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SSNI > SEC Filings for SSNI > Form 10-Q on 12-Aug-2014All Recent SEC Filings

Show all filings for SILVER SPRING NETWORKS INC

Form 10-Q for SILVER SPRING NETWORKS INC


12-Aug-2014

Quarterly Report


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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2013. In addition, the following discussion contains forward-looking statements that are based on our management's beliefs and assumptions and on information currently available to our management. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Factors that could cause or contribute to these differences include those factors discussed below and elsewhere in this Quarterly Report on Form 10-Q, particularly the section entitled "Risk Factors."

Overview

We have over ten years of experience creating, building and successfully deploying large scale networks and solutions enabling the "internet of things" for critical infrastructure. The "internet of things" refers to a system where a diversity of physical devices has the capacity to communicate using internet technologies. Our first area of focus was in energy, creating a leading smart grid network by applying advanced networking technology and solutions to the power grid. We have recently broadened beyond the smart grid to networking other critical infrastructure such as street lights, which enables smarter and more efficient cities.

For the smart grid, we provide a leading networking platform and solutions that enable utilities to transform the power grid infrastructure into the smart grid. The smart grid intelligently connects millions of devices that generate, control, monitor and consume power, providing timely information and control to both utilities and consumers. We believe that the application of networking technology to the power grid has the potential to transform the energy industry through better communication just as the application of networking technology to the computing industry enabled the Internet.

We believe the power grid is one of the most significant elements of contemporary industrial infrastructure that has yet to be extensively networked with modern technology. To address this challenge, we pioneered a fundamentally new approach to connect utilities with millions of devices on the power grid. We believe our technology will yield significant benefits to utilities, consumers and the environment, both in the near term and the future. These benefits include more efficient management of energy, improved grid reliability, capital and operational savings, integration with renewable-generation sources, consumer empowerment, and assistance in complying with evolving regulatory mandates through reduced carbon emissions. We believe networking the power grid will fundamentally transform the world's relationship with energy.

We believe our technology is particularly well suited for a range of other solutions across the broad category of the "internet of things." We are focused on critical infrastructure that requires similar networking performance as the current market we serve. Our first expansion beyond the power grid has been in city infrastructure, specifically networking street lights. We believe that by applying advanced networking technology, we can enable cities to achieve their goals of increasing energy and operating efficiency while improving quality of life. We expect to expand our offerings in this area as the market opportunity evolves.

We are an "emerging growth company," as defined in the Jumpstart Our Business Startups Act ("JOBS Act") enacted in April 2012. Under Section 107(b) of the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have irrevocably elected not to avail our company of this exemption from new or revised accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.


Financial Overview

Revenue

We derive revenue from sales of products and services that enable customers to deploy our networking platform. For the six months ended June 30, 2014, product revenue represented 62% and service revenue represented 38% of our total revenue. For the six months ended June 30, 2014 and 2013, we shipped 0.9 million and 0.5 million endpoints, respectively. We have shipped 19.1 million cumulative endpoints since inception.

Our product revenue is derived from sales of hardware such as communications modules, access points, relays and bridges, and software. To date, in our typical customer deployments, we have sold our communications modules to third party device manufacturers and our other hardware and software products directly to our customers. In such sales of communications modules to third party device manufacturers, we only record revenue related to the communications modules which is pursuant to a contractual relationship between us and the third party device manufacturer. However, in some cases, we have sold third-party devices such as meters integrated with our communications modules directly to our customers. In those circumstances where we sell third party devices directly to our customers, we recognize the sale on a gross basis as we are acting as principal. Whether our customer purchases the third party device from us or the third party device manufacturer is dependent on the nature and extent of the business relationship our customer has with the third party device manufacturer and how our customer prefers to manage their deployment.

Our service revenue includes fees for professional services, managed services and SaaS, and ongoing customer support. Our professional services revenue for the six months ended June 30, 2014 and 2013 was $16.8 million and $25.4 million, respectively. Our managed and SaaS services revenue for the six months ended June 30, 2014 and 2013 were $16.1 million and $42.1 million, respectively.

To date, a substantial majority of our revenue is attributable to a limited number of customer deployments of our advanced metering solution. In the six months ended June 30, 2014, the deployments for Progress Energy, Singapore PowerAssets Ltd, Pacific Gas and Electric Company ("PG&E"), and OG&E represented 26%, 14%, 11%, and 11% of our revenue, respectively.

Each of these total revenue percentages includes amounts related to the customers' deployments that were invoiced directly to our third party device manufacturers, as well as direct revenue from our customers. We expect that a limited number of customers will continue to account for a substantial portion of our revenue in future periods although these customers have varied and are likely to vary from period to period.

Cost of Revenue and Gross Profit

Product cost of revenue consists of contract manufacturing costs, including raw materials, component parts and associated freight, and normal yield loss in the period in which we recognize the related revenue. In addition, product cost of revenue includes compensation, benefits and stock-based compensation provided to our supply chain management personnel, overhead and other direct costs, which are recognized in the period in which we recognize the related revenue. Further, we recognize certain costs, including logistics costs, manufacturing ramp-up costs, expenses for inventory obsolescence, warranty obligations, lower of cost or market adjustments to inventory, and amortization of intangibles, in the period in which they are incurred or can be reasonably estimated. We record a lower of cost or market adjustment in instances where the selling price of the products delivered or expected to be delivered is less than cost. We also include the cost of third-party devices in cost of revenue in instances when our customers contract with us directly for such devices. In accordance with our accounting policies, we recognize product cost of revenue in the periods we recognize the related revenue.

Service cost of revenue includes compensation and related costs for our service delivery, customer operations and customer support personnel, facilities and infrastructure cost and depreciation, and data center costs. In accordance with our accounting policies, we recognize service cost of revenue in the period in which it is incurred even though the associated service revenue may be required to be deferred.


Our gross profit varies from period to period based on the volume, average selling prices, and mix of products and services recognized as revenue, as well as product and service costs, expense for warranty obligations, and inventory write-downs. The timing of revenue recognition and related costs, which depends primarily on customer acceptance, can fluctuate significantly from period to period and have a material impact on our gross profit and gross margin results.

Operating Expenses

Operating expenses consist of research and development, sales and marketing, and general and administrative expenses, as well as amortization of acquired intangibles. Personnel-related expense represents a significant component of our operating expenses. Our regular full-time employee headcount was 639 as of June 30, 2014.

Research and Development

Research and development expense represents the largest component of our operating expenses and consists primarily of:

compensation, benefits and stock-based compensation provided to our hardware and software engineering personnel, as well as facility costs and other related overhead;

cost of prototypes and test equipment relating to the development of new products and the enhancement of existing products; and

fees for design, testing, consulting, legal and other related services.

We expense our research and development costs as they are incurred.

Sales and Marketing

Sales and marketing expense consists primarily of:

compensation, benefits, sales commissions and stock-based compensation provided to our sales, marketing and business development personnel, as well as facility costs and other related overhead;

marketing programs, including expenses associated with industry events, trade shows; and

travel costs.

General and Administrative

General and administrative expense consists primarily of:

compensation, benefits and stock-based compensation provided to our executive, finance, legal, human resource and administrative personnel, as well as facility costs and other related overhead; and

fees paid for professional services, including legal, tax and accounting services.

Key Non-GAAP Financial Measures

We believe that our results of operations under GAAP, when considered in isolation, may only provide limited insight into the performance of our business in any given period. As a result, we manage our business, make planning decisions, evaluate our performance and allocate resources by assessing non-GAAP measures such as non-GAAP revenue, cost of non-GAAP revenue, gross profit on non-GAAP revenue, and adjusted EBITDA, in addition to other financial measures presented in accordance with GAAP. We believe that these non-GAAP measures offer valuable supplemental information regarding the performance of our business, and will help investors better understand the sales volumes, and gross margin and profitability trends, as well as the cash flow characteristics, of our business. These non-GAAP measures should not be considered in isolation from, are not a substitute for, and do not purport to be an alternative to revenue, cost of revenue, gross profit (loss), net income (loss) or any other performance measure derived in accordance with GAAP.


Non-GAAP revenue represents amounts invoiced for products for which ownership, typically evidenced by title and risk of loss, has transferred or services that have been provided to the customer, and for which payment is expected to be made in accordance with normal payment terms. Non-GAAP revenue excludes amounts for undelivered products, services to be performed in the future, and amounts paid or payable to customers. Non-GAAP revenue is initially recorded as deferred revenue and is recognized as revenue when all revenue recognition criteria have been met under our accounting policies. We reconcile revenue to non-GAAP revenue by adding revenue to the change in deferred revenue in a given period.

To date, a substantial portion of our non-GAAP revenue is attributable to a limited number of customer deployments of our advanced metering solution. In the six months ended June 30, 2014, the deployments for Baltimore Gas and Electric Company and Commonwealth Edison Company represented 18% and 14% of our non-GAAP revenue, respectively.

Each of these total non-GAAP revenue percentages includes amounts related to the customers' deployments that were invoiced directly to our third party device manufacturers, as well as direct invoices to our customers.

Recurring non-GAAP revenue per endpoint on a trailing twelve month basis as of June 30, 2014 and 2013 was $2.07 per endpoint and $2.14 per endpoint, respectively.

Cost of Non-GAAP Revenue and Gross Profit on Non-GAAP Revenue

Cost of non-GAAP revenue represents the cost associated with products and services that have been delivered to the customer, excluding stock-based compensation and amortization of acquired intangibles. Cost of product shipments for which revenue is not recognized in the period incurred is recorded as deferred cost of revenue. Deferred cost of revenue is expensed in the statement of operations as cost of revenue when the corresponding revenue is recognized. Costs related to invoiced services are expensed in the period incurred. We reconcile cost of revenue to cost of non-GAAP revenue by adding cost of revenue to the change in deferred cost of revenue, less stock-based compensation and amortization of intangibles, included in cost of revenue in a given period.

Gross profit on non-GAAP revenue is the difference between non-GAAP revenue and cost of non-GAAP revenue.

Adjusted EBITDA is net income (loss) adjusted for changes in deferred revenue and deferred cost of revenue, other (income) expense, net, provision for income taxes, depreciation and amortization, stock-based compensation and certain other items management believes affect the comparability of operating results.

The non-GAAP financial measures set forth below for the three and six months ended June 30, 2014 and 2013 have been derived from our condensed consolidated financial statements. Reconciliations to the comparable GAAP measures are contained in the notes below.

                                                 Three Months Ended               Six Months Ended
                                                      June 30,                        June 30,
                                                2014             2013            2014          2013
                                                (unaudited, in thousands, except for percentages)
Non-GAAP revenue(1)                         $     63,604     $     86,451     $  135,454    $ 160,222
Cost of non-GAAP revenue(2)                       43,018           60,444         93,320      112,664
Gross profit on non-GAAP revenue(3)         $     20,586     $     26,007     $   42,134    $  47,558
Gross margin on non-GAAP revenue                     32%              30%            31%          30%
Adjusted EBITDA(4)                          $     (8,547)    $     (2,306)    $  (15,456)   $  (8,890)


(1)The following table reconciles revenue to non-GAAP revenue:

                                              Three Months Ended        Six Months Ended
                                                   June 30,                 June 30,
                                              2014         2013         2014         2013
                                                       (unaudited, in thousands)
Revenue, net                                $ 41,607    $ 103,510    $  85,836    $ 157,213
Change in deferred revenue, net of foreign
currency translation                          21,997      (17,059)      49,618        3,009
Non-GAAP revenue                            $ 63,604    $  86,451    $ 135,454    $ 160,222

(2)The following table reconciles cost of revenue to cost of non-GAAP revenue:

                                          Three Months Ended        Six Months Ended
                                               June 30,                 June 30,
                                           2014        2013        2014         2013
                                                   (unaudited, in thousands)
Cost of revenue                         $  28,195    $ 55,260    $ 60,980    $  98,829
Change in deferred cost of revenue, net
of foreign currency translation            16,801       7,763      37,058       23,186
Less: Stock-based compensation included
in cost of revenue                         (1,930)     (2,531)     (4,622)      (9,255)
Less: Amortization of intangibles
included in cost of revenue                   (48)        (48)        (96)         (96)
Cost of non-GAAP revenue                $  43,018    $ 60,444    $ 93,320    $ 112,664

(3)The following table reconciles gross profit to gross profit on non-GAAP revenue:

                                               Three Months Ended              Six Months Ended
                                                    June 30,                       June 30,
                                             2014              2013            2014         2013
                                             (unaudited, in thousands, except for percentages)
Gross profit                            $      13,412     $      48,250     $  24,856    $  58,384
Change in deferred revenue, net of
foreign currency translation                   21,997           (17,059)       49,618        3,009
Change in deferred cost of revenue, net
of foreign currency translation               (16,801)           (7,763)      (37,058)     (23,186)
Stock-based compensation included in
cost of revenue                                 1,930             2,531         4,622        9,255
Amortization of intangibles included in
cost of revenue                                    48                48            96           96
Gross profit on non-GAAP revenue        $      20,586     $      26,007     $  42,134    $  47,558
Gross margin on non-GAAP revenue                  32%               30%           31%          30%

(4)The following table reconciles net income (loss) to adjusted EBITDA:

                                              Three Months Ended         Six Months Ended
                                                   June 30,                  June 30,
                                               2014         2013         2014         2013
                                                        (unaudited, in thousands)
Net income (loss)                           $ (24,591)   $   9,470    $ (52,398)   $ (54,896)
Change in deferred revenue, net of foreign
currency translation                           21,997      (17,059)      49,618        3,009
Change in deferred cost of revenue, net of
foreign currency translation                  (16,801)      (7,763)     (37,058)     (23,186)
Other (income) expense, net                       (85)         184          (48)      24,912
Provision for income taxes                          4          328          603          392
Depreciation and amortization                   1,467        1,689        2,933        3,366
Legal settlements                                (100)            -        (100)            -
Stock-based compensation                        9,562       10,845       20,994       37,513
Adjusted EBITDA                             $  (8,547)   $  (2,306)   $ (15,456)   $  (8,890)


Non-GAAP measures have limitations and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. The most significant of these limitations include:

our non-GAAP measures do not reflect the effect of customer acceptance provisions as required under GAAP;

our non-GAAP measures do not reflect the effect of contingent revenue recognition limits due to potential refunds and penalty provisions related to future delivery or performance as required under GAAP;

our non-GAAP measures are based on contractual invoiced amounts and therefore do not reflect the effect of relative selling price allocations between separate units of accounting as required under GAAP;

our non-GAAP measures do not reflect the impact of issuing equity-based compensation to our management team and employees or in connection with acquisitions;

our non-GAAP measures do not reflect the impact of the amortization of acquired intangibles arising from acquisitions;

our non-GAAP measures do not reflect other (income) expense primarily related to gains and losses from the remeasurement of embedded derivative and preferred stock warrant liabilities, and interest expense or loss on conversion from our promissory notes;

our non-GAAP measures do not reflect income tax expense or legal settlement costs;

although depreciation and amortization are non-cash expenses, the assets being depreciated and amortized may have to be replaced in the future, and adjusted EBITDA does not reflect cash capital expenditure requirements for such replacements or for new capital expenditures;

our non-GAAP measures do not reflect changes in, or cash requirements for, our working capital needs; and

other companies, including companies in our industry, may not use such measures, may calculate non-GAAP measures differently or may use other financial measures to evaluate their performance, all of which reduce the usefulness of our non-GAAP measures as comparative measures.

Results of Operations and Other Financial Measures

The following table sets forth our condensed consolidated results of operations
for the periods shown:






                               Three Months Ended         Six Months Ended
                                    June 30,                  June 30,
                                2014         2013         2014         2013
                                         (unaudited, in thousands)
Revenue, net                 $  41,607    $ 103,510    $  85,836    $ 157,213
Cost of revenue                 28,195       55,260       60,980       98,829
Gross profit                    13,412       48,250       24,856       58,384

Operating expenses:
Research and development        17,342       18,752       35,067       43,871
Sales and marketing              8,854        8,637       18,077       19,090
General and administrative      11,888       10,879       23,555       25,015
Total operating expenses        38,084       38,268       76,699       87,976
Operating income (loss)        (24,672)       9,982      (51,843)     (29,592)

Other income (expense), net:        85         (184)          48      (24,912)

Loss before income taxes       (24,587)       9,798      (51,795)     (54,504)
Provision for income taxes           4          328          603          392


Net income (loss) $ (24,591) $ 9,470 $ (52,398) $ (54,896)

Revenue

The following table sets forth our revenue for the periods shown:






                  Three Months Ended                     Six Months Ended
                       June 30,                              June 30,
                  2014         2013        Change       2014         2013        Change
                                        (unaudited, in thousands)
Product revenue $ 24,751    $  47,996    $ (23,245)   $ 52,978    $  89,716    $ (36,738)
Service revenue   16,856       55,514      (38,658)     32,858       67,497      (34,639)
Revenue, net    $ 41,607    $ 103,510    $ (61,903)   $ 85,836    $ 157,213    $ (71,377)

Of the $41.6 million total revenue recognized in the three months ended June 30, 2014, 97%, or $40.5 million, was due to the receipt of customer acceptances and the performance of related services for follow-on phases of deployment of our networking platform and solutions from customers for which acceptance of initial phases of deployment was achieved prior to the three months ended June 30, 2014, and 3%, or $1.1 million, was due to the receipt of customer acceptances of initial phases of deployment of our networking platform and solutions during the three months ended June 30, 2014. Revenue from our advanced metering solution and demand-side management and distribution automation solutions represented 81% and 19%, respectively, of total revenue for the three months ended June 30, 2014.

Of the $103.5 million total revenue recognized in the three months ended June 30, 2013, 89%, or $92.6 million, was due to the receipt of customer acceptances and the performance of related services for follow-on phases of deployment of our networking platform and solutions from utility customers for which acceptance of initial phases of deployment was achieved prior to the three months ended June 30, 2013, and 11%, or $10.9 million, was due to the receipt of customer acceptances of initial phases of deployment of our networking platform and solutions during the three months ended June 30, 2013. Revenue from our advanced metering solution and demand-side management and distribution automation solutions represented 94% and 6%, respectively, of total revenue for the three months ended June 30, 2013.

Of the $85.8 million total revenue recognized in the six months ended June 30, 2014, 80%, or $69.0 million, was due to the receipt of customer acceptances and the performance of related services for follow-on phases of deployment of our networking platform and solutions from customers for which acceptance of initial phases of deployment was achieved prior to the six months ended June 30, 2014, and 20%, or $16.8 million, was due to the receipt of customer acceptances of initial phases of deployment of our networking platform and solutions during the six months ended June 30, 2014. Revenue from our advanced metering solution and demand-side management and distribution automation solutions represented 86% and 14%, respectively, of total revenue for the six months ended June 30, 2014.

Of the $157.2 million total revenue recognized in the six months ended June 30, 2013, 93%, or $146.3 million, was due to the receipt of customer acceptances and the performance of related services for follow-on phases of deployment of our networking platform and solutions from utility customers for which acceptance of initial phases of deployment was achieved prior to the six months ended June 30, 2013, and 7%, or $10.9 million, was due to the receipt of customer acceptances of initial phases of deployment of our networking platform and solutions during . . .

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