e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
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þ |
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Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended March 31, 2010
OR
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o |
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Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
Commission File No. 001-34636
FINANCIAL ENGINES, INC.
(Exact name of registrant as specified in its charter)
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Delaware
(State or other jurisdiction of
incorporation or organization)
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94-3250323
(I.R.S. Employer
Identification No.) |
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1804 Embarcadero Road
Palo Alto, California 94303
(Address of principal executive offices, Zip Code)
(650) 565-4900
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the Registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes o No þ
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer, or a smaller reporting company. See definition of accelerated
filer, large accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act.
(Check one):
Large accelerated filer o |
Accelerated filer o |
Non-accelerated filer þ (Do not check if a smaller reporting company) |
Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Act). Yes o No þ
As of April 30, 2010, 41,351,183 shares of Common Stock, par value $0.0001, were issued and
outstanding.
FINANCIAL ENGINES, INC.
INDEX TO
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2010
2
PART I: FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements (Unaudited)
FINANCIAL ENGINES, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands, except share and per share data)
(Unaudited)
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December 31, |
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March 31, |
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2009 |
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2010 |
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Assets |
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Current assets: |
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Cash and cash equivalents |
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$ |
20,713 |
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$ |
100,195 |
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Accounts receivable, net |
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17,975 |
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19,258 |
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Prepaid expenses |
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1,922 |
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2,294 |
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Other current assets |
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3,391 |
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1,742 |
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Total current assets |
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44,001 |
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123,489 |
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Property and equipment, net |
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2,558 |
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2,649 |
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Internal use software, net |
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8,743 |
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9,700 |
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Other assets |
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3,050 |
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3,085 |
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Total assets |
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$ |
58,352 |
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$ |
138,923 |
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Liabilities and Stockholders Equity |
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Current liabilities: |
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Accounts payable |
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$ |
7,579 |
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$ |
7,559 |
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Accrued compensation |
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9,101 |
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4,986 |
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Deferred revenue |
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7,354 |
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9,220 |
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Bank borrowings and note payable |
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3,333 |
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7,222 |
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Other current liabilities |
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72 |
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83 |
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Total current liabilities |
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27,439 |
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29,070 |
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Bank borrowings |
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4,722 |
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Deferred revenue |
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1,487 |
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1,386 |
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Other liabilities |
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438 |
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421 |
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Total liabilities |
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34,086 |
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30,877 |
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Contingencies (see note 10) |
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Stockholders equity: |
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Convertible preferred stock, $0.0001 par value 24,192,000 and
10,000,000
authorized as of December 31, 2009 and March 31, 2010, respectively;
22,441,623 and 0 shares issued and outstanding as of December 31, 2009
and March 31, 2010, respectively; Aggregate liquidation
preference of $139,404 and $0 as of December 31, 2009
and March 31, 2010, respectively |
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2 |
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Common stock, $0.0001 par value. 47,650,000 and 500,000,000
authorized; 10,647,233 and 41,314,930 shares issued at December 31,
2009 and March 31, 2010, respectively; 10,647,233 and 41,314,930 shares
outstanding at December 31, 2009 and March 31, 2010, respectively |
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1 |
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4 |
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Additional paid-in capital |
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182,018 |
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264,145 |
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Deferred compensation |
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(394 |
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(334 |
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Accumulated deficit |
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(157,361 |
) |
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(155,769 |
) |
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Total stockholders equity |
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24,266 |
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108,046 |
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Total liabilities and stockholders equity |
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$ |
58,352 |
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$ |
138,923 |
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See accompanying notes to the unaudited condensed consolidated financial statements.
3
FINANCIAL ENGINES, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(In thousands, except per share data)
(Unaudited)
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Three Months Ended |
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March 31, |
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2009 |
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2010 |
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Revenue: |
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Professional management |
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$ |
9,593 |
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16,611 |
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Platform |
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7,220 |
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7,177 |
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Other |
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595 |
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556 |
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Total revenue |
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17,408 |
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24,344 |
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Costs and expenses: |
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Cost of revenue (exclusive of amortization of internal use software) |
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6,601 |
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8,470 |
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Research and development |
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3,688 |
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4,470 |
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Sales and marketing |
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5,360 |
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6,290 |
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General and administrative |
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1,842 |
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2,599 |
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Amortization of internal use software |
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638 |
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728 |
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Total costs and expenses |
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18,129 |
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22,557 |
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Income (loss) from operations |
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(721 |
) |
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1,787 |
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Interest expense |
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(184 |
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(73 |
) |
Interest and other income, net |
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27 |
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1 |
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Income (loss) before income taxes |
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(878 |
) |
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1,715 |
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Income tax expense (benefit) |
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(162 |
) |
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123 |
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Net income (loss) |
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(716 |
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1,592 |
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Less: Stock dividend (see note 5) |
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5,480 |
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Net loss attributable to holders of common stock |
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$ |
(716 |
) |
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(3,888 |
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Net loss per share attributable
to holders of common stock |
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Basic |
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$ |
(0.07 |
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$ |
(0.25 |
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Diluted |
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$ |
(0.07 |
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$ |
(0.25 |
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Shares used to compute net loss per share
attributable to holders of common stock |
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Basic |
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9,997 |
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15,825 |
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Diluted |
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9,997 |
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15,825 |
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See accompanying notes to the unaudited condensed consolidated financial statements.
4
FINANCIAL ENGINES, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Stockholders Equity and Comprehensive Income
(In thousands, except share data)
(Unaudited)
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Additional |
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Deferred |
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Total |
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Convertible preferred stock |
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Common stock |
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paid-in |
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stock |
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Accumulated |
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stockholders |
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Shares |
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Amount |
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Shares |
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Amount |
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capital |
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compensation |
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deficit |
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equity |
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Balance, Janaury 1, 2010 |
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22,441,623 |
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$ |
2 |
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10,647,223 |
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$ |
1 |
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$ |
182,018 |
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$ |
(394 |
) |
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$ |
(157,361 |
) |
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$ |
24,266 |
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Conversion of preferred stock to
common stock
effective upon initial public offering |
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(22,441,623 |
) |
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(2 |
) |
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22,441,623 |
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2 |
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Stock dividend to Series E
shareholders |
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456,643 |
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Issuance of common stock |
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312,683 |
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1,130 |
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1,130 |
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Initial public offering of common
stock |
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7,458,100 |
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1 |
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78,976 |
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78,977 |
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Net share settlements for restricted
stock awards
minimum tax withholdings |
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(1,342 |
) |
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(12 |
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(12 |
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Amortization of deferred stock-based
compensation
under the intrinsic value method |
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60 |
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60 |
|
Stock-based compensation under the
fair value method |
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1,908 |
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1,908 |
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Nonemployee stock-based compensation
expense |
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64 |
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64 |
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Income tax associated with
stock-based compensation |
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61 |
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61 |
|
Net income and comprehensive income |
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1,592 |
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1,592 |
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Balance, March 31, 2010 |
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$ |
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41,314,930 |
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$ |
4 |
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$ |
264,145 |
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|
$ |
(334 |
) |
|
$ |
(155,769 |
) |
|
$ |
108,046 |
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See accompanying notes to the unaudited condensed consolidated financial statements.
5
FINANCIAL
ENGINES, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
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Three Months Ended |
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March 31, |
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2009 |
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2010 |
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Cash flows from operating activities: |
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Net income (loss) |
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$ |
(716 |
) |
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$ |
1,592 |
|
Adjustments to reconcile net income (loss) to net cash provided by
operating activities: |
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Depreciation |
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|
478 |
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|
438 |
|
Amortization of internal use software |
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620 |
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|
696 |
|
Amortization of stock-based compensation |
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1,584 |
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|
1,937 |
|
Amortization of deferred sales commissions |
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|
268 |
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|
319 |
|
Amortization and impairment of direct response advertising |
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|
162 |
|
Fair value adjustment of convertible warrant |
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(23 |
) |
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Provision for doubtful accounts |
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21 |
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|
52 |
|
Excess tax benefit associated with stock-based compensation |
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(61 |
) |
Changes in operating assets and liabilities: |
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Accounts receivable |
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(1,084 |
) |
|
|
(1,335 |
) |
Prepaid expenses |
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62 |
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|
|
(334 |
) |
Other assets |
|
|
(137 |
) |
|
|
(428 |
) |
Accounts payable |
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|
(652 |
) |
|
|
(550 |
) |
Accrued compensation |
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|
1,724 |
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(4,115 |
) |
Deferred revenue |
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|
1,335 |
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|
1,766 |
|
Other liabilities |
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(8 |
) |
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(3 |
) |
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Net cash provided by operating activities |
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|
3,472 |
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|
136 |
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Cash flows from investing activities: |
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Purchase of property and equipment |
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(76 |
) |
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|
(525 |
) |
Capitalization of internal use software |
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(1,127 |
) |
|
|
(1,577 |
) |
|
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Net cash used in investing activities |
|
|
(1,203 |
) |
|
|
(2,102 |
) |
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|
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Cash flows from financing activities: |
|
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|
|
|
|
|
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Payments on term loan payable |
|
|
|
|
|
|
(833 |
) |
Payments on capital lease obligations |
|
|
(5 |
) |
|
|
(3 |
) |
Net share settlements for stock-based awards minimum tax withholdings |
|
|
(300 |
) |
|
|
(12 |
) |
Excess tax benefit associated with stock-based compensation |
|
|
|
|
|
|
61 |
|
Proceeds from issuance of common stock, net of offering costs |
|
|
1 |
|
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|
82,235 |
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|
|
|
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Net cash provided by (used in) financing activities |
|
|
(304 |
) |
|
|
81,448 |
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
1,965 |
|
|
|
79,482 |
|
Cash and cash equivalents, beginning of period |
|
|
14,857 |
|
|
|
20,713 |
|
|
|
|
|
|
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|
Cash and cash equivalents, end of period |
|
$ |
16,822 |
|
|
$ |
100,195 |
|
|
|
|
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|
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|
|
|
|
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|
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|
Supplemental cash flows information: |
|
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|
|
|
|
|
|
Income taxes paid |
|
$ |
6 |
|
|
$ |
942 |
|
Interest paid |
|
|
199 |
|
|
|
108 |
|
Non-cash investing and financing activities: |
|
|
|
|
|
|
|
|
Stock dividend |
|
|
|
|
|
|
5,480 |
|
Capitalized stock-based compensation for internal use software |
|
|
96 |
|
|
|
109 |
|
Capitalized stock-based compensation for direct response advertising |
|
|
|
|
|
|
23 |
|
Accounts payable for purchases of property and equipment |
|
|
70 |
|
|
|
152 |
|
Accounts payable for initial public offering issuance costs |
|
|
|
|
|
|
1,701 |
|
See accompanying notes to the unaudited condensed consolidated financial statements.
6
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 Organization and Description of the Business
The Company
Financial Engines, Inc. (the Company) was incorporated on May 13, 1996 under the laws of the
state of California and is headquartered in Palo Alto, California. In February 2010, the Company
was reincorporated into the State of Delaware.
The Company is a provider of independent, technology-enabled portfolio management services,
investment advice and retirement help to participants in employer-sponsored defined contribution
retirement plans such as 401(k) plans. The Company uses its proprietary advice technology platform
to provide its services to retirement plan participants, regardless of personal wealth or account
size, on a cost-efficient basis. The Companys business model is based on workplace delivery of its
services. The Company targets three key constituencies in the retirement plan markets: plan
participants (employees of companies offering defined contribution plans, collectively referred to
as 401(k) plans), plan sponsors (employers offering 401(k) plans to their employees) and plan
providers (companies providing administrative services to retirement plan sponsors).
The Company continues to devote the majority of its resources to the growth of the Companys
business in accordance with its business plan. The Companys activities have been financed
primarily through the sale of equity securities and, to a lesser extent, cash flows from
operations, notes payable and other borrowings.
NOTE 2 Basis of Presentation
Interim Financial Statements
The accompanying condensed consolidated financial statements and notes thereto are unaudited.
These unaudited interim consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States (GAAP) and applicable rules and
regulations of the Securities and Exchange Commission (SEC) regarding interim financial
reporting. Certain information and note disclosures normally included in the financial statements
prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and
regulations. Accordingly, these interim consolidated financial statements should be read in
conjunction with the consolidated financial statements and notes thereto contained in the Companys
Prospectus filed under the Securities and Exchange Act, as amended (the Securities Act) with the
SEC on March 15, 2010 (the Prospectus). The condensed consolidated balance sheet as of December
31, 2009, included herein was derived from the audited financial statements as of that date, but
does not include all disclosures including notes required by GAAP.
The unaudited interim condensed consolidated financial statements have been prepared on the
same basis as the audited consolidated financial statements and include all adjustments (consisting
only of normal recurring adjustments) necessary for the fair presentation of the Companys
statement of financial position at December 31, 2009 and March 31, 2010, the Companys results of
operations for the three months ended March 31, 2009 and 2010, the Companys statement of
stockholders equity and comprehensive income for the three months ended March 31, 2010 and the
Companys cash flows for the three months ended March 31, 2009 and 2010. The results for the three
months ended March 31, 2010 are not necessarily indicative of the results to be expected for the
year ending December 31, 2010.
In the first quarter of 2010, the Company identified an error related to the 2009 bonus
accrual whereby the corresponding employer portion of the payroll tax was not recorded in fiscal
2009. The Company recorded the correction of this error in the three months ended March 31, 2010 as
a $168,000 increase in total costs and expenses or $0.01 per share (after-tax). To correct this
error, the Company recorded increase of $43,000 to cost of revenue, $67,000 to research and
development, $44,000 to sales and marketing and $14,000 to general and administration expenses in
the condensed consolidated statement of operations for the three months ended March 31, 2010.
Management concluded the effect of this correction of an error is
7
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
immaterial to the Companys consolidated financial statements for the year ended December 31,
2009, the three months ended March 31, 2010 and the year ended December 31, 2010.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities, the
disclosures of contingent assets and liabilities at the date of the financial statements and the
reported amounts of revenue and expense during the reporting period. Significant items subject to
such estimates and assumptions include revenue recognition, direct response advertising, deferred
sales commissions, the carrying amount and useful lives of property, equipment and internal use
software cost, valuation allowance for deferred income tax assets, and stock-based compensation.
Actual results could differ from those estimates under different assumptions or conditions.
Revenue Recognition
The Company recognizes revenue when all of the following conditions are met:
|
|
|
There is persuasive evidence of an arrangement, as evidenced by a signed contract; |
|
|
|
|
Delivery has occurred or the service has been made available to the customer, which
occurs upon completion of implementation and connectivity services and acceptance by the
customer; |
|
|
|
|
The collectability of the fees is reasonably assured; and |
|
|
|
|
The amount of fees to be paid by the customer is fixed or determinable. |
The Company generates its revenue through three primary sources: professional management,
platform and other revenue.
Professional Management. The Company derives Professional Management revenue from management
fees paid by plan participants for its Professional Management service. This discretionary
investment management service includes a Retirement Plan analyzing investments, contribution rate
and projected retirement income, and a Retirement Checkup designed to help plan participants to
develop a strategy for closing the gap, if any, between the participants retirement goal and
current retirement income forecast. The services are generally made available to plan participants
in a 401(k) plan by written agreements between the Company and the plan provider, plan sponsor and
the plan participant. The arrangement generally provides for management fees based on the value of
assets the Company manages for plan participants, and is generally payable quarterly in arrears.
Revenue derived from Professional Management services is recognized as the services are performed.
In certain instances, fees payable by plan participants are deferred for a specified period,
and are waived if the plan participant cancels within the specified period. Effective January 1,
2009, the Company commenced recognizing revenue during certain of these fee deferral periods based
on the estimate of the expected retention and cancellation rates determined by historical
experience of similar arrangements.
Platform. The Company derives platform revenue from recurring, subscription-based platform
fees for access to either its full suite of services, including Professional Management, Online
Advice and Retirement Evaluation, or its Online Advice service only, and to a lesser extent, from
setup fees. Online Advice is a nondiscretionary Internet-based investment advisory service, which
includes features such as: recommendations among the investment alternatives available in the
employer sponsored retirement plan; a summary of the current value of the plan account; a forecast
of how much the plan account investments might be worth at retirement; whether a change is
recommended to the contribution rate, risk and diversification and/or unrestricted employer stock
holdings; and a projection of how much the participant may spend at retirement. Plan participants
may use the service as frequently as they choose to monitor progress toward their financial goals,
receive forecasts and investment recommendations and access educational content at the Companys
website. The arrangements generally provide for the Companys fees to be paid by the plan sponsor,
plan provider or the retirement plan itself, depending on the plan structure. Platform revenue is
generally paid annually in advance and recognized ratably over the term of the subscription period
beginning after the completion of customer setup and data connectivity. Setup fees are recognized
ratably over the estimated customer life, which is usually three to five years.
8
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Other. Other revenue includes reimbursement for marketing and member materials from certain
subadvisory relationships, reimbursement for providing personal statements to participants from a
limited number of plan sponsors and plan implementation fees. A small portion of other revenue is
derived from a defined benefit consulting business. Revenue is recognized as the related services
are performed, in accordance with the specific terms of the contract with the customers.
Deferred Sales Commissions
Deferred sales commissions consist of incremental costs paid to the Companys direct sales
force associated with the execution of noncancelable customer contracts. The deferred sales
commission amounts are recoverable through future revenue streams under the noncancelable customer
contracts. The Company believes this is the preferable method of accounting as the commission
charges are so closely related to the revenue from the noncancelable customer contracts that they
should be recorded as an asset and charged to expense over the life of the related noncancelable
customer contracts, which is typically three years. Amortization of deferred sales commissions is
included in marketing and sales expense in the accompanying consolidated statements of operations.
The Company capitalized sales commission of $179,000 and $215,000 during the three months ended
March 31, 2009 and 2010, respectively, and amortized $268,000 and $319,000 of deferred sales
commissions during the three months ended March 31, 2009 and 2010, respectively.
Direct Response Advertising
The Companys advertising costs consist primarily of print materials associated with new
customer solicitations. Print materials costs primarily relate to either Active Enrollment
campaigns, where marketing materials are sent to solicit enrollment in professional management, or
Passive Enrollment campaigns, where the plan sponsor defaults all eligible members into the
professional management service unless they decline. Advertising costs relating to Passive
Enrollment campaigns do not qualify as direct response advertising and are expensed to sales and
marketing in the period the advertising activities first take place. Advertising costs associated
with Active Enrollment campaigns qualify for capitalization as direct response advertising. The
capitalized costs are amortized over the estimated three-year period of probable future benefits
following the enrollment of a member into the professional management services based on the ratio
of current period revenue for the direct response advertising cost pool as compared to the total
estimated revenue expected for the direct response advertising cost pool over future periods.
Effective
July 1, 2009, the Company commenced capitalization of direct response advertising
costs associated with Active Enrollment campaigns on a prospective basis as the Company first
concluded it had sufficient and verifiable historical patterns over a reasonable period of time to
demonstrate the probable future benefits of such campaigns. As of December 31, 2009 and March 31,
2010, $1.4 million and $1.5 million, respectively, of advertising costs associated with direct
response advertising were reported in other assets in the accompanying condensed consolidated
balance sheet. Advertising expense was $699,000 and $257,000 for the three months ending March 31,
2009 and 2010, respectively, of which direct advised Active Enrollment campaign expense was
$537,000 and $194,000, respectively.
Valuation of Long-Lived Assets
Long-lived assets, such as property, equipment and capitalized internal use software subject
to amortization, are reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset group may not be recoverable. Recoverability of assets to be
held and used is measured by a comparison of the carrying amount of an asset group to estimated
undiscounted future cash flows expected to be generated by the asset group. If the carrying amount
of an asset group exceeds its estimated future cash flows, an impairment charge is recognized by
the amount by which the carrying amount of the asset group exceeds the fair value of the asset
group.
Management evaluates the useful lives of these assets on an annual basis and tests for
impairment whenever events or changes in circumstances occur that could impact the recoverability
of these assets. There were no impairments to long-lived assets during the three months ended March
31, 2009 and 2010.
9
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Stock-based Compensation
Employee stock-based compensation expense is based on the following: (1) the grant date fair
value of stock option awards granted or modified after January 1, 2006 and (2) the balance of
deferred stock-based compensation related to stock option awards granted prior to January 1, 2006,
which was calculated using the intrinsic value method.
The Company estimates the fair value of stock options granted using the Black-Scholes option
pricing model. The Company amortizes stock-based compensation expense using a graded vesting method
over the requisite service periods of the awards, which is generally the vesting period. The
expected term represents the period that stock-based awards are expected to be outstanding, giving
consideration to the contractual terms of the stock-based awards, vesting schedules and
expectations of future employee behavior as influenced by changes to the terms of the Companys
stock-based awards. The Company uses the simplified method in developing an estimate of expected
term of stock options. The computation of expected volatility is based on a combination of the
historical and implied volatility of comparable companies from a representative peer group based on
industry and market capitalization data. Management estimates expected forfeitures and recognizes
compensation costs only for those stock-based awards expected to vest. Amortization of stock-based
compensation is presented in the same line item as the cash compensation to those employees in the
accompanying condensed consolidated statement of operations.
The Companys current practice is to issue new shares to settle stock option exercises.
Recent Accounting Pronouncements
In October 2009, the Financial Account Standards Board (FASB) issued Accounting Standards
Update (ASU) 2009-13 Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements
a consensus of the FASB Emerging Issues Task Force (ASU 2009-13). ASU 2009-13 addresses how to
measure and allocate arrangement consideration to one or more units of accounting within a
multiple-deliverable arrangement. ASU 2009-13 modifies the requirements for determining whether a
deliverable can be treated as a separate unit of accounting by removing the criteria that objective
evidence of fair value exists for the undelivered elements in order to account for those
undelivered elements as a single unit of accounting and also proscribes use of the residual method.
ASU 2009-13 is effective for the Company prospectively for revenue arrangements entered into or
materially modified beginning January 1, 2011. Early adoption is permitted. The Company is
currently evaluating the impact the adoption of ASC 2009-13 will have on its financial condition
and results of operations.
NOTE 3 Cash and Cash Equivalents
Cash and cash equivalents consist of the following:
|
|
|
|
|
|
|
|
|
|
|
December 31, |
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
Cash |
|
$ |
285 |
|
|
$ |
2,534 |
|
Money market fund |
|
|
20,428 |
|
|
|
97,661 |
|
|
|
|
|
|
|
|
Total cash and cash equivalents |
|
$ |
20,713 |
|
|
$ |
100,195 |
|
|
|
|
|
|
|
|
10
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 4 Concentration of Credit Risk and Fair Value of Financial Instruments
The following table summarizes the Companys financial assets measured at fair value on a
recurring basis:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurement Using: |
|
|
|
|
|
|
Quoted Prices in |
|
|
|
|
|
|
|
|
|
|
Active Markets for |
|
Significant Other |
|
Significant Other |
|
|
|
|
|
|
Identical Assets |
|
Observable Inputs |
|
Unobservable Inputs |
|
|
Total Fair Value |
|
(Level 1) (1) |
|
(Level 2) (2) |
|
(Level 3) (3) |
|
|
(In thousands) |
Assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money Market Funds |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2009 |
|
$ |
20,428 |
|
|
$ |
20,428 |
|
|
$ |
|
|
|
$ |
|
|
March 31, 2010 |
|
$ |
97,661 |
|
|
$ |
97,661 |
|
|
$ |
|
|
|
$ |
|
|
|
|
|
(1) |
|
Level 1: Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets. |
|
(2) |
|
Level 2: Inputs reflect quoted prices for identical assets or liabilities in markets that are not active; quoted prices
for similar assets or liabilities in active markets; inputs other than quoted prices that are observable for the assets
or liabilities; or inputs that are derived principally from or corroborated by observable market data by correlation or
other means. |
|
(3) |
|
Level 3: Unobservable inputs reflecting the Companys own assumptions incorporated in valuation techniques used to
determine fair value. These assumptions are required to be consistent with market participant assumptions that are
reasonably available. |
Financial instruments that potentially subject the Company to significant concentrations of
credit risk consist principally of cash, cash equivalents and accounts receivable. The Company
deposits its cash and cash equivalents primarily with a major bank, in which deposits may exceed
federal deposit insurance limits.
The Companys customers are concentrated in the United States of America. The Company performs
ongoing credit evaluations of its customers and does not require collateral. The Company reviews
the need for allowances for potential credit losses and such losses have been insignificant to
date.
Significant customer information is as follows:
|
|
|
|
|
|
|
|
|
|
|
December 31, |
|
March 31, |
Percentage
of accounts receivable: |
|
2009 |
|
2010 |
|
|
|
|
|
JPMorgan |
|
|
20 |
% |
|
|
21 |
% |
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
March 31, |
Percentage
of revenue: |
|
2009 |
|
2010 |
|
|
|
|
|
JPMorgan |
|
|
18 |
% |
|
|
18 |
% |
NOTE 5 Stockholders Equity
Common Stock
On March 16, 2010, the Company completed its initial public offering whereby the Company sold
7,458,100 shares of common stock for a price of $12.00 per share, which resulted in proceeds before
underwriters discounts and offering costs of
11
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
$89.5 million. Approximately $10.5 million in
offering costs, including underwriters commissions, were incurred and have been deducted from
additional paid-in capital.
Preferred Stock
Prior to the initial public offering, the Company had 22,441,623 shares of preferred stock
outstanding. Each share of preferred stock was convertible into one share of common stock. The
conversion of all the shares of preferred stock into 22,441,623 shares of common stock occurred
automatically upon the completion of the Companys initial public offering on March 16, 2010.
Upon
the closing of the initial public offering on March 16, 2010, the Company issued 456,643
shares of common stock as a dividend to the holders of Series E preferred stock so that each share
of preferred stock would maintain the one-to-one conversion ratio to common stock. The fair value
of the dividend at $12.00 per share was determined to be $5.5 million.
NOTE 6 Stock-based Compensation
The following table summarizes the stock-based compensation by functional area as presented on
the statement of operations:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands) |
|
|
|
|
|
|
|
|
|
|
Stock-based compensation: |
|
|
|
|
|
|
|
|
Cost of revenue |
|
$ |
308 |
|
|
$ |
219 |
|
Research and development |
|
|
416 |
|
|
|
569 |
|
Sales and marketing |
|
|
478 |
|
|
|
514 |
|
General and administrative |
|
|
364 |
|
|
|
603 |
|
Amortization of internal use software |
|
|
18 |
|
|
|
32 |
|
|
|
|
|
|
|
|
Total stock-based compensation |
|
$ |
1,584 |
|
|
$ |
1,937 |
|
|
|
|
|
|
|
|
NOTE 7 Net Loss per Common Share
Basic
net loss per common share is computed by dividing net loss
attributable to holders of common stock by the weighted average number of common shares outstanding during the period less the
weighted average number of unvested restricted common shares subject to the right of repurchase.
Diluted net loss per common share is computed by giving effect to all potential dilutive common
shares, including options, unvested restricted common stock subject to repurchase, warrants and
convertible preferred stock.
The following table sets forth the computation of basic and diluted net loss per share
attributable to holders of common stock:
12
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands, except
per share data) |
|
|
|
|
|
|
|
|
|
|
Numerator (basic and diluted): |
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
(716 |
) |
|
$ |
1,592 |
|
Less: Stock dividend |
|
|
|
|
|
|
5,480 |
|
|
|
|
|
|
|
|
Net loss attributable to holders of common stock |
|
$ |
(716 |
) |
|
$ |
(3,888 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator (basic and diluted): |
|
|
|
|
|
|
|
|
Weighted average common shares outstanding |
|
|
10,322 |
|
|
|
16,171 |
|
Less: Weighted average unvested restricted
common shares subject to repurchase |
|
|
(325 |
) |
|
|
(346 |
) |
|
|
|
|
|
|
|
Net weighted average common shares outstanding |
|
|
9,997 |
|
|
|
15,825 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share attributable to holders of
common stock: |
|
|
|
|
|
|
|
|
Basic |
|
$ |
(0.07 |
) |
|
$ |
(0.25 |
) |
Diluted |
|
$ |
(0.07 |
) |
|
$ |
(0.25 |
) |
|
Diluted net loss per share does not include the effect of the following antidilutive
common equivalent shares: |
|
|
|
Three Months Ended March 31, |
|
|
2009 |
|
2010 |
|
|
(In thousands) |
|
|
|
|
|
|
|
|
|
Stock options and awards outstanding |
|
|
10,963 |
|
|
|
11,625 |
|
Common equivalent shares from preferred stock warrant |
|
|
108 |
|
|
|
|
|
Unvested restricted common shares subject to repurchase |
|
|
325 |
|
|
|
346 |
|
Common shares from preferred stock |
|
|
22,350 |
|
|
|
18,452 |
|
|
|
|
|
|
|
|
|
|
Total antidilutive common equivalent shares |
|
|
33,746 |
|
|
|
30,423 |
|
|
|
|
|
|
|
|
|
|
NOTE 8 Income Taxes
The Company recorded a benefit for income taxes of $162,000 and a provision for income taxes
of $123,000 in the three months ended March 31, 2009 and 2010, respectively. The Companys
effective tax rate was 18% and 7%, in the first quarter of fiscal 2009 and 2010, respectively. The income tax provision for the three months
ended March 31, 2009 and 2010 was primarily due to state income taxes and local taxes.
In assessing the realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will be realized. In making
such determination, management considers all available positive and negative evidence, including
scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning
strategies and recent financial performance. In order to support a conclusion that a valuation
allowance is not needed, positive evidence of sufficient quantity and quality is necessary to
overcome negative evidence. The ultimate realization of deferred tax assets is dependent upon the
generation of the future taxable income during the periods in which those temporary differences
become deductible.
13
FINANCIAL ENGINES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
As
a result of uncertainties regarding realization of the Companys net deferred tax asset including the lack of profitability
through December 31, 2008 and the uncertainty over future operating profitability and taxable income, the Company recorded a
valuation allowance for the entire net deferred tax asset of $57.9 million as of December 31, 2009.
The Company will continue to evaluate the realizability of its net deferred tax asset on a quarterly basis and expects to
release the valuation allowance when it has positive evidence of sufficient quantity and quality, including but not
limited to cumulative earnings in successive recent periods, to overcome such negative evidence. Accordingly, if
the valuation allowance relating to its net deferred tax asset were released during the year ended December 31, 2010,
the Companys consolidated statement of operations would be additionally credited by the amount of such release in the
quarter it determines such positive evidence exists.
The Company is subject to income taxes in the U.S. federal jurisdiction and various state
jurisdictions. All tax years since inception are open and may be subject to potential examination
in one or more jurisdictions. The Company is currently under federal income tax examination for
fiscal years 2006 and 2007. The Company anticipates a decrease to its gross unrecognized tax
benefits, including those associated with research credits related to prior returns resulting from
such examinations in the range of $0 to $3.8 million. In addition, the Company does not believe
that the ultimate settlement of these obligations will materially
affect its liquidity.
NOTE 9 Savings Plan
The Company maintains a savings plan under Section 401(k) of the Internal Revenue Code. Under
the plan, employees may contribute up to 75% of their pre-tax salaries per year, but not more than
the statutory limits. The Company may, at its discretion, make matching contributions to the 401(k)
Plan. There were no matching contributions for the three months ended March 31, 2009. For the
three months ended March 31, 2010, the Company made matching contributions of 50% of employee
contributions into the 401(k) plan up to 3% of salary (including commissions), which totaled
$195,000.
NOTE 10 Contingencies
The Company is a party to two consulting agreements pursuant to which it may be obligated to
indemnify the other party with respect to certain matters. Typically, these obligations arise in
the context of contracts entered into by the Company under which the Company customarily agrees to
hold the other party harmless against losses arising from a breach of representation and covenants.
The Company includes service level commitments to its customers warranting certain levels of
reliability and performance. To date, the Company has not incurred any material costs as a result
of such commitments and has not accrued any liabilities related to such obligations.
NOTE 11 Subsequent Events
On
April 19, 2010, the $7.0 million revolving line of credit expired. There was no balance
outstanding under the line of credit as of December 31, 2009 and March 31, 2010.
On May
10, 2010, the Company pledged $950,000 as
security related to the Companys operating leases.
On May 10, 2010, the Company repaid the outstanding term loan balance of $6.7 million
including $9,000 of accrued interest.
14
|
|
|
Item 2. |
|
Managements Discussion and Analysis of Financial Condition and Results of Operations |
This Report on Form 10-Q contains forward-looking statements that involve risks and
uncertainties. In some cases, you can identify forward-looking statements by terms such as may,
might, will, objective, intend, should, could, can, would, expect, believe,
design, estimate, predict, potential, plan, or the negative of these terms, and similar
expressions intended to identify forward-looking statements. These statements reflect our current
views with respect to future events and are based on assumptions and subject to risks and
uncertainties. Given these uncertainties, you should not place undue reliance on these
forward-looking statements. Forward-looking statements include, but are not limited to, statements
about our plans for future services and enhancements of existing services; our expectations
regarding our expenses and revenue; our anticipated cash needs and our estimates regarding our
capital requirements and our needs for additional financing; our anticipated growth strategies; our
ability to retain and attract customers; our regulatory environment; our legal proceedings;
intellectual property; our expectations regarding competition; use of proceeds; and sources of new
revenue. These statements involve known and unknown risks, uncertainties and other factors which
may cause our actual results, performance or achievements to be materially different from any
future results, performances or achievements expressed or implied by the forward-looking
statements. Forward-looking statements are subject to risks and uncertainties that could cause
actual results to differ materially from those projected. These risks and uncertainties include,
but are not limited to, the risks set forth throughout this Report, including under Item 1A, Risk
Factors. These forward-looking statements speak only as of the date hereof. We expressly disclaim
any obligation or undertaking to release publicly any updates or revisions to any forward-looking
statements contained herein to reflect any change in our expectations with regard thereto or any
change in events, conditions or circumstances on which any such statement is based.
Our investment advisory and management services are provided through our subsidiary, Financial
Engines Advisors L.L.C., a federally registered investment adviser. References in this Report to
Financial Engines, our company, we, us and our refer to Financial Engines, Inc. and its
consolidated subsidiaries during the periods presented unless the context requires otherwise.
Overview
We are a leading provider of independent, technology-enabled portfolio management, investment
advice and retirement help to participants in employer-sponsored defined contribution retirement
plans, such as 401(k) plans. We use our proprietary advice technology platform to provide our
services to millions of retirement plan participants on a cost-efficient basis. Our business model
is based on workplace delivery of our services. We target three key constituencies in the
retirement plan market: plan participants, plan sponsors and plan providers.
Revenue
We generate revenue primarily from management fees on Assets Under Management (AUM) as well
as from platform fees by providing portfolio management services, investment advice and retirement
help to plan participants of employer-sponsored retirement plans.
Professional Management. We derive Professional Management revenue from management fees paid
by plan participants for our Professional Management service. Our Professional Management service
is a discretionary investment management service, which includes a Retirement Plan analyzing
investments, contribution rate and projected retirement income, and a Retirement Checkup designed
to help plan participants to develop a strategy for closing the gap, if any, between the
participants retirement goal and current retirement income forecast. The services are generally
made available to plan participants in a 401(k) plan by written agreements between us and the plan
provider, plan sponsor and the plan participant.
The arrangement generally provides for management fees based on the value of assets we manage
for plan participants, and is generally payable quarterly in arrears. Our Professional Management
revenue is generally the product of managed accounts fee rates and the value of AUM at the end of
each quarter.
Enrollment Results
We measure enrollment in our Professional Management service by members as a percentage of
plan participants, and by AUM as a percentage of Assets Under Contract (AUC), in each case across
all plans where the Professional
15
Management program is available for enrollment, including plans where enrollment campaigns are
not yet concluded or have not been commenced. In addition to measuring enrollment in all plans
where the Professional Management program is available, we measure enrollment in plans where the
Professional Management program has been available for at least 14 months and in plans where it has
been available for at least 26 months.
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Members as a |
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Percentage of |
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AUM as a |
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Eligible |
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Percentage of |
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Participtans |
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AUC |
As of March 31, 2010 |
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All plans rolled out |
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10.3 |
% |
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10.4 |
% |
All plans actively rolled out 14 months or more |
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|
11.4 |
% |
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|
11.0 |
% |
All plans rolled out 26 months or more |
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11.5 |
% |
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11.2 |
% |
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As of March 31, 2010, the percentages for the style exposures of the portfolios we
managed, in aggregate, were approximately as follows:
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Cash |
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6 |
% |
Bonds |
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|
24 |
% |
Domestic Equity |
|
|
50 |
% |
International Equity |
|
|
20 |
% |
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Total |
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|
100 |
% |
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|
We estimate the aggregate percentage of equity exposures have ranged from a low of
approximately 56% to a high of approximately 78% since we began managing assets on a discretionary
basis in September 2004. These percentages can be affected by the asset exposures of the overall
market portfolio, the demographics of our member population, the number of members who have told us
that they want to assume greater or lesser investment risk, and, to a lesser extent given the
amount of assets we have under management, the proportion of our members for whom we have completed
the transition from their initial portfolio.
Changes in AUM
The following table illustrates changes in our AUM from over the last four quarters:
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Q209 |
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Q309 |
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Q409 |
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Q110 |
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(In billions) |
|
AUM, beginning of period |
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$ |
16.1 |
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|
$ |
19.5 |
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$ |
23.5 |
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$ |
25.7 |
|
AUM from net enrollment (1) |
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1.1 |
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1.1 |
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1.1 |
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2.8 |
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Other (2) |
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2.3 |
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2.9 |
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1.1 |
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1.4 |
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AUM, end of period |
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$ |
19.5 |
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$ |
23.5 |
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$ |
25.7 |
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$ |
29.9 |
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(1) |
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The aggregate amount of all assets under management, at the time
of enrollment, of new members who enrolled in our Professional
Management service within the given period less the aggregate
amount of assets, at the time of cancellation, for voluntary
cancellations occurring when a member terminates their membership
in our Professional Management service within the given period
less the aggregate amount of assets, as of the last available
positive account balance, for involuntary cancellations occurring
when the members 401(k) plan account balance has been reduced to
zero or cancellation of a plan sponsor contract for the
Professional Management service has become effective within the
given period. |
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(2) |
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Other factors affecting assets under management cannot be
separately quantified. These factors primarily consist of |
16
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employer and employee contributions, plan administrative fees and market
movement, and also include participant loans and hardship
withdrawals. We cannot quantify the impact of these other factors
as the information we receive from the plan providers does not
separately identify these transactions or the changes in balances
due to market movement. |
Our AUM increases or decreases based on several factors, including new asset enrollment
rates, asset cancellation rates due to members proactively terminating their membership, members
rolling their assets out of the retirement plan and sponsors canceling the Professional Management
service, as well as other factors, such as employee and employer contributions into their 401(k)
accounts and market fluctuations. If any of these factors reduces our AUM, the amount of fees we
would earn for managing those assets would decline, which in turn could negatively impact our
revenue.
Platform. We derive our platform revenue from recurring, annual subscription-based platform
fees for access to either our full suite of services, including Professional Management, Online
Advice and Retirement Evaluation, or our Online Advice service only. Platform fees are paid by the
plan sponsor, plan provider or the retirement plan itself, depending on the plan structure, and
vary depending on the type of service provided. Our Online Advice service is a nondiscretionary
Internet-based investment advisory service, which includes features such as recommendations among
the investment alternatives available in the employer sponsored retirement plan, a summary of the
current value of the plan account, a forecast of how much the plan account investments might be
worth at retirement, whether a change is recommended to the contribution rate, risk and
diversification and/or unrestricted employer stock holdings and a projection of how much the
participant may be able to spend at retirement. Plan participants may use the service as frequently
as they choose to monitor progress toward their financial goals, receive forecasts and investment
recommendations and access educational content at our website.
Other Revenue. Other revenue includes reimbursement for marketing and member materials from
certain subadvisory relationships, reimbursement for providing personal statements to participants
from a limited number of plan sponsors and plan implementation fees. A small portion of other
revenue is derived from a defined benefit consulting business.
Costs and Expenses
Employee compensation and related expenses represent our largest expense. We allocate
compensation and other related expenses, including stock-based compensation, to our cost of
revenue, research and development, sales and marketing, general and administrative as well as
amortization of internal use software expense categories. While we expect our headcount to increase
over time, we believe that the economies of scale in our business model will allow us to grow our
compensation and related expenses at a lower rate than revenue.
Other
costs and expenses include the costs of fees paid to plan providers
related to the
exchange of plan and plan participant data as well as
implementing our transaction instructions for member accounts, marketing materials and postage, and amortization and depreciation for
hardware and software purchases and support.
The following summarizes our cost of revenue and certain significant operating expenses:
Cost of Revenue. Cost of revenue excludes amortization of internal use software and includes
expenses from portfolio management, operations, advisor call center operations, technical
operations, including information technology, customer support, installation and set-up costs, data
connectivity fees and printed materials costs for certain subadvisory relationships for which we
are reimbursed. These expenses are shared across the different revenue categories and we are not
able to meaningfully allocate such costs between separate categories of revenue. Consequently, all
costs and expenses applicable to our revenue are included in the category cost of revenue in our
statements of operations. Costs in this area are primarily related to employee compensation and
related expenses, payments to third parties and purchased materials. Amortization of internal use
software, a portion of which relates to our cost of revenue, is reflected as a separate line item
in our statement of operations.
Research and Development. Research and development expense includes costs associated with
defining and specifying new features and ongoing enhancement to our Advice Engines and other
aspects of our service offerings, financial research, quality assurance, related administration and
other costs that do not qualify for capitalization. Costs in this area are primarily related to
employee compensation for our investment research, product development and engineering personnel
and related expenses and, to a lesser extent, related external consulting expenses.
17
Sales and Marketing. Sales and marketing expense includes costs associated with plan provider
and plan sponsor relationship management, marketing our services, plan provider and plan sponsor
marketing, direct sales, printing of, and postage for marketing materials for, direct advisory
relationships and amortization of direct response advertising. Costs in this area are primarily
related to employee compensation for sales and marketing personnel and related expenses, which
include commissions, printed materials and general marketing programs.
General and Administrative. General and administrative expense includes costs for finance,
legal, compliance and administration. Costs in this area include employee compensation and related
expenses and fees for consulting and professional services. We expect that we will incur
additional expenses as a result of becoming a public company for, among other things, SEC reporting
and compliance, including compliance with the Sarbanes-Oxley Act of 2002, director fees, insurance,
transfer agent fees and other similar expenses. General and administrative expenses are also
expected to continue to increase due to incremental headcount increases, the general growth of our
business and the costs associated with being a public company.
Amortization of Internal Use Software. Amortization expense includes engineering costs
associated with developing and enhancing our: (1) systems developed for our internal use for
tracking member data, including AUM, member cancellations and other related member statistics and
(2) enhancements to our advisory service platform. Associated direct development costs are
capitalized and amortized using the straight-line method over the estimated lives of the underlying
technology. Costs in this area include employee compensation and related expenses and fees for
external consulting services.
Critical Accounting Estimates
There have been no changes in the matters for which we make critical accounting estimates in
the preparation of our condensed consolidated financial statements during the three months ended
March 31, 2010, as compared to those disclosed in Managements Discussion and Analysis of Financial
Condition and Results of Operations for the fiscal year ended December 31, 2009 included in our
Prospectus dated March 15, 2010.
Results of Operations
The following tables set forth our results of operations for the periods presented and as a
percentage of our revenues for those periods. The period to period comparison of financial results
is not necessarily indicative of future results.
18
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Three Months |
|
Three Months |
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|
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|
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Ended |
|
Ended |
|
|
Increase |
|
|
|
March 31, |
|
March 31, |
|
|
(Decrease) |
|
|
|
2009 |
|
|
2010 |
|
2009 |
|
|
2010 |
|
|
Amount |
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|
% |
|
|
|
(As a percentage of |
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
revenue) |
|
(In thousands) |
Revenue: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Professional management |
|
|
55 |
% |
|
|
68 |
% |
$ |
9,593 |
|
|
$ |
16,611 |
|
|
$ |
7,018 |
|
|
|
73 |
% |
Platform |
|
|
41 |
|
|
|
29 |
|
|
7,220 |
|
|
|
7,177 |
|
|
|
(43 |
) |
|
|
(1 |
) |
Other |
|
|
3 |
|
|
|
2 |
|
|
595 |
|
|
|
556 |
|
|
|
(39 |
) |
|
|
(7 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue |
|
|
100 |
|
|
|
100 |
|
|
17,408 |
|
|
|
24,344 |
|
|
|
6,936 |
|
|
|
40 |
|
Costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of
revenue (exclusive of amortization of internal use
software) |
|
|
38 |
|
|
|
35 |
|
|
6,601 |
|
|
|
8,470 |
|
|
|
1,869 |
|
|
|
28 |
|
Research and development |
|
|
21 |
|
|
|
18 |
|
|
3,688 |
|
|
|
4,470 |
|
|
|
782 |
|
|
|
21 |
|
Sales and marketing |
|
|
31 |
|
|
|
26 |
|
|
5,360 |
|
|
|
6,290 |
|
|
|
930 |
|
|
|
17 |
|
General and administrative |
|
|
11 |
|
|
|
11 |
|
|
1,842 |
|
|
|
2,599 |
|
|
|
757 |
|
|
|
41 |
|
Amortization of internal use
software |
|
|
4 |
|
|
|
3 |
|
|
638 |
|
|
|
728 |
|
|
|
90 |
|
|
|
14 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total costs and expenses |
|
|
104 |
|
|
|
93 |
|
|
18,129 |
|
|
|
22,557 |
|
|
|
4,428 |
|
|
|
24 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations |
|
|
(4 |
) |
|
|
7 |
|
|
(721 |
) |
|
|
1,787 |
|
|
|
2,508 |
|
|
|
n/a |
|
Interest expense |
|
|
(1 |
) |
|
|
|
|
|
(184 |
) |
|
|
(73 |
) |
|
|
111 |
|
|
|
(60 |
) |
Interest and other income, net |
|
|
|
|
|
|
|
|
|
27 |
|
|
|
1 |
|
|
|
(26 |
) |
|
|
(96 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income tax
expense |
|
|
(5 |
) |
|
|
7 |
|
|
(878 |
) |
|
|
1,715 |
|
|
|
2,593 |
|
|
|
n/a |
|
Income tax expense |
|
|
(1 |
) |
|
|
1 |
|
|
(162 |
) |
|
|
123 |
|
|
|
285 |
|
|
|
n/a |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
|
(4) |
% |
|
|
7 |
% |
$ |
(716 |
) |
|
$ |
1,592 |
|
|
$ |
2,308 |
|
|
|
n/a |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comparison of Three Months Ended March 31, 2009 and 2010
Revenue
Total revenue increased $6.9 million, or 40%, from $17.4 million in the three months ended
March 31, 2009 to $24.3 million in the three months ended March 31, 2010. The increase was
due to growth in professional management revenue of
$7.0 million, partially offset by a slight decrease in platform
revenue and other revenue. Professional management
revenue and platform revenue comprised 68% and 29%, respectively, of total revenue for the three
months ended March 31, 2010.
Professional Management Revenue
Professional management revenue increased $7.0 million, or 73%, from $9.6 million in the three
months ended March 31, 2009 to $16.6 million in the three months ended March 31, 2010. This
increase was primarily due to an increase in AUM from $16.1 billion as of March 31, 2009 to $29.9
billion as of March 31, 2010. The increase in AUM was driven primarily by market appreciation,
increased enrollment resulting from marketing campaigns and other ongoing member acquisitions.
Platform Revenue
Platform revenue decreased 1%, from $7.2 million in the three months ended March 31, 2009 to
$7.2 million in the three months ended March 31, 2010, due to a reduction in platform fees from
sponsor cancellations and a reduction in contractual minimums for one provider offset by new
sponsor rollouts.
19
Other Revenue
Other revenue decreased 7%, from $595,000 in the three months ended March 31, 2009 to $556,000
as compared to the three months ended March 31, 2010. This decrease was primarily due to the
conclusion of a defined-benefit consulting contract as of December 31, 2009.
Cost of Revenue
Cost of revenue increased $1.9 million, or 28%, from $6.6 million for the three months ended
March 31, 2009 to $8.5 million for the three months ended March 31, 2010. This increase was
primarily due to an increase of $1.7 million in fees paid to plan providers for connectivity to
plan and plan participant data, and an increase in employee-related
expense of $0.2 million related to increased headcount. As a percentage
of revenue, cost of revenue decreased from 38% for the three months ended March 31, 2009 to 35% for
the three months ended March 31, 2010. The decrease as a percentage of revenue was primarily due
to a slower increase in employee-related expense relative to the increase in revenue during the
same period.
Research and Development
Research and development expense increased $0.8 million, or 21%, from $3.7 million for the
three months ended March 31, 2009 to $4.5 million for the three months ended March 31, 2010. This
increase was primarily due to higher employee-related expense of
$1.0 million related to increased headcount, in addition to a $0.1 million increase in consulting expense. This increase
was partially offset by increased capitalization of internal use software of $0.3 million. As a
percentage of revenue, research and development expense decreased from 21% for the three months
ended March 31, 2009 to 18% for the three months ended March 31, 2010.
Sales and Marketing
Sales
and marketing expense increased $0.9 million, or 17%, from $5.4 million for the
three months ended March 31, 2009 to $6.3 million for the three months ended March 31,
2010. This increase was primarily due to higher employee-related expense of $0.9 million
related to increased headcount and changes to annual sales compensation plans in
addition to a $0.3 million increase in consulting expense. This increase was partially
offset by the capitalization of direct response advertising costs of $0.3 million. As a
percentage of revenue, sales and marketing expense decreased from 31% for the three
months ended March 31, 2009 to 26% for the three months ended March 31, 2010.
General and Administrative
General and administrative expense increased $0.8 million, or 41%, from $1.8 million for the
three months ended March 31, 2009 to $2.6 million for the three months ended March 31, 2010. This
increase was primarily due to increased stock-based compensation expense of $0.3 million and
increased employee-related expense of $0.2 million related to growth in headcount. This increase
was also due to a $0.1 million increase in professional services expense and a $0.1 million
increase in operating expense to support operations as a public company, as well as a $0.1 million
increase in equipment related expense. As a percentage of revenue, general and administrative
expense remained flat at 11% for the three months ended March 31, 2009 compared to the three months
ended March 31, 2010.
Amortization of Internal Use Software
Amortization of internal use software increased $0.1 million, or 14%, from $0.6 million for
the three months ended March 31, 2009 to $0.7 million for the three months ended March 31, 2010.
This increase was primarily due to increased capitalized development costs. These costs include
engineering costs associated with developing and enhancing our internally developed software.
Interest Expense
Interest expense decreased $0.1 million, or 60%, from a $0.2 million for the three months
ended March 31, 2009 to $0.1 million for the three months ended March 31, 2010. This decrease was
due to a $10.0 million term loan entered into in April
2009 with an effective interest rate lower than our previously outstanding $10.0 million
promissory note in the three months ended March 31, 2009.
20
Interest and Other Income, Net
Interest and other income decreased for the three months ended March 31, 2010,
primarily due to a $23,000 adjustment to the fair value of a warrant recorded in other income for the three months
ended March 31, 2009.
Income Taxes
Income tax expense increased $0.3 million from a $0.2 million income tax benefit for the three
months ended March 31, 2009 to a $0.1 million income tax expense for the three months ended March
31, 2010. The effective tax rates for the three months ended March 31, 2009 and 2010 were 18% and
7%, respectively. The effective tax rate for the three months ended March 31, 2009 and 2010 differs
from the statutory federal rate of 35% primarily due to the effect of change of valuation allowances as a
result of the utilization of net operating losses from expected ordinary income for the years ended
December 31, 2009 and 2010, respectively.
As a
result of uncertainties regarding realization of our net deferred tax asset including the lack of profitability through
December 31, 2008 and the uncertainty over future operating profitability and taxable income, we recorded a valuation
allowance for the entire net deferred tax asset of $57.9 million as of December 31, 2009. We will continue to evaluate
the realizability of our net deferred tax asset on a quarterly
basis and expect to release our valuation allowance when we have positive evidence of sufficient quantity and quality,
including but not limited to cumulative earnings in successive recent periods, to overcome such negative evidence.
Accordingly, if the valuation allowance relating to our net deferred tax asset were released during the year ended
December 31, 2010, our consolidated statement of operations would be additionally credited by the amount of such
release in the quarter we determine such positive evidence
exists.
Non-GAAP Adjusted EBITDA and Adjusted Net Income
Adjusted EBITDA represents net income before interest (income) expense, net, income tax
expense (benefit), depreciation, withdrawn offering expense, amortization of internal use software,
amortization of direct response advertising, amortization of deferred sales commissions and
amortization of stock-based compensation. Adjusted Net Income represents net income before
stock-based compensation expense, net of tax.
Our
management uses Adjusted EBITDA and Adjusted Net Income as measures of operating
performance, for planning purposes (including the preparation of annual budgets), to allocate
resources to enhance the financial performance of our business, to evaluate the effectiveness of
our business strategies and in communications with our board of directors concerning our financial
performance. Adjusted EBITDA, among other factors, will be used when
determining incentive compensation for employees, including
management, for 2010.
We also present Adjusted EBITDA and Adjusted Net Income as supplemental performance measures
because we believe that these measures provide our board of directors, management and investors
with additional information to measure our performance. Adjusted EBITDA provides comparisons from
period to period by excluding potential differences caused by variations in the age and book
depreciation of fixed assets (affecting relative depreciation expense) and amortization of internal
use software, direct response advertising and commissions, and changes in interest expense and
interest income that are influenced by capital structure decisions and capital market conditions.
Management also believes it is useful to exclude stock-based compensation expense from Adjusted
EBITDA and Adjusted Net Income because non-cash equity grants made at a certain price and point in
time do not necessarily reflect how our business is performing at any particular time.
Adjusted EBITDA and Adjusted Net Income are not measurements of our financial performance
under U.S. GAAP and should not be considered as an alternative to net income, operating income or
any other performance measures derived in accordance with U.S. GAAP, or as an alternative to cash
flows from operating activities as a measure of our profitability or liquidity.
We understand that, although Adjusted EBITDA and Adjusted Net Income are frequently used by
securities analysts, lenders and others in their evaluation of companies, Adjusted EBITDA and
Adjusted Net Income have limitations as an analytical tool, and you should not consider them in
isolation, or as a substitute for an analysis of our results as reported under U.S. GAAP. In
particular you should consider:
|
|
|
Adjusted EBITDA and Adjusted Net Income do not reflect our cash expenditures, or future
requirements for capital expenditures or contractual commitments; |
|
|
|
|
Adjusted EBITDA and Adjusted Net Income do not reflect changes in, or cash requirements
for, our working capital needs; |
|
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|
|
Adjusted Net Income does not reflect the interest expense or the cash requirements
necessary to service interest or principal payments on our debt; |
21
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|
|
Adjusted EBITDA and Adjusted Net Income do not reflect the non-cash component of employee
compensation; |
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|
|
Although depreciation and amortization are non-cash charges, the assets being
depreciated and amortized often will have to be replaced in the future, and Adjusted EBITDA
does not reflect any cash requirements for such replacements; |
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|
Other companies in our industry may calculate Adjusted EBITDA and Adjusted Net Income
differently than we do, limiting their usefulness as a comparative measure. |
Management compensates for the inherent limitations associated with using Adjusted EBITDA and
Adjusted Net Income measures through disclosure of such limitations, presentation of our financial
statements in accordance with U.S. GAAP and reconciliation of Adjusted EBITDA and Adjusted Net
Income to the most directly comparable U.S. GAAP measure, net income. Further, management also
reviews U.S. GAAP measures and evaluates individual measures that are not included in Adjusted
EBITDA, such as our level of capital expenditures, equity issuance and interest expense, among
other measures.
The table below sets forth a reconciliation of net income to Adjusted EBITDA based on our
historical results:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands) |
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
(716 |
) |
|
$ |
1,592 |
|
Interest expense, net |
|
|
179 |
|
|
|
72 |
|
Income tax expense (benefit) |
|
|
(162 |
) |
|
|
123 |
|
Depreciation |
|
|
478 |
|
|
|
438 |
|
Amortization of internal use software |
|
|
620 |
|
|
|
696 |
|
Amortization
of direct response advertising |
|
|
|
|
|
|
162 |
|
Amortization of deferred sales commissions |
|
|
268 |
|
|
|
319 |
|
Stock-based compensation expense |
|
|
1,584 |
|
|
|
1,937 |
|
|
|
|
|
|
|
|
Adjusted EBITDA |
|
$ |
2,251 |
|
|
$ |
5,339 |
|
|
|
|
|
|
|
|
The table below sets forth a reconciliation of net income (loss) to Adjusted Net Income
on our historical results:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands) |
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
(716 |
) |
|
$ |
1,592 |
|
Stock-based compensation expense, net of tax (1) |
|
|
1,292 |
|
|
|
1,798 |
|
|
|
|
|
|
|
|
Adjusted Net Income |
|
$ |
576 |
|
|
$ |
3,390 |
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
For the three months ended March 31, 2009 and 2010, we have adjusted stock-based
compensation at our effective tax rates of 18% and 7%, respectively. |
22
Non-GAAP Adjusted Earnings Per Share
Non-GAAP Adjusted Earnings Per Share is defined as non-GAAP Adjusted Net Income divided by all
potentially dilutive common shares outstanding as of the period end. For periods prior to the
initial public offering, the dilutive common shares outstanding include the conversion of all
preferred stock to common stock, the shares associated with the stock dividend and the shares sold
in the initial public offering. This differs from the weighted average diluted shares outstanding
used for purposes of calculating GAAP earnings per share. The following table sets forth the
computation of Adjusted Earnings Per Share:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands, except
per share amounts) |
|
|
|
|
|
|
|
|
|
|
Non-GAAP Adjusted Net Income |
|
$ |
576 |
|
|
$ |
3,390 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares of common stock outstanding |
|
|
40,262 |
|
|
|
40,784 |
|
Dilutive restricted stock and stock options |
|
|
2,369 |
|
|
|
4,026 |
|
|
|
|
|
|
|
|
Non-GAAP adjusted common shares outstanding |
|
|
42,631 |
|
|
|
44,810 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-GAAP Adjusted Earnings Per Share |
|
$ |
0.01 |
|
|
$ |
0.08 |
|
Liquidity and Capital Resources
Sources of Liquidity
To date, substantially all of our operations have been financed through the sale of equity
securities, including net cash proceeds in connection with our initial public offering of common
stock completed March 16, 2010 of approximately $79.0 million, after deducting underwriting
discounts and offering costs.
Consolidated Cash Flow Data
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
March 31, |
|
|
|
2009 |
|
|
2010 |
|
|
|
(In thousands) |
|
Net cash provided by operating activities |
|
$ |
3,472 |
|
|
$ |
136 |
|
Net cash used in investing activities |
|
|
(1,203 |
) |
|
|
(2,102 |
) |
Net cash provided by (used in) financial activities |
|
|
(304 |
) |
|
|
81,448 |
|
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
1,965 |
|
|
|
79,482 |
|
Cash and cash equivalents, end of period |
|
$ |
16,822 |
|
|
$ |
100,195 |
|
Net Cash Provided By Operating Activities
Net cash provided by operating activities for the three months ended March 31, 2010 was $0.1
million compared to net cash provided by operating activities of $3.5 million for the three months
ended March 31, 2009. The decrease in cash provided by operating activities for the three months
ended March 31, 2010 compared to the three months ended March 31,
23
2009 was primarily due to a net
change in operating assets and liabilities of $6.2 million mainly due to the payment of annual
employee bonuses during the three months ended March 31, 2010 as well as excess tax benefits
associated with stock-based compensation of $0.1 million. This decrease was offset by improved
operating results adjusted for non-cash expenses such as amortization of stock-based compensation,
amortization of internal use software and depreciation of $3.0 million between the comparable
periods.
Investing Activities
Net cash used in investing activities was $2.1 million for the three months ended March 31,
2010 compared to $1.2 million for the three months ended March 31, 2009. For the three months ended
March 31, 2010, we capitalized $1.6 million of internal use software costs, compared to $1.1
million in the three months ended March 31, 2009. For the three months ended March 31, 2010, we
used $0.5 million for the purchase of property and equipment, compared to $0.1 million for the
three months ended March 31, 2009.
Financing Activities
Net cash provided by financing activities was $81.4 million for the three months ended March
31, 2010 compared to net cash used by financing activities of $0.3 million for the three months
ended March 31, 2009. For the three months ended March 31, 2010, we received $82.2 million of net
proceeds from our initial public offering.
Contractual Obligations
The following table describes our contractual obligations as of March 31, 2010, excluding the
term loan which was repaid on May 10, 2010:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less than 1 |
|
|
|
|
|
|
|
|
|
More than 5 |
|
|
Total |
|
year |
|
Years 1-3 |
|
Years 4-5 |
|
years |
|
|
|
|
|
|
|
|
|
|
(In thousands) |
|
|
|
|
|
|
|
|
Operating and
capital leases (1) |
|
$ |
7,161 |
|
|
$ |
2,024 |
|
|
$ |
4,327 |
|
|
$ |
810 |
|
|
$ |
|
|
|
|
|
(1) |
|
We lease facilities under noncancelable operating leases expiring at various dates through 2015. |
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Recent Accounting Pronouncements
For a discussion of recent accounting pronouncements, refer to Note 2 to the Condensed
Consolidated Financial Statements.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market Risk. Our exposure to market risk is directly related to our role as an investment
advisor for the professionally managed accounts for which we provide portfolio management services.
For the three months ended March 31, 2010, 62% of our revenue was derived from fees based on the
market value of AUM. We expect this percentage to increase over time. A decrease in the aggregate
value of AUM may cause our revenue and income to decline.
24
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We maintain disclosure controls and procedures, as such term is defined in Rule 13a-15(e)
under the Securities Exchange Act of 1934, or the Exchange Act, that are designed to ensure that
information required to be disclosed by us in the reports that we file or submit under the Exchange
Act is recorded, processed, summarized and reported, within the time periods specified in the
Commissions rules and forms and that such information is communicated to our management, including
our principal executive and principal financial officers, as appropriate, to allow timely decisions
regarding required disclosure. In designing and evaluating our disclosure controls and procedures,
management recognized that disclosure controls and procedures, no matter how well conceived and
operated, can provide only reasonable, but not absolute, assurance that the objectives of the
disclosure controls and procedures are met. Our disclosure controls and procedures have been
designed to meet the reasonable assurance standards. Additionally, in designing disclosure
controls and procedures, our management necessarily was required to apply its judgment in
evaluating the cost-benefit relationship of possible disclosure controls and procedures. The
design of any disclosure controls and procedures is also based in part upon certain assumptions
about the likelihood of future events, and there can be no assurance that any design will succeed
in achieving its stated goals under all potential future conditions.
Based on their evaluation, our principal executive officer and our principal financial officer
concluded that as of March 31, 2010, our disclosure controls and procedures were effective.
Changes in Internal Control Over Financial Reporting
There were no changes in internal control over financial reporting during the quarter ended
March 31, 2010 that have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting.
25
PART II OTHER INFORMATION
Item 1A. Risk Factors
This Report contains forward-looking statements that are subject to risks and uncertainties
that could cause actual results to differ materially from those projected. These risks and
uncertainties include, but are not limited to, the risk factors set forth below, and this Report
should be read in conjunction with such risk factors. The risks and uncertainties described in
this Report are not the only ones we face. Additional risks and uncertainties not presently known
to us or that we currently believe are immaterial may also affect our business. If any of these
known or unknown risks or uncertainties actually occurs and have material adverse effects on our
business, financial condition and results of operations could be seriously harmed.
Our revenue and operating results can fluctuate from period to period, which could cause our share
price to fluctuate.
Our revenue and operating results have fluctuated in the past and may fluctuate from
period-to-period in the future due to a variety of factors, many of which are beyond our control.
Factors relating to our business that may contribute to these fluctuations include the following
factors, as well as other factors described elsewhere in this report:
|
|
|
a decline or slowdown of the growth in the value of financial market assets, which
may reduce the value of assets we have under management and therefore our revenue and
cash flows; |
|
|
|
|
negative public perception and reputation of the financial services industry; |
|
|
|
|
variations in expected enrollment rates for our Professional Management service; |
|
|
|
|
unanticipated delays of anticipated rollouts of our services; |
|
|
|
|
unanticipated changes to economic terms in contracts with plan providers or plan
sponsors, including renegotiations; |
|
|
|
|
downward pressure on fees we charge for our portfolio management, investment
advisory and retirement planning services; |
|
|
|
|
changes in laws or regulatory policy that could impact our ability to offer services
to plan providers as a subadvisor; |
|
|
|
|
failure to enter into contracts with new plan sponsors; |
|
|
|
|
cancellations or non-renewal of existing contracts with plan providers or plan
sponsors; |
|
|
|
|
fluctuations in quarterly revenue due to changes in fees paid by Professional
Management members based on performance incentives in contract terms; |
|
|
|
|
changes in fees paid by us to plan providers for whom we are not acting as a
subadvisor for data retrieval, transaction processing and fee deduction interfaces
based on performance incentives in contract terms; |
|
|
|
|
mix in plan sponsors that choose our Active Enrollment or Passive Enrollment
options; |
|
|
|
|
changes in the number of Professional Management members who withdraw all assets
from their 401(k) plan, effectively terminating their relationship with us, or who
decide to cancel their Professional Management program participation; |
|
|
|
|
elimination or reduction of sponsor matching contributions into members 401(k)
plans, which could reduce the growth rate of assets under management; |
26
|
|
|
unanticipated changes in the timing or cost of our enrollment and member materials
or mix of subadvised, advised and Passive Enrollment materials sent to our Professional
Management members and postage costs; |
|
|
|
unanticipated delays in recognizing revenue based on timing of meeting specified
milestones under contracts with customization and consulting services; and |
|
|
|
|
changes in our pricing policies or the pricing policies of our competitors to which
we have to adapt. |
As a result of these and other factors, the results of any prior quarterly or annual periods
should not be relied upon as indications of our future revenue or operating performance.
We have an accumulated deficit and have incurred net losses in the past. We may incur net losses in
the future.
As of March 31, 2010, we had an accumulated deficit of approximately $155.8 million. We have
incurred net losses in each year through 2008. We may continue to incur net losses in the future.
A substantial portion of our revenue is based on fees earned on the value of assets we manage. Our
revenue and earnings could suffer if the financial markets experience a downturn or a slowdown in
growth that reduces the value, or slows the growth, of our Assets Under Management.
We derive a significant and growing portion of our revenue from asset management fees based on
the assets in the retirement accounts we manage, which we refer to as Assets Under Management, or
AUM. We allocate these assets among the investments available to each particular plan participant.
The investment alternatives for a particular plan are selected by the plans fiduciary, not by us,
and may include retail mutual funds, institutional funds, exchange-traded funds, fixed-income
investments and potentially higher volatility employer stock, if it is an investment alternative in
a particular plan. In addition, our business is highly concentrated in the 401(k) plans of plan
sponsors in the United States and the United States subsidiaries of international companies. The
value of these investments can be affected by the performance of the financial markets globally,
currency fluctuations, interest rate fluctuations and other factors. Currently, our fees are
generally based on AUM on a day within the last 10 days of a quarter. The exact date is agreed to
in advance with the plan provider, but varies by plan provider. As a result, a decline in the
financial markets at the end of a quarter could have an adverse effect on our revenue, even if the
financial markets had performed well earlier in the quarter. In addition, an economic downturn or
slowdown in growth could cause plan participants or their employers to contribute less to their
401(k) plans and cause fewer eligible employees to participate in 401(k) plans, which could
adversely affect the amount of AUM. If plan participants are not satisfied with the performance of
their retirement portfolios due to a decline in the financial markets or otherwise, our
cancellation rates could increase, which in turn would cause our AUM to decline. If any of these
factors reduces the value of assets we have under management, the amount of fees we would earn for
managing those assets would decline, which in turn would harm our revenue, operating results and
financial condition.
Our revenue could be harmed if we experience unanticipated delays in rollouts of our services.
We generally do not earn platform fees from a plan sponsor until our services are available to
plan participants and we do not earn fees for our Professional Management service until we begin to
manage a participants account. If rollouts are delayed, our receipt of revenue would be delayed.
This in turn would affect our operating results for a particular period.
Our revenue could suffer if we experience unanticipated variations in new enrollment campaigns or
if we fail to enroll plan participants.
Unanticipated variations in the number, size or timing of new enrollment campaigns as well as
ongoing annual campaigns at our existing plan sponsors could also affect our revenue for a
particular period.
Our revenue could be harmed if we do not grow enrollment in our Professional Management service.
Our enrollment rate, and therefore our revenue, depend on plan participants signing up for or,
in the case of a Passive Enrollment campaign, not declining, the Professional Management service.
If we are unable to continue to grow our enrollment, our business may not grow as we anticipate.
Increasing plan participant enrollment in our Professional
27
Management service increases the AUM on which we earn fees. We may not be able to generate
expected enrollment under a particular contract, which would negatively affect our revenue growth.
For example, we have found that if plan sponsors do not use our standard enrollment campaign,
enrollment rates tend to be lower. If fewer plan sponsors elect Passive Enrollment for their plan
participants, which typically generates higher enrollment rates, our revenue may not grow at
anticipated rates. Even when we have rolled out our Professional Management service at a particular
plan sponsor, some plan participants may not be eligible for our services due to plan sponsor
limitations on employees treated as insiders for purposes of securities laws or other
characteristics of the plan participant. Certain securities within a plan participants account may
be ineligible for management by us, such as employer stock subject to trading restrictions, and we
do not manage or charge a fee for that portion of the account. Further, individual plan
participants whose accounts we manage may choose at any time to stop having us manage those
accounts. If large numbers of plan participants choose to stop using or are not able to continue
using our Professional Management service, our revenue, operating results and financial condition
would suffer.
We plan to extend and expand our services and may not accurately estimate the impact of developing
and introducing these services on our business.
We plan to extend our services into new areas, including helping investors turn their
retirement assets into retirement income. For example, we intend to work within the existing 401(k)
plans we service to help our Professional Management members manage their defined contribution
assets and maintain their retirement goals while directing payouts from their retirement accounts.
We also recently introduced the Financial Engines Retirement Evaluation, a personalized retirement
assessment designed to let plan participants know how close they are to reaching their retirement
income goals based on their current savings and investments. We intend to invest significant
resources to the research, development, sales and marketing of these new services. We have limited
experience in these areas, including the determination of income payments from defined contribution
accounts. If our assessments or forecasts with respect to the expected duration and sufficiency of
assets to support retirement income payments to participants are inaccurate, or if we fail to
ensure that payouts are made at the times expected, our business and reputation could suffer. We
may not be able to anticipate or manage new risks and obligations or legal, compliance or other
requirements that may arise if we offer investment management or retirement income payout services
for accounts other than 401(k) accounts. We may not be able to accurately estimate the impact of
these future services on our business or how the benefits of these services will be perceived by
our clients. In addition, the anticipated benefits of these services on our business may not
outweigh the resources and costs associated with their development. If we do not realize the
anticipated benefits of these services, our business would suffer.
Our revenue is highly dependent upon a small number of plan providers with which we have
relationships, and the renegotiation or termination of our relationship with any of these plan
providers could significantly impact our business.
Our relationships and data connections with plan providers allow us to effectively manage plan
participant accounts and integrate our services into plan providers current service platforms.
These relationships also provide us with an advantage in trying to sign potential plan sponsors. If
a plan provider were to terminate our contract, reduce its volume of business or substantially
renegotiate the terms of its contract with us, our revenue could be reduced.
Of our eight primary retirement plan provider relationships, we refer to three as subadvisory
relationships. For the full suite of services offered in these subadvisory relationships, we
generally act as subadvisor to the plan provider acting as investment advisor, even though we may
contract directly with the plan sponsor to act as investment advisor for online-only service
offerings. However, among the plan sponsors that work with these three providers, in those cases
where we act as subadvisor, we do not have a direct relationship with the plan sponsors and
therefore may be less able to influence decisions by those plan sponsors to use or continue to use
our services, and for online-only sponsors, we may be less able to influence plan sponsor decisions
to add our full suite of services. We have historically earned, and expect to continue to earn on a
combined basis, a significant portion of our revenue through these three retirement plan providers.
The renegotiation or termination of our relationship with any of these plan providers could
negatively impact our business. For the three months ended March 31, 2010, 19%, 7% and 7% of our
total revenue was attributable to JP Morgan, ING and Vanguard, respectively, the three retirement
plan providers with whom we have subadvisory relationships. Revenue attributable to these three
plan providers includes subadvisory fees they pay to us directly, as well as revenue from certain
plan sponsors that work with these plan providers but pay us directly. JPMorgan, Vanguard and ING
directly accounted for approximately 18%, 7% and 7%, respectively, of our total revenue for the
first quarter of 2010.
Our contracts with plan providers generally have terms ranging from three to five years, and
have successive automatic renewal terms of one year unless terminated in accordance with prior
notice requirements. Certain of the plan provider
28
agreements are in or will soon be in renewal periods. A plan provider may also terminate its
contract with us at any time for specified breaches. In addition, there are unpredictable factors,
other than our performance, that could cause the loss of a plan provider. If we lose one of our
plan providers with whom we have a relationship or if one of those plan providers significantly
reduces its volume of business with us or renegotiates the economic terms of its contract with us,
our revenue, operating results and financial condition could be harmed.
Some plan providers with whom we have relationships also provide or may provide competing services.
Some plan providers with whom we have relationships, such as Fidelity, offer or may offer
directly competing investment guidance, advice and portfolio management services to plan
participants. We also face indirect competition from products that could potentially substitute for
our portfolio management, investment advisory and retirement planning services, most notably
target-date retirement funds, which are offered by a number of plan providers with whom we have
relationships, including J.P. Morgan, Fidelity and Vanguard.
Our revenue is highly dependent upon the plan sponsors with whom we have relationships, and the
renegotiation or termination of our relationship with any of these plan sponsors could
significantly impact our business.
A substantial portion of our revenue is generated as a result of contracts with plan sponsors.
Under these contracts, we earn annual platform fees that are paid by the plan sponsor, plan
provider or the retirement plan itself as well as fees based on AUM that are generally paid by plan
participants. Our contracts with plan sponsors typically have initial terms of three years and
evergreen clauses that extend the initial term until terminated by either party after a specified
notice period. At any time during the initial term or thereafter, a plan sponsor can cancel a
contract for fiduciary reasons or breach of contract. A plan sponsor can generally terminate a
contract after the initial term upon 90 days notice. If a plan sponsor cancels or does not renew a
contract, we would no longer earn platform fees under that contract. In addition, we would no
longer manage any assets in that plan, and consequently would no longer earn fees based on AUM in
that plan. If a significant number of plan sponsors were to cancel their contracts with us or fail
to renew those contracts, our revenue, operating results and financial condition would be adversely
affected.
Our Professional Management service makes up a significant and growing part of our revenue base.
Our business could suffer if fees we can charge for these services decline.
We earn fees for our Professional Management service based on the value of assets in the
accounts we manage. We believe that these services will continue to make up a substantial and
growing portion of our revenue for the foreseeable future. There are many investment advisory and
management services and other financial products available in the market place, which could result
in downward pressure on fees for our Professional Management service. Government regulation, such
as legislative constraints on fees, could also limit the fees we can charge for our Professional
Management service. Performance incentives in contract terms may reduce the fees we charge for our
Professional Management service. If we are forced to lower the fees we charge for our Professional
Management service, it could harm our revenue, operating results and financial condition.
Our failure to increase the number of plan sponsors with whom we have relationships could harm our
business.
Our future success depends on increasing the number of plan sponsors with whom we have
relationships. If the market for our services declines or develops more slowly than we expect, or
the number of plan sponsors that choose to provide our services to their plan participants declines
or fails to increase as we expect, our revenue, operating results or financial condition could
suffer.
We rely on plan providers and plan sponsors to provide us with accurate and timely plan and plan
participant data in order for us to provide our portfolio management services, investment advice
and retirement help, and we rely on plan providers to execute transactions in the accounts we
manage.
Our ability to provide high-quality portfolio management services, investment advice and
retirement help depends on plan sponsors and plan providers supplying us with accurate and timely
data. Errors or delays in the data we receive from plan providers or plan sponsors, or missing
data, could lead us to make advisory or transaction errors that could harm our reputation or lead
to financial liability, or may prevent us from providing our services to, or earning revenue from,
otherwise
29
eligible plan participants. In addition, when we make changes in an account we manage, we
instruct the plan provider to execute the transactions. If a plan provider fails to execute
transactions in an accurate and timely manner, it could harm our reputation or lead to financial
liability.
We may be liable to our plan sponsors, plan participants or plan providers for damages caused by
system failures, errors or unsatisfactory performance of services.
If we fail to prevent, detect or resolve errors in our services, our business and reputation
could suffer. Errors in inputs or processing, such as plan set-ups, transaction instructions or
plan participant data, could be magnified across many accounts. Concentrated positions held by many
plan participants, particularly in employer stock, could result in a large liability if a
systematic input or processing error was to cause us to make errors in transactions relating to
those positions. We may not be able to identify or resolve these errors in a timely manner. In
addition, failure to perform our services for Professional Management members on a timely basis
could result in liability. We may also have liability to the plan provider where we have a
subadvisory relationship with the plan provider. After an error is identified, resolving the error
and implementing remedial measures would likely divert the attention and resources of our
management and key technical personnel from other business concerns. Any errors in the performance
of services for a plan sponsor or plan provider, or poor execution of these services, could result
in a plan sponsor or plan provider terminating its agreement. Although we attempt to limit our
contractual liability for consequential damages in rendering our services, these limitations on
liability may be unenforceable in some cases, or may be insufficient to protect us from liability
for damages. ERISA and other applicable laws require that we meet a fiduciary obligation to plan
participants. We maintain general liability insurance coverage, including coverage for errors or
omissions; however, this coverage may not continue to be available on reasonable terms or may be
unavailable in sufficient amounts to cover one or more large claims. An insurer might disclaim
coverage as to any future claim. A successful assertion of one or more large claims against us that
exceeds our available insurance coverage or changes in our insurance policies, including premium
increases or the imposition of a large deductible or co-insurance requirement, could harm our
operating results and financial condition.
If our reputation is harmed, we could suffer losses in our business and revenue.
Our reputation, which depends on earning and maintaining the trust and confidence of plan
providers, plan sponsors and plan participants that are current and potential customers, is
critical to our business. Our reputation is vulnerable to many threats that can be difficult or
impossible to control, and costly or impossible to remediate. Regulatory inquiries or
investigations, lawsuits initiated by other plan fiduciaries or plan participants, employee
misconduct, perceptions of conflicts of interest and rumors, among other developments, could
substantially damage our reputation, even if they are baseless or satisfactorily addressed. In
addition, any perception that the quality of our investment advice may not be the same or better
than that of other providers can also damage our reputation. Any damage to our reputation could
harm our ability to attract and retain plan providers, plan sponsor customers and key personnel.
This damage could also cause plan participants to stop using or enrolling in our Professional
Management service, which would adversely affect the amount of AUM on which we earn fees.
Any failure to ensure and protect the confidentiality of plan provider, plan sponsor or plan
participant data could lead to legal liability, adversely affect our reputation and have a material
adverse effect on our business, financial condition or results of operations.
Our services involve the exchange of information, including detailed information regarding
plan participants provided by plan providers and plan sponsors, through a variety of electronic and
non-electronic means. In addition, plan participants routinely input personal investment and
financial information, including portfolio holdings and, in some instances, credit card data, into
our systems. We rely on a complex network of process and software controls to protect the
confidentiality of data provided to us or stored on our systems. If we do not maintain adequate
internal controls or fail to implement new or improved controls, this data could be misappropriated
or confidentiality could otherwise be breached. We could be subject to liability if we
inappropriately disclose any plan participants personal information, or if third parties are able
to penetrate our network security or otherwise gain access to any plan participants name, address,
portfolio holdings, credit card number or other personal information. Any such event could subject
us to claims for unauthorized credit card purchases, identity theft or other similar fraud claims
or claims for other misuses of personal information, such as unauthorized marketing or unauthorized
access to personal information.
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Many of our agreements with plan sponsors and plan providers do not limit our potential
liability for breaches of confidentiality and consequential damages. If any person, including any
of our employees, penetrates our network security, misappropriates or mishandles sensitive data,
inadvertently or otherwise, we could be subject to significant liability from our plan sponsors and
plan providers for breaching contractual confidentiality provisions or privacy laws. In addition,
our agreements with plan sponsors and plan providers require us to meet specified minimum system
security and privacy standards. Given the growing concern over privacy and identity theft, we have
been and expect to continue to be subject to increased scrutiny by both plan providers and plan
sponsors, which have increased the frequency and thoroughness of their audits. If we fail to meet
these standards, our plan sponsors and plan providers may seek to terminate their agreements with
us. Unauthorized disclosure of sensitive or confidential data, whether through breach of our
computer systems, systems failure or otherwise, could damage our reputation, expose us to
litigation, cause us to lose business, harm our revenue, operating results or financial condition
and subject us to regulatory action, which could include sanctions and fines.
Privacy concerns could require us to modify our operations.
As part of our business, we use plan participants personal data. For privacy or security
reasons, privacy groups, governmental agencies and individuals may seek to restrict or prevent our
use of this data. We have incurred, and will continue to incur, expenses to comply with privacy and
security standards and protocols imposed by law, regulation, industry standards or contractual
obligations. Increased domestic or international regulation of data utilization and distribution
practices, including self-regulation, could require us to modify our operations and incur
significant additional expense, which could have an adverse effect on our business, financial
condition and results of operations.
Acquisition activity involving plan providers or plan sponsors could adversely affect our business.
Acquisitions or similar transactions involving our plan providers or plan sponsors could
negatively affect our business in a number of ways. After such a transaction, the plan provider or
plan sponsor might terminate, not renew or seek to renegotiate the economic terms of its contract
with us. Companies involved in these transactions may experience integration difficulties that
could increase the risk of providing us inaccurate or untimely data or delay rollout of our
services. Any of our existing plan sponsors may be acquired by an organization or a plan sponsor
with no relationship with us, effectively terminating our relationship, or be acquired by a plan
sponsor with an online services-only relationship rather than a Professional Management
relationship which might cause us to lose business and harm our revenue, operating results or
financial condition. Plan providers could be acquired by a company offering competing services to
ours, which could increase the risk that they terminate their relationship with us, or be acquired
by an organization with no relationship with us which might cause us to lose that plan provider,
have to renegotiate the economic terms of their contract with us and harm our revenue, operating
results or financial condition. We cannot predict the impact, if any, that these corporate actions
may have on our revenue, operating results or financial condition.
Our ability to compete, succeed and generate profits depends, in part, on our ability to obtain
accurate and timely data from third-party vendors on commercially reasonable terms.
We currently obtain market and other financial data we use to generate our investment advice
from a number of third-party vendors. Termination of one or more of our agreements or exclusion
from, or restricted use of a data providers information could decrease the information available
for us to use and offer our clients and may have a material adverse effect on our business,
financial condition or results of operations. For example, we obtain mutual fund data from Lipper,
corporate action data from Interactive Data, stock data from MSCI Inc.s Barra unit and stock price
data from FTID. We do not currently have secondary sources or other suppliers for some of these
data items. If these data feed agreements were terminated, backup services would take time to set
up and our business and results of operations would be harmed. We rely on these data suppliers to
provide timely and accurate information and their failure to do so could harm our business.
In addition, some data suppliers may seek to increase licensing fees for providing content to
us. If we are unable to renegotiate acceptable licensing arrangements with these data suppliers or
find alternative sources of equivalent content, we may experience a reduction in our profit margins
or market share.
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Our portfolio management and investment advisory operations may subject us to liability for losses
that result from a breach of our fiduciary duties.
Our portfolio management and investment advisory operations involve fiduciary obligations that
require us to act in the best interests of the plan participants to whom we provide advice or for
whom we manage accounts. We may face liabilities for actual or claimed breaches of our fiduciary
duties. We may not be able to prevent plan participants, plan sponsors or the plan providers to or
through whom we provide investment advisory services from taking legal action against us for an
actual or claimed breach of a fiduciary duty. Because we currently provide investment advisory
services on substantial assets, we could face substantial liability to plan participants or plan
sponsors if we breach our fiduciary duties. In addition, we may face liabilities for actual or
claimed deficiencies in the quality or outcome of our investment advisory recommendations,
investment management and other services, even in the absence of an actual or claimed breach of
fiduciary duty. While we believe that we would have substantial and meritorious defenses against
such a claim, we cannot predict the outcome or consequences of any such potential litigation.
Competition could reduce our share of the portfolio management, investment advisory and retirement
planning market and hurt our financial performance.
We operate in a highly competitive industry, with many investment advice providers competing
for business from individual investors, financial advisors and institutional customers. Direct
competitors that offer independent portfolio management and investment advisory services to plan
participants in the workplace include Morningstar, Inc., GuidedChoice and ProManage LLC. Plan
providers that offer directly competing portfolio management and investment advisory services to
investors in the workplace include Fidelity and Merrill Lynch. We currently have a relationship
with Fidelity that allows us to provide our services to plan sponsors that elect to hire us, for
which Fidelity is the plan provider. We also face indirect competition from products that could
potentially substitute for our portfolio management services, investment advice and retirement
help, most notably target-date retirement funds. Target-date funds are offered by multiple
financial institutions, including BlackRock (formerly Barclays Global Investors), T. Rowe Price,
Fidelity and Vanguard. These funds provide generic asset allocation based on the investment horizon
of the investor. Target-date funds, managed accounts and balanced funds have been granted Qualified
Default Investment Alternative, or QDIA, status by the Department of Labor. Plan providers offer or
may choose to offer directly and indirectly competitive products in the future. The plan providers
with which we do not have contractually exclusive relationships may enter into similar
relationships with our competitors. This in turn may harm our business.
Many of our competitors have larger customer bases and significantly greater resources than we
do. This may allow our competitors to respond more quickly to new technologies and changes in
demand for services, to devote greater resources developing and promoting their services and to
make more attractive offers to potential plan providers, plan sponsors and plan participants.
Industry consolidation may also lead to more intense competition. Increased competition could
result in price reductions or loss of market share, either of which could hurt our business.
Our future success depends on our ability to recruit and retain qualified employees, including our
executive officers.
Our ability to provide portfolio management services, investment advice and retirement help
and maintain and develop relationships with plan participants, plan providers and plan sponsors
depends largely on our ability to attract, train, motivate and retain highly skilled professionals,
particularly professionals with backgrounds in sales, technology and financial and investment
services. We believe that success in our business will continue to be based upon the strength of
our intellectual capital. For example, due to the complexity of our services and the intellectual
capital invested in our investment methodology and technology, the loss of personnel integral to
our investment research, product development and engineering efforts would harm our ability to
maintain and grow our business. Consequently, we must hire and retain employees with the technical
expertise and industry knowledge necessary to continue to develop our services and effectively
manage our growing sales and marketing organization to ensure the growth of our operations. We
believe there is significant competition for professionals with the skills necessary to perform the
services we offer. We experience competition for analysts and other employees from financial
institutions and financial services organizations such as hedge funds and investment management
companies that generally have greater resources than we do and therefore may be able to offer
higher compensation packages. Competition for these employees is intense, and we may not be able to
retain our existing employees or be able to recruit and retain other highly qualified personnel in
the future. If we cannot hire and retain qualified personnel, our ability to continue to expand our
business would be impaired and our revenue could decline.
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If our intellectual property and technology are not adequately protected to prevent use or
appropriation by our competitors, our business and competitive position would suffer.
Our future success and competitive position depend in part on our ability to protect our
proprietary technology and intellectual property. We rely and expect to continue to rely on a
combination of trademark, copyright, patent and trade secret protection laws to protect our
proprietary technology and intellectual property. We also require our employees, consultants,
vendors, plan sponsors and plan providers to enter into confidentiality agreements with us. We have
nine issued U.S. patents, three of which have been issued on our user interface, four of which
relate to outcomes-based investing, including our financial advisory system, our pricing module and
load-aware optimization, and two of which have been issued on advice palatability. We also have
seven pending U.S. patent applications. In addition, we have issued patents and pending
applications in foreign jurisdictions. One or more of our issued patents or pending patent
applications may be deemed to be directed to methods of doing or conducting business, and may
therefore be categorized as so-called business method patents. The general validity of software
patents and business method patents has been challenged in a number of jurisdictions, including
the United States. The United States Supreme Court is currently considering a case that may impact
the scope of patent eligible subject matter. Our patents may become less valuable if software or
business methods are found to be a non-patentable subject matter or if additional requirements are
imposed that our patents do not meet.
The steps we have taken may be inadequate to prevent the misappropriation of our proprietary
technology. Our patent and trademark applications may not lead to issued patents and registered
trademarks. There can be no assurance that others will not develop or patent similar or superior
technologies, products or services, or that our patents, trademarks and other intellectual property
will not be challenged, invalidated or circumvented by others. The legal standards relating to the
validity, enforceability and scope of protection of intellectual property rights are uncertain and
still evolving. Unauthorized copying or other misappropriation of our proprietary technologies
could enable third parties to benefit from our technologies without paying us for doing so, which
could harm our business. Policing unauthorized use of proprietary technology is difficult and
expensive and our monitoring and policing activities may not be sufficient to identify any
misappropriation and protect our proprietary technology. In addition, third parties may knowingly
or unknowingly infringe our patents, trademarks and other intellectual property rights, and
litigation may be necessary to protect and enforce our intellectual property rights. If litigation
is necessary to protect and enforce our intellectual property rights, any such litigation could be
very costly and could divert management attention and resources.
We also expect that the more successful we are, the more likely it becomes that competitors
will try to develop products that are similar to ours, which may infringe on our proprietary
rights. If we are unable to protect our proprietary rights or if third parties independently
develop or gain access to our or similar technologies, our business, revenue, reputation and
competitive position could be harmed.
Third parties may assert intellectual property infringement claims against us, or our services may
infringe the intellectual property rights of third parties, which may subject us to legal liability
and harm our reputation.
Assertion of intellectual property infringement claims against us, plan providers or plan
sponsors could result in litigation. We might not prevail in any such litigation or be able to
obtain a license for the use of any infringed intellectual property from a third party on
commercially reasonable terms, or at all. Even if obtained, we may be unable to protect such
licenses from infringement or misuse, or prevent infringement claims against us in connection with
our licensing efforts. We expect that the risk of infringement claims against us will increase if
more of our competitors are able to obtain patents for software products and business processes,
and if we hire employees who possess third party proprietary information. Any such claims,
regardless of their merit or ultimate outcome, could result in substantial cost to us, divert
managements attention and our resources away from our operations and otherwise harm our
reputation. Our process for controlling employees use of third party proprietary information may
not be sufficient to prevent assertions of intellectual property infringement claims against us.
Any inability to manage our growth could disrupt our business and harm our operating results.
We expect our growth to place significant demands on our management and other resources. Our
success will depend in part upon the ability of our senior management to manage growth effectively.
Expansion creates new and increased management and training responsibilities for our employees. In
addition, continued growth increases the challenges involved in:
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recruiting, training and retaining sufficient skilled technical, marketing, sales
and management personnel; |
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preserving our culture, values and entrepreneurial environment; |
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successfully expanding the range of services offered to our plan sponsors and plan
participants; |
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developing and improving our internal administrative infrastructure, particularly
our financial, operational, compliance, recordkeeping, communications and other
internal systems; and |
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maintaining high levels of satisfaction with our services among plan sponsors and
plan participants. |
Our ability to raise capital in the future may be limited, and our failure to raise capital when
needed could prevent us from executing our growth strategy.
We believe that our existing cash and cash equivalents will be sufficient to fund our planned
capital expenditures and other anticipated cash needs for the foreseeable future. If our capital
resources are insufficient to satisfy our liquidity requirements, we may seek to sell additional
equity or debt securities or obtain debt financing. If we decide to seek additional financing, it
may result in additional dilution to existing stockholders or, in the case of debt, may result in
additional operating or financial covenants. We have not made arrangements to obtain additional
financing and there is no assurance that financing, if required, will be available in amounts or on
terms acceptable to us, if at all.
We will be subject to additional regulatory compliance requirements, including section 404 of the
Sarbanes-Oxley Act of 2002, as a result of becoming a public company, and our management has
limited experience managing a public company.
We will incur significant legal, accounting and other expenses as a public company. The
individuals who constitute our management team have limited experience managing a publicly traded
company, and limited experience complying with the increasingly complex and changing laws
pertaining to public companies. Our management team and other personnel will need to devote a
substantial amount of time to new compliance initiatives, and we may not successfully or
efficiently manage our transition into a public company. We expect rules and regulations such as
the Sarbanes-Oxley Act of 2002 to increase our legal and finance compliance costs and to make some
activities more time-consuming and costly. We will need to hire a number of additional employees
with public accounting and disclosure experience in order to meet our ongoing obligations as a
public company. For example, Section 404 of the Sarbanes-Oxley Act of 2002 requires that our
management report on, and our independent auditors to attest to, the effectiveness of our internal
control structure and procedures for financial reporting in our annual report on Form 10-K for the
fiscal year ending December 31, 2011. Section 404 compliance may divert internal resources and will
take a significant amount of time and effort to complete. We may not be able to successfully
complete the procedures and certification and attestation requirements of Section 404 by the time
we will be required to do so. If we fail to do so, or if in the future our chief executive officer,
chief financial officer or independent registered public accounting firm determines that our
internal controls over financial reporting are not effective as defined under Section 404, we could
be subject to sanctions or investigations by The NASDAQ Stock Market, the Securities and Exchange
Commission, or the SEC, or other regulatory authorities. Furthermore, investor perceptions of our
company may suffer, and this could cause a decline in the market price of our stock. Irrespective
of compliance with Section 404, any failure of our internal controls could have a material adverse
effect on our stated results of operations and harm our reputation. If we are unable to implement
these changes effectively or efficiently, it could harm our operations, financial reporting or
financial results and could result in an adverse opinion on internal controls from our independent
auditors.
Our insiders who are significant stockholders may control the election of our board and may have
interests that conflict with those of other stockholders.
Our directors and executive officers, together with members of their immediate families,
beneficially owned, in the aggregate, a significant portion of our outstanding capital stock. As a
result, acting together, this group has the ability to exercise significant control over most
matters requiring our stockholders approval, including the election and removal of directors and
significant corporate transactions.
34
We could face liability for certain information we disclose, including information based on data we
obtain from other parties.
We may be subject to claims for securities law violations, negligence, or other claims
relating to the information we disclose, such as the mutual fund assessments we call scorecards.
Individuals who use our services may take legal action against us if they rely on information that
contains an error, or a company may claim that we have made a defamatory statement about it or its
employees. We could also be subject to claims based upon the content that is accessible from our
website through links to other websites. We rely on a variety of outside parties as the original
sources for the information we use in our published data. These sources include securities
exchanges, fund companies and transfer agents. Accordingly, in addition to possible exposure for
publishing incorrect information that results directly from our own errors, we could face liability
based on inaccurate data provided to us by others. Defending claims based on the information we
publish could be expensive and time-consuming, and could adversely impact our business, operating
results and financial condition.
If our operations are interrupted as a result of service downtime or interruptions, our business
and reputation could suffer.
The success of our business depends upon our ability to obtain and deliver time-sensitive,
up-to-date data and information. Our operations and those of our plan providers and plan sponsors
are vulnerable to interruption by technical breakdowns, computer hardware and software
malfunctions, software viruses, infrastructure failures, fire, earthquake, power loss,
telecommunications failure, terrorist attacks, wars, Internet failures and other events beyond our
control. Any disruption in our services or operations could harm our ability to perform our
services effectively which in turn could result in a reduction in revenue or a claim for
substantial damages against us, regardless of whether we are responsible for that failure. We rely
on our computer equipment, database storage facilities and other office equipment, which are
located primarily in the seismically active San Francisco Bay Area. We maintain off-site back-up
facilities in Phoenix, Arizona for our database and network equipment, but these facilities could
be subject to the same interruptions that may affect our headquarters. If we suffer a significant
database or network facility outage, our business could experience disruption until we fully
implement our back-up systems. We also depend on certain significant vendors for facility storage
and related maintenance of our main technology equipment and data at these locations. Any failure
by these vendors to perform those services, any temporary or permanent loss of our equipment or
systems or any disruptions to basic infrastructure like power and telecommunications could impede
our ability to provide services to our plan participants, harm our reputation, cause plan
participants to stop using our investment advisory or Professional Management services, reduce our
revenue and harm our business. Our agreements with our plan providers or plan sponsors also require
us to meet specified minimum system security and privacy standards. If we fail to meet these
standards, our plan sponsors and plan providers may seek to terminate their agreements with us.
This in turn could damage our reputation and harm our market position and business.
Risks Related to Our Industry
Changes in laws applicable to our portfolio management, investment advisory and retirement planning
services may adversely affect our business.
We may be adversely affected as a result of new or revised legislation or regulations imposed
by the SEC, Department of Labor or other U.S. regulatory authorities or self-regulatory
organizations that supervise the financial markets and retirement industry. In addition, we may be
adversely affected by changes in the interpretation of existing laws and rules by these
governmental authorities and self-regulatory organizations. It is impossible to determine the
extent of the impact of any new laws, regulations or initiatives that may be proposed, or whether
any of the proposals will become law. It is difficult to predict the future impact of the broad and
expanding legislative and regulatory requirements affecting our business. For example, legislation
or regulation regarding fees may affect our business. Future legislation or regulation could change
or eliminate certain existing restrictions relating to conflicts of interest, which might lower the
relative value of our independence. Changes to laws or regulations could increase our potential
liability for offering portfolio management services, investment advice and retirement help, affect
our ability to offer our Passive Enrollment option or invalidate pre-dispute arbitration clauses in
our agreements, leading to increased costs to litigate any claims against us. Changes to laws or
regulations could also increase our legal compliance costs, divert internal resources and make some
activities more time-consuming and costly. The laws, rules and regulations applicable to our
business may change in the future, and we may not be able to comply with any such changes. If we
fail to comply with any applicable law, rule or regulation, we could be fined, sanctioned or barred
from providing investment advisory services in the future, which could materially harm our business
and reputation.
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We are subject to complex regulation, and any compliance failures or regulatory action could
adversely affect our business.
The financial services industry is subject to extensive regulation at the federal and state
levels. It is very difficult to predict the future impact of the legislative and regulatory
requirements affecting our business. The securities laws and other laws that govern our activities
as a registered investment advisor are complex and subject to rapid change. The activities of our
investment advisory and management operations are primarily subject to provisions of the Investment
Advisers Act of 1940, referred to as the Investment Advisers Act, and the Employee Retirement
Income Security Act of 1974, as amended, referred to as ERISA, as well as certain state laws. We
are a fiduciary under ERISA. Our investment advisory services are also subject to state laws
including anti-fraud laws and regulations. The Investment Advisers Act addresses, among other
things, fiduciary duties, recordkeeping and reporting requirements and disclosure requirements and
also includes general anti-fraud prohibitions. If we fail to comply with any applicable law, rule
or regulation, we could be fined, sanctioned or barred from providing investment advisory services
in the future, which could materially harm our business and reputation. We may also become subject
to additional regulatory and compliance requirements as a result of any expansion or enhancement of
our existing services or any services we may offer in the future. For example, we may be subject to
insurance licensing or other requirements in connection with our retirement planning services, even
if our activities are limited to describing regulated products. Compliance with any new regulatory
requirements may divert internal resources and take significant time and effort. Any claim of
noncompliance, regardless of merit or ultimate outcome, could subject us to investigation by the
SEC or other regulatory authorities. This in turn could result in substantial cost to us and divert
managements attention and other resources away from our operations. Furthermore, investor
perceptions of us may suffer, and this could cause a decline in the market price of our common
stock. Our compliance processes may not be sufficient to prevent assertions that we failed to
comply with any applicable law, rule or regulation.
We face additional scrutiny when we act as subadvisor, and any failure to comply with regulations
or meet expectations could harm our business.
Some of the plan providers to whom we are subadvisors are broker-dealers registered under the
Securities Exchange Act of 1934, referred to as the Exchange Act, and are subject to the rules of
the Financial Industry Regulatory Authority, or FINRA. When we act as a subadvisor, we may be
subject to the oversight by regulators of another advisor. We may be affected by any regulatory
examination of that plan provider.
In addition, our subadvisory arrangements are structured to follow Advisory Opinion 2001-09A,
a Department of Labor opinion provided to SunAmerica Retirement Markets. Although an advisory
opinion provides guidance about the Department of Labors interpretation of ERISA, it is directly
applicable only to the entity to whom it is issued. SunAmerica Retirement Markets is an entity
unrelated to us or the plan providers to which we act as subadvisor. We could be adversely affected
if the Department of Labor increases examination of these subadvisory arrangements or changes the
interpretive positions described in the Advisory Opinion. We could be adversely affected if ERISA
is amended in a way that overturns or materially changes the Department of Labors position in
Advisory Opinion 2001-09A, such as the imposition of additional requirements relating to conflicts
of interest on the plan providers to which we act as a subadvisor. Future legislation or regulation
could impose additional requirements relating to conflicts of interest on some of the plan
providers to which we act as a subadvisor. These plan providers may not be able to comply with
these requirements, and we may therefore not be able to continue to provide our services on a
subadvised basis. In such event, we could incur additional costs to transition our services for
affected plan providers and their plan sponsors to another structure. Legislation has been
introduced in Congress and there have been several Congressional hearings addressing these issues,
although final versions of these bills have not been adopted and signed into law, and the final
scope and wording of the legislation, or the implementing rules and regulations, are not yet known.
If government regulation of the Internet or other areas of our business changes or if consumer
attitudes toward use of the Internet change, we may need to change the manner in which we conduct
our business or incur greater operating expenses.
The adoption, modification or interpretation of laws or regulations relating to the Internet
or other areas of our business could adversely affect the manner in which we conduct our business
or the overall popularity or growth in use of the Internet. Such laws and regulations may cover
sales and other procedures, tariffs, user privacy, data protection, pricing, content, copyrights,
distribution, electronic contracts, consumer protection, broadband residential Internet access and
the characteristics and quality of services. It is not clear how existing laws governing issues
such as property ownership, sales and other taxes, libel and personal privacy apply to the
Internet. If we are required to comply with new regulations or legislation or new interpretations
of existing regulations or legislation, this compliance could cause us to incur additional
expenses, make it more difficult to renew subscriptions automatically, make it more difficult to
attract new subscribers or
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otherwise alter our business model. Any of these outcomes could have a material adverse effect
on our business, financial condition or results of operations.
Our business will suffer if we do not keep up with rapid technological change, evolving industry
standards or changing requirements of plan sponsors and plan participants.
We expect technological developments to continue at a rapid pace in our industry. Our success
will depend, in part, on our ability to:
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continue to develop our technology expertise; |
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recruit and retain skilled investment and technology professionals; |
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enhance our current services; |
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develop new services that meet changing plan sponsor and plan participant needs; |
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advertise and market our services; and |
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influence and respond to emerging industry standards and other technological
changes. |
In addition, we must continue to meet changing plan provider and plan sponsor expectations and
requirements, including addressing plan complexities and meeting plan provider and plan sponsor
demands for specific features and delivery dates. We must accomplish all of these tasks in a timely
and cost-effective manner, and our failure to do so could harm our business, including materially
reducing our revenue and operating results. Further, a key aspect of our growth strategy is to
expand our investment research capabilities and introduce new services. We expect that our research
and development expense will continue to represent a meaningful percentage of our revenue in the
future. A viable market for our new service offerings may not exist or develop, and our offerings
may not be well received by potential plan sponsor customers or individual plan participants or
investors.
Risks
Related to our Common Stock
Our share price may be volatile, and the value of an investment in our common stock may decline.
An active, liquid and orderly market for our common stock may not be sustained, which could
depress the trading price of our common stock. The price of our common stock has been, and is
likely to continue to be, volatile, which means that it could decline substantially within a short
period of time. For example, since shares of our common stock were sold in our initial public
offering in March 2010 at a price of $12.00 per share, our closing stock price has ranged from
$16.69 to $18.55 for the period March 16, 2010 to March 31, 2010. The market price of shares of
our common stock could be subject to wide fluctuations in response to many risk factors listed in
this section, many of which are beyond our control, including:
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actual or anticipated fluctuations in our financial condition and operating results; |
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changes in the economic performance or market valuations of other companies engaged
in providing portfolio management services, investment advice and retirement help; |
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loss of a significant amount of existing business; |
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actual or anticipated changes in our growth rate relative to our competitors; |
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actual or anticipated fluctuations in our competitors operating results or changes
in their growth rates; |
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issuance of new or updated research or reports by securities analysts; |
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our announcement of actual results for a fiscal period that are higher or lower than
projected results or our announcement of revenue or earnings guidance that is higher or
lower than expected; |
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regulatory developments in our target markets affecting us, our plan sponsors or our
competitors; |
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fluctuations in the valuation of companies perceived by investors to be comparable
to us; |
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share price and volume fluctuations attributable to inconsistent trading volume
levels of our shares; |
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sales or expected sales of additional common stock; |
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terrorist attacks or natural disasters or other such events impacting countries
where we or our plan sponsors have operations; and |
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general economic and market conditions. |
Furthermore, the stock markets have experienced extreme price and volume fluctuations that
have affected and continue to affect the market prices of equity securities of many companies.
These fluctuations often have been unrelated or disproportionate to the operating performance of
those companies. These broad market and industry fluctuations, as well as general economic,
political and market conditions such as recessions, interest rate changes or international currency
fluctuations, may cause the market price of shares of our common stock to decline. In the past,
companies that have experienced volatility in the market price of their stock have been subject to
securities class action litigation. We may be the target of this type of litigation in the future.
Securities litigation against us could result in substantial costs and divert our managements
attention from other business concerns, which could seriously harm our business.
If securities or industry analysts do not publish research or reports about our business, or if
they change their recommendations regarding our stock adversely, our stock price and trading volume
could decline.
The trading market for our common stock will be influenced by the research and reports that
industry or securities analysts publish about us or our business. If one or more of the analysts
who cover us downgrade our stock, our stock price would likely decline. If one or more of these
analysts cease coverage of our company or fail to regularly publish reports on us, we could lose
visibility in the financial markets, which in turn could cause our stock price or trading volume to
decline.
The future sale of shares of our common stock may negatively impact our stock price.
If our stockholders sell substantial amounts of our common stock, the market price of our
common stock could fall. A reduction in ownership by a large stockholder could cause the market
price of our common stock to fall. In addition, the average daily trading volume in our stock is
relatively low. The lack of trading activity in our stock may lead to greater fluctuations in our
stock price. Low trading volume may also make it difficult for stockholder to make transactions in
a timely fashion.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Unregistered Sales of Equity Securities
In the three months ended March 31, 2010, we issued 346,623 shares of unregistered common
stock for an aggregate purchase price of $1.1 million upon the exercise of previously granted
options. These transactions were effected under Rule 701 of the Securities Act of 1933, or the Act.
In addition, as previously reported in our Form S-1 Registration Statement (File No. 333-163581),
we issued an aggregate of 456,643 shares of our common stock the former holders of our Series E
preferred stock in connection with the conversion of our outstanding shares of preferred stock into
common stock upon completion of our initial public offering such that each share of preferred stock
would maintain a one-for-one conversion ratio to common stock. These shares were accounted for as
a dividend to the former holders of our Series E preferred stock and were issued to them as
accredited investors in reliance upon Section 4(2) of the Act or Regulation D promulgated
thereunder. The recipients of securities in each such transaction represented their intention to
acquire the securities for investment only and not with a view to or for sale in connection with
any distribution thereof and appropriate
38
legends
were affixed to the shares certificates and other instruments issued in such transactions. All
recipients either received adequate information about us or had access, through employment or other
relationships, to such information. There were no underwriters employed in connection with these
transactions.
Use of Proceeds
The Form S-1 Registration Statement (File No. 333-163581) relating to our IPO was declared
effective by the SEC on March 15, 2010, and the offering commenced March 16, 2010 and was completed
on March 19, 2010. Goldman, Sachs & Co. acted as book-runner manager for the offering, UBS
Investment Bank was senior co-manager, and Piper Jaffray and Cowen and Company were co-managers of
the offering.
We registered the offering and sale of 5,868,100 shares of common stock by us and the
associated sale of 4,731,900 shares of common stock by selling stockholders and the additional
sales pursuant to the underwriters over-allotment option for an additional 1,590,000 shares of
common stock by us, at a public offering price of $12.00 per share. On March 16, 2010 the underwriters
completed the exercise of the over-allotment option in full. The aggregate public offering price
of the offering amount registered, including shares to cover the underwriters over-allotment
option, was $89.5 million and the offering has terminated. We received net proceeds of $79.0
million after deducting the $10.5 million in total expenses incurred in connection with the
offering as described below. The selling stockholders received net proceeds of $52.8 million after
deducting underwriting discounts and commissions. We did not receive any of the proceeds from the
sale of shares by the selling stockholders.
Expenses incurred in connection with the issuance and distributions of the securities
registered were as follows:
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Underwriting discount $6.3 million |
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Other expenses $4.2 million |
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Total expenses $10.5 million |
None of such payments were direct or indirect payments to any of our directors or officers or
their associates or to persons owning 10 percent or more of our common stock or direct or indirect
payments to others.
The net offering proceeds have been invested into a money market account. There has been no
material change in the planned use of proceeds from our initial public offering as described in our
final prospectus filed with the SEC pursuant to Rule 424(b).
Item 5. Other Information
Repayment of Term Loan and Termination of Loan and Security Agreement
On April 20, 2009, we, and our subsidiary, Financial Engines Reincorporation Sub, Inc., as
borrower, entered into a second amended and restated loan and security agreement with Silicon
Valley Bank that provided for a three-year $10.0 million term loan, which is repayable in 36 equal
installments through May 1, 2012, as well as a $7.0 million revolving credit facility, which we did
not draw upon and which expired on its stated termination date of April 19, 2010 in accordance with
its terms.
Effective May 10, 2010, we repaid the outstanding term loan balance of $6.7 million, including
$9,000 of accrued interest, from available cash and terminated the loan and security agreement.
There is no material relationship between us or our affiliates and Silicon Valley Bank other than
with respect to the loan and security agreement. No early termination penalties were incurred by us
in connection with the repayment of the term loan and termination of the related loan and security
agreement. The interest rate in effect at the time of repayment was equal to 1.50% above prime
rate, with a minimum prime rate of 4.00% per annum, resulting in a minimum interest rate of 5.50%
per annum. We were in compliance with all debt covenants at the time of repayment.
39
The description of the additional terms of the loan and security agreement and term loan are
described under Description of Certain Indebtedness in our Form S-1 Registration Statement (File
No. 333-163581) as declared effective by the SEC on March 15, 2010, which description is
incorporated herein by reference and is qualified in its entirety by reference to the complete text
of the Second Amended and Restated Loan Security Agreement filed as an exhibit to this Quarterly
Report on Form 10-Q.
Appointment of Principal Accounting Officer
Effective
May 13, 2010, Mr. Jeffrey C. Grace, our Vice President and Corporate Controller,
will also serve as our Principal Accounting Officer. Mr. Grace joined the Company in January 2010
as our Vice President & Corporate Controller. Prior to joining us and since July 2007, Mr. Grace
was Chief Financial Officer for Christensen & Giannini. Mr. Grace held senior financial management
positions including Chief Financial Officer & Director for Language Line Services, Inc from 2004 to
2007 and was Vice President of Finance & Principal Accounting Officer for Excelligence Learning
Corporation from 1997 to 2004. Mr. Grace began his career with Deloitte & Touche LLP. He is a
Certified Public Accountant and earned a B.A. in Finance from California State University, Los
Angeles. Effective May 13, 2010, Mr. Raymond J. Sims, our Executive Vice President and Chief
Financial Officer, will no longer serve as our Principal Accounting Officer. Mr. Sims continues to
serve as our Principal Financial Officer.
Item 6. Exhibits
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Exhibit |
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Number |
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Description |
3.1
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Restated Certificate of Incorporation of the Registrant |
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10.1
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Second Amended and Restated Loan and Security
Agreement between the Registrant and Silicon Valley
Bank dated as of April 20, 2010 (filed as Exhibit 10.8
to the Registrants Registration Statement on Form S-1
(File No. 333-163581) and incorporated herein by
reference). |
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31.1
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Certificate of Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
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31.2
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Certificate of Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
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32.1(1)
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Certificate of Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
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32.2(1)
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Certificate of Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
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(1) |
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The material contained in Exhibit 32.1 and Exhibit 32.2 is not deemed filed with the SEC
and is not to be incorporated by reference into any filing of the Company under the Securities
Act of 1933 or the Securities Exchange Act of 1934, whether made before or after the date
hereof and irrespective of any general incorporation language contained in such filing, except
to the extent that the registrant specifically incorporates it by reference. |
40
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date: May 13, 2010
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FINANCIAL ENGINES, INC.
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/s/
Jeffrey N. Maggioncalda
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Jeffrey N. Maggioncalda |
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President and Chief Executive Officer
(Duly authorized officer and principal executive officer) |
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/s/
Raymond J. Sims
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Raymond J. Sims |
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Executive Vice President and Chief Financial Officer
(Duly authorized officer and principal financial officer) |
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/s/
Jeffrey C. Grace
|
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Jeffrey C. Grace |
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Vice President and Corporate Controller
(Duly authorized officer and principal accounting officer) |
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41
Exhibit Index
|
|
|
Exhibit |
|
|
Number |
|
Description |
3.1
|
|
Restated Certificate of Incorporation of the Registrant |
|
|
|
10.1
|
|
Second Amended and Restated Loan and Security Agreement between the
Registrant and Silicon Valley Bank dated as of April 20, 2010 (filed
as Exhibit 10.8 to the Registrants Registration Statement on Form S-1
(File No. 333-163581) and incorporated herein by reference). |
|
|
|
31.1
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|
Certificate of Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
|
|
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31.2
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Certificate of Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
|
|
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32.1(1)
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Certificate of Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
|
|
|
32.2(1)
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|
Certificate of Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (18 U.S.C. Section 1350). |
|
|
|
(1) |
|
The material contained in Exhibit 32.1 and Exhibit 32.2 is not deemed filed with
the SEC and is not to be incorporated by reference into any filing of the Company under
the Securities Act of 1933 or the Securities Exchange Act of 1934, whether made before or
after the date hereof and irrespective of any general incorporation language contained in
such filing, except to the extent that the registrant specifically incorporates it by
reference. |
42