
calculate quarterly to review with management as well as periodically with
members of our board of directors.
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SaaS Annual Recurring Revenue ("SaaS ARR"). We calculate SaaS ARR by annualizing
the recurring subscription revenue recognized in the last month of the
measurement period (the latest twelve-month period). Our SaaS ARR was $145.5
million and $103.9 million as of November 30, 2021 and 2020, respectively. Our
calculation excludes one existing contract for a service no longer offered on a
standalone basis by the Company. We believe SaaS ARR provides important
information about our ability to acquire new subscription SaaS customers and to
maintain and expand our relationship with existing subscription SaaS customers.
SaaS ARR is included in a set of metrics that we calculate quarterly to review
with management as well as periodically with members of our board of directors.
Indebtedness
On October 4, 2016 , we entered into a credit agreement with a group of lenders
for a revolving credit facility with a maximum borrowing capacity of
$30.0 million that was originally scheduled to mature on October 4, 2019 . On
October 2, 2019 , we amended certain of the financial covenants and extended our
credit agreement for two years to a maturity date of October 2, 2021 . On October
22, 2021 , the Company executed an amended and restated credit agreement for its
revolving credit facility with a five-year term, increasing its maximum
borrowing capacity from $30.0 million to $45.0 million .
Our revolving credit facility is guaranteed by the Company and certain of its
domestic subsidiaries and secured by substantially all of our tangible and
intangible assets. Interest accrues on our revolving credit facility at a
variable rate based upon the type of borrowing made by us. Loans under our
revolving credit facility bear interest at a rate of LIBOR (as administered by
ICE Benchmark Administration ) plus an applicable margin, or incur interest at
the higher of: (i) the Prime Rate, (2) the Fed Funds Rate plus 0.5%, or
(3) LIBOR plus 1.0%, plus an applicable margin. The applicable margin ranges
from 1.0% to 2.0% depending on the interest rate basis and type of borrowing
elected (eurocurrency rate loan, base rate loan, swing rate loan or letter of
credit). In addition to interest on our revolving credit facility, we pay a
commitment fee of 0.5% per annum on the unused portion of our revolving credit
facility, as well as customary letter of credit fees. Repayment of any amounts
borrowed are not required until maturity of our revolving credit facility,
however we may repay any amounts borrowed at any time, without premium or
penalty.
The Company is required to meet certain financial and nonfinancial covenants
under the terms of the revolving credit facility. These covenants include limits
on the creation of liens, limits on making certain investments, limits on
incurring additional indebtedness, and maintaining a leverage ratio at or below
a maximum level. The Company was in compliance with these financial and
nonfinancial covenants as of November 30, 2021 .
We incurred $0.7 million of costs directly related to obtaining our revolving
credit facility which have been recorded as deferred financing fees and are
amortized to legal expense on a straight-line basis over the term of our
revolving credit facility. During fiscal 2017, we executed an irrevocable
standby letter of credit totaling $0.8 million against our revolving credit
facility in lieu of a cash security deposit for one of our office leases. Two
additional irrevocable standby letters of credit were executed during fiscal
2019 for $0.2 million and $0.1 million , respectively, against our revolving
credit facility in lieu of cash deposits for two of our office leases. In fiscal
2020, the $0.2 million letter of credit was reduced by $0.1 million . Apart from
the letters of credit, we did not have any borrowings outstanding on our
revolving credit facility as of November 30, 2021 and November 30, 2020 .
Off-Balance Sheet Arrangements
We did not have any off-balance sheet arrangements, as defined in Regulation S-K, Item 303(a)(4)(ii) promulgated by theSEC under the Securities Act, in the three months endedNovember 30, 2021 and 2020, respectively.
Critical Accounting Policies and Estimates
The process of preparing our financial statements in conformity withU.S. GAAP requires the use of estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses. These estimates and judgments are based on historical experience, future expectations and other factors and assumptions we believe to be reasonable under the circumstances. The most significant estimates and judgments are reviewed on an ongoing basis and are revised when necessary. Actual amounts may differ from these estimates and judgments. A summary of our significant accounting policies is contained in Note 2 of our unaudited consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q. There have been no material changes in our critical accounting policies from those disclosed in our Annual Report on Form 10-K for the year endedAugust 31, 2021 filed with theSEC onOctober 29, 2021 .
Recent Accounting Pronouncements
A summary of recent accounting pronouncements and our assessment of any expected
impact of these pronouncements if known is included in Note 2 of our unaudited
consolidated financial statements included elsewhere in this Quarterly Report on
Form 10-Q.
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