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QLYS > SEC Filings for QLYS > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for QUALYS, INC.

Form 10-Q for QUALYS, INC.


9-Nov-2012

Quarterly Report


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

This Quarterly Report on Form 10-Q, including this Management's Discussion and Analysis of Financial Condition and Results of Operations, should be read in conjunction with (1) our condensed consolidated financial statements (unaudited) and the related notes included elsewhere in this report, and (2) the audited consolidated financial statements and the related notes and management's discussion and analysis of financial condition and results of operations for the fiscal year ended December 31, 2011 included in the final prospectus for our initial public offering dated as of and filed with the SEC pursuant to Rule 424(b)(4) on September 27, 2012 (File No. 333-182027).
In addition to historical information, this Quarterly Report on Form 10-Q contains "forward-looking" statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Forward-looking statements generally relate to future events or our future financial or operating performance. In some cases, it is possible to identify forward-looking statements because they contain words such as "anticipates," "believes," "contemplates," "continue," "could," "estimates," "expects," "future," "intends," "likely," "may," "plans," "potential," "predicts," "projects," "seek," "should," "target" or "will," or the negative of these words or other similar terms or expressions that concern our expectations, strategy, plans or intentions. We disclaim any obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.

Overview

We are a pioneer and leading provider of cloud security and compliance solutions that enable organizations to identify security risks to their IT infrastructures, help protect their IT systems and applications from ever-evolving cyber attacks and achieve compliance with internal policies and external regulations. Our cloud solutions address the growing security and compliance complexities and risks that are amplified by the dissolving boundaries between internal and external IT infrastructures and web environments, the rapid adoption of cloud computing and the proliferation of geographically dispersed IT assets. Our integrated suite of security and compliance solutions delivered on our QualysGuard Cloud Platform enable our customers to identify their IT assets, collect and analyze large amounts of IT security data, discover and prioritize vulnerabilities, recommend remediation actions and verify the implementation of such actions. Organizations use our integrated suite of solutions delivered on our QualysGuard Cloud Platform to cost-effectively obtain a unified view of their security and compliance posture across globally-distributed IT infrastructures.

We were founded in December 1999 with a vision of transforming the way organizations secure and protect their IT infrastructure and applications and initially launched our first cloud solution, QualysGuard Vulnerability Management, in 2000. This solution has provided the substantial majority of our revenues to date. As this solution gained acceptance, we introduced new solutions to help customers manage increasing IT security and compliance requirements. In 2006, we added our PCI Compliance solution, and in 2008, we added our Policy Compliance solution. In 2009, we broadened the scope of our cloud services by adding Web Application Scanning. We continued our expansion in 2010, launching Malware Detection Service and Qualys SECURE Seal for automated protection of websites.

We provide our solutions through a software-as-a-service model, primarily with renewable annual subscriptions. These subscriptions require customers to pay a fee in order to access our cloud solutions. We invoice our customers for the entire subscription amount at the start of the subscription term, and the invoiced amounts are treated as deferred revenues and are recognized ratably over the term of each subscription. Historically, we have experienced significant revenue growth from existing customers as they renew and purchase additional subscriptions. Revenues from customers existing at or prior to September 30, 2011 grew $4.0 million to $59.6 million during the nine months ended September 30, 2012. We expect this trend to continue.

We market and sell our solutions to enterprises, government entities and to small and medium size businesses across a broad range of industries, including education, financial services, government, healthcare, insurance, manufacturing, media, retail, technology and utilities. As of September 30, 2012, we had over 6,000 customers in more than 100 countries, including a majority of each of the Forbes Global 100 and Fortune 100. In the nine months ended September 30, 2012 and 2011, approximately 68% and 69%, respectively, of our revenues were derived from customers in the United States. We sell our solutions to enterprises and government entities primarily through our field sales force and to small and medium-sized businesses through our inside sales force. We generate a significant portion of sales through our channel partners, including managed service providers, value-added resellers and consulting firms in the United States and internationally.


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We have had strong revenue growth in the three and nine months ended September 30, 2012 compared to the same periods in 2011. Our revenues increased to $23.4 million in the three months ended September 30, 2012 from $19.4 million for the comparable period in 2011. Revenues reached $66.8 million for the nine months ended September 30, 2012, compared to $55.6 million in the nine months ended September 30, 2011, representing period-over-period increases of $4.0 million, and $11.2 million, or 21% and 20%, respectively. For the three months ended September 30, 2012, we had net income of $1.7 million compared to net income of $0.5 million for the three months ended September 30, 2011. For the nine months ended September 30, 2012, we had net income of $1.1 million compared to net income of $2.6 million for the nine months ended September 30, 2011.

On September 28, 2012, our common stock commenced trading on the NASDAQ Stock Market under the trading symbol "QLYS," and on October 3, 2012 we closed our initial public offering. In our initial public offering, we sold and issued 7,836,250 shares and certain selling stockholders sold an additional 875,000 shares. The net proceeds to us from the offering were approximately $87.5 million, after deducting underwriting discounts and commissions, and before deducting total estimated expenses in connection with this offering of approximately $2.5 million.

Key Metrics

In addition to measures of financial performance presented in our condensed consolidated financial statements, we monitor the key metrics set forth below to help us evaluate growth trends, establish budgets, measure the effectiveness of our sales and marketing efforts, and assess operational efficiencies.

Four-Quarter Bookings
We monitor Four-Quarter Bookings, a non-GAAP financial measure, which is calculated as revenues for the preceding four quarters plus the change in current deferred revenues for the same period. We believe this metric provides an additional tool for investors to use in assessing our business performance in a way that more fully reflects current business trends than reported revenues and reduces the variations in any particular quarter caused by customer subscription renewals. We believe Four-Quarter Bookings reflects the material sales trends for our business because it includes sales of subscriptions to new customers, as well as subscription renewals and upsells of additional subscriptions to existing customers. Since over 80% of our subscriptions are one year in length, we use current deferred revenues in this metric in order to focus on revenues to be generated over the next four quarters and to exclude the impact of multi-year subscriptions. Under our revenue recognition policy, we record subscription fees as deferred revenues and recognize revenues ratably over the subscription periods. For this reason, substantially all of our revenues for a period are typically generated from subscriptions commencing in prior periods. In addition, subscription renewals may vary during the year based on the date of our customers' original subscriptions, customer requests to modify subscription periods or other factors.


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The following table presents the reconciliation of revenues to Four-Quarter Bookings for the four quarters ended September 30, 2012 and 2011.

                                                    Four Quarters Ended
                                                       September 30,
                                                 2012                   2011
                                            (in thousands, except percentages)
Revenues                                 $           87,416       $       72,816
Deferred revenues, current
Beginning of the Four-Quarter Period                 40,413               34,370
Ending                                               51,693               40,413
Net change                                           11,280                6,043
Four-Quarter Bookings                    $           98,696       $       78,859
Percentage change from prior year period                 25 %                 22 %

Adjusted EBITDA
We monitor Adjusted EBITDA, a non-GAAP financial measure, to analyze our financial results and believe that it is useful to investors, as a supplement to U.S. GAAP measures, in evaluating our ongoing operational performance and enhancing an overall understanding of our past financial performance. We believe that Adjusted EBITDA helps illustrate underlying trends in our business that could otherwise be masked by the effect of the income or expenses that we exclude in Adjusted EBITDA. Furthermore, we use this measure to establish budgets and operational goals for managing our business and evaluating our performance. We also believe that Adjusted EBITDA provides an additional tool for investors to use in comparing our recurring core business operating results over multiple periods with other companies in our industry.

Adjusted EBITDA should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with U.S. GAAP. We calculate Adjusted EBITDA as net income before (1) other (income) expense, net, which includes interest income, interest expense and other income and expense, (2) provision for income taxes, (3) depreciation and amortization of property and equipment, (4) amortization of intangible assets and (5) stock-based compensation.

The following table presents the reconciliation of net income to Adjusted EBITDA for the three and nine months ended September 30, 2012 and 2011.

                                            Three Months Ended              Nine Months Ended
                                               September 30,                  September 30,
                                            2012            2011           2012            2011
                                                    (in thousands, except percentages)
Net income                             $     1,667      $      452     $     1,105     $    2,605
Other (income) expense, net                    (23 )           461             195             53
Provision for income taxes                      77              81              77            291
Depreciation and amortization of
property and equipment                       1,739           1,121           5,066          3,466
Amortization of intangible assets              112             101             331            315
Stock-based compensation                     1,027             550           2,583          1,512
Adjusted EBITDA                        $     4,599      $    2,766     $     9,357     $    8,242
Percentage of revenues                          20 %            14 %            14 %           15 %


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Limitations of Four-Quarter Bookings and Adjusted EBITDA Four-Quarter Bookings and Adjusted EBITDA, non-GAAP financial measures, have limitations as analytical tools, and should not be considered in isolation from or as a substitute for the measures presented in accordance with U.S. GAAP. Some of these limitations are:

         Four-Quarter Bookings reflects the amount of revenues over a
          four-quarter period, plus the net change in the current portion of
          deferred revenues, while revenues are recognized ratably over the
          subscription periods;


         Adjusted EBITDA does not reflect certain cash and non-cash charges that
          are recurring;

Adjusted EBITDA does not reflect income tax payments that reduce cash available to us;

         Adjusted EBITDA excludes depreciation and amortization of property and
          equipment and, although these are non-cash charges, the assets being
          depreciated and amortized may have to be replaced in the future; and



         Other companies, including companies in our industry, may calculate
          Four-Quarter Bookings or Adjusted EBITDA differently or not at all,
          which reduces their usefulness as a comparative measure.

Because of these limitations, Four-Quarter Bookings and Adjusted EBITDA should be considered alongside other financial performance measures, including revenues, net income and our financial results presented in accordance with U.S.
GAAP.

Key Components of Results of Operations
Revenues
We derive revenues from the sale of subscriptions to our security and compliance solutions, which are delivered on our cloud platform. We generate the substantial majority of our revenues through the sale of subscriptions to our QualysGuard Vulnerability Management solution, and we also have a growing number of customers who have purchased our additional solutions. Subscriptions to our solutions allow customers to access our cloud security and compliance solutions through a unified, web-based interface. Customers generally enter into one year renewable subscriptions. The subscription fee entitles the customer to an unlimited number of scans for a specified number of networked devices or web applications and, if requested by a customer as part of their subscription, a specified number of physical or virtual scanner appliances. Our physical and virtual scanner appliances are requested by certain customers as part of their subscriptions in order to scan IT infrastructures within their firewalls and do not function without, and are not sold separately from, subscriptions for our solutions. Customers are required to return physical scanner appliances if they do not renew their subscriptions.

We typically invoice our customers for the entire subscription amount at the start of the subscription term. Invoiced amounts are reflected on our consolidated balance sheet as accounts receivable or as cash when collected, and as deferred revenues until earned and recognized ratably over the subscription period. Accordingly, deferred revenues represents the amount billed to customers that has not yet been earned or recognized as revenues, pursuant to subscriptions entered into in current and prior periods.

Cost of Revenues
Cost of revenues consists primarily of personnel expenses, comprised of salaries, benefits, performance-based compensation and stock-based compensation, for employees who operate our data centers and provide support services to our customers. Other expenses include depreciation of data center equipment and physical scanner appliances provided to certain customers as part of their subscriptions, expenses related to the use of third-party data centers, amortization of third-party technology licensing fees, fees paid to contractors who supplement or support our operations center personnel and overhead allocations. We expect to make significant capital investments to expand our data center operations, which will increase the cost of revenues in absolute dollars.


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Operating Expenses
Research and Development

Research and development expenses consist primarily of personnel expenses, comprised of salaries, benefits, performance-based compensation and stock-based compensation, for our research and development teams. Other expenses include third-party contractor fees, amortization of intangibles related to prior acquisitions and overhead allocations. All research and development costs are expensed as incurred. We expect to continue to devote substantial resources to research and development in an effort to continuously improve our existing solutions as well as develop new solutions and expect that research and development expenses will increase in absolute dollars.

Sales and Marketing

Sales and marketing expenses consist primarily of personnel expenses, comprised of salaries, benefits, sales commissions, performance-based compensation and stock-based compensation for our worldwide sales and marketing teams. Other expenses include marketing and promotional events, lead-generation marketing programs, public relations, travel and overhead allocations. All costs are expensed as incurred, including sales commissions. Sales commissions are expensed in the quarter in which the related order is received and are paid in the month subsequent to the end of that quarter, which results in increased expenses prior to the recognition of related revenues. Our new sales personnel are typically not immediately productive, and the resulting increase in sales and marketing expenses we incur when we add new personnel may not result in increased revenues if these new sales personnel fail to become productive. The timing of our hiring of sales personnel and the rate at which they generate incremental revenues may affect our future operating results. We expect that sales and marketing expenses will increase in absolute dollars.

General and Administrative

General and administrative expenses consist primarily of personnel expenses, comprised of salaries, benefits, performance-based compensation and stock-based compensation, for our executive, finance and accounting, legal, human resources and internal information technology support teams as well as professional services fees and overhead allocations. We anticipate that we will incur additional expenses for personnel and for professional services, including auditing and legal services, insurance and other corporate governance-related expenses, including compliance with Section 404 of the Sarbanes-Oxley Act, related to operating as a public company. We expect that general and administrative expenses will increase in absolute dollars, especially in the near term, as we continue to add personnel to support our growth and operate as a public company.

Other Income (Expense), Net
Our other income (expense), net consists primarily of interest expense associated with our capital leases and foreign exchange gains and losses, the majority of which result from fluctuations between the U.S. dollar and the Euro, British pound and Japanese yen.

Provision for Income Taxes
Our provision for income taxes consists primarily of corporate income taxes resulting from profits generated in foreign jurisdictions by wholly-owned subsidiaries, along with state income taxes payable in the United States. The provision for income taxes also includes changes to unrecognized tax benefits related to uncertain tax positions.

Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the tax impact of timing differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using statutory tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period when the statutory rate change is enacted into law.


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We maintain a full valuation allowance on our U.S. federal and state deferred tax assets. Our cash tax expense is impacted by each jurisdiction's individual tax rates, laws on timing of recognition of income and deductions and availability of net operating losses and tax credits. Given the full valuation allowance and sensitivity of current cash taxes to local rules, our effective tax rate could fluctuate significantly on a quarterly basis and could be adversely affected by increases in non-deductible stock compensation or other non-deductible expenses and to the extent earnings are lower than anticipated in countries that have lower statutory rates and higher than anticipated in countries that have higher statutory rates. Our effective tax rate could also fluctuate due to a change in our earnings projections, by changes in the valuation of our deferred tax assets or liabilities, or by changes in tax laws, regulations, or accounting principles, as well as certain discrete items.

Results of Operations

The following tables set forth selected condensed consolidated statements of
operations data for each of the periods presented.
                                               Three Months Ended         Nine Months Ended
                                                 September 30,              September 30,
                                               2012          2011         2012         2011
                                                              (in thousands)
Consolidated Statements of Operations Data:
Revenues                                    $   23,382    $ 19,375     $ 66,763     $ 55,560
Cost of revenues (1)                             4,634       3,225       13,423        9,124
Gross profit                                    18,748      16,150       53,340       46,436
Operating expenses:
Research and development (1)                     5,076       4,922       15,325       14,680
Sales and marketing (1)                          8,797       7,985       27,827       22,297
General and administrative (1)                   3,154       2,249        8,811        6,510
Total operating expenses                        17,027      15,156       51,963       43,487
Income from operations                           1,721         994        1,377        2,949
Other income (expense), net                         23        (461 )       (195 )        (53 )
Income before provision for income taxes         1,744         533        1,182        2,896
Provision for income taxes                          77          81           77          291
Net income                                  $    1,667    $    452     $  1,105     $  2,605



(1) Includes stock-based compensation as follows:

                                    Three Months Ended             Nine Months Ended
                                       September 30,                 September 30,
                                       2012            2011         2012           2011
                                                     (in thousands)
Cost of revenues               $         68           $  44    $      195        $    96
Research and development                167             118           484            340
Sales and marketing                     349             163           856            397
General and administrative              443             225         1,048            679
Total stock-based compensation $      1,027           $ 550    $    2,583        $ 1,512


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The following table sets forth selected condensed consolidated statements of operations data for each of the periods presented as a percentage of revenues.

                                           Three Months Ended       Nine Months Ended
                                             September 30,            September 30,
                                           2012         2011        2012         2011
Revenues                                    100 %        100  %      100 %        100 %
Cost of revenues                             20           17          20           16
Gross profit                                 80           83          80           84
Operating expenses:
Research and development                     22           25          23           26
Sales and marketing                          38           41          42           40
General and administrative                   13           12          13           13
Total operating expenses                     73           78          78           79
Income from operations                        7            5           2            5
Other income (expense), net                   -           (2 )         -            -
Income before provision for income taxes      7            3           2            5
Provision for income taxes                    -            1           -            -
Net income                                    7 %          2  %        2 %          5 %

Comparison of Three Months Ended September 30, 2012 and 2011
Revenues
                Three Months Ended
                  September 30,                 Change
                 2012             2011         $        %
                 (in thousands, except percentages)


Revenues $ 23,382 $ 19,375 $ 4,007 21 %

Revenues increased $4.0 million in the three months ended September 30, 2012 compared to the three months ended September 30, 2011, primarily due to the sale of additional solutions to existing customers and subscriptions to new customers. Of the total increase of $4.0 million, $2.9 million was from customers in the United States and the remaining $1.1 million was from customers in foreign countries. The growth in revenues reflects increased demand for our solutions.


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Cost of Revenues
                             Three Months Ended
                                September 30,               Change
                              2012            2011         $        %
                              (in thousands, except percentages)
Cost of revenues        $      4,634        $ 3,225     $ 1,409    44 %
Percentage of revenues            20 %           17 %
Gross profit percentage           80 %           83 %

Cost of revenues increased $1.4 million in the three months ended September 30, 2012 compared to the three months ended September 30, 2011, primarily due to . . .

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