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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2017
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to             
Commission File Number: 001-36383
 
Five9, Inc.
(Exact Name of Registrant as Specified in Its Charter)
 
Delaware
 
94- 3394123
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
Bishop Ranch 8
4000 Executive Parkway, Suite 400
San Ramon, CA 94583
(Address of Principal Executive Offices) (Zip Code)
(925) 201-2000
(Registrant’s 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: x    No:  o
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:  x    No:  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer
o
 
 
Accelerated Filer
x
Non-accelerated filer
o
(Do not check if a smaller reporting Company)
 
Smaller Reporting Company
o
 
 
 
 
Emerging Growth Company
x
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    Yes: x    No:  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes:  o  No:  x

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As of July 27, 2017, there were 55,116,559 shares of the Registrant’s common stock, par value $0.001 per share, outstanding.

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FIVE9, INC.
FORM 10-Q
TABLE OF CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which involve substantial risks and uncertainties. These statements reflect the current views of our senior management with respect to future events and our financial performance. These forward-looking statements include statements with respect to our business, expenses, strategies, losses, growth plans, product and client initiatives, market growth projections, and our industry. Statements that include the words “expect,” “intend,” “plan,” “believe,” “project,” “forecast,” “estimate,” “may,” “should,” “anticipate” and similar statements of a future or forward-looking nature identify forward-looking statements for purposes of the federal securities laws or otherwise.
Forward-looking statements address matters that involve risks and uncertainties. Accordingly, there are or will be important factors that could cause our actual results to differ materially from those indicated in these statements. These factors include the information set forth under the caption “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q, including the following:
•
our quarterly and annual results may fluctuate significantly, may not fully reflect the underlying performance of our business and may result in decreases in the price of our common stock;
•
if we are unable to attract new clients or sell additional services and functionality to our existing clients, our revenue and revenue growth will be harmed;
•
our recent rapid growth may not be indicative of our future growth, and even if we continue to grow rapidly, we may fail to manage our growth effectively;
•
failure to adequately expand our sales force could impede our growth;
•
if we fail to manage our technical operations infrastructure, our existing clients may experience service outages, our new clients may experience delays in the deployment of our solution and we could be subject to, among other things, claims for credits or damages;
•
security breaches and improper access to or disclosure of our data or our clients’ data or other cyber attacks on our systems, could result in litigation and regulatory risk, harm our reputation and adversely affect our business;
•
the markets in which we participate are highly competitive, and if we do not compete effectively, our operating results could be harmed;
•
if our existing clients terminate their subscriptions or reduce their subscriptions and related usage, our revenues and gross margins will be harmed and we will be required to spend more money to grow our client base;
•
our growth depends in part on the success of our strategic relationships with third parties and our failure to successfully grow and manage these relationships could harm our business;
•
we are establishing a network of master agents and resellers to sell our solution; our failure to effectively develop, manage, and maintain this network could materially harm our revenues;
•
we sell our solution to larger organizations that require longer sales and implementation cycles and often demand more configuration and integration services or customized features and functions that we may not offer, any of which could delay or prevent these sales and harm our growth rates, business and operating results;
•
because a significant percentage of our revenue is derived from existing clients, downturns or upturns in new sales will not be immediately reflected in our operating results and may be difficult to discern;
•
we rely on third-party telecommunications and internet service providers to provide our clients and their customers with telecommunication services and connectivity to our cloud contact center software and any failure by these service providers to provide reliable services could subject us to, among other things, claims for credits or damages;
•
we have a history of losses and we may be unable to achieve or sustain profitability;
•
we may not be able to secure additional financing on favorable terms, or at all, to meet our future capital needs; and
•
failure to comply with laws and regulations could harm our business and our reputation.
The foregoing factors should not be construed as exhaustive and should be read together with the other cautionary statements included in this Quarterly Report on Form 10-Q. If one or more of these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, our actual results may differ

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materially from what we anticipate. You should not place undue reliance on our forward-looking statements. Any forward-looking statements you read in this Quarterly Report on Form 10-Q reflect our views only as of the date of this report with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategy and liquidity. We undertake no obligation to update any forward-looking statements made in this Quarterly Report on Form 10-Q to reflect events or circumstances after the date of this Quarterly Report on Form 10-Q or to reflect new information or the occurrence of unanticipated events, except as required by law.


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PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements
FIVE9, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share data)
 
 
June 30, 2017
 
December 31, 2016
 
 
(Unaudited)
 
 
ASSETS
 
 
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
57,149

 
$
58,122

Accounts receivable, net
 
16,281

 
13,881

Prepaid expenses and other current assets
 
7,074

 
3,008

Total current assets
 
80,504

 
75,011

Property and equipment, net
 
15,656

 
14,688

Intangible assets, net
 
1,306

 
1,539

Goodwill
 
11,798

 
11,798

Other assets
 
2,199

 
2,203

Total assets
 
$
111,463

 
$
105,239

 
 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
4,586

 
$
3,366

Accrued and other current liabilities
 
10,277

 
9,604

Accrued federal fees
 
3,261

 
2,742

Sales tax liability
 
1,191

 
1,347

Notes payable
 
663

 
742

Capital leases
 
6,155

 
6,230

Deferred revenue
 
11,903

 
10,047

Total current liabilities
 
38,036

 
34,078

Revolving line of credit
 
32,594

 
32,594

Sales tax liability — less current portion
 
1,284

 
1,476

Notes payable — less current portion
 
—

 
318

Capital leases — less current portion
 
6,384

 
5,915

Other long-term liabilities
 
1,010

 
530

Total liabilities
 
79,308

 
74,911

Commitments and contingencies (Note 9)
 

 

Stockholders’ equity:
 
 
 
 
Preferred stock, $0.001 par value; 5,000 shares authorized, no shares issued and outstanding at June 30, 2017 and December 31, 2016
 
—

 
—

Common stock, $0.001 par value; 450,000 shares authorized, 55,096 shares and 53,363 shares issued and outstanding at June 30, 2017 and December 31, 2016, respectively
 
55

 
53

Additional paid-in capital
 
207,813

 
196,555

Accumulated deficit
 
(175,713
)
 
(166,280
)
Total stockholders’ equity
 
32,155

 
30,328

Total liabilities and stockholders’ equity
 
$
111,463

 
$
105,239

See accompanying notes to condensed consolidated financial statements.

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FIVE9, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited, in thousands, except per share data)

 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Revenue
 
$
47,727

 
$
38,886

 
$
94,741

 
$
76,901

Cost of revenue
 
20,273

 
16,764

 
40,244

 
33,374

Gross profit
 
27,454

 
22,122

 
54,497

 
43,527

Operating expenses:
 
 
 
 
 
 
 
 
Research and development
 
6,836

 
5,799

 
13,683

 
11,601

Sales and marketing
 
16,932

 
12,637

 
32,710

 
25,343

General and administrative
 
6,845

 
5,882

 
15,705

 
12,418

Total operating expenses
 
30,613

 
24,318

 
62,098

 
49,362

Loss from operations
 
(3,159
)
 
(2,196
)
 
(7,601
)
 
(5,835
)
Other income (expense), net:
 
 
 
 
 
 
 
 
Interest expense
 
(888
)
 
(1,197
)
 
(1,770
)
 
(2,396
)
Interest income and other
 
90

 
(33
)
 
208

 
(78
)
Total other income (expense), net
 
(798
)
 
(1,230
)
 
(1,562
)
 
(2,474
)
Loss before income taxes
 
(3,957
)
 
(3,426
)
 
(9,163
)
 
(8,309
)
Provision for income taxes
 
50

 
42

 
99

 
70

Net loss
 
$
(4,007
)
 
$
(3,468
)
 
$
(9,262
)
 
$
(8,379
)
Net loss per share:
 
 
 
 
 
 
 
 
Basic and diluted
 
$
(0.07
)
 
$
(0.07
)
 
$
(0.17
)
 
$
(0.16
)
Shares used in computing net loss per share:
 
 
 
 
 
 
 
 
Basic and diluted
 
54,723

 
52,143

 
54,208

 
51,760

Comprehensive Loss:
 
 
 
 
 
 
 
 
Net loss and comprehensive loss
 
$
(4,007
)
 
$
(3,468
)
 
$
(9,262
)
 
$
(8,379
)
See accompanying notes to condensed consolidated financial statements.

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FIVE9, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)
 
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
Cash flows from operating activities:
 
 
 
 
Net loss
 
$
(9,262
)
 
$
(8,379
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
4,365

 
4,163

Provision for doubtful accounts
 
45

 
41

Stock-based compensation
 
6,983

 
4,408

Loss (gain) on disposal of property and equipment
 
(13
)
 
2

Non-cash adjustment on investment
 
(161
)
 
—

Amortization of debt discount and issuance costs
 
40

 
178

Accretion of interest
 
10

 
—

Others
 
(1
)
 
(7
)
Changes in operating assets and liabilities:
 
 
 
 
Accounts receivable
 
(2,426
)
 
(245
)
Prepaid expenses and other current assets
 
(4,106
)
 
(1,206
)
Other assets
 
166

 
62

Accounts payable
 
1,187

 
357

Accrued and other current liabilities
 
909

 
1,389

Accrued federal fees and sales tax liability
 
171

 
12

Deferred revenue
 
2,025

 
1,535

Other liabilities
 
311

 
(53
)
Net cash provided by operating activities
 
243

 
2,257

Cash flows from investing activities:
 
 
 
 
Purchases of property and equipment
 
(1,178
)
 
(568
)
Increase in restricted cash
 
—

 
(60
)
Net cash used in investing activities
 
(1,178
)
 
(628
)
Cash flows from financing activities:
 
 
 
 
Proceeds from exercise of common stock options
 
2,303

 
3,352

Proceeds from sale of common stock under ESPP
 
1,800

 
792

Repayments of notes payable
 
(400
)
 
(3,563
)
Payments of capital leases
 
(3,741
)
 
(3,056
)
Net cash used in financing activities
 
(38
)
 
(2,475
)
Net decrease in cash and cash equivalents
 
(973
)
 
(846
)
Cash and cash equivalents:
 
 
 
 
Beginning of period
 
58,122

 
58,484

End of period
 
$
57,149

 
$
57,638

Non-cash investing and financing activities:
 
 
 
 
Equipment obtained under capital lease
 
$
4,012

 
$
3,352

Equipment purchased and unpaid at period-end
 
51

 
102

See accompanying notes to the condensed consolidated financial statements.

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FIVE9, INC.
Notes to Condensed Consolidated Financial Statements (Unaudited)
1. Description of Business and Summary of Significant Accounting Policies
Five9, Inc. and its wholly-owned subsidiaries (the “Company”) is a provider of cloud software for contact centers. The Company was incorporated in Delaware in 2001 and is headquartered in San Ramon, California. The Company has offices in Europe and Asia, which primarily provide research, development, sales, marketing, and client support services.
Basis of Presentation
The accompanying condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles 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 financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. Therefore, these condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016. All intercompany transactions and balances have been eliminated in consolidation.
Use of Estimates
The preparation of condensed consolidated financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. The significant estimates made by management affect revenue, the allowance for doubtful accounts, intangible assets, goodwill, loss contingencies, including the Company’s accrual for federal fees and sales tax liability, accrued liabilities, stock-based compensation, provision for income taxes and uncertain tax positions. Management periodically evaluates such estimates and they are adjusted prospectively based upon such periodic evaluation. Actual results could differ from those estimates.
Significant Accounting Policies
The Company’s significant accounting policies are disclosed in its Annual Report on Form 10-K for the year ended December 31, 2016. During the six months ended June 30, 2017, there were no changes to the Company's significant accounting policies.
Recently Adopted Accounting Pronouncements
In March 2016, the FASB issued ASU No. 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. This ASU simplifies several aspects of the accounting for share-based payment transactions, including the accounting for income taxes, forfeitures, and statutory tax withholding requirements, as well as classification in the statement of cash flows. The guidance was effective for the Company beginning in the first quarter of 2017, with early application permitted. Beginning in Q1 2017, the Company accounted for forfeitures as they occurred, rather than by estimating expected forfeitures. The net effect of this change was recognized as a $0.2 million reduction to accumulated deficit in the condensed consolidated financial statements. Upon adoption of the new standard, all excess tax benefits and tax deficiencies (including tax benefits of dividends on share-based payment awards) are recognized as income tax expense or benefit in the income statement. The tax effects of exercised or vested awards are treated as discrete items in the reporting period in which they occur. The Company also recognizes excess tax benefits regardless of whether the benefit reduces taxes payable in the current period. The Company has applied the modified retrospective adoption approach beginning January 1, 2017 and prior periods have not been adjusted. As a result, the Company established a net operating loss deferred tax asset of $5.3 million to account for prior period excess tax benefits through retained earnings, however an offsetting valuation allowance of $5.3 million was also established through retained earnings because it is not more likely than not that the deferred tax asset will be realized due to historical and expected future losses, such that there is no impact on the Company’s condensed consolidated financial statements.

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Recent Accounting Pronouncements Not Yet Effective
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which requires measurement and recognition of expected credit losses for certain types of financial assets held. ASU 2016-13 is effective for the Company in its first quarter of 2020, and earlier adoption is permitted beginning in the first quarter of 2019. The Company is currently evaluating the impact of ASU 2016-13 on its consolidated financial statements.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). Under the new guidance, a lessee will be required to recognize assets and liabilities for both finance, or capital, and operating leases with lease terms of more than 12 months. The ASU also will require disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. Lessor accounting will remain largely unchanged from current GAAP. In transition, lessees and lessors are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach that includes a number of optional practical expedients that entities may elect to apply. This guidance is effective for the Company beginning in the first quarter of 2019. Early adoption is permitted. The Company is currently assessing the effect the guidance will have on its consolidated financial statements.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers: Topic 606 and issued subsequent amendments to the initial guidance in August 2015, March 2016, April 2016 and May 2016 within ASU 2015-04, ASU 2016-08, ASU 2016-10 and ASU 2016-12, respectively (ASU 2014-09, ASU 2015-04, ASU 2016-08, ASU 2016-10 and ASU 2016-12 collectively, Topic 606). Topic 606 requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers and will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. Topic 606 defines a five-step process to achieve this core principle and, in doing so, it is possible more judgment and estimates may be required within the revenue recognition process than are required under existing GAAP. Topic 606 is effective for the Company's annual and interim reporting periods beginning January 1, 2018 using either a retrospective or a cumulative effect transition method. The Company has developed an implementation plan to adopt this new guidance. As part of this plan, the Company is currently assessing the impact of the new guidance on its results of operations. Based on procedures performed to date, nothing has come to the Company's attention that would indicate that the adoption of Topic 606 will have a material impact on the timing of revenue, but the Company has noted the potential for a material impact to commission expense. The Company will continue to evaluate this assessment in 2017. The Company intends to adopt Topic 606 on January 1, 2018. The Company has not yet selected a transition method, but expects to do so in the third quarter of 2017 upon completion of further analysis.
2. Fair Value Measurements
The Company carries cash equivalents consisting of money market funds at fair value on a recurring basis. Fair value is based on the price that would be received from selling an asset in an orderly transaction between market participants at the measurement date. Fair value is estimated by applying the following hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:
Level 1 — Observable inputs which include unadjusted quoted prices in active markets for identical assets.
Level 2 — Observable inputs other than Level 1 inputs, such as quoted prices for similar assets, quoted prices for identical or similar assets in inactive markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the asset.
Level 3 — Unobservable inputs that are supported by little or no market activity and that are based on management’s assumptions, including fair value measurements determined by using pricing models, discounted cash flow methodologies or similar techniques.

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The fair value of assets carried at fair value was determined using the following inputs (in thousands):
 
 
June 30, 2017
 
 
Total
 
Level 1
Level 3
Assets
 
 
 
 
 
Cash equivalents
 
 
 
 
 
Money market funds
 
$
20,038

 
$
20,038

$
—

Other Assets
 
 
 
 
 
Embedded conversion option held for investment
 
$
917

 
$
—

$
917

 
 
 
 
 
 
 
 
December 31, 2016
 
 
Total
 
Level 1
Level 3
Assets
 
 
 
 
 
Cash equivalents
 
 
 
 
 
Money market funds
 
$
20,069

 
$
20,069

$
—

Other Assets
 
 
 
 
 
Embedded conversion option held for investment
 
$
873

 
$
—

$
873


Fair Value Measured and Recorded Using Significant Unobservable Inputs (Level 3) (in thousands):
 
June 30, 2017
Beginning balance
$
873

Total gains included in earnings
44

Ending balance
$
917

The valuation of an embedded conversion option held for investment with a convertible note was performed using a Black-Scholes option-pricing model which relies primarily on estimates of expected term, volatility, risk-free rate, and dividends related to our investment in a privately-held company, or the investee. The most significant unobservable inputs used in the determination of estimated fair value of the option are the estimates of share price and volatility, driven by the investee's ability to meet financial targets, and which directly correlates to the fair value recognized in other non-current assets within the condensed consolidated balance sheets.
The fair value of this asset is estimated quarterly by management based on inputs received from the investee's management using the excess earnings method under the income approach. Potential valuation adjustments are made as the progress toward achieving financial targets becomes determinable, with the impact of such adjustments being recorded to 'Interest income and other' in our condensed consolidated statements of operations and comprehensive loss.
During the six months ended June 30, 2017, there were no transfers in or out of Level 3 from other levels in the fair value hierarchy.
There were no assets or liabilities measured at fair value on a non-recurring basis as of June 30, 2017.
3. Financial Statement Components
Cash and cash equivalents consisted of the following (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Cash
 
$
37,111

 
$
38,053

Money market funds
 
20,038

 
20,069

Cash and cash equivalents
 
$
57,149

 
$
58,122


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Accounts receivable, net consisted of the following (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Trade accounts receivable
 
$
15,147

 
$
12,640

Unbilled trade accounts receivable, net of advance client deposits
 
1,144

 
1,253

Allowance for doubtful accounts
 
(10
)
 
(12
)
Accounts receivable, net
 
$
16,281

 
$
13,881

Prepaid expenses and other current assets consisted of the following (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Prepaid expenses
 
$
3,326

 
$
2,199

Other current assets
 
3,748

 
809

Prepaid expenses and other current assets
 
$
7,074

 
$
3,008

Property and equipment, net consisted of the following (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Computer and network equipment
 
$
41,221

 
$
37,664

Computer software
 
6,198

 
5,133

Internal-use software development costs
 
500

 
475

Furniture and fixtures
 
1,214

 
1,130

Leasehold improvements
 
632

 
624

Property and equipment
 
49,765

 
45,026

Accumulated depreciation and amortization
 
(34,109
)
 
(30,338
)
Property and equipment, net
 
$
15,656

 
$
14,688

Depreciation and amortization expense associated with property and equipment was $2.2 million and $4.1 million for the three and six months ended June 30, 2017, respectively, and $1.9 million and $3.9 million for the three and six months ended June 30, 2016, respectively.
Property and equipment capitalized under capital lease obligations consist primarily of computer and network equipment and was as follows (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Gross
 
$
41,346

 
$
35,504

Less: accumulated depreciation and amortization
 
(28,338
)
 
(23,128
)
Total
 
$
13,008

 
$
12,376

Accrued and other current liabilities consisted of the following (in thousands):
 
 
June 30,
2017
 
December 31,
2016
Accrued compensation and benefits
 
$
8,608

 
$
7,456

Accrued expenses
 
1,669

 
2,148

Accrued and other current liabilities
 
$
10,277

 
$
9,604


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4. Intangible Assets
The components of intangible assets were as follows (in thousands):
 
 
June 30, 2017
 
December 31, 2016
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net Carrying Amount
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net Carrying Amount
Developed technology
 
$
2,460

 
$
(1,302
)
 
$
1,158

 
$
2,460

 
$
(1,126
)
 
$
1,334

Customer relationships
 
520

 
(385
)
 
135

 
520

 
(333
)
 
187

Domain names
 
50

 
(37
)
 
13

 
50

 
(32
)
 
18

Non-compete agreements
 
140

 
(140
)
 
0

 
140

 
(140
)
 
0

Total
 
$
3,170

 
$
(1,864
)
 
$
1,306

 
$
3,170

 
$
(1,631
)
 
$
1,539

Amortization expense related to intangible assets was $0.1 million and $0.2 million for the three and six months ended June 30, 2017, respectively, and $0.1 million and $0.3 million for the three and six months ended June 30, 2016, respectively.
As of June 30, 2017, the expected future amortization expense for intangible assets was as follows (in thousands):
Period
 
Expected Future Amortization Expense
2017
 
233

2018
 
442

2019
 
351

2020
 
280

Total
 
$
1,306

5. Debt
2016 Loan and Security Agreement
On August 1, 2016, or the Effective Date, the Company entered into a loan and security agreement, or the 2016 Loan and Security Agreement, with the lenders party thereto and City National Bank, as agent for such lenders. The 2016 Loan and Security Agreement provides for a revolving line of credit, or the New Revolving Credit Facility, of up to $50.0 million and matures on August 1, 2019. On the Effective Date, the Company borrowed $32.6 million under the 2016 Loan and Security Agreement. The proceeds were used to extinguish existing indebtedness under all prior Loan and Security Agreements and will be used for working capital and other general corporate purposes.
Loans under the 2016 Loan and Security Agreement bear a variable annual interest rate of the prime rate plus 0.50%, subject to a 0.25% increase if the Company's adjusted EBITDA is negative at the end of any fiscal quarter. The Company has agreed to pay a fee of 0.25% per annum on the unused portion of the New Revolving Credit Facility as well as an anniversary fee of $31,250 on each of the first and second anniversaries of the Effective Date. The Company is accreting the total estimation of unused fees and anniversary fees evenly over the full term of the 2016 Loan and Security Agreement. Under the terms of the 2016 Loan and Security Agreement, the outstanding balance cannot exceed the Company’s trailing four months of MRR (monthly recurring revenue including subscription and usage) multiplied by the average trailing 12 month dollar based retention rate (calculated on the same basis as in the Company’s periodic reports filed with the Securities and Exchange Commission). As of June 30, 2017, the outstanding principal balance under the 2016 Loan and Security Agreement was $32.6 million, which is included in 'Revolving line of credit' in the condensed consolidated balance sheets. As of June 30, 2017, the amount available for additional borrowings was $17.4 million.
The Company incurred approximately $0.2 million in fees that were directly attributable to the issuance of this credit facility. These costs are deferred and included within 'Prepaid expenses and other current assets' and 'Other assets' in the Company's condensed consolidated balance sheets and being amortized to interest expense on a straight-line basis over three years starting from the Effective Date of the New Revolving Credit Facility.

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The obligations of the Company under the 2016 Loan and Security Agreement are guaranteed by the Company’s subsidiary, Five9 Acquisition. The Company’s obligations under the 2016 Loan and Security Agreement and Five9 Acquisition’s obligations under its guaranty are secured by a first priority perfected security interest in and lien on substantially all of the Company’s and Five9 Acquisition's assets. The 2016 Loan and Security Agreement contains certain customary covenants, including the requirement that the Company maintain $25.0 million of unrestricted cash deposited with the lenders for the term of the agreement, a minimum liquidity ratio of unrestricted cash and accounts receivable to the outstanding amounts under the 2016 Loan and Security Agreement, as well as customary events of default. Under the 2016 Loan and Security Agreement, the Company is also prohibited from declaring dividends or making other distributions on capital stock. The Company was in compliance with these covenants as of June 30, 2017.
The Company recorded a $1.0 million loss on extinguishment of debt in the third quarter of 2016 under the 2013 Loan and Security Agreement and the 2014 Loan and Security Agreement (each as described below). The loss was comprised of $0.4 million in prepayment penalties, a $0.4 million write-off of unamortized debt discounts, and a $0.2 million write-off of unamortized debt issuance costs.
2013 Loan and Security Agreement
Prior to entering into the 2016 Loan and Security Agreement on August 1, 2016, the Company had a revolving line of credit of up to $20.0 million, or the Prior Revolving Credit Facility, under a loan and security agreement with a lender, which was entered into in March 2013 and last amended in December 2014, or the 2013 Loan and Security Agreement. The Prior Revolving Credit Facility carried a variable annual interest rate of the prime rate plus 0.50% and would have matured on December 1, 2016.
The 2013 Loan and Security Agreement was collateralized by substantially all the assets of the Company. The balance outstanding could not exceed the lesser of (i) $20.0 million or (ii) an amount equal to the Company’s monthly recurring revenue for the three months prior multiplied by the average Dollar-Based Retention Rate over the prior twelve months, less the amount accrued for the Company’s Universal Service Fund (“USF”) obligation (accrued federal fees). As of August 1, 2016, the Company had canceled and paid back all amounts due under the Prior Revolving Credit Facility.
In connection with its acquisition of SoCoCare in October 2013, the Company also borrowed $5.0 million under a term loan, or the Term Loan, under the 2013 Loan and Security Agreement in October 2013. Monthly interest-only payments were due on the advance at the prime rate plus 1.50% through September 2014. Principal and interest payments were due in equal monthly installments from October 2014 through the maturity of the Term Loan in March 2017. As of August 1, 2016, the Company had canceled and paid back all amounts due under the Term Loan.
The 2013 Loan and Security Agreement contained certain covenants, including the requirement that the Company maintain $7.5 million of cash deposited with the lender for the term of the 2013 Loan and Security Agreement. The Company was in compliance with these covenants through the cancellation date of August 1, 2016. The 2013 Loan and Security Agreement remained senior to other debt, including the debt issued under the 2014 Loan and Security Agreement discussed below.
2014 Loan and Security Agreement
Prior to entering into the 2016 Loan and Security Agreement on August 1, 2016, the Company had a term loan facility of $30.0 million with a syndicate of two lenders, or Lenders, which was entered into in February 2014 and amended in December 2014 and February 2015, or the 2014 Loan and Security Agreement. The term loan facility was available to the Company in tranches. The first tranche for $20.0 million was advanced upon entering into the agreement. The remaining $10.0 million was available for drawdown by the Company until February 20, 2016 in $1.0 million increments, which expired on February 20, 2016. The Company incurred $0.4 million in debt costs in connection with borrowing the first tranche in February 2014. The term loan bore interest at a variable per annum rate equal to the greater of 10% or LIBOR plus 9%. Interest was due and payable on the last business day of each month during the term of the loan commencing in February 2014. Monthly principal payments were due beginning in February 2016 based on 1/60th of the outstanding balance at that time and would continue until all remaining principal outstanding under the term loan became due and payable in February 2019. As of August 1, 2016, the Company had canceled and paid back all borrowings under the 2014 Loan and Security Agreement.
The term loan was secured by substantially all the assets of the Company and was subordinate to the 2013 Loan and Security Agreement. The 2014 Loan and Security Agreement contained certain covenants and included the occurrence of a material adverse event, as defined in the agreement and determined by the Lenders, as an event of

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default. The Company was in compliance with these covenants through the effective cancellation date of August 1, 2016.
In connection with entering into the 2014 Loan and Security Agreement, the Company issued to the Lenders warrants to purchase 177,865 shares of common stock at $10.12 per share, which vest and become exercisable over a ten year term from the date of issuance, based on amounts drawn under the $30.0 million term loan facility. Based on the drawdown of $20.0 million in February 2014, 118,577 shares of common stock issuable under the warrants vested and are exercisable by the Lenders. The fair value of these vested warrants of $1.0 million was recorded as a discount against the debt proceeds and was being recognized as additional interest expense over the term of the loan. The remaining 59,288 shares of common stock issuable under the warrants pertaining to the undrawn $10.0 million did not vest and were no longer exercisable on February 20, 2016 when the $10.0 million was no longer available for borrowing.
Promissory Note
In July 2013, the Company issued a promissory note to the Universal Service Administrative Company, or USAC, for $4.1 million in principal amount as a financing arrangement for that amount of accrued federal fees. The promissory note carried a fixed annual interest rate of 12.75% and was repayable in 42 equal monthly installments of principal and interest beginning in August 2013. As of December 31, 2016, approximately $0.1 million of this promissory note was outstanding and is included as notes payable in the accompanying condensed consolidated balance sheets. As of June 30, 2017, the promissory note was fully paid.
FCC Civil Penalty
In June 2015, the Company entered into a consent decree with the Federal Communications Commission, or FCC, Enforcement Bureau (Note 9), in which the Company agreed to pay a civil penalty of $2.0 million to the U.S. Treasury in twelve equal quarterly installments starting in July 2015 without interest. As a result, the Company discounted the $2.0 million liability, which was accrued in the third quarter of 2014 for the then tentative civil penalty, to its present value of $1.7 million at an annual interest rate of 12.75% to reflect the imputed interest and reclassified this discounted liability from 'Accrued federal fees' to 'Notes payable.' The $0.3 million discount was recorded as a reduction to general and administrative expense in the three months ended June 30, 2015 and is being recognized as interest expense over the payment term of the civil penalty. As of June 30, 2017 and December 31, 2016, the outstanding civil penalty payable was $0.7 million and $1.0 million, respectively, of which the net carrying value was $0.6 million and $0.9 million, respectively, and is included as 'Notes payable' in the accompanying condensed consolidated balance sheets.
As of June 30, 2017 and December 31, 2016, the Company’s outstanding debt is summarized as follows (in thousands):
 
 
June 30, 2017
 
December 31, 2016
Promissory note to USAC
 
—

 
120

FCC civil penalty
 
667

 
1,000

Total notes payable, gross
 
667

 
1,120

Less: discount
 
(34
)
 
(79
)
Total notes payable, net carrying value
 
633

 
1,041

Revolving line of credit
 
32,594

 
32,594

Interest accretion under 2016 line of credit
 
$
30

 
$
19

Total debt, net carrying value
 
$
33,257

 
$
33,654

Less: current portion of debt *
 
(663
)
 
(742
)
Total debt, less current portion **
 
32,594

 
32,912

 
 
 
 
 
 
 
 
 
 
* Included in ‘Notes payable’ in the condensed consolidated balance sheets.
** Included in ‘Notes payable - less current portion’ and 'Revolving line of credit — less current portion' in the condensed consolidated balance sheets.

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Maturities of the Company’s outstanding debt as of June 30, 2017 are as follows (in thousands):
Period
 
Amount to Mature
2017
 
333

2018
 
334

2019
 
32,594

Total
 
$
33,261


6. Stockholders’ Equity
Capital Structure
The Company is authorized to issue 450,000,000 shares of common stock with a par value of $0.001 per share. As of June 30, 2017 and December 31, 2016, the Company had 55,095,711 and 53,363,013 shares of common stock issued and outstanding, respectively.
The Company is also authorized to designate and issue up to 5,000,000 shares of preferred stock with a par value of $0.001 per share in one or more series without stockholder approval and to fix the rights, preferences, privileges and restrictions thereof. As of June 30, 2017 and December 31, 2016, the Company had no shares of preferred stock issued and outstanding.
Warrants
As of June 30, 2017 and December 31, 2016, the Company had outstanding warrants to purchase 13,017 and 131,597 shares of common stock, respectively, with a weighted-average exercise price of $6.93 per share and $9.80 per share, respectively. Most of these warrants expire on October 18, 2023.
Common Stock Reserved for Future Issuance
Shares of common stock reserved for future issuance related to outstanding equity awards, common stock warrants, and employee equity incentive plans were as follows (in thousands):
 
 
June 30, 2017
Stock options outstanding
 
4,791

Restricted stock units outstanding
 
2,412

Shares available for future grant under 2014 Plan
 
7,590

Shares available for future issuance under ESPP
 
1,495

Common stock warrants outstanding
 
13

Total shares of common stock reserved
 
16,301

Equity Incentive Plans 
Prior to its initial public offering (“IPO”), the Company granted stock options under its Amended and Restated 2004 Equity Incentive Plan, as amended (the “2004 Plan”).
In March 2014, the Company’s board of directors and stockholders approved the 2014 Equity Incentive Plan (“2014 Plan”) and 5,300,000 shares of common stock were reserved for issuance under the 2014 Plan. In addition, on the first day of each year beginning in 2015 and ending in 2024, the 2014 Plan provides for an annual automatic increase to the shares reserved for issuance in an amount equal to 5% of the total number of shares outstanding on December 31st of the preceding calendar year or a lesser number as determined by the Company’s board of directors. Pursuant to the automatic annual increase, 2,668,150 and 2,558,231 additional shares were reserved under the 2014 Plan on January 1, 2017 and 2016, respectively.
No further grants were made under the 2004 Plan once the 2014 Plan became effective on April 3, 2014. Upon the effectiveness of the 2014 Plan, all shares reserved for future issuance under the 2004 Plan became available for issuance under the 2014 Plan. After the IPO, any forfeited or expired shares that would have otherwise returned to the 2004 Plan instead return to the 2014 Plan. As of June 30, 2017, 7,589,526 shares of common stock were available for future grant under the 2014 Plan.

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The 2004 Plan and the 2014 Plan are described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.
Stock Options
A summary of the Company’s stock option activity during the six months ended June 30, 2017 is as follows (in thousands, except years and per share data):
 
 
Number of
Shares
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life
(Years)
 
Aggregate
Intrinsic
Value
Outstanding as of December 31, 2016
 
5,556

 
$
5.23

 
 
 
 
Options granted (weighted average grant date fair value of $8.01 per share)
 
485

 
16.52

 
 
 
 
Options exercised
 
(1,123
)
 
2.05

 
 
 
 
Options forfeited or expired
 
(127
)
 
12.86

 
 
 
 
Outstanding as of June 30, 2017
 
4,791

 
$
6.91

 
6.4
 
$
70,014

The Company has computed the aggregate intrinsic value amounts disclosed in the above table based on the difference between the exercise price of the options and the closing market price of the Company’s common stock of $21.52 per share as of June 30, 2017 for all in-the-money options outstanding.
Restricted Stock Units
A summary of the Company's restricted stock unit ("RSU") activity during the six months ended June 30, 2017 is as follows (in thousands, except per share data):     
 
 
Number of Shares
 
Weighted Average Grant Date Fair Value Per Share
Outstanding as of December 31, 2016
 
2,019

 
$
7.65

RSUs granted
 
921

 
16.83

RSUs vested and released
 
(422
)
 
8.27

RSUs forfeited
 
(106
)
 
11.09

Outstanding as of June 30, 2017
 
2,412

 
$
10.85

Employee Stock Purchase Plan
The Company's 2014 Employee Stock Purchase Plan ("ESPP") became effective on April 3, 2014 and is described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016. The number of shares of common stock originally reserved for issuance under the ESPP was 880,000 shares, which will increase automatically each year, beginning on January 1, 2015 and continuing through January 1, 2024, by the lesser of (i) 1% of the total number of shares of the Company’s common stock outstanding on December 31 of the preceding calendar year; (ii) 1,000,000 shares of common stock (subject to adjustment to reflect any split or combination of the Company’s common stock); or (iii) such lesser number as determined by the Company’s board of directors. Pursuant to the automatic annual increase, 533,630 and 511,646 additional shares were reserved under the ESPP on January 1, 2017 and 2016, respectively. As of June 30, 2017, 1,494,632 shares of common stock were available for future grants under the ESPP.
One purchase event occurred during the three and six months ended June 30, 2017 as follows: 141,222 shares were purchased on May 15, 2017 at a price of $12.75 per share under the ESPP.

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Stock-Based Compensation
Stock-based compensation expenses for the three and six months ended June 30, 2017 and 2016 were as follows (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Cost of revenue
 
$
575

 
$
329

 
$
1,009

 
$
594

Research and development
 
801

 
528

 
1,438

 
963

Sales and marketing
 
1,224

 
544

 
2,152

 
978

General and administrative
 
1,254

 
1,013

 
2,384

 
1,873

Total stock-based compensation
 
$
3,854

 
$
2,414

 
$
6,983

 
$
4,408

As of June 30, 2017, unrecognized stock-based compensation expenses by award type and their expected weighted-average recognition periods are summarized in the following table (in thousands, except years).
 
 
Stock Option
 
RSU
 
ESPP
Unrecognized stock-based compensation expense
 
$
7,196

 
$
23,823

 
$
570

Weighted-average amortization period
 
2.8 years

 
3.0 years

 
0.4 years

The Company recognizes stock-based compensation expense that is calculated based upon awards that have vested, reduced for actual forfeitures. All stock-based compensation for equity awards granted to employees and non-employee directors is measured based on the grant date fair value of the award.
The Company values RSUs at the closing market price of its common stock on the date of grant. The Company estimates the fair value of each stock option and purchase right under the ESPP granted to employees on the date of grant using the Black-Scholes option-pricing model and using the assumptions noted in the below table. The weighted-average assumptions used to value stock options granted during the three and six months ended June 30, 2017 and 2016 were as follows:
Stock Options
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Expected term (years)
 
6.1
 
6.1
 
6.2
 
6.0
Volatility
 
49%
 
48%
 
49%
 
48%
Risk-free interest rate
 
2.0%
 
1.2%
 
2.0%
 
1.5%
Dividend yield
 
—
 
—
 
—
 
—
7. Net Loss Per Share
Basic net loss per share is calculated by dividing net loss by the weighted average number of common shares outstanding during the period, and excludes any dilutive effects of employee stock-based awards and warrants. Diluted net income per share is computed giving effect to all potentially dilutive common shares, including common stock issuable upon exercise of stock options and warrants and vesting of restricted stock. As the Company had net losses for the three and six months ended June 30, 2017 and 2016, all potentially issuable common shares were determined to be anti-dilutive.
The following table presents the calculation of basic and diluted net loss per share (in thousands, except per share data).
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Net loss
 
$
(4,007
)
 
$
(3,468
)
 
$
(9,262
)
 
$
(8,379
)
Weighted-average shares used in computing basic and diluted net loss per share
 
54,723

 
52,143

 
54,208

 
51,760

Basic and diluted net loss per share
 
$
(0.07
)
 
$
(0.07
)
 
$
(0.17
)
 
$
(0.16
)

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The following securities were excluded from the calculation of diluted net loss per share attributable to common stockholders because their effect would have been anti-dilutive for the periods presented (in thousands).
 
 
June 30, 2017
 
June 30, 2016
Stock options
 
4,791

 
5,831

Restricted stock units
 
2,412

 
2,228

ESPP
 
—

 
147

Common stock warrants
 
13

 
132

Total
 
7,216

 
8,338

8. Income Taxes
The provision for income taxes for the three and six months ended June 30, 2017 was approximately $50 thousand and $99 thousand, respectively. The provision for income taxes for the three and six months ended June 30, 2016 was approximately $42 thousand and $70 thousand, respectively. The provision for income taxes consisted primarily of foreign income taxes.
For the three and six months ended June 30, 2017 and 2016, the provision for income taxes differed from the statutory amount primarily due to the Company realizing no benefit for current year losses due to maintaining a full valuation allowance against its domestic net deferred tax assets.
The realization of tax benefits of deferred tax assets is dependent upon future levels of taxable income, of an appropriate character, in the periods the items are expected to be deductible or taxable. Based on the available objective evidence, the Company does not believe it is more likely than not that the net deferred tax assets will be realizable. Accordingly, the Company has provided a full valuation allowance against the domestic net deferred tax assets as of June 30, 2017 and December 31, 2016. The Company intends to maintain the remaining valuation allowance until sufficient positive evidence exists to support a reversal of, or decrease in, the valuation allowance. During the three and six months ended June 30, 2017, there were no material changes to the total amount of unrecognized tax benefits. 
9. Commitments and Contingencies
Commitments
The Company’s principal commitments consist of future payment obligations under capital leases to finance data centers and other computer and networking equipment purchases, debt agreements (see Note 5), operating lease agreements for office space, research and development, and sales and marketing facilities, and agreements with third parties to provide co-location hosting, telecommunication usage and equipment maintenance services. These commitments as of December 31, 2016 are disclosed in the Company's Annual Report on Form 10-K for the year ended December 31, 2016, and did not change materially during the six months ended June 30, 2017 except for the acquisition of certain additional data center and network equipment and software under multiple capital leases, and certain hosting and telecommunications agreements. As of June 30, 2017, the total minimum future payment commitments under these capital leases added during the six months ended June 30, 2017 were approximately $4.7 million, of which $0.9 million is due during the remainder of 2017, with the remainder of $3.8 million due over approximately 31 months. The Company entered into various hosting and telecommunications agreements for terms of twenty-four to thirty-six months commencing on various dates in the first three quarters of 2017. These agreements require the Company to make monthly payments over the service term in exchange for certain network services. The Company's total minimum future payment commitments under these agreements are $4.1 million.
Universal Services Fund Liability
During the third quarter of 2012, the Company determined that based on its business activities, it is classified as a telecommunications service provider for regulatory purposes and it should make direct contributions to the federal USF and related funds based on revenues it receives from the resale of interstate and international telecommunications services. In order to comply with the obligation to make direct contributions, the Company made a voluntary self-disclosure to the FCC Enforcement Bureau and registered with the USAC, which is charged by the FCC with administering the USF. The Company filed exemption certificates with its wholesale telecommunications service providers in order to eliminate its obligation to reimburse such wholesale telecommunications service providers for their USF contributions calculated on services sold to the Company. In April 2013, the Company began remitting required contributions on a prospective basis directly to USAC.

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The Company’s registration with USAC subjects it to assessments for unpaid USF contributions, as well as interest thereon and civil penalties, due to its late registration and past failure to recognize its obligation as a USF contributor and as an international carrier. The Company will be required to pay assessments for periods prior to the Company’s registration. As of December 31, 2012, the total past due USF contribution being imposed by USAC and accrued by the Company for the period from 2003 through 2012 was $8.1 million, of which $4.7 million was undisputed and $3.4 million was disputed. The Company subsequently updated its filings and increased the liability related to 2008 through 2012 by $0.5 million, arriving at a new total of $3.9 million. In July 2013, the Company and USAC agreed to a financing arrangement for $4.1 million of the undisputed $4.7 million of the unpaid USF contributions whereby the Company issued to USAC a promissory note payable in the principal amount of the $4.1 million and paid off the remaining undisputed $0.6 million. The repayment terms of the promissory note payable are disclosed in Note 5. As of December 31, 2016, approximately $0.1 million of this promissory note was outstanding and is included as notes payable in the accompanying condensed consolidated balance sheets. As of June 30, 2017, the promissory note was fully paid.
With respect to the disputed portion, in 2013, the Company submitted two separate Requests for Review (a form of appeal) to the FCC's Wireline Competition Bureau challenging two aspects of USAC’s assessment of past due USF contributions for the period from 2003 through 2012. The first Request for Review challenged USAC’s assessment of liability for the period of 2003 through 2007, which was prior to the five year window during which we were required to maintain financial records for USF contribution purposes. The second Request for Review sought credit for the Company’s USF payments to its wholesale carriers during the period from 2008 through 2012. In January 2017, the FCC’s Wireline Competition Bureau ruled in favor of the Company regarding the principal for its payments to its wholesale carriers during 2008 through 2012, but not the interest or penalties on that principal, resulting in a reversal of $3.1 million to cost of revenue. USAC has not completed the administrative process of approving that $3.1 million credit, but it is fully anticipated to do so. In February 2017, the Company filed a third Request for Review disputing that portion of the decision by the FCC’s Wireline Competition Bureau that withheld credit for the interest and penalties on the back assessments for the period of 2008 through 2012. The FCC has not yet resolved the Company’s Request for Review challenging assessments for 2003 to 2007 or the Company’s Request for Review on the interest and penalties for the period of 2008 through 2012. If the pending disputes are not resolved in the Company’s favor, it is possible that the Company will be required to pay additional back assessments for one or both of those periods.
As of June 30, 2017, the accrued liability on the remaining disputed assessments is $2.8 million, which includes $0.8 million in USF assessment for the period of 2003 through 2007, $0.4 million for the interest and penalties on that assessment, and $1.6 million for the interest and penalties on the $3.1 million in since-credited prior payments to the Company’s wholesale carriers. As of December 31, 2016, the accrued liability on the remaining disputed assessments is $2.5 million, which includes $0.8 million in USF assessment for the period of 2003 through 2007, $0.3 million for the interest and penalties on that assessment, and $1.4 million for the interest and penalties on the $3.1 million in since-credited prior payments to the Company’s wholesale carriers. For the three and six months ended June 30, 2017, the Company recorded interest and penalty expenses of $0.2 million and $0.3 million, respectively, as a charge to general and administrative expense, which were related to its disputed unpaid USF obligations.
On June 12, 2015, in connection with the Company’s disclosure to the FCC, the Company entered into a consent decree with the FCC Enforcement Bureau. In the consent decree, the Company agreed to pay a civil penalty of $2.0 million to the U.S. Treasury in twelve equal quarterly installments starting in July 2015 without interest (Note 5). In the third quarter of 2014, the Company accrued a $2.0 million liability for the then tentative civil penalty. The consent decree also requires the Company to adopt certain internal regulatory compliance monitoring and training requirements, and to report on the status of those compliance efforts to the FCC’s Enforcement Bureau for three years. The Company’s implementation of the internal regulatory compliance monitoring and training requirements was completed in August 2015, and its annual compliance reporting to the FCC will continue until June 2018.
State and Local Taxes and Surcharges
In April 2012, the Company commenced collecting and remitting sales taxes on sales of subscription services in all the U.S. states in which it determined it was obligated to do so. During the first quarter of 2015, the Company conducted an updated sales tax review of the taxability of sales of its subscription services. As a result, the Company determined that it may be obligated to collect and remit sales taxes on such sales in four additional states. Based on its best estimate of the probable sales tax liability in those four states relating to its sales of subscription services during the period 2011 through 2014, during the three months ended March 31, 2015, the Company recorded a

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general and administrative expense of $0.6 million as an immaterial out of period adjustment to accrue for such taxes.
During 2013, the Company analyzed its activities and determined it may be obligated to collect and remit various state and local taxes and surcharges on its usage-based fees. The Company had not remitted state and local taxes on usage-based fees in any of the periods prior to 2014 and therefore accrued a sales tax liability for this contingency. In January 2014, the Company commenced paying such taxes and surcharges to certain state     authorities. In June 2014, the Company commenced collecting state and local taxes or surcharges on usage-based fees from its clients on a current basis and remitting such taxes to the applicable U.S. state taxing authorities.
During the three months ended June 30, 2017, the Company made no payments for its contingent sales taxes on either usage-based fees or sales of subscription services. During the three months ended June 30, 2016, the Company remitted $25 thousand for its contingent sales taxes on both usage-based fees and sales of subscription services. For the three months ended June 30, 2017, the Company recognized a $0.1 million gain as an offset to general and administrative expense related to its estimated sales tax liability on both usage-based fees and sales of subscription services in the U.S. and Canada. For the three months ended June 30, 2016, the Company recognized a $0.2 million gain as an offset to general and administrative expense related to its estimated sales tax liability on both usage-based fees and sales of subscription services in the U.S. and Canada, which was not being collected from its clients.
As of June 30, 2017 and December 31, 2016, the Company had total accrued liabilities of $1.8 million and $2.1 million, respectively, for such contingent sales taxes and surcharges that were not being collected from its clients but may be imposed by various taxing authorities, of which $0.5 million and $0.6 million were included in current “Sales tax liability” on the condensed consolidated balance sheets, respectively, and the remaining were included in non-current “Sales tax liability” on the condensed consolidated balance sheets. The Company’s estimate of the probable loss incurred under this contingency is based on its analysis of the source location of its usage-based fees and the regulations and rules in each tax jurisdiction.
Legal Matters
The Company is involved in various legal and regulatory matters arising in the normal course of business. In management’s opinion, resolution of these matters is not expected to have a material impact on the Company’s consolidated results of operations, cash flows, or its financial position. However, due to the uncertain nature of legal matters, an unfavorable resolution of a matter could materially affect the Company’s future consolidated results of operations, cash flows or financial position in a particular period. The Company expenses legal fees as incurred.
The Company is currently involved in the following lawsuits as a defendant.
Melcher Litigation
On September 28, 2016, a complaint was filed in the United States District Court for the Southern District of California against Five9, Inc., or Five9, as the successor in interest to Face It, Corp., or Face It, and Lance Fried, a former Five9 employee who was the former Chief Executive Officer of Face It. The action, captioned Melcher, et al. v. Five9, Inc., et al., No. 16-cv-02440, or the Federal Lawsuit, was filed as a direct action by Carl Melcher, or Melcher, a purported former stockholder of Face It, and his related investment entity Melcher Family Limited Partnership, or MFLP.
In the complaint, the plaintiffs alleged that Face It repurchased the plaintiffs’ stock in September 2013 before Five9 acquired Face It, and that in connection with the repurchase, Fried made material misstatements or omissions to Melcher, by failing to disclose that Face It allegedly was in concurrent discussions about a potential sale of the company to Five9. The complaint alleged violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, as well as various claims under state law and common law. The complaint sought to set aside Face It’s September 2013 stock repurchase from the plaintiffs, as well as an unspecified amount of damages and an award of attorney’s fees and costs, in addition to other relief.
On November 8, 2016, the court entered an order staying the Federal Lawsuit and ordered the parties to proceed to arbitration of the dispute before the American Arbitration Association, or AAA. On November 16, 2016, Melcher and MFLP submitted a Demand for Arbitration to AAA against Five9, asserting claims identical to those alleged in the Federal Lawsuit.
On March 31, 2017, Five9 reached a settlement with the plaintiffs that fully resolved the plaintiffs’ claims against Five9 and provided for mutual releases between the parties in exchange for a one-time payment by Five9 to

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the plaintiffs of $1.7 million. As a result of the settlement, the arbitration was closed, and on July 10, 2017, the plaintiffs filed an amended complaint in the Federal Lawsuit solely against Fried removing Five9 as a defendant.
Five9 believes that it has indemnification rights against the former stockholders of Face It for losses it incurred in connection with the defense and resolution of this matter.
NobelBiz Litigation
On August 5, 2011, NobelBiz sent a letter to the Company asserting infringement of a patent related to virtual call centers. On April 3, 2012, NobelBiz filed a patent infringement lawsuit against the Company in the United States District Court for the Eastern District of Texas. The patent asserted in the complaint is different, but related, to the patent asserted in the original letter. The lawsuit, NobelBiz Inc. v. Five9, Inc., Case No. 6:12-cv-00243-LED, alleges that the Company’s local caller ID management service infringes United States Patent No. 8,135,122, or the ‘122 patent. The ‘122 patent, titled “System and Method for Modifying Communication Information (MCI),” issued on March 13, 2012, and according to the complaint is alleged to relate to “a system for processing a telephone call from a call originator (also referred to as a calling party) to a call target (also referred to as a receiving party), where the system accesses a database storing outgoing telephone numbers, selects a replacement telephone number from the outgoing telephone numbers based on the telephone number of the call target, and originates an outbound call to the call target with a modified outgoing caller identification (‘caller ID’).” NobelBiz seeks damages in the form of lost profits as well as injunctive relief. The lawsuit is one of several lawsuits filed by NobelBiz against various companies including TCN Inc., LiveVox, Inc. and Global Connect LLC. On March 28, 2013, the court granted the Company’s motion to transfer the case to the United States District Court for the Northern District of California. Subsequently, NobelBiz amended its complaint to add claims related to U.S. Patent No. 8,565,399, or the ‘399 patent, which is a continuation in the same family as the ‘122 patent and addresses the same technology. The Company responded to the complaint and amended complaint by asserting noninfringement and invalidity of the ‘122 and ‘399 patents. On January 16, 2015, the court issued an order regarding claim construction of the two patents-in-suit. On March 7, 2016, the court stayed the case pending an appeal in lawsuits involving NobelBiz, Global Connect and TCN that also involve the ‘122 and ‘399 patents. On July 19, 2017, the Federal Circuit Court of Appeal issued a ruling confirming the claim construction in Five9’s lawsuit and resolving the appeal in favor of Global Connect and TCN and against NobelBiz. The Company anticipates that the court will set a new schedule for the litigation in light of this ruling.
The Company has investigated the claims alleged in the complaint and believes that it has good defenses to the claims. While the Company does not believe that it is probable that a loss has been incurred, the ultimate resolution of the matter could potentially result in a loss. Management’s best estimate of the low end of the range of the potential loss is zero. At this time, it is not possible to reasonably estimate the high end of the range of the potential loss, which could be material to the Company’s results of operations. Accordingly, the Company has not accrued a loss related to this matter.
Indemnification Agreements
In the ordinary course of business, the Company enters into agreements of varying scope and terms pursuant to which it agrees to indemnify clients, vendors, lessors, business partners and other parties with respect to certain matters, including, but not limited to, losses arising out of breach of such agreements, services to be provided by the Company or from intellectual property infringement claims made by third parties. In addition, the Company has entered into indemnification agreements with directors and certain officers and employees that will require it, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors, officers or employees. Other than as described below, no demands have been made upon the Company to provide indemnification under such agreements and there are no claims that it is aware of that could have a material effect on the consolidated balance sheet, consolidated statement of operations and comprehensive loss, or consolidated statements of cash flows. On October 27, 2016, the Company received notice from Lance Fried, a former officer and director of Face It, of his claim for indemnification by the Company (as successor in interest to Face It), and for advancement of all legal fees and expenses he incurs in connection with the defense of the Melcher litigation. See "Legal Matters" above. As of June 30, 2017, the Company had advanced Mr. Fried $62 thousand in connection with this claim; however, the Company disputes that Mr. Fried is entitled to advancement in connection with the Melcher litigation. On July 31, 2017, Mr. Fried filed a complaint against the Company in the Court of Chancery for the State of Delaware, in which he alleges that the Company breached advancement obligations to him. In the lawsuit, Mr. Fried seeks advancement of his legal fees and expenses in connection with the defense of the Melcher litigation, payment of his legal fees and expenses incurred in connection with his advancement action, and interest. The Company believes the action is without merit and intends to defend it vigorously. To the extent

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that it is ultimately determined that Mr. Fried is not entitled to indemnification, Mr. Fried has undertaken to reimburse the Company for all amounts advanced to him. In addition, the Company believes that it has indemnification rights against the former stockholders of Face It (including Mr. Fried) for all losses that are incurred by the Company in connection with the Melcher litigation, including without limitation, amounts incurred to indemnify or advance the legal fees and expenses of Mr. Fried pursuant to his indemnification claim against the Company.
10. Geographical Information
The following table is a summary of revenues by geographic region based on client billing address and has been estimated based on the amounts billed to clients during the periods presented (in thousands).
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
United States
 
$
44,830

 
$
36,104

 
$
89,188

 
$
71,697

International
 
2,897

 
2,782

 
5,553

 
5,204

Total revenue
 
$
47,727

 
$
38,886

 
$
94,741

 
$
76,901

The following table summarizes total property and equipment, net in the respective locations (in thousands).
 
 
June 30, 2017
 
December 31, 2016
United States
 
$
14,241

 
$
13,025

International
 
1,415

 
1,663

Property and equipment, net
 
$
15,656

 
$
14,688

    
ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion in conjunction with the condensed consolidated financial statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2016.
Overview
We are a pioneer and leading provider of cloud software for contact centers, facilitating more than three billion interactions between our more than 2,000 clients and their customers per year. We believe we achieved this leadership position through our expertise and technology, which has empowered us to help organizations of all sizes transition from legacy on-premise contact center systems to our cloud solution. Our solution, which is comprised of our Virtual Contact Center, or VCC, cloud platform and applications, allows simultaneous management and optimization of customer interactions across voice, chat, email, web, social media and mobile channels, either directly or through our application programming interfaces, or APIs. Our VCC cloud platform routes each customer interaction to an appropriate agent resource, and delivers relevant customer data to the agent in real-time to optimize the customer experience. Unlike legacy on-premise contact center systems, our solution requires minimal up-front investment and can be rapidly deployed and adjusted depending on our client’s requirements.
Since founding our business in 2001, we have focused exclusively on delivering cloud contact center software. We initially targeted smaller contact center opportunities with our telesales team and, over time, invested in expanding the breadth and depth of the functionality of our cloud platform to meet the evolving requirements of our clients. In 2009, we made a strategic decision to expand our market opportunity to include larger contact centers. This decision drove further investments in research and development and the establishment of our field sales team to meet the requirements of these larger contact centers. We believe this shift has helped us diversify our client base while significantly enhancing our opportunity for future revenue growth. To complement these efforts, we have also focused on building client awareness and driving adoption of our solution through marketing activities, which include internet advertising, digital marketing campaigns, social marketing, trade shows, industry events and telemarketing.
We provide our solution through a SaaS business model with recurring subscriptions. We offer a comprehensive suite of applications delivered on our VCC cloud platform that are designed to enable our clients to

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manage and optimize both inbound and outbound interactions. We primarily generate revenue by selling subscriptions and related usage of our VCC cloud platform. We charge our clients monthly subscription fees for access to our solution, primarily based on the number of agent seats, as well as the specific functionalities and applications our clients deploy. We define agent seats as the maximum number of named agents allowed to concurrently access our solution. Our clients typically have more named agents than agent seats, and multiple named agents may use an agent seat, though not simultaneously. Substantially all of our clients purchase both subscriptions and related telephony usage from us. A small percentage of our clients subscribe to our platform but purchase telephony usage directly from wholesale telecommunications service providers. We do not sell telephony usage on a stand-alone basis to any client. The related usage fees are based on the volume of minutes for inbound and outbound interactions. We also offer bundled plans, generally for smaller deployments, where the client is charged a single monthly fixed fee per agent seat that includes both subscription and unlimited usage in the contiguous 48 states and, in some cases, Canada. We offer monthly, annual and multiple-year contracts to our clients, generally with 30 days’ notice required for changes in the number of agent seats. Our clients can use this notice period to rapidly adjust the number of agent seats used to meet their changing contact center volume needs, including to reduce the number of agent seats to zero. As a general matter, this means that a client can effectively terminate its agreement with us upon 30 days’ notice. Our larger clients typically choose annual contracts, which generally include an implementation and ramp period of several months. Fixed subscription fees, including bundled plans, are generally billed monthly in advance, while related usage fees are billed in arrears. For the three and six months ended June 30, 2017, subscription and related usage fees accounted for 94% of our revenue. For the three and six months ended June 30, 2016, subscription and related usage fees accounted for 94% and 95% of our revenue, respectively. The remainder was comprised of professional services revenue from the implementation and optimization of our solution.
Our revenue increased to $47.7 million and $94.7 million for the three and six months ended June 30, 2017 from $38.9 million and $76.9 million for the three and six months ended June 30, 2016. Revenue growth has primarily been driven by our larger clients. For each of the three and six months ended June 30, 2017 and 2016, no single client accounted for more than 10% of our total revenue. As of June 30, 2017, we had over 2,000 clients across multiple industries. Our clients' subscriptions generally range in size from fewer than 10 agent seats to approximately 1,000 agent seats. Our net losses increased to $4.0 million and $9.3 million in the three and six months ended June 30, 2017, from $3.5 million and $8.4 million for the three and six months ended June 30, 2016.
We have continued to make significant expenditures and investments, including in sales and marketing, research and development and infrastructure. We primarily evaluate the success of our business based on revenue growth, adjusted EBITDA and the efficiency and effectiveness of our investments. The growth of our business and our future success depend on many factors, including our ability to continue to expand our client base, particularly in larger opportunities, grow revenue from our existing client base, develop innovative products and features, and expand internationally. While these areas represent significant opportunities for us, they also pose risks and challenges that we must successfully address in order to sustain the growth of our business and improve our operating results. In order to pursue these opportunities, we anticipate that we will continue to expand our operations and headcount in the near term.
Due to our continuing investments to grow our business, increase our sales and marketing efforts, pursue new opportunities, enhance our solution and build our technology, we expect our cost of revenue and operating expenses to increase in absolute dollars in future periods. However, we expect these expenses to decrease as a percentage of revenue as we grow our revenue and gain economies of scale by increasing our client base without direct incremental development costs and by utilizing more of the capacity of our data centers.
Key Operating and Financial Performance Metrics
In addition to measures of financial performance presented in our condensed consolidated financial statements, we monitor the key metrics set forth below to help us evaluate growth trends, establish budgets, measure the effectiveness of our sales and marketing efforts and assess operational efficiencies.
Annual Dollar-Based Retention Rate
We believe that our Annual Dollar-Based Retention Rate provides insight into our ability to retain and grow revenue from our clients, and is a measure of the long-term value of our client relationships. Our Annual Dollar-Based Retention Rate is calculated by dividing our Retained Net Invoicing by our Retention Base Net Invoicing on a monthly basis, which we then average using the rates for the trailing twelve months for the period being presented. We define Retention Base Net Invoicing as recurring net invoicing from all clients in the comparable prior year period, and we define Retained Net Invoicing as recurring net invoicing from that same group of clients in the

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current period. We define recurring net invoicing as subscription and related usage revenue excluding the impact of service credits, reserves and deferrals. Historically, the difference between recurring net invoicing and our subscription and related usage revenue has been within 10%.
The following table shows our Annual Dollar-Based Retention Rate for the periods presented:
 
 
Twelve Months Ended
 
 
June 30, 2017
 
June 30, 2016
Annual Dollar-Based Retention Rate
 
98%
 
100%
Our Dollar-Based Retention Rate declined year over year primarily due to the prior year period benefits from the ramp of one of our largest customers. This adverse impact to our Dollar-Based Retention Rate was offset in part by the positive impact from our other clients.
Adjusted EBITDA
We monitor adjusted EBITDA, a non-GAAP financial measure, to analyze our financial results and believe that it is useful to investors, as a supplement to U.S. GAAP measures, in evaluating our ongoing operational performance and enhancing an overall understanding of our past financial performance. We believe that adjusted EBITDA helps illustrate underlying trends in our business that could otherwise be masked by the effect of the income or expenses that we exclude from adjusted EBITDA. Furthermore, we use this measure to establish budgets and operational goals for managing our business and evaluating our performance. We also believe that adjusted EBITDA provides an additional tool for investors to use in comparing our recurring core business operating results over multiple periods with other companies in our industry.
Adjusted EBITDA should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with U.S. GAAP and our calculation of adjusted EBITDA may differ from that of other companies in our industry. We compensate for the inherent limitations associated with using adjusted EBITDA through disclosure of these limitations, presentation of our financial statements in accordance with U.S. GAAP and reconciliation of adjusted EBITDA to the most directly comparable U.S. GAAP measure, net loss. We calculate adjusted EBITDA as net loss before (1) depreciation and amortization, (2) stock-based compensation, (3) interest income, expense and other, (4) provision for income taxes, and (5) other unusual items that do not directly affect what we consider to be our core operating performance.
The following table shows a reconciliation from net loss to Adjusted EBITDA for the periods presented (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Net loss
 
$
(4,007
)
 
$
(3,468
)
 
$
(9,262
)
 
$
(8,379
)
Non-GAAP adjustments:
 
 
 
 
 
 
 
 
Depreciation and amortization (1)
 
2,270

 
2,060

 
4,365

 
4,163

Stock-based compensation (2)
 
3,854

 
2,414

 
6,983

 
4,408

Interest expense
 
888

 
1,197

 
1,770

 
2,396

Interest income and other
 
(90
)
 
33

 
(208
)
 
78

Legal settlement (3)
 
—

 
—

 
1,700

 
—

Legal and indemnification fees related to settlement (3)
 
—

 
—

 
135

 
—

Provision for income taxes
 
50

 
42

 
99

 
70

Adjusted EBITDA
 
$
2,965

 
$
2,278

 
$
5,582

 
$
2,736

 
 
 
 
 
 
 
 
 

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(1) Depreciation and amortization expenses included in our results of operations are as follows (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Cost of revenue
 
$
1,716

 
$
1,616

 
$
3,292

 
$
3,296

Research and development
 
237

 
161

 
443

 
309

Sales and marketing
 
30

 
54

 
60

 
107

General and administrative
 
287

 
229

 
570

 
451

Total depreciation and amortization
 
$
2,270

 
$
2,060

 
$
4,365

 
$
4,163

(2) See Note 6 of the notes to the condensed consolidated financial statements for stock-based compensation expense included in our results of operations for the periods presented.
(3) Represents settlement amount, legal and indemnification fees related to the settlement of the Melcher litigation. See Part I, ITEM 1, Note 9 under the heading “Legal Matters."
Key Components of Our Results of Operations
Revenue
Our revenue consists of subscription and related usage as well as professional services. We consider our subscription and related usage to be recurring revenue. This recurring revenue includes fixed subscription fees for the delivery and support of our VCC cloud platform, as well as related usage fees. The related usage fees are based on the volume of minutes for inbound and outbound client interactions. We also offer bundled plans, generally for smaller deployments, where the client is charged a single monthly fixed fee per agent seat that includes both subscription and unlimited usage in the contiguous 48 states and, in some cases, Canada. We offer monthly, annual and multiple-year contracts for our clients, generally with 30 days’ notice required for changes in the number of agent seats. Our clients can use this notice period to rapidly adjust the number of agent seats used to meet their changing contact center volume needs, including to reduce the number of agent seats to zero. As a general matter, this means that a client can effectively terminate its agreement with us upon 30 days’ notice.
Fixed subscription fees, including plans with bundled usage, are generally billed monthly in advance, while variable usage fees are billed in arrears. Fixed subscription fees are recognized on a straight-line basis over the applicable term, predominantly the monthly contractual billing period. Support activities include technical assistance for our solution and upgrades and enhancements on a when and if available basis, which are not billed separately. Variable subscription related usage fees for non-bundled plans are billed in arrears based on client-specific per minute rate plans and are recognized as actual usage occurs. We generally require advance deposits from clients based on estimated usage. All fees, except usage deposits, are non-refundable.
In addition, we generate professional services revenue from assisting clients in implementing our solution and optimizing use. These services include application configuration, system integration and education and training services. Professional services are primarily billed on a fixed-fee basis and are typically performed by us directly. In limited cases, our clients choose to perform these services themselves or engage their own third-party service providers to perform such services. Professional services are recognized as the services are performed using the proportional performance method, with performance measured based on labor hours, provided all other criteria for revenue recognition are met.
Cost of Revenue
Our cost of revenue consists primarily of personnel costs (including stock-based compensation), fees that we pay to telecommunications providers for usage, USF contributions and other regulatory costs, depreciation and related expenses of the servers and equipment, costs to build out and maintain co-location data centers, and allocated office and facility costs and amortization of acquired technology. Cost of revenue can fluctuate based on a number of factors, including the fees we pay to telecommunications providers, which vary depending on our clients’ usage of our VCC cloud platform, the timing of capital expenditures and related depreciation charges and changes in headcount. We expect to continue investing in our network infrastructure and operations and client support function to maintain high quality and availability of service, resulting in absolute dollar increases in Cost of Revenue. As our business grows, we expect to realize economies of scale in network infrastructure, personnel and client support.

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Operating Expenses
We classify our operating expenses as research and development, sales and marketing, and general and administrative expenses.
Research and Development.    Our research and development expenses consist primarily of salary and related expenses (including stock-based compensation) for personnel related to the development of improvements and expanded features for our services, as well as quality assurance, testing, product management and allocated overhead. We expense research and development expenses as they are incurred except for internal-use software development costs that qualify for capitalization. We believe that continued investment in our solution is important for our future growth, and we expect research and development expenses to increase in absolute dollars in the foreseeable future, although these expenses as a percentage of our revenue are expected to decrease over time.
Sales and Marketing.    Sales and marketing expenses consist primarily of salaries and related expenses (including stock-based compensation) for personnel in sales and marketing, sales commissions, as well as advertising, marketing, corporate communications, travel costs and allocated overhead. We expense sales commissions associated with the acquisition of client contracts as incurred in the period the contract is acquired. We believe it is important to continue investing in sales and marketing to continue to generate revenue growth. Accordingly, we expect sales and marketing expenses to increase in absolute dollars as we continue to support our growth initiatives.
General and Administrative.    General and administrative expenses consist primarily of salary and related expenses (including stock-based compensation) for management, finance and accounting, legal, information systems and human resources personnel, professional fees, compliance costs, other corporate expenses and allocated overhead. We expect that general and administrative expenses will fluctuate in absolute dollars from period to period, but decline as a percentage of revenue over time.
Other Income (Expense), Net
Other income (expense), net consists primarily of interest expense associated with our debt and capital leases. We expect interest expense for our outstanding debt to decrease due to a lower interest rate for our New Revolving Credit Facility compared to the 2014 Loan and Security Agreement and the 2013 Loan and Security Agreement (see Note 5 of the notes to condensed consolidated financial statements included in this Quarterly Report on Form 10-Q). We expect interest expense for our capital leases to increase as a result of our continued capital spending funded by capital leases.
Provision for Income Taxes
Our provision for income taxes consists primarily of corporate income taxes resulting from profits generated in foreign jurisdictions by our wholly-owned subsidiaries, along with state income taxes payable in the United States.

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Results of Operations for the Three and Six Months Ended June 30, 2017 and 2016
Based on the condensed consolidated statements of operations and comprehensive loss set forth in this Quarterly Report on Form 10-Q, the following table sets forth our operating results as a percentage of revenue for the periods indicated:
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
June 30, 2017
 
June 30, 2016
Revenue
 
100
 %
 
100
 %
 
100
 %
 
100
 %
Cost of revenue
 
42
 %
 
43
 %
 
42
 %
 
43
 %
Gross profit
 
58
 %
 
57
 %
 
58
 %
 
57
 %
Operating expenses:
 
 
 
 
 
 
 
 
Research and development
 
14
 %
 
15
 %
 
14
 %
 
15
 %
Sales and marketing
 
35
 %
 
32
 %
 
35
 %
 
33
 %
General and administrative
 
16
 %
 
16
 %
 
17
 %
 
17
 %
Total operating expenses
 
65
 %
 
63
 %
 
66
 %
 
65
 %
Loss from operations
 
(7
)%
 
(6
)%
 
(8
)%
 
(8
)%
Other income (expense), net:
 
 
 
 
 
 
 
 
Interest expense
 
(2
)%
 
(3
)%
 
(2
)%
 
(3
)%
Interest income and other
 
1
 %
 
—
 %
 
—
 %
 
—
 %
Total other income (expense), net
 
(1
)%
 
(3
)%
 
(2
)%
 
(3
)%
Loss before income taxes
 
(8
)%
 
(9
)%
 
(10
)%
 
(11
)%
Provision for income taxes
 
—
 %
 
—
 %
 
—
 %
 
—
 %
Net loss
 
(8
)%
 
(9
)%
 
(10
)%
 
(11
)%
Revenue
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Revenue
 
$47,727
 
$38,886
 
$8,841
 
23%
 
$94,741
 
$76,901
 
$17,840
 
23%
The increase in revenue for the three and six months ended June 30, 2017 compared to the same periods of 2016 was primarily attributable to our larger clients, driven by an increase in our sales and marketing activities and our improved brand awareness.
Cost of Revenue
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Cost of revenue
 
$20,273
 
$16,764
 
$3,509
 
21%
 
$40,244
 
$33,374
 
$6,870
 
21%
% of Revenue
 
42%
 
43%
 
 
 
 
 
42%
 
43%
 
 
 
 
The increase in cost of revenue for the three and six months ended June 30, 2017 compared to the same periods of 2016 was primarily due to a $1.7 million and a $3.2 million increase in cash-based personnel costs driven by increased headcount, a $0.5 million and a $1.3 million increase in USF contributions and other federal telecommunication service fees primarily due to increased client usage, a $0.5 million and a $0.9 million increase in third party hosted software costs due to increased client activities, and a $0.4 million and a $0.8 million increase in facility-related costs. The remainder of the increase was primarily due to our business growth.

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Gross Profit
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Gross profit
 
$27,454
 
$22,122
 
$5,332
 
24%
 
$54,497
 
$43,527
 
$10,970
 
25%
% of Revenue
 
58%
 
57%
 
 
 
 
 
58%
 
57%
 
 
 
 
The increase in gross profit for the three and six months ended June 30, 2017 compared to the same periods of 2016 was primarily due increases in subscription and usage revenues. The increase in gross margin for the three months ended June 30, 2017 compared to the same period of 2016 was primarily due to improved efficiencies in usage. The increase in gross margin for the six months ended June 30, 2017 compared to the same period of 2016 was primarily due to economies of scale for subscriptions.
Operating Expenses
Research and Development
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Research and development
 
$6,836
 
$5,799
 
$1,037
 
18%
 
$13,683
 
$11,601
 
$2,082
 
18%
% of Revenue
 
14%
 
15%
 
 
 
 
 
14%
 
15%
 
 
 
 
The increase in research and development expenses for the three and six months ended June 30, 2017 compared to the same periods of 2016 was primarily due to a $0.6 million and a $1.0 million increase in cash-based personnel-related costs resulting from increased headcount, and a $0.3 million and a $0.5 million increase in stock-based compensation costs. During the six months ended June 30, 2017 compared to the same period of 2016, the increase was also due to a $0.2 million increase in consulting costs and a $0.2 million increase in facilities and allocated overhead costs.
Sales and Marketing
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Sales and marketing
 
$16,932
 
$12,637
 
$4,295
 
34%
 
$32,710
 
$25,343
 
$7,367
 
29%
% of Revenue
 
35%
 
32%
 
 
 
 
 
35%
 
33%
 
 
 
 
The increase in sales and marketing expenses for the three and six months ended June 30, 2017 compared to the same periods of 2016 was primarily due to a $1.6 million and a $3.0 million increase in cash-based personnel-related costs driven by increased headcount, a $1.0 million and a $1.7 million increase in commissions paid to sales personnel driven by the growth in sales and bookings of our solution, a $0.7 million and a $1.2 million increase in stock-based compensation costs, a $0.4 million and a $0.6 million increase in discretionary and other marketing-related expenses, and $0.3 million and a $0.5 million increase in business travel and related expenses. These increases, as well as the remainder of the increase, were primarily due to the execution of our growth strategy to acquire new clients, to increase the number of agent seats within our existing client base, and to establish brand awareness.

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General and Administrative
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
General and administrative
 
$6,845
 
$5,882
 
$963
 
16%
 
$15,705
 
$12,418
 
$3,287
 
26%
% of Revenue
 
16%
 
16%
 
 
 
 
 
17%
 
17%
 
 
 
 
The increase in general and administrative expenses for the six months ended June 30, 2017 compared to the same period of 2016 was primarily due to $1.8 million in accrued settlement and legal costs incurred in the first quarter of 2017. The increase in general and administrative expenses for the three and six months ended June 30, 2017 compared to the same periods of 2016 was also due to a $0.7 million and a $1.6 million increase in cash-based personnel-related costs driven by increased headcount, and a $0.2 million and a $0.5 million increase in stock-based compensation costs, offset partially by decreases of $0.3 million and $0.6 million in facility-related costs.
Other Income (Expense), Net
 
 
Three Months Ended
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
June 30, 2017
 
June 30, 2016
 
$
Change
 
%
Change
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(in thousands, except percentages)
Interest expense
 
$
(888
)
 
$
(1,197
)
 
$
309

 
(26
)%
 
(1,770
)
 
(2,396
)
 
626

 
(26
)%
Interest income and other
 
90

 
(33
)
 
123

 
(373
)%
 
208

 
(78
)
 
286

 
(367
)%
Total other income (expense), net
 
$
(798
)
 
$
(1,230
)
 
$
432

 
(35
)%
 
$
(1,562
)
 
$
(2,474
)
 
$
912

 
(37
)%
% of Revenue
 
(1
)%
 
(3
)%
 
 
 
 
 
(2)%
 
(3)%
 
 
 
 
The decrease in other income (expense), net for the three and six months ended June 30, 2017 compared to the same period of 2016 was primarily due lower interest expense related to lower interest rates under the 2016 Loan and Security Agreement compared to the 2014 Loan and Security Agreement and the 2013 Loan and Security Agreement. The decrease for the three and six months ended June 30, 2017 compared to the same period of 2016 was also due to a $0.1 million and a $0.2 million non-cash adjustment on investment.
Liquidity and Capital Resources
To date, we have financed our operations primarily through sales of our solution, lease facilities and net proceeds from our equity and debt financings. As of June 30, 2017, we had cash and cash equivalents totaling $57.1 million.
As of June 30, 2017, we had a total of $32.6 million in principal amount outstanding under the New Revolving Credit Facility governed by our 2016 Loan and Security Agreement. On August 1, 2016, we entered into the 2016 Loan and Security Agreement with two lenders for the New Revolving Credit Facility of up to $50.0 million. The New Revolving Credit Facility matures in August 1, 2019. Under the terms of the New Revolving Credit Facility, the balance outstanding cannot exceed our trailing four months of MRR (monthly recurring revenue including subscription and usage) multiplied by the average trailing 12 month dollar based retention rate (calculated on the same basis as described above under the heading "Annual Dollar-Based Retention Rate"). The New Revolving Credit Facility carries a variable annual interest rate of the prime rate plus 0.50%, subject to a 0.25% increase if our adjusted EBITDA is negative at the end of any fiscal quarter. Upon the effectiveness of the 2016 Loan and Security Agreement, we immediately drew down $32.6 million and terminated the 2013 Loan and Security Agreement and the 2014 Loan and Security Agreement by repaying the aggregate outstanding principal, accrued interest and prepayment penalty balances thereunder of $32.4 million along with $0.2 million in administrative fees.
In addition, as of June 30, 2017, we had a $0.7 million FCC civil penalty payable to the U.S. Treasury (see Note 5 of the notes to condensed consolidated financial statements included in this Quarterly Report on Form 10-Q).
We believe our existing cash and cash equivalents and the amount available for borrowing under our New Revolving Credit Facility (or any refinancing of the facility) will be sufficient to meet our working capital and capital expenditure needs at least through June 30, 2018. Our future capital requirements will depend on many factors including our growth rate, continuing market acceptance of our solution, client retention, our ability to gain

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new clients, the timing and extent of spending to support development efforts, the outcome of any pending or future litigation or other claims by third parties or governmental entities, the expansion of sales and marketing activities and the introduction of new and enhanced offerings. We may also acquire or invest in complementary businesses, technologies and intellectual property rights, which may increase our future capital requirements, both to pay acquisition costs and to support our combined operations. We may raise additional equity or debt financing at any time. We may not be able to raise additional equity or debt financing on terms acceptable to us or at all. If we are unable to raise additional capital when desired or required, our business, operating results, and financial condition would be harmed. In addition, if our operating performance during the next twelve months is below our expectations, our liquidity and ability to operate our business could be harmed.
If we raise additional funds by issuing equity or equity-linked securities, the ownership of our existing stockholders will be diluted. If we raise additional funds through the incurrence of additional indebtedness, we will be subject to increased debt service obligations and could also be subject to new or additional restrictive covenants and other operating restrictions that could harm our ability to conduct our business.
Cash Flows
The following table summarizes our cash flows for the periods presented (in thousands, except percentages):
 
 
Six Months Ended
 
 
June 30, 2017
 
June 30, 2016
 
$ Change
 
% Change
Net cash provided by operating activities
 
$
243

 
$
2,257

 
$
(2,014
)
 
(89
)%
Net cash used in investing activities
 
(1,178
)
 
(628
)
 
(550
)
 
88
 %
Net cash used in financing activities
 
(38
)
 
(2,475
)
 
2,437

 
(98
)%
Net decrease in cash and cash equivalents
 
$
(973
)
 
$
(846
)
 
$
(127
)
 
15
 %
Cash Flows from Operating Activities
Cash provided by or used in operating activities is primarily influenced by our personnel-related expenditures, datacenters and telecommunications carrier costs, office and facility related costs, USF contributions and other regulatory costs and the amount and timing of client payments. If we continue to improve our financial results, we expect net cash provided by operating activities to increase. Our largest source of operating cash inflows is cash collections from our clients for subscription and related usage services. Payments from clients for these services are typically received monthly.
During the six months ended June 30, 2017, net cash provided by operating activities was $0.2 million as compared to net cash provided by operating activities of $2.3 million for the same period of 2016. The decrease in net cash provided by operating activities was primarily due to a $3.6 million unfavorable change in net cash flows from operating assets and liabilities, partially offset by a $1.6 million favorable impact from a decrease in net loss after adjusting for non-cash expenses. Cash outflows during the six months ended June 30, 2017 included a $1.8 million accrual of settlement, legal and indemnification fees related to the Melcher litigation (See Note 9).
During the six months ended June 30, 2017, cash inflows from changes in operating assets and liabilities included a $2.0 million increase in deferred revenue primarily attributable to increased billings, a $1.2 million increase in accounts payable related to timing of liabilities and payments, a $0.9 million increase in accrued and other liabilities primarily for additional employee paid-time-off liability due to timing and sales commissions driven by the growth in sales and bookings of our solution. Cash outflows from changes in operating assets and liabilities included primarily a $4.1 million increase in prepaid expenses and other current assets primarily related to long-term maintenance contracts and annual subscription fees on third-party licensed technology and insurance policies, and a $2.4 million increase in accounts receivable due to increased sales.
During the six months ended June 30, 2016, cash inflows from changes in operating assets and liabilities included a $1.5 million increase in deferred revenue primarily attributable to increased billings, a $1.4 million increase in accrued and other liabilities primarily for sales commissions driven by the growth in sales and bookings of our solution and additional employee paid-time-off liability due to timing, and a $0.4 million increase in accounts payable related to timing of liabilities and payments. Cash outflows from changes in operating assets and liabilities included primarily a $1.2 million increase in prepaid expenses and other current assets primarily related to long-term maintenance contracts and annual subscription fees on third-party licensed technology and insurance policies, and a $0.2 million increase in accounts receivable due to increased sales.

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Cash Flows from Investing Activities
Net cash used in investing activities during the six months ended June 30, 2017 and 2016 was primarily for the purchase of property and equipment.
Cash Flows from Financing Activities
During the six months ended June 30, 2017, cash used in financing activities was primarily for repayments of $4.1 million on notes payable obligations and our capital leases, offset in part by cash received from stock option exercises of $2.3 million and proceeds of $1.8 million from the sale of common stock under our employee stock purchase plan.
During the six months ended June 30, 2016, cash used in financing activities of $2.5 million was primarily for repayments of $6.6 million on notes payable obligations and our capital leases, offset in part by cash received from stock option exercises of $3.4 million and proceeds of $0.8 million from the sale of common stock under our employee stock purchase plan.
Critical Accounting Policies and Estimates
Our condensed consolidated financial statements are prepared in accordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, expenses and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions.
We believe our critical accounting policies involve the greatest degree of judgment and complexity and have the greatest potential impact on our condensed consolidated financial statements. Our critical accounting policies are disclosed in our Annual Report on Form 10-K for the year ended December 31, 2016. During the six months ended June 30, 2017, our critical accounting policies did not materially change. Please see Note 1 of Notes to the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q.
Off Balance Sheet Arrangements
As of June 30, 2017, we did not have any off balance sheet arrangements, as defined in Item 303(a)(4)(ii) of SEC Regulation S-K, such as the use of unconsolidated subsidiaries, structured finance, special purpose entities or variable interest entities.
Contractual Obligations
Our principal contractual obligations consist of future payment obligations under debt, capital leases to finance data centers and other computer and networking equipment, debt agreements (see Note 5), operating leases for office space, research and development, and sales and marketing facilities, and agreements with third parties to provide co-location hosting, telecommunication usage and equipment maintenance services. These commitments as of December 31, 2016 are disclosed in our Annual Report on Form 10-K for the year ended December 31, 2016, and did not change during the six months ended June 30, 2017 except for the acquisition of certain additional data center and network equipment and software under multiple capital leases. As of June 30, 2017, the total minimum future payment commitments under these capital leases added during the six months ended June 30, 2017 were approximately $4.7 million, of which $0.9 million is due during the remainder of 2017, with the remainder of $3.8 million due over approximately 31 months. The Company entered into various hosting and telecommunications agreements for terms of 24 to 36 months commencing on various dates in the first three quarters of 2017. These agreements require the Company to make monthly payments over the service term in exchange for certain network services. The Company's total minimum future payment commitments under these agreements are $4.1 million.
ITEM 3. Quantitative and Qualitative Disclosure about Market Risk
We are exposed to market risk in the ordinary course of our business. Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is primarily a result of fluctuations in interest rates and foreign currency exchange rates. We do not hold or issue financial instruments for trading purposes.

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Interest Rate Sensitivity
As of June 30, 2017, we had cash and cash equivalents of $57.1 million that were held primarily in cash or money-market funds. We hold our cash and cash equivalents for working capital purposes. Declines in interest rates would reduce future interest income. For the three and six months ended June 30, 2017, the effect of a hypothetical 10% increase or decrease in overall interest rates would not have had a material impact on our interest income. The carrying amount of our cash equivalents reasonably approximates fair value. We do not enter into investments for trading or speculative purposes. Due to the short-term nature of our money-market funds, we believe that we do not have any material exposure to changes in the fair value of our cash equivalents as a result of changes in interest rates. 
As of June 30, 2017, we had a total of $32.6 million in outstanding borrowings under our variable interest rate debt or financing agreements. See Note 5 of the notes to condensed consolidated financial statements of this Quarterly Report on Form 10-Q for a detailed discussion of our indebtedness. For each of the three and six months ended June 30, 2017, a hypothetical 10% increase in the interest rates under these agreements would have increased our interest expense by approximately $37 thousand and $71 thousand, respectively.
Foreign Currency Risk
The functional currency of our foreign subsidiaries is the U.S. dollar. Substantially all of our sales are denominated in U.S. dollars, and therefore our revenue is not currently subject to material direct foreign currency risk. However, if the U.S. dollar strengthens relative to other currencies, such strengthening could have an indirect effect on our sales to the extent it raises the cost of our solution to non-U.S. clients and thereby could reduce demand. A weaker U.S. dollar could have the opposite effect. The precise indirect effect of currency fluctuations is difficult to measure or predict because our sales are influenced by many factors in addition to the impact of such currency fluctuations.
Our operating expenses are primarily denominated in the currencies of the countries in which our operations are located, which are primarily the U.S., the Philippines, Russia, and the U.K. Our consolidated results of operations and cash flows are, therefore, subject to fluctuations due to changes in foreign currency exchange rates and may be adversely affected in the future due to changes in foreign exchange rates. To date, we have not entered into any hedging arrangements with respect to foreign currency risk or other derivative financial instruments. During the three and six months ended June 30, 2017, the effect of a hypothetical 10% change in foreign currency exchange rates applicable to our business would have had a maximum impact of approximately $0.2 million and $0.4 million, respectively, on our operating results.
ITEM 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, as of June 30, 2017.
Based on management’s evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of June 30, 2017, our disclosure controls and procedures were designed, and were effective, to provide assurance at a reasonable level that the information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms, and that such information is accumulated and communicated to our management as appropriate to allow timely decisions regarding required disclosures.
In designing and evaluating our disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.
Changes in Internal Control over Financial Reporting
During the three months ended June 30, 2017, there was no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings
Information with respect to this Item may be found under the heading “Legal Matters” in Note 9 of the Notes to Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q, which information is incorporated herein by reference.
ITEM 1A. Risk Factors
Our operations and financial results are subject to various risks and uncertainties. You should consider carefully the risks and uncertainties described below, together with all of the other information in this Quarterly Report on Form 10-Q. If any of the following risks or other risks actually occur, our business, financial condition, results of operations, and future prospects could be materially harmed, and the price of our common stock could decline.
The following description of the risk factors associated with our business includes any material changes to and supersedes the description of the risk factors associated with our business previously disclosed in Part II, Item 1A of our Quarterly Report on Form 10-Q for the fiscal quarter ended March 31, 2017.
Risks Related to Our Business and Industry
Our quarterly and annual results may fluctuate significantly, may not fully reflect the underlying performance of our business and may result in decreases in the price of our common stock.
Our quarterly and annual results of operations, including our revenues, profitability and cash flow have varied, and may vary significantly in the future, and period-to-period comparisons of our operating results may not be meaningful. Accordingly, the results of any one quarter or period should not be relied upon as an indication of future performance. Our quarterly and annual financial results may fluctuate as a result of a variety of factors, many of which are outside our control and, as a result, may not fully reflect the underlying performance of our business. Fluctuation in quarterly and annual results may harm the value of our common stock. Factors that may cause fluctuations in our quarterly and annual results include, without limitation:
•
market acceptance of our solution;
•
our ability to attract new clients and grow our business with existing clients;
•
client renewal rates;
•
our ability to adequately expand our sales and service team;
•
our ability to acquire and maintain strategic and client relationships;
•
the amount and timing of costs and expenses related to the maintenance and expansion of our business, operations and infrastructure;
•
the timing and success of new product and feature introductions by us or our competitors or any other change in the competitive dynamics of our industry, including consolidation among competitors, clients or strategic partners;
•
network outages or security incidents, which may result in additional expenses or losses, the loss of clients, the provision of client credits, and harm to our reputation;
•
seasonal factors that may cause our revenues in the first half of a year to be relatively lower than our revenues in the second half of a year;
•
inaccessibility or failure of our cloud contact center software due to failures in the products or services provided by third parties;
•
our ability to expand, and effectively utilize our network of master agents and resellers;
•
the timing of recognition of revenues under current and future GAAP;
•
changes in our pricing policies or those of our competitors;
•
the level of professional services and support we provide our clients;
•
the components of our revenue;
•
the addition or loss of key clients, including through acquisitions or consolidations;
•
general economic, industry and market conditions;

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•
the timing of costs and expenses related to the development or acquisition of technologies or businesses and potential future charges for impairment of goodwill from acquired companies;
•
compliance with, or changes in, the current and future domestic and international regulatory environment;
•
the hiring, training and retention of key employees;
•
litigation or other claims against us;
•
the ability to expand internationally, and to do so profitability;
•
our ability to obtain additional financing;
•
advances and trends in new technologies and industry standards; and
•
increases or decreases in the costs to provide our solution or pricing changes upon any renewals of client agreements.
If we are unable to attract new clients or sell additional services and functionality to our existing clients, our revenue and revenue growth will be harmed.
To increase our revenue, we must add new clients, add additional agent seats and sell additional functionality to existing clients, and encourage existing clients to renew their subscriptions on terms favorable to us. As our industry matures, as our clients experience seasonal trends in their business, or as competitors introduce lower cost or differentiated products or services that are perceived to compete favorably with ours, our ability to add new clients and renew, maintain or sell additional services to existing clients based on pricing, cost of ownership, technology and functionality could be harmed. As a result, our existing clients may not renew our agreements, and we may be unable to attract new clients or grow or maintain our business with existing clients, which could harm our revenue and growth.
Furthermore, a portion of our revenue is generated by acquiring domestic and international telecommunications minutes from wholesale telecommunication service providers and reselling those minutes to our clients. As a result, if telecommunications rates decrease, we must resell more minutes to maintain our level of usage revenue.
Our recent rapid growth may not be indicative of our future growth, and if we continue to grow rapidly, we may fail to manage our growth effectively.
For the three months ended June 30, 2017, our revenue was $47.7 million, which increased by $8.8 million, or 23%, from $38.9 million for the same period of 2016. For the six months ended June 30, 2017, our revenue was $94.7 million, which increased by $17.8 million, or 23%, from $76.9 million for the same period of 2016. For the years ended December 31, 2016, 2015 and 2014, our revenue was $162.1 million, $128.9 million, and $103.1 million, respectively, representing year-over-year growth of 26% and 25%, respectively. In the future, as our revenue increases, our annual revenue growth rate may decline. We believe revenue growth will depend on a number of factors, including our ability to:
•
compete with other vendors of cloud-based enterprise contact center systems to capture market share from providers of legacy on-premise systems;
•
increase our existing clients’ use of our solution and further develop our partner ecosystem;
•
strengthen and improve our solution through significant investments in research and development and the introduction of new and enhanced solutions;
•
introduce our solution to new markets outside of the United States and increase global awareness of our brand; and
•
selectively pursue acquisitions.
If we are not successful in achieving these objectives, our revenue may be harmed. In addition, we plan to continue to invest in future growth, including expending substantial financial and other resources on:
•
sales and marketing, including a significant expansion of our sales and professional services organization;
•
our technology infrastructure, including systems architecture, management tools, scalability, availability, performance and security, as well as disaster recovery measures;
•
solution development, including investments in our solution development team and the development of new solutions, as well as new applications and features for existing solutions;
•
international expansion; and
•
general administration, including legal, regulatory compliance and accounting expenses. 

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Moreover, we continue to expand our headcount and operations. We grew from 692 employees as of December 31, 2015 to 825 employees as of June 30, 2017. We anticipate that we will continue to expand our operations and headcount in the near term. This growth has placed, and future growth will place, a significant strain on our management, administrative, operational and financial resources and infrastructure. Our success will depend in part on our ability to manage this growth effectively. To manage the expected growth of our operations and personnel, we will need to continue to improve our operational, financial and management controls and our reporting systems and procedures. Failure to effectively manage growth could result in difficulty or delays in adding new clients, declines in quality or client satisfaction, increases in costs, system failures, difficulties in introducing new features or solutions, the need for more capital than we anticipate or other operational difficulties, and any of these difficulties could harm our business performance and results of operations.
The expected addition of new employees and the capital investments that we anticipate will be necessary to manage our anticipated growth will make it more difficult for us to generate earnings or offset any future revenue shortfalls by reducing costs and expenses in the short term. If we fail to manage our anticipated growth, we will be unable to execute our business plan successfully.
Failure to adequately expand our direct sales force will impede our growth.
We need to continue to expand and optimize our sales infrastructure in order to grow our client base and business. We plan to continue to expand our direct sales force, both domestically and internationally. Identifying and recruiting qualified personnel and training them in the use and sale of our solution requires significant time, expense and attention. It can take several months before our sales representatives are fully trained and productive. Our business may be harmed if our efforts to expand and train our direct sales force do not generate a corresponding increase in revenues. In particular, if we are unable to hire, develop and retain talented sales personnel or if new sales personnel are unable to achieve desired productivity levels in a reasonable period of time, we may not be able to realize the expected benefits of this investment or increase our revenues.
If we fail to manage our technical operations infrastructure, our existing clients may experience service outages, our new clients may experience delays in the deployment of our solution and we could be subject to, among other things, claims for credits or damages.
Our success depends in large part upon the capacity, stability and performance of our operations infrastructure. From time to time, we have experienced interruptions in service, and may experience such interruptions in the future. These service interruptions may be caused by a variety of factors, including infrastructure changes, human or software errors, viruses, security attacks, fraud, spikes in client usage and denial of service issues. In some instances, we may not be able to identify the cause or causes of these performance problems within an acceptable period of time. Our failure to achieve or maintain expected performance levels, stability and security could harm our relationships with our clients, result in claims for credits or damages, damage our reputation and significantly reduce client demand for our solution and harm our business.
Any future service interruptions could:
•
cause our clients to seek credits or damages for losses incurred;
•
cause existing clients to cancel their contracts and move to a competitor;
•
affect our reputation as a reliable service provider;
•
make it more difficult for us to attract new clients or expand our business with existing clients; or
•
require us to replace existing equipment.
We have experienced significant growth in the number of agents and interactions that our infrastructure supports. As the number of agent seats within our client base grows and our clients' use of our service increases, we need to continue to make additional investments in our capacity to maintain adequate stability and performance, the availability of which may be limited or the cost of which may be prohibitive. In addition, we need to properly manage our operations infrastructure in order to support version control, changes in hardware and software parameters and the evolution of our solution. If we do not accurately predict or improve our infrastructure requirements to keep pace with growth in our business, our business could be harmed.
Security breaches and improper access to or disclosure of our data or our clients’ data, or other cyber attacks on our systems, could result in litigation and regulatory risk, harm our reputation and adversely affect our business.

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Our solution involves the storage and transmission of our clients’ information, including information about our clients’ customers or other information treated by our clients as confidential. Unauthorized access, security breaches or other cyber attacks could result in the loss of confidentiality, integrity and availability of such information, or unauthorized use of our systems, leading to litigation, indemnity obligations, increased expense, and other liability. Such incidents could also cause interruptions to the solution we provide, degrade the user experience, or cause clients to lose confidence in our solution. In April 2017, we were notified that third parties were suspected of having unlawfully acquired some of our clients’ information. We conducted an investigation, believe this acquisition was the result of a vulnerability that has now been remediated, and notified clients we determined may have been impacted. Expenses incurred to date related to this incident have not been material.
While we have security measures in place to protect client information and minimize the probability of security breaches and other cyber attacks, if these measures fail as a result of a cyber-attack, other third-party action, employee error, malfeasance or otherwise, and someone obtains unauthorized access