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GSB > SEC Filings for GSB > Form 10-K on 27-Mar-2014All Recent SEC Filings

Show all filings for GLOBALSCAPE INC

Form 10-K for GLOBALSCAPE INC


27-Mar-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operation

The following Management's Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our financial statements for the years ended December 31, 2013, 2012 and 2011, and related notes included elsewhere in this document.

Overview

We provide secure information exchange capabilities for enterprises and consumers through the development and distribution of software, delivery of managed and hosted solutions, and provisioning of associated services. We have thousands of enterprise customers and more than one million individual consumers in over 150 countries. Our solutions are used by more than 20,000 U.S. Army personnel deployed worldwide.

We believe we are well-positioned to provide secure transfer, sharing, and replication of files that need to be transmitted inside the user's firewall to distributed offices, or outside the user's firewall to business and trading partners, including network-enabled mobile devices. Our solution portfolio addresses data and information management, movement, security and accessibility across a broad range of environments encompassing data and information in motion (for example, with traditional Managed File Transfer, or MFT, solutions delivered as on-premises software or as a cloud service) and at rest (for example, through securely deleting or purging files or securely accessing stored data from mobile tablet or smartphone devices).

Our solution portfolio facilitates transmission of critical information such as financial data, medical records, customer files, vendor files, personnel files transaction activity and other similar documents between diverse and geographically separated network infrastructures while supporting a range of information protection approaches to meet privacy and other security requirements. In addition to enabling secure, flexible transmission of critical information using servers, desktop and notebook computers, and a wide range of network-enabled mobile devices, our products also provide customers with the ability to monitor and audit file transfer activities.

Our solutions ensure compliance with government regulations and industry standards relating to the protection of information while allowing users to reduce IT costs, increase efficiency, track and audit transactions and automate processes. Our solutions also provide data replication, acceleration of file transfer, sharing/collaboration and continuous data backup and recovery to our customers.

Our initial product, CuteFTP, a file transfer program used mostly by individuals and small businesses, was first distributed in 1996 over the Internet and achieved significant success and popularity. Since then, we have continued to enhance our portfolio of products to meet the increasing demand for secure information exchange in the MFT industry and adjacent markets such as cloud services. Our capabilities have evolved from personal and small business MFT products to include standard and enterprise versions of our Enhanced File Transfer, or EFT, software with an increasing number of add-on modules that provide additional capabilities such as ad hoc file transfer, advanced auditing and reporting, government-validated cryptography, and workflow automation. We have also developed Wide-Area File Services, or WAFS, software which uses data synchronization to further enhance the ability to replicate, share and backup files within a wide area network or local area network, at higher speeds than possible with alternate approaches.

Our Mail Express product offers managed e-mail attachment solutions for information sharing. We believe our managed e-mail attachment solution addresses the needs of customers who are constrained by the typical limits on e-mail attachment size or who require additional security, auditing, and reporting for file attachments shared through e-mail.

We also offer software-as-a-service, or SaaS, and cloud-based subscription solutions for information sharing. Our SaaS and cloud-based subscription solutions allow customers to reduce their upfront and total cost of ownership and achieve other recognized benefits of cloud-based solutions, including service elasticity and strong service level agreements for IT infrastructure reliability and performance. We believe our managed, cloud-based subscription solutions may become a notable part of our future revenue because these solutions provide recurring revenue which potentially builds over time, as compared to sales of on-premises software licenses which must be reconstituted every period. We have the capability to deliver these services in the United States as well as in additional geographies, such as the United Kingdom and Canada, where country-specific compliance requirements may necessitate in-country service delivery.


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We serve the secure content mobility market with our TappIn solutions. Secure content mobility provides users with the ability to easily and securely access and share data and information using a web-browser, tablet or other mobile device such as a smartphone. Secure content mobility integrates aspects of ad hoc file transfer, broader MFT capabilities, cloud services, and remote accessibility to address growing market demand for secure, 'anytime and anywhere', device-independent access to distributed content. We believe that the inclusion of secure content mobility capability in our portfolio will contribute to the future growth of our business due to the continuing adoption of tablet computers and smartphones.

Key Business Metrics

Key Business Metrics

We review a number of key business metrics on an ongoing basis to help us monitor our performance and to identify material trends which may affect our business. The significant metrics we review are described below.

Revenue Growth

We provide products and solutions to small, medium and large, multinational corporations as well as to individual consumers. We have a broad product line that has allowed us to grow revenue through software products installed at a customer's location as well as through cloud-based and software-as-a-service solution delivery. In addition, we have grown our professional services capabilities to enhance our customers' implementation, training and overall user experience. Our enterprise products, solutions, and services comprised 90.4%, 90.8% and 91.5% of our revenue for the years ended December 31, 2013, 2012 and 2011, respectively. We continue to serve consumers and small businesses with our CuteFTP software and other consumer products. Our consumer products, while 9.6%, 9.2 and 8.4% of total revenue for the years ended December 31, 2013, 2012 and 2011, respectively, are recognized brands in the marketplace that we believe continue to have a positive effect on our overall product offerings and corporate franchise.

Although we often have grown revenue sequentially quarter over quarter in recent years, we view annual revenue growth as the more important metric, especially considering the ongoing evolution of our solution portfolio. We believe annual "core" revenue growth, excluding larger, exceptional transactions, is a key metric for monitoring our continued success in developing our business in future periods. Given our diverse solution portfolio and the addition of subscription services, we review our revenue mix and changes in revenue, across all solutions, on a regular basis to identify key trends and adjust resource allocations.

We believe attaining additional traction in the cloud-based managed solutions and secure content mobility market segments, realizing the potential of new software solutions, and our ability to continue developing and enhancing our existing software solutions into a complete solutions portfolio are significant factors in our continued ability to sustain or possibly increase our revenue growth in future years.

The impact of cloud-based managed solutions on our revenue growth trends depends on several key factors, including the number of customers who may shift from software licenses to subscription services, the rate at which they may do so, the subscription term and fees, and the comparative value of the opportunity had it materialized as a software license sale instead of as a subscription service. The long-term impact also depends on whether availability of our managed solutions ultimately provides us with an expanded market footprint enabled by this additional means of delivering our solution capabilities.

Similarly, we believe market adoption of secure content mobility solutions, such as those provided by our TappIn solutions, will increase in future periods as use of personal computing devices, such as smart phones and tablets, continues to grow exponentially and as businesses increasingly embrace the rapidly increasing use of mobile devices, including "Bring Your Own Device", or BYOD, operating models. In order to capitalize on this trend, our future emphasis will be on merging the TappIn technology and functionality with our MFT capabilities to create a TappIn Enterprise solution. We believe offering the TappIn technology through this integration will maximize the return on our investment in this product line.

We have made and continue to make changes intended to increase license and M&S revenue growth across all or our product lines. In the second half of 2013, we made significant changes in personnel leading our sales and marketing groups. Under this new leadership, we have:

Increased our sales staff headcount.

Reconfigured the organization of our sales group to enhance their industry and geographic focus.

Implemented new sales and marketing campaigns.

Administered enhanced sales training programs.

Engaged third party search engine optimization experts to redirect our efforts in that area.

Launched a campaign to engage and leverage the resources of additional third-party resellers.


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As a complement to these sales and marketing actions, we also made changes in personnel leading our software engineering group. Under this new leadership, we have revised the manner in which we assess the development of new technologies, our approach to managing those projects and the timelines over which we do that work.

See the section below comparing our results of operations for the years ended December 31, 2013, 2012 and 2011, for discussion of the revenue trends we have experienced.

Recurring Revenue Growth.

Recurring revenue includes revenue recognized from our maintenance and support, or M&S, contracts, managed and hosted solutions, and other subscription services such as from our TappIn solution. M&S contracts for our products are sold for fixed periods of time and are typically for one year with some agreements having longer terms. We recognize revenue from these contracts on a monthly basis over the life of the contract. Managed and hosted solutions, such as Managed Information Xchange, or MIX and Hosted EFT, are sold as one, two, or three-year subscriptions with the services invoiced and revenue recognized on a monthly basis. TappIn subscriptions typically are sold for one-year terms with the revenue recognized on a monthly basis.

Recurring revenue provides a more predictable revenue stream in future periods which we believe is highly valued by institutional investors and other market participants. We review recurring revenue trends periodically to determine the progress of our M&S and cloud solution sales and customer satisfaction with our ongoing solution development and support activities. We also assess how aggregate contract value (see further discussion below) will factor into possible recurring revenue in future periods.

See the section below comparing our results of operations for the years ended December 31, 2013, 2012 and 2011, and the section titled "Solution Perspective and Trends" for discussion of the recurring revenue trends we have experienced.

Aggregate Contract Value Growth.

Aggregate contract value, or ACV, is a measure of future revenue potential we have in place under contracts for product sales, M&S, managed solutions, and professional services to be delivered in the future for which we will recognize revenue in future periods. ACV is the sum of the following items:

Deferred revenue resulting from payments we have already received for services to be provided in the future.

Amounts we are due to be paid under non-cancellable contracts for future services we will provide under those contracts.

Our ACV growth, as illustrated in the table below, is a result of sales success in numerous areas of our business. While we expect ACV may grow in future periods as we potentially continue to increase our volume of non-cancellable contracts for future delivery of our products and services, it could also decrease for a number of reasons including existing customers electing not to renew their maintenance and support contracts or a large professional services contract not being renewed for additional terms as provided in certain of those contracts.

ACV is not a measure of financial performance under GAAP and should not be considered a substitute for deferred revenue. However, we believe it is a meaningful measure of the success of our current selling efforts, specifically with regard to our products we sell as a subscription service and our professional services under contracts for future delivery of those services, because the completion of the selling efforts for those products can precede, sometimes by several quarters, the recognition of revenue from those sales due to such revenue being recognized in future periods as those services are delivered. Accordingly, we use this metric to assess the effectiveness of current sales and business development activities and how that effectiveness will factor into future revenue. ACV, together with recurring revenue and deferred revenue trends, provides greater insight into how bookings will factor into revenue over specific periods. We determine ACV related to contracts for future delivery of our products and services as follows:

                                                        December 31,
                                                     2013            2012
                                                  (thousands)
         Amounts we have billed and/or been
         paid in advance (presented as
         deferred revenue in our financial
         statements)                             $     10,800     $    9,773
         Amounts we will bill and be paid in
         the future (will appear in our
         financial statements when we are paid
         and/or when we provide the products
         and services)                                    283            797
         Total ACV                               $     11,083     $   10,570


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Our ACV related to M&S contracts that create deferred revenue in our financial statements has generally increased year-to-year in recent years. Our M&S revenue growth and its increasing percentage of our total revenue are primarily due to our ongoing efforts to increase M&S contract renewal rates, the growing installed base of our software products in the marketplace, and the decline in software license revenue in recent periods. The installed base growth creates a compounding effect for M&S renewals. This effect is due to the cumulative number of licensed software installations sold over multiple years that create M&S renewals in any single year predictably (and in line with our expectations) exceeding the number of new software licenses we sell in a single year. While we expect this compounding effect to continue to grow, if sales of our on premise enterprise products were to decrease, then new sales of M&S contracts could decrease as well given the typical bundling of M&S contracts with enterprise software solution sales.

Our ACV related to contracts we have for which we will deliver services, earn revenue, and be paid in future periods decreased in 2013 compared to 2012. This decrease was primarily due to us completing, in 2013, the delivery of services under our contract supporting the Standard Army Maintenance System-Enhanced, or SAMS-E, logistics program. We believe we can offset the effects of this event by continuing to increase deliveries of our higher margin, commercial (non-government) professional services as we increasingly bundle those services with new sales of our enterprise solutions and as we deliver additional services to existing customers.

Measurement of Income and Expense Excluding Infrequent Events (Non-GAAP Measurement)

We use supplemental measurements of income and expense excluding infrequent items to monitor the financial performance of our core operating activities prior to consideration of significant events that occur infrequently. These measurements of income and expense excluding infrequent items include:

Operating expenses excluding infrequent items.

Operating income excluding infrequent items.

Net income excluding infrequent items.

Earnings per share excluding infrequent items.

We exclude infrequent items from these income and expense measurements because we do not consider them part of our core operating results when assessing our ongoing operational performance, allocating resources to our business activities and preparing operating budgets. We believe that by comparing such income and expense measurements across historical periods, our operating results can be evaluated exclusive of the effects of certain infrequent items that may not be indicative of our core operations.

Income and expense excluding infrequent items are not measures of financial performance under GAAP and should not be considered a substitute for the similar items that include infrequent items. While we believe these non-GAAP income and expense measures provide useful supplemental information, there are limitations associated with the use of these non-GAAP income and expense measures. These non-GAAP income and expense measures are not prepared in accordance with GAAP and may not be comparable to similarly titled measures of other companies since there is no standard for preparing these non-GAAP income and expense measures. Items excluded in preparing these non-GAAP income and expense measures individually and collectively can have a material impact on operating expenses, operating income, net income and earnings per share. As a result, these non-GAAP income and expense measures have limitations and should not be considered in isolation from, or as a substitute for, financial statements prepared in accordance with GAAP.


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Income and expense excluding infrequent items is as follows:

                                                            Year Ended December 31,
                                                     2013               2012            2011
                                                      (In 000's except per share amounts)
Non-GAAP Operating Expenses
GAAP total operating expenses                    $     20,438       $     24,766     $   20,103
Add: TappIn intangible asset impairment and
earnout liability elimination                             128              1,343              -
Less: Affiliated entity asset impairment                    -             (3,264 )            -
Non-GAAP operating expenses                      $     20,566       $     22,845     $   20,103

Non-GAAP Income From Operations
GAAP (loss) income from operations               $      3,901       $     (1,394 )   $      791
Less: TappIn intangible asset impairment and
earnout liability elimination                    $       (128 )           (1,343 )
Add: Affiliated entity asset impairment                     -              3,264              -
Non-GAAP income from operations                  $      3,773       $        527     $      791

Non-GAAP Net Income
GAAP net (loss) income                           $      3,840       $     (1,800 )   $      635
Less: TappIn intangible asset impairment and
earnout liability elimination                    $     (1,341 )           (1,343 )
Add: Affiliated entity asset impairment                     -              3,264              -
Non-GAAP net income                              $      2,499       $        121     $      635

Non-GAAP Earnings Per Share
Non-GAAP net income                              $      2,499       $        121     $      635
Weighted average share outstanding:
Basic                                                  18,626             18,358         18,081
Diluted                                                19,082             19,016         18,747
Non-GAAP net income per common share:
Basic                                            $       0.13       $       0.01     $     0.04
Diluted                                          $       0.13       $       0.01     $     0.03

For the year ended December 31, 2013, the TappIn intangible asset impairment and earnout liability elimination effect of $(1.3) million is the gross TappIn intangible asset impairment and earnout liability elimination of $128,000 plus $1.2 million of related federal income tax effects.

For the year ended December 31, 2012, The TappIn earnout liability elimination of $1.3 million is the gross amount of the liability relieved. There is no related federal income tax effect because the elimination of the liability for this payment is not a taxable event for federal income tax purposes.

For the year ended December 31, 2012, the affiliated entity asset impairment effect on non-GAAP net income of $3.3 million is the gross affiliated entity asset impairment associated with the write-off of our investment in, and our notes receivable from, CoreTrace Corporation. There is no related federal income tax effect reflected here because this item is a capital loss for federal income tax purposes for which we are uncertain as to whether we will generate sufficient capital gains in the future against which this capital loss can be applied.

See our comparison of results for the years ended December 31, 2013, 2012 and 2011, below for our discussion of variations in the underlying elements comprising the amounts above.

Adjusted EBITDA Excluding Infrequent Items

We utilize Adjusted EBITDA (Earnings Before Interest, Taxes, Total Other Income/Expense, Depreciation, Amortization, other than amortization of capitalized software development costs, and Share-Based Compensation Expense) Excluding Infrequent Items to measure profitability and cash flow from our core operating activities. We exclude infrequent items because they typically do not directly impact profitability and cash flow resulting from our core activities. We monitor and review cost of revenues, selling, general, and administrative, or SG&A, expenses and research and development, or R&D, expenses to assess conformance with established budget expectations and to identify specific variances. Identifying and, if necessary, addressing variances above budget is important for the purpose of staying within budget ceilings. However, even variances below budget may indicate imbalances in resource allocations or deviation of operating activities from established expectations.


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For the year ended December 31, 2013, we modified our computation of EBITDA to exclude the amortization of capitalized software development costs from the amortization amount we add to net income because the amortization of capitalized software development costs is derived from expenditures that are part of our core operating activities. EBITDA for the years ended December 31, 2012 and 2011 have been recomputed to exclude amortization of capitalized software development costs for those years which resulted in EBITDA being $87,000 less in 2012 and staying the same in 2011 than previously reported for 2012 and 2011.

Adjusted EBITDA Excluding Infrequent Items is not a measure of financial performance under GAAP and should not be considered a substitute for net income. Adjusted EBITDA Excluding Infrequent Items has limitations as an analytical tool and when assessing our operating performance. Adjusted EBITDA Excluding Infrequent Items should not be considered in isolation or as a substitute for net income or other income statement data prepared in accordance with GAAP.

We compute Adjusted EBITDA Excluding Infrequent Items as follows ($ in thousands):

                                                                Year Ended
                                                               December 31,
                                                    2013           2012           2011
Net income (loss)                                $    3,840     $   (1,800 )   $      635
Add (subtract) items to determine adjusted
EBITDA:
Income tax expense                                     (104 )          217            169
Other expense                                           165            189            (13 )
Depreciation and amortization:
Total depreciation and amortization                     908          1,217            790
Amortization of capitalized software
development costs                                      (174 )          (87 )            -
Stock-based compensation expense                        666            915          1,003
Affliated entity asset impairment                         -          3,264              -
TappIn intangible asset impairment and earnout
liability elimination                                  (128 )       (1,303 )            -
Adjusted EBITDA                                  $    5,173     $    2,612     $    2,584

See the section below comparing our results of operations for the years ended December 31, 2013, 2012 and 2011, for discussion of the variances between periods in the components comprising Adjusted EBITDA.

                        Solution Perspective and Trends

Our discussion of the business trends of our products is based on the following
profile of our revenue components ($ in thousands):

                                         Revenue for the Year Ended December 31,
                          2013                            2012                            2011
                               Percent of                      Percent of                      Percent of
                 Amount          Total           Amount          Total           Amount          Total
Revenue by
Product
EFT
Enterprise     $   15,308             62.9 %   $   14,742             63.1 %   $   12,167             58.2 %
EFT Standard        3,946             16.2 %        3,367             14.4 %        3,665             17.5 %
Wide Area
File
Services/CDP        1,277              5.2 %        1,577              6.7 %        1,533              7.3 %
Professional
Services            1,479              6.1 %        1,547              6.6 %        1,772              8.5 %
CuteFTP             1,205              5.0 %        1,059              4.5 %        1,209              5.8 %
Other               1,124              4.6 %        1,080              4.6 %          548              2.6 %
Total
Operating
Revenues       $   24,339            100.0 %   $   23,372            100.0 %   $   20,894            100.0 %

Maintenance
and Support
Included in
Total
Operating
Revenue        $   13,650               56 %   $   11,298               48 %   $    9,424               45 %

. . .

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