Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2022
OR
☐
Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Commission File Number: 1-11859
____________________________
PEGASYSTEMS INC.
(Exact name of Registrant as specified in its charter)
____________________________
Massachusetts
04-2787865
(State or other jurisdiction of incorporation or organization)
(IRS Employer Identification No.)
One Main Street, Cambridge, MA02142
(Address of principal executive offices, including zip code)
(617) 374-9600
(Registrant’s telephone number, including area code)
____________________________
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading symbol(s)
Name of each exchange on which registered
Common Stock, $.01 par value per share
PEGA
NASDAQ Global Select Market
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. Yesx No ¨
Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files). Yesx No ¨
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 the 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
x
Accelerated filer
☐
Non-accelerated filer
☐
Smaller reporting company
☐
Emerging growth company
☐
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. ☐
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐No ☒
There were 82,190,957 shares of the Registrant’s common stock, $0.01 par value per share, outstanding on October 19, 2022.
Common stock, 200,000 shares authorized; 82,164 and 81,712 shares issued and outstanding at
September 30, 2022 and December 31, 2021, respectively
822
817
Additional paid-in capital
204,189
145,810
(Accumulated deficit) retained earnings
(111,126)
276,449
Accumulated other comprehensive (loss)
(28,924)
(6,988)
Total stockholders’ equity
64,961
416,088
Total liabilities and stockholders’ equity
$
1,166,458
$
1,593,531
See notes to unaudited condensed consolidated financial statements.
3
PEGASYSTEMS INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
Three Months Ended September 30,
Nine Months Ended September 30,
2022
2021
2022
2021
Revenue
Subscription services
$
174,885
$
161,557
$
516,750
$
457,051
Subscription license
31,112
35,421
210,245
251,226
Perpetual license
9,223
2,874
18,929
20,922
Consulting
55,511
56,416
175,451
166,270
Total revenue
270,731
256,268
921,375
895,469
Cost of revenue
Subscription services
34,541
30,817
103,104
88,206
Subscription license
628
606
1,923
1,811
Perpetual license
103
50
173
151
Consulting
57,778
52,749
171,162
161,032
Total cost of revenue
93,050
84,222
276,362
251,200
Gross profit
177,681
172,046
645,013
644,269
Operating expenses
Selling and marketing
153,517
152,479
472,951
457,641
Research and development
75,342
64,728
221,173
191,565
General and administrative
26,043
20,176
94,530
57,607
Total operating expenses
254,902
237,383
788,654
706,813
(Loss) from operations
(77,221)
(65,337)
(143,641)
(62,544)
Foreign currency transaction gain (loss)
3,826
518
8,415
(4,983)
Interest income
520
166
1,036
555
Interest expense
(1,992)
(1,908)
(5,882)
(5,747)
(Loss) on capped call transactions
(6,876)
(14,735)
(56,381)
(7,543)
Other (loss) income, net
(29)
2
6,497
108
(Loss) before provision for (benefit from) income taxes
(81,772)
(81,294)
(189,956)
(80,154)
Provision for (benefit from) income taxes
11,748
(24,826)
190,239
(54,360)
Net (loss)
$
(93,520)
$
(56,468)
$
(380,195)
$
(25,794)
(Loss) per share
Basic
$
(1.14)
$
(0.69)
$
(4.65)
$
(0.32)
Diluted
$
(1.14)
$
(0.69)
$
(4.65)
$
(0.32)
Weighted-average number of common shares outstanding
Basic
81,996
81,526
81,842
81,284
Diluted
81,996
81,526
81,842
81,284
See notes to unaudited condensed consolidated financial statements.
4
PEGASYSTEMS INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS)
(in thousands)
Three Months Ended September 30,
Nine Months Ended September 30,
2022
2021
2022
2021
Net (loss)
$
(93,520)
$
(56,468)
$
(380,195)
$
(25,794)
Other comprehensive (loss), net of tax
Unrealized (loss) gain on available-for-sale securities
(73)
53
(1,000)
1,184
Foreign currency translation adjustments
(6,700)
(4,400)
(20,936)
(3,669)
Total other comprehensive (loss), net of tax
$
(6,773)
$
(4,347)
$
(21,936)
$
(2,485)
Comprehensive (loss)
$
(100,293)
$
(60,815)
$
(402,131)
$
(28,279)
See notes to unaudited condensed consolidated financial statements.
5
PEGASYSTEMS INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (in thousands, except per share amounts)
Common Stock
Additional Paid-In Capital
Retained Earnings (Accumulated Deficit)
Accumulated Other Comprehensive (Loss)
Total Stockholders’ Equity
Number of Shares
Amount
December 31, 2020
80,890
$
809
$
204,432
$
339,879
$
(2,948)
$
542,172
Cumulative-effect adjustment from adoption of ASU 2020-06, net
—
—
(61,604)
9,399
—
(52,205)
Repurchase of common stock
(70)
(1)
(9,145)
—
—
(9,146)
Issuance of common stock for stock compensation plans
402
4
(25,513)
—
—
(25,509)
Issuance of common stock under the employee stock purchase plan
24
—
2,288
—
—
2,288
Stock-based compensation
—
—
30,100
—
—
30,100
Cash dividends declared ($0.03 per share)
—
—
—
(2,438)
—
(2,438)
Other comprehensive income
—
—
—
—
280
280
Net (loss)
—
—
—
(6,617)
—
(6,617)
March 31, 2021
81,246
$
812
$
140,558
$
340,223
$
(2,668)
$
478,925
Repurchase of common stock
(81)
(1)
(10,245)
—
—
(10,246)
Issuance of common stock for stock compensation plans
267
3
(16,199)
—
—
(16,196)
Issuance of common stock under the employee stock purchase plan
24
1
2,858
—
—
2,859
Stock-based compensation
—
—
30,698
—
—
30,698
Cash dividends declared ($0.03 per share)
—
—
—
(2,445)
—
(2,445)
Other comprehensive income
—
—
—
—
1,582
1,582
Net income
—
—
—
37,291
—
37,291
June 30, 2021
81,456
$
815
$
147,670
$
375,069
$
(1,086)
$
522,468
Repurchase of common stock
(96)
(1)
(12,795)
—
—
(12,796)
Issuance of common stock for stock compensation plans
286
3
(18,117)
—
—
(18,114)
Issuance of common stock under the employee stock purchase plan
24
—
2,639
—
—
2,639
Stock-based compensation
—
—
28,701
—
—
28,701
Cash dividends declared ($0.03 per share)
—
—
—
(2,451)
—
(2,451)
Other comprehensive (loss)
—
—
—
—
(4,347)
(4,347)
Net (loss)
—
—
—
(56,468)
—
(56,468)
September 30, 2021
81,670
$
817
$
148,098
$
316,150
$
(5,433)
$
459,632
6
PEGASYSTEMS INC. UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (in thousands, except per share amounts)
Common Stock
Additional Paid-In Capital
Retained Earnings (Accumulated Deficit)
Accumulated Other Comprehensive (Loss)
Total Stockholders’ Equity
Number of Shares
Amount
December 31, 2021
81,712
$
817
$
145,810
$
276,449
$
(6,988)
$
416,088
Repurchase of common stock
(242)
(2)
(22,581)
—
—
(22,583)
Issuance of common stock for stock compensation plans
297
3
(12,131)
—
—
(12,128)
Issuance of common stock under the employee stock purchase plan
35
—
2,446
—
—
2,446
Stock-based compensation
—
—
28,227
—
—
28,227
Cash dividends declared ($0.03 per share)
—
—
—
(2,455)
—
(2,455)
Other comprehensive (loss)
—
—
—
—
(2,548)
(2,548)
Net (loss)
—
—
—
(379)
—
(379)
March 31, 2022
81,802
$
818
$
141,771
$
273,615
$
(9,536)
$
406,668
Repurchase of common stock
(38)
—
(1,925)
—
—
(1,925)
Issuance of common stock for stock compensation plans
117
1
(3,252)
—
—
(3,251)
Issuance of common stock under the employee stock purchase plan
59
—
2,357
—
—
2,357
Stock-based compensation
—
—
31,300
—
—
31,300
Cash dividends declared ($0.03 per share)
—
—
—
(2,459)
—
(2,459)
Other comprehensive (loss)
—
—
—
—
(12,615)
(12,615)
Net (loss)
—
—
—
(286,296)
—
(286,296)
June 30, 2022
81,940
$
819
$
170,251
$
(15,140)
$
(22,151)
$
133,779
Issuance of common stock for stock compensation plans
138
2
(2,198)
—
—
(2,196)
Issuance of common stock under the employee stock purchase plan
86
1
2,362
—
—
2,363
Stock-based compensation
—
—
33,774
—
—
33,774
Cash dividends declared ($0.03 per share)
—
—
—
(2,466)
—
(2,466)
Other comprehensive (loss)
—
—
—
—
(6,773)
(6,773)
Net (loss)
—
—
—
(93,520)
—
(93,520)
September 30, 2022
82,164
$
822
$
204,189
$
(111,126)
$
(28,924)
$
64,961
See notes to unaudited condensed consolidated financial statements.
7
PEGASYSTEMS INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Nine Months Ended September 30,
2022
2021
Operating activities
Net (loss)
$
(380,195)
$
(25,794)
Adjustments to reconcile net (loss) to cash (used in) operating activities
Stock-based compensation
93,301
89,483
Deferred income taxes
169,489
(53,638)
Loss on capped call transactions
56,381
7,543
Amortization of deferred commissions
39,752
31,388
Lease expense
11,500
9,274
Amortization of intangible assets and depreciation
12,381
24,030
Foreign currency transaction (gain) loss
(8,415)
4,983
Other non-cash
(1,705)
5,246
Change in operating assets and liabilities, net
(5,935)
(97,836)
Cash (used in) operating activities
(13,446)
(5,321)
Investing activities
Purchases of investments
(39,056)
(67,170)
Proceeds from maturities and called investments
53,952
96,859
Sales of investments
18,415
25,123
Payments for acquisitions, net of cash acquired
(922)
(4,993)
Investment in property and equipment
(22,285)
(7,089)
Cash provided by investing activities
10,104
42,730
Financing activities
Proceeds from employee stock purchase plan
7,166
7,786
Dividend payments to stockholders
(7,368)
(7,310)
Common stock repurchases
(43,282)
(91,907)
Cash (used in) financing activities
(43,484)
(91,431)
Effect of exchange rate changes on cash and cash equivalents
(5,513)
(1,466)
Net (decrease) in cash and cash equivalents
(52,339)
(55,488)
Cash and cash equivalents, beginning of period
159,965
171,899
Cash and cash equivalents, end of period
$
107,626
$
116,411
See notes to unaudited condensed consolidated financial statements.
8
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. BASIS OF PRESENTATION
Pegasystems Inc. (together with its subsidiaries, “the Company”) has prepared the accompanying unaudited condensed consolidated financial statements pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) regarding interim financial reporting. Accordingly, they do not include all the information required by accounting principles generally accepted in the United States of America (“U.S.”) for complete financial statements and should be read in conjunction with the Company’s audited financial statements included in the Annual Report on Form 10-K for the year ended December 31, 2021.
In the opinion of management, the Company has prepared the accompanying unaudited condensed consolidated financial statements on the same basis as its audited financial statements, and these financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results of the interim periods presented.
All intercompany transactions and balances were eliminated in consolidation. The operating results for the interim periods presented do not necessarily indicate the expected results for the full year 2022.
Certain prior period amounts reported in our condensed consolidated financial statements and notes thereto have been reclassified to conform to the current year’s presentation. Such reclassifications did not affect total revenues, operating income, or net income.
NOTE 2. MARKETABLE SECURITIES
September 30, 2022
December 31, 2021
(in thousands)
Amortized Cost
Unrealized Gains
Unrealized Losses
Fair Value
Amortized Cost
Unrealized Gains
Unrealized Losses
Fair Value
Government debt
$
2,992
$
—
$
(67)
$
2,925
$
2,000
$
—
$
(10)
$
1,990
Corporate debt
168,894
—
(3,734)
165,160
201,659
2
(837)
200,824
$
171,886
$
—
$
(3,801)
$
168,085
$
203,659
$
2
$
(847)
$
202,814
As of September 30, 2022, marketable securities’ maturities ranged from November 2022 to November 2024, with a weighted-average remaining maturity of 0.7 years.
NOTE 3. RECEIVABLES, CONTRACT ASSETS, AND DEFERRED REVENUE
Receivables
(in thousands)
September 30, 2022
December 31, 2021
Accounts receivable
$
139,670
$
182,717
Unbilled receivables
182,403
226,714
Long-term unbilled receivables
108,285
129,789
$
430,358
$
539,220
Unbilled receivables
Unbilled receivables are client-committed amounts for which revenue recognition precedes billing, and billing is solely subject to the passage of time.
Unbilled receivables by expected billing date:
(Dollars in thousands)
September 30, 2022
1 year or less
$
182,403
63
%
1-2 years
78,893
27
%
2-5 years
29,392
10
%
$
290,688
100
%
Unbilled receivables by contract effective date:
(Dollars in thousands)
September 30, 2022
2022
$
87,874
30
%
2021
130,196
45
%
2020
45,589
16
%
2019
15,747
5
%
2018 and prior
11,282
4
%
$
290,688
100
%
9
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Major clients
Clients accounting for 10% or more of the Company’s total receivables:
September 30, 2022
December 31, 2021
Client A
Accounts receivable
*
1
%
Unbilled receivables
*
15
%
Total receivables
*
10
%
* Client accounted for less than 10% of receivables.
Contract assets
Contract assets are client-committed amounts for which revenue recognized exceeds the amount billed to the client, and billing is subject to conditions other than the passage of time, such as the completion of a related performance obligation.
(in thousands)
September 30, 2022
December 31, 2021
Contract assets (1)
$
12,429
$
12,530
Long-term contract assets (2)
10,541
10,643
$
22,970
$
23,173
(1) Included in other current assets. (2) Included in other long-term assets.
Deferred revenue
Deferred revenue consists of billings and payments received in advance of revenue recognition.
(in thousands)
September 30, 2022
December 31, 2021
Deferred revenue
$
245,146
$
275,844
Long-term deferred revenue (1)
3,949
5,655
$
249,095
$
281,499
(1) Included in other long-term liabilities.
The change in deferred revenue in the nine months ended September 30, 2022 was primarily due to new billings in advance of revenue recognition offset by $252.8 million of revenue recognized during the period that was included in deferred revenue as of December 31, 2021.
NOTE 4. DEFERRED COMMISSIONS
(in thousands)
September 30, 2022
December 31, 2021
Deferred commissions (1)
$
122,673
$
135,911
(1) Included in other long-term assets.
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Amortization of deferred commissions (1)
$
11,597
$
10,186
$
39,752
$
31,388
(1) Included in selling and marketing expense.
10
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 5. GOODWILL AND OTHER INTANGIBLES
Goodwill
Change in goodwill:
Nine Months Ended September 30,
(in thousands)
2022
2021
January 1,
$
81,923
$
79,231
Acquisition
—
2,701
Currency translation adjustments
(722)
22
September 30,
$
81,201
$
81,954
Intangibles
Intangible assets are recorded at cost and amortized using the straight-line method over their estimated useful lives.
September 30, 2022
(in thousands)
Useful Lives
Cost
Accumulated Amortization
Net Book Value (1)
Client-related
4-10 years
$
63,007
$
(58,211)
$
4,796
Technology
2-10 years
68,038
(60,913)
7,125
Other
1-5 years
5,361
(5,361)
—
$
136,406
$
(124,485)
$
11,921
(1) Included in other long-term assets.
December 31, 2021
(in thousands)
Useful Lives
Cost
Accumulated Amortization
Net Book Value (1)
Client-related
4-10 years
$
63,165
$
(57,342)
$
5,823
Technology
2-10 years
67,142
(58,902)
8,240
Other
1-5 years
5,361
(5,361)
—
$
135,668
$
(121,605)
$
14,063
(1) Included in other long-term assets.
Amortization of intangible assets:
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Cost of revenue
$
705
$
629
$
2,017
$
1,887
Selling and marketing
343
373
1,028
1,119
$
1,048
$
1,002
$
3,045
$
3,006
Future estimated intangibles assets amortization:
(in thousands)
September 30, 2022
Remainder of 2022
$
1,048
2023
3,917
2024
3,147
2025
2,608
2026
874
2027
327
$
11,921
NOTE 6. OTHER ASSETS AND LIABILITIES
Other current assets
(in thousands)
September 30, 2022
December 31, 2021
Income tax receivables
$
11,948
$
25,691
Contract assets
12,429
12,530
Other
38,080
29,787
$
62,457
$
68,008
11
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Other long-term assets
(in thousands)
September 30, 2022
December 31, 2021
Deferred income taxes
$
6,041
$
180,656
Deferred commissions
122,673
135,911
Right of use assets
80,163
87,521
Capped call transactions
3,583
59,964
Property and equipment
45,350
26,837
Venture investments
11,910
7,648
Intangible assets
11,921
14,063
Contract assets
10,541
10,643
Other
24,549
18,358
$
316,731
$
541,601
Other current liabilities
(in thousands)
September 30, 2022
December 31, 2021
Operating lease liabilities
$
5,787
$
6,989
Dividends payable
2,466
2,454
$
8,253
$
9,443
Other long-term liabilities
(in thousands)
September 30, 2022
December 31, 2021
Deferred revenue
$
3,949
$
5,655
Other
7,987
7,844
$
11,936
$
13,499
NOTE 7. LEASES
Corporate headquarters
In February 2021, the Company agreed to accelerate its exit from its previous corporate headquarters to October 1, 2021, in exchange for a one-time payment from its landlord of $18 million, which was amortized over the remaining lease term. The exit accelerated depreciation on the related leasehold improvements and reduced the Company’s future lease liabilities by $21.1 million and right of use assets by $20.3 million. On March 31, 2021, the Company leased office space at One Main Street, Cambridge, Massachusetts, to serve as its corporate headquarters. The 4.5 year lease includes a base rent of $2 million per year.
New Waltham office
On July 6, 2021, the Company entered into an office space lease for 131 thousand square feet in Waltham, Massachusetts. The lease term of 11 years began on August 1, 2021. The annual rent equals the base rent plus a portion of building operating costs and real estate taxes. Rent first became payable on August 1, 2022. Base rent for the first year is approximately $6 million and will increase by 3% annually. In addition, the Company will receive an improvement allowance from the landlord of up to $11.8 million. This lease increased the Company’s lease liabilities and lease-related right of use assets by $42.1 million on August 1, 2021.
Expense
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Fixed lease costs (1)
$
4,688
$
(3,108)
$
14,747
$
(6,780)
Short-term lease costs
916
542
2,510
1,516
Variable lease costs
905
1,099
2,395
3,826
$
6,509
$
(1,467)
$
19,652
$
(1,438)
(1) The lower fixed lease costs in the nine months ended September 30, 2021 was due to the modification of the corporate headquarters lease.
12
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Right of use assets and lease liabilities
(in thousands)
September 30, 2022
December 31, 2021
Right of use assets (1)
$
80,163
$
87,521
Operating lease liabilities (2)
$
5,787
$
6,989
Long-term operating lease liabilities
$
82,705
$
87,818
(1) Represents the Company’s right to use the leased asset during the lease term. Included in other long-term assets.
(2) Included in other current liabilities.
Weighted-average remaining lease term and discount rate for the Company’s leases were:
September 30, 2022
December 31, 2021
Weighted-average remaining lease term
7.4 years
7.7 years
Weighted-average discount rate (1)
4.2
%
4.4
%
(1) The rates implicit in most of the Company’s leases are not readily determinable. Therefore, the Company uses its incremental borrowing rate as the discount rate when measuring operating lease liabilities. The incremental borrowing rate represents an estimate of the interest rate the Company would incur to borrow an amount equal to the lease payments on a collateralized basis over the lease term in a similar economic environment.
Maturities of lease liabilities:
(in thousands)
September 30, 2022
Remainder of 2022
$
(4,717)
2023
18,804
2024
16,841
2025
14,778
2026
11,257
2027 and thereafter
48,397
Total lease payments
105,360
Less: imputed interest (1)
(16,868)
$
88,492
(1) Lease liabilities are measured at the present value of the remaining lease payments using a discount rate determined at lease commencement unless the discount rate is updated due to a lease reassessment event.
Cash flow information
Nine Months Ended September 30,
(in thousands)
2022
2021
Cash paid for leases
$
11,628
$
14,403
Right of use assets recognized for new leases and amendments (non-cash)
$
6,618
$
54,716
NOTE 8. DEBT
Convertible senior notes and capped calls
Convertible senior notes
In February 2020, the Company issued Convertible Senior Notes (the "Notes") with an aggregate principal of $600 million, due March 1, 2025, in a private placement. No principal payments are due before maturity. The Notes accrue interest at an annual rate of 0.75%, payable semi-annually in arrears on March 1 and September 1, beginning on September 1, 2020.
Conversion rights
The conversion rate is 7.4045 shares of common stock per $1,000 principal amount of the Notes, representing an initial conversion price of $135.05 per share of common stock. The Company will settle conversions by paying or delivering cash, shares of its common stock, or a combination of cash and shares of its common stock, at the Company’s election, based on the applicable conversion rate. The conversion rate will be adjusted upon certain events, including spin-offs, tender offers, exchange offers, and certain stockholder distributions.
Beginning on September 1, 2024, noteholders may convert their Notes at any time at their election.
Before September 1, 2024, noteholders may convert their Notes in the following circumstances:
•During any calendar quarter beginning after June 30, 2020 (and only during such calendar quarter), if the last reported sale price per share of the Company’s common stock exceeds 130% of the conversion price for each of at least 20 trading days (whether or not consecutive) during the 30 consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter.
13
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
•During the five consecutive business days immediately after any five consecutive trading day period (the “Measurement Period”), if the trading price per $1,000 principal amount of Notes for each trading day of the Measurement Period was less than 98% of the product of the last reported sale price per share of common stock on such trading day and the conversion rate on such trading day.
•Upon certain corporate events or distributions or if the Company calls any Notes for redemption, noteholders may convert before the close of business on the business day immediately before the related redemption date (or, if the Company fails to pay the redemption price in full on the redemption date, until the Company pays the redemption price).
As of September 30, 2022, the Notes were not eligible for conversion.
Repurchase rights
On or after March 1, 2023 and on or before the 40th scheduled trading day immediately before the maturity date, the Company may redeem for cash all or part of the Notes at a repurchase price equal to 100% of the principal amount, plus accrued and unpaid interest, if the last reported sale price of the Company’s common stock exceeded 130% of the conversion price then in effect for at least 20 trading days (whether or not consecutive) during any 30 consecutive trading day period ending on, and including, the trading day immediately preceding the date on which the Company provides a redemption notice.
If certain corporate events that constitute a “Fundamental Change” occur, each noteholder will have the right to require the Company to repurchase for cash all of such noteholder’s Notes, or any portion of the principal thereof that is equal to $1,000 or a multiple of $1,000, at a repurchase price equal to 100% of the principal amount thereof, plus accrued and unpaid interest. A Fundamental Change relates to mergers, changes in control of the Company, liquidation/dissolution of the Company, or the delisting of the Company’s common stock.
Carrying value of the Notes:
(in thousands)
September 30, 2022
December 31, 2021
Principal
$
600,000
$
600,000
Unamortized issuance costs
(7,116)
(9,278)
Convertible senior notes, net
$
592,884
$
590,722
Interest expense related to the Notes:
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Contractual interest expense (0.75% coupon)
$
1,125
$
1,125
$
3,375
$
3,375
Amortization of issuance costs
724
677
2,163
2,025
$
1,849
$
1,802
$
5,538
$
5,400
The effective interest rate for the Notes:
Nine Months Ended September 30,
2022
2021
Weighted-average effective interest rate
1.2
%
1.2
%
Future payments of principal and contractual interest:
September 30, 2022
(in thousands)
Principal
Interest
Total
2023
$
—
$
4,500
$
4,500
2024
—
4,500
4,500
2025
600,000
2,250
602,250
$
600,000
$
11,250
$
611,250
Capped call transactions
In February 2020, the Company entered into privately negotiated capped call transactions (the “Capped Call Transactions”) with certain financial institutions. The Capped Call Transactions cover approximately 4.4 million shares (representing the number of shares for which the Notes are initially convertible) of the Company’s common stock. The Capped Call Transactions are expected to reduce common stock dilution and/or offset any potential cash payments the Company must make, other than for principal and interest, upon conversion of the Notes, with such reduction and/or offset subject to a cap of $196.44. The cap price of the Capped Call Transactions is subject to adjustment upon specified extraordinary events affecting the Company, including mergers and tender offers.
14
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
The Capped Call Transactions are accounted for as derivative instruments and do not qualify for the Company’s own equity scope exception in ASC 815 since, in some cases of early settlement, the settlement value of the Capped Call Transactions, calculated following the governing documents, may not represent a fair value measurement. The Capped Call Transactions are classified as other long-term assets and remeasured to fair value each reporting period, resulting in a non-operating gain or loss.
Change in capped call transactions:
Nine Months Ended September 30,
(in thousands)
2022
2021
January 1,
$
59,964
$
83,597
Fair value adjustment
(56,381)
(7,543)
September 30,
$
3,583
$
76,054
Credit facility
In November 2019, and as since amended, the Company entered into a five-year $100 million senior secured revolving credit agreement (the “Credit Facility”) with PNC Bank, National Association. The Company may use borrowings for general corporate purposes and to finance working capital needs. Subject to specific conditions, the Credit Facility allows the Company to increase the aggregate commitment to $200 million. The commitments expire on November 4, 2024, and any outstanding loans will be payable on such date. The Credit Facility, as amended, contains customary covenants, including, but not limited to, those relating to additional indebtedness, liens, asset divestitures, and affiliate transactions.
The Company is required to comply with financial covenants, including:
•Beginning with the fiscal quarter ended March 31, 2022 and ending with the fiscal quarter ended December 31, 2022, Pegasystems Inc. must maintain at least $200 million in cash, investments, and availability under the Revolving Credit Loan.
•Beginning with the fiscal quarter ended March 31, 2023, a maximum net consolidated leverage ratio of 3.5 to 1.0 (with a step-up for certain acquisitions) and a minimum consolidated interest coverage ratio of 3.5 to 1.0.
As of September 30, 2022 and December 31, 2021, the Company had no outstanding cash borrowings under the Credit Facility.
As of September 30, 2022, the Company had $27.3 million in outstanding letters of credit which reduce the available borrowing capacity under the Credit Facility.
NOTE 9. FAIR VALUE MEASUREMENTS
Assets and liabilities measured at fair value on a recurring basis
The Company records its cash equivalents, marketable securities, Capped Call Transactions, and venture investments at fair value on a recurring basis. Fair value is an exit price, representing the amount that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants based on assumptions that market participants would use in pricing an asset or liability.
As a basis for classifying the fair value measurements, a three-tier fair value hierarchy, which classifies the fair value measurements based on the inputs used in measuring fair value, was established as follows:
•Level 1 - observable inputs, such as quoted prices in active markets for identical assets or liabilities;
•Level 2 - significant other inputs that are observable either directly or indirectly; and
•Level 3 - significant unobservable inputs on which there is little or no market data, which require the Company to develop its own assumptions. This hierarchy requires the Company to use observable market data, when available, and minimize unobservable inputs when determining fair value.
The fair value of the Capped Call Transactions at the end of each reporting period is determined using a Black-Scholes option-pricing model. The valuation model uses various market-based inputs, including stock price, remaining contractual term, expected volatility, risk-free interest rate, and expected dividend yield. The Company applies judgment when determining expected volatility. The Company considers both historical and implied volatility levels of the underlying equity security. The Company’s venture investments are recorded at fair value based on multiple valuation methods, including observable public companies and transaction prices and unobservable inputs, including the volatility, rights, and obligations of the securities the Company holds.
15
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Assets and liabilities measured at fair value on a recurring basis:
September 30, 2022
December 31, 2021
(in thousands)
Level 1
Level 2
Level 3
Total
Level 1
Level 2
Level 3
Total
Cash equivalents
$
20,899
$
—
$
—
$
20,899
$
3,216
$
—
$
—
$
3,216
Marketable securities
$
—
$
168,085
$
—
$
168,085
$
—
$
202,814
$
—
$
202,814
Capped Call Transactions (1)
$
—
$
3,583
$
—
$
3,583
$
—
$
59,964
$
—
$
59,964
Venture investments (1) (2)
$
—
$
—
$
11,910
$
11,910
$
—
$
—
$
7,648
$
7,648
(1) Included in other long-term assets. (2) Investments in privately-held companies.
Changes in venture investments:
Nine Months Ended September 30,
(in thousands)
2022
2021
January 1,
$
7,648
$
8,345
New investments
400
500
Sales of investments
(3,954)
(400)
Changes in foreign exchange rates
(675)
(52)
Changes in fair value:
included in other income
5,989
100
included in other comprehensive income
2,502
1,220
September 30,
$
11,910
$
9,713
The carrying value of certain other financial instruments, including receivables and accounts payable, approximates fair value due to these items’ short maturities.
Fair value of the Notes
The Notes’ fair value (including the conversion feature embedded in the Notes) was $488.3 million as of September 30, 2022 and $642.0 million as of December 31, 2021. The fair value was determined based on the Notes’ quoted price in an over-the-counter market on the last trading day of the reporting period and classified within Level 2 in the fair value hierarchy.
NOTE 10. REVENUE
Geographic revenue
Three Months Ended September 30,
Nine Months Ended September 30,
(Dollars in thousands)
2022
2021
2022
2021
U.S.
$
148,200
55
%
$
132,016
52
%
$
513,197
56
%
$
515,881
58
%
Other Americas
18,546
7
%
17,510
7
%
80,558
9
%
43,469
5
%
United Kingdom (“U.K.”)
24,074
9
%
25,982
10
%
83,837
9
%
86,747
10
%
Europe (excluding U.K.), Middle East, and Africa
46,212
17
%
46,306
18
%
140,586
15
%
143,763
15
%
Asia-Pacific
33,699
12
%
34,454
13
%
103,197
11
%
105,609
12
%
$
270,731
100
%
$
256,268
100
%
$
921,375
100
%
$
895,469
100
%
Revenue streams
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Perpetual license
$
9,223
$
2,874
$
18,929
$
20,922
Subscription license
31,112
35,421
210,245
251,226
Revenue recognized at a point in time
40,335
38,295
229,174
272,148
Maintenance
77,526
83,188
235,568
237,531
Pega Cloud
97,359
78,369
281,182
219,520
Consulting
55,511
56,416
175,451
166,270
Revenue recognized over time
230,396
217,973
692,201
623,321
Total revenue
$
270,731
$
256,268
$
921,375
$
895,469
16
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Pega Cloud
$
97,359
$
78,369
$
281,182
$
219,520
Maintenance
77,526
83,188
235,568
237,531
Subscription services
174,885
161,557
516,750
457,051
Subscription license
31,112
35,421
210,245
251,226
Subscription
205,997
196,978
726,995
708,277
Perpetual license
9,223
2,874
18,929
20,922
Consulting
55,511
56,416
175,451
166,270
$
270,731
$
256,268
$
921,375
$
895,469
Remaining performance obligations ("Backlog")
Expected future revenue from existing non-cancellable contracts:
As of September 30, 2022:
(Dollars in thousands)
Subscription services
Subscription license
Perpetual license
Consulting
Total
Maintenance
Pega Cloud
1 year or less
$
191,045
$
328,111
$
69,753
$
814
$
27,968
$
617,691
53
%
1-2 years
55,141
213,304
4,113
4,505
6,699
283,762
25
%
2-3 years
24,496
115,416
1,420
2,252
1,648
145,232
13
%
Greater than 3 years
16,198
82,807
1,734
—
508
101,247
9
%
$
286,880
$
739,638
$
77,020
$
7,571
$
36,823
$
1,147,932
100
%
As of September 30, 2021:
(Dollars in thousands)
Subscription services
Subscription license
Perpetual license
Consulting
Total
Maintenance
Pega Cloud
1 year or less
$
196,667
$
284,359
$
49,265
$
15,686
$
31,673
$
577,650
56
%
1-2 years
59,360
177,214
16,872
1,064
6,561
261,071
25
%
2-3 years
37,734
79,775
420
4,094
5,165
127,188
12
%
Greater than 3 years
33,935
30,113
245
2,127
1,697
68,117
7
%
$
327,696
$
571,461
$
66,802
$
22,971
$
45,096
$
1,034,026
100
%
NOTE 11. STOCK-BASED COMPENSATION
Expense
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2022
2021
2022
2021
Cost of revenue
$
6,797
$
5,114
$
19,754
$
16,889
Selling and marketing
12,933
13,376
36,524
41,844
Research and development
7,724
6,231
22,425
19,343
General and administrative
6,320
3,974
14,598
11,407
$
33,774
$
28,695
$
93,301
$
89,483
Income tax benefit
$
(600)
$
(5,845)
$
(1,505)
$
(18,028)
As of September 30, 2022, the Company had $161.0 million of unrecognized stock-based compensation expense, net of estimated forfeitures, which is expected to be recognized over a weighted-average period of 2.1 years.
Grants
Nine Months Ended September 30, 2022
(in thousands)
Shares
Total Fair Value
Restricted stock units
1,436
$
112,303
Non-qualified stock options
4,529
$
102,332
Common stock
14
$
600
17
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 12. INCOME TAXES
Effective income tax rate
Three Months Ended September 30,
Nine Months Ended September 30,
(Dollars in thousands)
2022
2021
2022
2021
Provision for (benefit from) income taxes
$
11,748
$
(24,826)
$
190,239
$
(54,360)
Effective income tax rate (benefit rate)
100
%
(68)
%
The change in the effective income tax rate (benefit rate) in the nine months ended September 30, 2022 was primarily due to the recognition of a $191.9 million valuation allowance recognized at June 30, 2022, on the Company’s U.S. and U.K deferred tax assets. As a result of recording the valuation allowance, the Company is no longer recording any income tax benefit on its U.S and U.K losses. The $11.7 million provision for (benefit from) income taxes for the three months ended September 30, 2022 primarily represents non-U.K. foreign income taxes.
The Company recognizes deferred tax assets to the extent that it believes that these assets are more likely than not to be realized. Future realization of deferred tax assets ultimately depends on sufficient taxable income within the available carryback or carryforward periods. The Company’s deferred tax valuation allowance requires significant judgment and uncertainties, including assumptions about future taxable income based on historical and projected information. On a quarterly basis, the Company reassesses the need for a valuation allowance on its existing net deferred tax assets by tax-paying jurisdiction, weighing positive and negative evidence to assess its recoverability. In making such a determination, the Company considers all available and objectively verifiable negative and positive evidence, including future reversals of existing taxable temporary differences, committed contractual backlog (“Backlog”), projected future taxable income inclusive of the impact of enacted legislation, tax-planning strategies, and results of recent operations. The weight given to the potential effect of negative and positive evidence is commensurate with the extent to which it can be objectively verified.
As of June 30, 2022, the Company’s Backlog balance was not sufficient to recover our net deferred tax assets. The Backlog balance and other unsettled circumstances, impacting the Company’s operations, reduced the Backlog’s weight as objectively verifiable positive evidence to generate sufficient taxable income to recover its net deferred tax assets. These unsettled circumstances include growing and extended geopolitical turmoil, increasing inflation, and an uncertain global economic outlook.
As of June 30, 2022, the combination of the above factors caused the Company to conclude there is not sufficient objectively verifiable positive evidence to support that it is more likely than not the Company will generate sufficient future taxable income to recover the Company’s U.S. and U.K. net deferred tax assets. Accordingly, the Company recorded a valuation allowance of $191.9 million in income tax expense during the three months ended June 30, 2022.
The Company intends to continue maintaining a full valuation allowance on our U.S and U.K deferred tax assets until there is sufficient evidence to support the realization of these deferred tax assets.
NOTE 13. (LOSS) PER SHARE
Basic (loss) per share is calculated using the weighted-average number of common shares outstanding during the period. Diluted (loss) per share is calculated using the weighted-average number of common shares outstanding during the period, plus the dilutive effect of outstanding stock options, RSUs, and convertible senior notes.
Calculation of (loss) per share:
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands, except per share amounts)
2022
2021
2022
2021
Net (loss)
$
(93,520)
$
(56,468)
$
(380,195)
$
(25,794)
Weighted-average common shares outstanding
81,996
81,526
81,842
81,284
(Loss) per share, basic
$
(1.14)
$
(0.69)
$
(4.65)
$
(0.32)
Net (loss)
$
(93,520)
$
(56,468)
$
(380,195)
$
(25,794)
Weighted-average common shares outstanding, assuming dilution (1) (2) (3)
81,996
81,526
81,842
81,284
(Loss) per share, diluted
$
(1.14)
$
(0.69)
$
(4.65)
$
(0.32)
Outstanding anti-dilutive stock options and RSUs (4)
3,019
5,815
3,589
6,136
(1) In periods of loss, all dilutive securities are excluded as their inclusion would be anti-dilutive.
(2) The shares underlying the conversion options in the Company’s Notes are included using the if-converted method, if dilutive in the period. If the outstanding conversion options were fully exercised, the Company would issue an additional approximately 4.4 million shares.
18
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
(3) The Company’s Capped Call Transactions represent the equivalent of approximately 4.4 million shares of the Company’s common stock (representing the number of shares for which the Notes are initially convertible). The Capped Call Transactions are expected to reduce common stock dilution and/or offset any potential cash payments the Company must make, other than for principal and interest, upon conversion of the Notes, with such reduction and/or offset subject to a cap of $196.44. The Capped Call Transactions are excluded from weighted-average common shares outstanding, assuming dilution, in all periods as their effect would be anti-dilutive.
(4) Outstanding stock options and RSUs that were anti-dilutive under the treasury stock method in the period were excluded from the computation of diluted (loss) per share. These awards may be dilutive in the future.
NOTE 14. COMMITMENTS AND CONTINGENCIES
Commitments
See "Note 7. Leases" for additional information.
Legal proceedings
In addition to the matters below, the Company is, or may become, involved in a variety of claims, demands, suits, investigations, and proceedings that arise from time to time relating to matters incidental to the ordinary course of the Company’s business, including actions concerning contracts, intellectual property, employment, benefits, and securities matters. Regardless of the outcome, legal disputes can have a material effect on the Company because of defense and settlement costs, diversion of management resources, and other factors.
In addition, as the Company is a party to ongoing litigation, it is at least reasonably possible that our estimates will change in the near term and the effect may be material.
As of September 30, 2022 and December 31, 2021, the Company has no accrued losses for litigation.
Pegasystems Inc. v. Appian Corp. & Business Process Management Inc.
On July 3, 2019, the Company filed suit in Massachusetts federal court against Appian Corp. (“Appian”) and Business Process Management, Inc. (“BPM”) relating to a BPM “Market Report” that Appian had used to promote itself against the Company. Pegasystems Inc. v. Appian Corp. & Business Process Management Inc., No. 1:19-cv-11461 (D. Mass). On April 15, 2022, each of the parties filed motions for summary judgment with the court. On September 30, 2022, the court entered an order allowing in part and denying in part each party’s motion for summary judgment, thereby narrowing the potential issues for trial. On October 24, 2022, the court entered an order setting a trial date of January 3, 2023. The Company continues to believe the counterclaims brought by Appian against the Company are without merit, and the Company intends to vigorously pursue its claims against Appian and defend against the counterclaims brought against the Company in this matter. The Company is unable to reasonably estimate possible damages or a range of possible damages in this matter given the Company’s belief that the damages claimed by Appian fail to satisfy the required legal standard, the status of the proceeding, and due to the uncertainty as to how a jury may rule if this ultimately proceeds to trial.
Appian Corp. v. Pegasystems Inc. & Youyong Zou
As previously reported, the Company is a defendant in litigation brought by Appian in the Circuit Court of Fairfax County, Virginia (the “Court”) titled Appian Corp. v. Pegasystems Inc. & Youyong Zou, No. 2020-07216 (Fairfax Cty. Ct.). On May 9, 2022, the jury rendered its verdict finding that the Company had misappropriated one or more of Appian’s trade secrets, that the Company had violated the Virginia Computer Crimes Act, and that the trade secret misappropriation was willful and malicious. The jury awarded damages in the amount of $2,036,860,045 for trade secret misappropriation and $1.00 for the violation of the Virginia Computer Crimes Act. On September 15, 2022, the circuit court of Fairfax County entered judgment in the amount of $2,060,479,287, consisting of the damages previously awarded by the jury plus attorneys’ fees and costs, and stating that the judgment is subject to post-judgment interest at a rate of 6.0% per annum, from the date of the jury verdict (May 9, 2022) as to the amount of the jury verdict and from September 15, 2022 as to the amount of the award of attorneys’ fees and costs. On September 15, 2022, the Company filed a notice of appeal from the judgment. On September 29, 2022, the circuit court of Fairfax County approved a $25,000,000 letter of credit obtained by the Company to secure the judgment and entered an order suspending the judgment during the pendency of the Company’s appeal. This appeals process could potentially take years to complete. The Company continues to believe that it did not misappropriate any alleged trade secrets and that its sales of the Company’s products at issue were not caused by, or the result of, any alleged misappropriation of trade secrets. The Company is unable to reasonably estimate possible damages because of, among other things, uncertainty as to the outcome of appellate proceedings and/or any potential new trial resulting from the appellate proceedings.
19
PEGASYSTEMS INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)
City of Fort Lauderdale Police and Firefighters’ Retirement System, Individually and on Behalf of All Others Similarly Situated v. Pegasystems Inc., Alan Trefler, and Kenneth Stillwell
On May 19, 2022, a lawsuit was filed against the Company, the Company’s chief executive officer and the Company’s chief operating and financial officer in the United States District Court for the Eastern District of Virginia Alexandria Division, captioned City of Fort Lauderdale Police and Firefighters’ Retirement System, Individually and on Behalf of All Others Similarly Situated v. Pegasystems Inc., Alan Trefler, and Kenneth Stillwell (Case 1:22-cv-00578-LMB-IDD). The complaint generally alleges, among other things, that the defendants violated Section 10(b) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) and Rule 10b-5 promulgated thereunder and that the individual defendants violated Section 20(a) of the Exchange Act, in each case by allegedly making materially false and/or misleading statements, as well as allegedly failing to disclose material adverse facts about the Company’s business, operations, and prospects, which caused the Company’s securities to trade at artificially inflated prices. The complaint seeks unspecified damages on behalf of a class of purchasers of the Company’s securities between May 29, 2020 and May 9, 2022. The litigation has since been transferred to the United States District Court for the District of Massachusetts (Case 1:22-cv-11220-WGY), and lead plaintiff class representatives—Central Pennsylvania Teamsters Pension Fund - Defined Benefit Plan, Central Pennsylvania Teamsters Pension Fund - Retirement Income Plan 1987, and Construction Industry Laborers Pension Fund—have been appointed. On October 18, 2022, a consolidated amended complaint was filed that does not add any new parties or legal claims, is based upon the same general factual allegations as the original complaint, and now seeks unspecified damages on behalf of a class of purchasers of the Company’s securities between June 16, 2020 and May 9, 2022. The Company believes the claims brought against the defendants are without merit, and intends to vigorously defend against these claims. The Company is unable to reasonably estimate possible damages or a range of possible damages in this matter given the stage of the lawsuit, the Company’s belief that the claims are without merit, and there being no specified quantum of damages sought in the complaint.
20
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q (“Quarterly Report”) contains or incorporates forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
Words such as expects, anticipates, intends, plans, believes, will, could, should, estimates, may, targets, strategies, projects, forecasts, guidance, likely, and usually, or variations of such words and other similar expressions identify forward-looking statements, which are based on current expectations and assumptions.
Forward-looking statements deal with future events and are subject to risks and uncertainties that are difficult to predict, including, but not limited to:
•our future financial performance and business plans;
•the adequacy of our liquidity and capital resources;
•the continued payment of our quarterly dividends;
•the timing of revenue recognition;
•management of our transition to a more subscription-based business model;
•variation in demand for our products and services, including among clients in the public sector;
•reliance on key personnel;
•global economic and political conditions and uncertainty, including continued impacts from the ongoing COVID-19 pandemic and the war in Ukraine;
•reliance on third-party service providers, including hosting providers;
•compliance with our debt obligations and covenants;
•the potential impact of our convertible senior notes and Capped Call Transactions;
•foreign currency exchange rates;
•the potential legal and financial liabilities and damage to our reputation due to cyber-attacks;
•security breaches and security flaws;
•our ability to protect our intellectual property rights, costs associated with defending such rights, intellectual property rights claims and other related claims by third parties against us, including related costs, damages, and other relief that may be granted against us;
•our client retention rate; and
•management of our growth.
These risks and others that may cause actual results to differ materially from those expressed in such forward-looking statements are described further in Part I of our Annual Report on Form 10-K for the year ended December 31, 2021, Part II of this Quarterly Report on Form 10-Q, and other filings we make with the U.S. Securities and Exchange Commission (“SEC”).
Except as required by applicable law, we do not undertake and expressly disclaim any obligation to update or revise these forward-looking statements publicly, whether due to new information, future events, or otherwise.
The forward-looking statements in this Quarterly Report represent our views as of October 26, 2022.
BUSINESS OVERVIEW
We develop, market, license, host, and support enterprise software that helps organizations build agility into their business so they can adapt to change. Our powerful low-code platform for workflow automation and AI-powered decisioning enables the world’s leading brands and government agencies to hyper-personalize customer experiences, streamline customer service, and automate mission-critical business processes and workflows. With Pega, our clients can leverage our intelligent technology and scalable architecture to accelerate their digital transformation. In addition, our client success teams, world-class partners, and clients themselves leverage our Pega Express™ methodology to design and deploy mission-critical applications quickly and collaboratively.
Our target clients are Global 2000 organizations and government agencies that require solutions to distinguish themselves in the markets they serve. Our solutions achieve and facilitate differentiation by increasing business agility, driving growth, improving productivity, attracting and retaining customers, and reducing risk. Along with our partners, we deliver solutions tailored to our clients’ specific industry needs.
Subscription transition
We are transitioning our business to sell software primarily through subscription arrangements. Until we fully complete our subscription transition, which we expect will occur in 2023, our operating results may be impacted. Operating performance and the actual mix of revenue and new arrangements in each period can fluctuate based on client preferences for our perpetual and subscription offerings. See the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2021 for additional information.
21
Coronavirus (“COVID-19”)
As of September 30, 2022, COVID-19 has not had a material impact on our results of operations or financial condition. See “Actual or threatened public health emergencies could harm our business” in the “Risk Factors” section of our Annual Report on Form 10-K for the year ended December 31, 2021 for additional information.
Ukraine
Our direct financial exposure to Ukraine, Russia, and Belarus is not material.
In 2021, before Russia's invasion of Ukraine, we made a business decision to stop pursuing new clients in Russia and closed our local office. For the year ended December 31, 2021, total revenue from clients located in Ukraine, Russia, and Belarus was less than $4.0 million. However, the ultimate impact of Russia’s invasion of Ukraine on our business will depend on future developments, including the duration and spread of the conflict and the impact on our people, partners, clients, and vendors in neighboring countries and globally, all of which are uncertain and unpredictable.
Performance metrics
We use performance metrics to analyze and assess our overall performance, make operating decisions, and forecast and plan for future periods, including:
Annual contract value (“ACV”)
ACV represents the annualized value of our active contracts as of the measurement date. The contract's total value is divided by its duration in years to calculate ACV for subscription license and Pega Cloud contracts. Maintenance revenue for the quarter then ended is multiplied by four to calculate ACV for maintenance. ACV is a performance measure that we believe provides useful information to our management and investors, particularly during our subscription transition.
22
Remaining performance obligations (“Backlog”)
Reconciliation of GAAP Backlog and Constant Currency Backlog
(in millions, except percentages)
Q3 2022
1 Year Growth Rate
Backlog
$
1,148
11
%
Impact of changes in foreign exchange rates
74
7
%
Backlog - Constant Currency
$
1,222
18
%
Note: Constant currency measures are calculated by applying foreign exchange rates for the earliest period shown to all periods. The above constant currency measures reflect foreign exchange rates applicable as of Q3 2021. We believe that non-GAAP financial measures help investors understand our core operating results and prospects, consistent with how management measures and forecasts our performance without the effect of often one-time charges and other items outside our normal operations. The supplementary non-GAAP financial measures are not meant to be superior to or a substitute for financial measures prepared under U.S. GAAP.
CRITICAL ACCOUNTING POLICIES
Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon our unaudited condensed consolidated financial statements, which have been prepared following accounting principles generally accepted in the United States and the rules and regulations of the SEC for interim financial reporting. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and the related disclosure of contingent assets and liabilities. We base our estimates and judgments on historical experience, knowledge of current conditions, and expectations of what could occur in the future given the available information.
For more information about our critical accounting policies, we encourage you to read the discussion in the following locations in our Annual Report on Form 10-K for the year ended December 31, 2021:
•“Critical Accounting Estimates and Significant Judgments” in Item 7; and
•“Note 2. Significant Accounting Policies” in Item 8.
We recorded a valuation allowance of $191.9 million in income tax expense during the three months ended June 30, 2022. See "Note 12. Income Taxes" in Part I, Item 1 of this Quarterly Report for additional information. There have been no other significant changes to our critical accounting policies as disclosed in our Annual Report on Form 10-K for the year ended December 31, 2021.
23
RESULTS OF OPERATIONS
Revenue
Subscription transition
We are transitioning our business to sell software primarily through subscription arrangements.
This transition has impacted the optics of revenue growth as revenue from subscription service arrangements, which includes Pega Cloud and maintenance, is typically recognized over the contract term, while revenue from license sales is recognized when the license rights become effective, typically upfront.
(Dollars in thousands)
Three Months Ended September 30,
Change
Nine Months Ended September 30,
Change
2022
2021
2022
2021
Pega Cloud
$
97,359
36
%
$
78,369
31
%
$
18,990
24
%
$
281,182
31
%
$
219,520
25
%
$
61,662
28
%
Maintenance
77,526
29
%
83,188
32
%
(5,662)
(7)
%
235,568
25
%
237,531
26
%
(1,963)
(1)
%
Subscription services
174,885
65
%
161,557
63
%
13,328
8
%
516,750
56
%
457,051
51
%
59,699
13
%
Subscription license
31,112
11
%
35,421
14
%
(4,309)
(12)
%
210,245
23
%
251,226
28
%
(40,981)
(16)
%
Subscription
205,997
76
%
196,978
77
%
9,019
5
%
726,995
79
%
708,277
79
%
18,718
3
%
Perpetual license
9,223
3
%
2,874
1
%
6,349
221
%
18,929
2
%
20,922
2
%
(1,993)
(10)
%
Consulting
55,511
21
%
56,416
22
%
(905)
(2)
%
175,451
19
%
166,270
19
%
9,181
6
%
$
270,731
100
%
$
256,268
100
%
$
14,463
6
%
$
921,375
100
%
$
895,469
100
%
$
25,906
3
%
The revenue changes in the three and nine months ended September 30, 2022 generally reflect the impact of our subscription transition. Other factors impacting our revenue include:
•The United States Dollar has strengthened against foreign currencies in the markets we operate, which reduced total revenue growth in the three and nine months ended September 30, 2022 by approximately 5 percent.
•The decreases in subscription license revenue in the three and nine months ended September 30, 2022 were primarily due to several large software license contracts recognized in revenue in the three and nine months ended September 30, 2021.
•The decreases in maintenance revenue in the three and nine months ended September 30, 2022 were primarily due to changes in foreign currency exchange rates and the continuing shift to Pega Cloud.
•The increase in consulting revenue in the nine months ended September 30, 2022 was primarily due to an increase in consultant billable hours in North America.
Gross profit
(Dollars in thousands)
Three Months Ended September 30,
Change
Nine Months Ended September 30,
Change
2022
2021
2022
2021
Pega Cloud
$
68,673
71
%
$
52,845
67
%
$
15,828
30
%
$
194,350
69
%
$
147,388
67
%
$
46,962
32
%
Maintenance
71,671
92
%
77,895
94
%
(6,224)
(8)
%
219,296
93
%
221,457
93
%
(2,161)
(1)
%
Subscription services
140,344
80
%
130,740
81
%
9,604
7
%
413,646
80
%
368,845
81
%
44,801
12
%
Subscription license
30,484
98
%
34,815
98
%
(4,331)
(12)
%
208,322
99
%
249,415
99
%
(41,093)
(16)
%
Subscription
170,828
83
%
165,555
84
%
5,273
3
%
621,968
86
%
618,260
87
%
3,708
1
%
Perpetual license
9,120
99
%
2,824
98
%
6,296
223
%
18,756
99
%
20,771
99
%
(2,015)
(10)
%
Consulting
(2,267)
(4)
%
3,667
6
%
(5,934)
*
4,289
2
%
5,238
3
%
(949)
(18)
%
$
177,681
66
%
$
172,046
67
%
$
5,635
3
%
$
645,013
70
%
$
644,269
72
%
$
744
—
%
* not meaningful
The gross profit percent changes in the three and nine months ended September 30, 2022 were primarily due to a shift in the revenue mix.
•The increases in Pega Cloud gross profit percent in the three and nine months ended September 30, 2022 were primarily due to cost-efficiency gains as Pega Cloud grows and scales.
•The decrease in Maintenance gross profit percent in the three months ended September 30, 2022 was primarily due to a decrease in maintenance revenue.
•The decreases in consulting gross profit percent in the three and nine months ended September 30, 2022 were due to increases in consultant availability.
24
Operating expenses
(Dollars in thousands)
Three Months Ended September 30,
Change
Nine Months Ended September 30,
Change
2022
2021
2022
2021
% of Revenue
% of Revenue
% of Revenue
% of Revenue
Selling and marketing
$
153,517
57
%
$
152,479
59
%
$
1,038
1
%
$
472,951
51
%
$
457,641
51
%
$
15,310
3
%
Research and development
$
75,342
28
%
$
64,728
25
%
$
10,614
16
%
$
221,173
24
%
$
191,565
21
%
$
29,608
15
%
General and administrative
$
26,043
10
%
$
20,176
8
%
$
5,867
29
%
$
94,530
10
%
$
57,607
6
%
$
36,923
64
%
•The increase in selling and marketing in the nine months ended September 30, 2022 was primarily due to an increase in employee travel and entertainment and marketing events of $10.7 million.
•The increases in research and development in the three and nine months ended September 30, 2022 were primarily due to increases in compensation and benefits of $7.5 million and $19.6 million, attributable to increases in headcount and incentive compensation. The increases in headcount reflects additional investments in developing our solutions.
•The increases in general and administrative in the three and nine months ended September 30, 2022 were primarily due to increases in compensation and benefits of $2.9 million and $5.7 million, facilities expenses of $1.1 million and $2.8 million, and legal fees and related expenses arising from litigation proceedings outside the ordinary course of business of $0.4 million and $24.0 million. We have incurred and expect to continue to incur additional expenses for these proceedings in 2022. See "Note 14. Commitments and Contingencies" in Part I, Item 1 and “Risk Factors” in Part II, Item 1A of this Quarterly Report for additional information.
Other income and expenses
(Dollars in thousands)
Three Months Ended September 30,
Change
Nine Months Ended September 30,
Change
2022
2021
2022
2021
Foreign currency transaction gain (loss)
$
3,826
$
518
$
3,308
639
%
$
8,415
$
(4,983)
$
13,398
*
Interest income
520
166
354
213
%
1,036
555
481
87
%
Interest expense
(1,992)
(1,908)
(84)
(4)
%
(5,882)
(5,747)
(135)
(2)
%
(Loss) on capped call transactions
(6,876)
(14,735)
7,859
53
%
(56,381)
(7,543)
(48,838)
(647)
%
Other (loss) income, net
(29)
2
(31)
*
6,497
108
6,389
5,916
%
$
(4,551)
$
(15,957)
$
11,406
71
%
$
(46,315)
$
(17,610)
$
(28,705)
(163)
%
* not meaningful
•The increases in foreign currency transaction gain (loss) in the three and nine months ended September 30, 2022 were primarily due to the impact of fluctuations in foreign currency exchange rates associated with foreign currency-denominated cash and receivables held by our subsidiary in the United Kingdom.
•The increases in interest income in the three and nine months ended September 30, 2022 were primarily due to increases in market interest rates.
•The changes in (loss) on capped call transactions in the three and nine months ended September 30, 2022 were due to fair value adjustments for our capped call transactions. See "Note 9. Fair Value Measurements" in Part I, Item 1 of this Quarterly Report for additional information.
•The increase in other (loss) income, net in the nine months ended September 30, 2022 was due to gains on our venture investments portfolio.
Provision for (benefit from) income taxes
Three Months Ended September 30,
Nine Months Ended September 30,
(Dollars in thousands)
2022
2021
2022
2021
Provision for (benefit from) income taxes
$
11,748
$
(24,826)
$
190,239
$
(54,360)
Effective income tax rate (benefit rate)
100
%
(68)
%
During the nine months ended September 30, 2022, the change in our effective income tax rate (benefit rate) was primarily due to the recognition of a $191.9 million valuation allowance recognized at June 30, 2022, on our U.S. and U.K deferred tax assets. As a result of recording the valuation allowance, we are no longer recording any income tax benefit on our U.S and U.K losses. The $11.7 million provision for (benefit from) income taxes for the three months ended September 30, 2022 primarily represents non-U.K. foreign income taxes.
25
LIQUIDITY AND CAPITAL RESOURCES
Nine Months Ended September 30,
(in thousands)
2022
2021
Cash provided by (used in):
Operating activities
$
(13,446)
$
(5,321)
Investing activities
10,104
42,730
Financing activities
(43,484)
(91,431)
Effect of exchange rates on cash and cash equivalents
(5,513)
(1,466)
Net (decrease) in cash and cash equivalents
$
(52,339)
$
(55,488)
(in thousands)
September 30, 2022
December 31, 2021
Held by U.S. entities
$
226,640
$
274,813
Held by foreign entities
49,071
87,966
Total cash, cash equivalents, and marketable securities
$
275,711
$
362,779
We believe that our current cash, cash flow from operations, borrowing capacity, and ability to engage in capital market transactions will be sufficient to fund our operations, stock repurchases, and quarterly cash dividends for at least the next 12 months and to meet our known long-term cash requirements. Whether these resources are adequate to meet our liquidity needs beyond that period will depend on our future growth, operating results, and the investments needed to support our operations. We may utilize available funds or seek additional external financing if we require additional capital resources.
If it becomes necessary to repatriate foreign funds, we may have to pay U.S. and foreign taxes upon repatriation. However, due to the complexity of income tax laws and regulations, it is impracticable to estimate the amount of taxes we would have to pay.
Operating activities
We are transitioning our business to sell software primarily through subscription arrangements. This transition has impacted and is expected to continue impacting our billings and cash collections, as subscription licenses and services are generally billed and collected over the contract term, while perpetual license arrangements are generally billed and collected upfront when the license rights become effective.
The change in cash (used in) operating activities in the nine months ended September 30, 2022 was primarily due to our subscription transition and increased costs as we made investments in research and development to support development of our offerings partially offset by strong client collections. In addition, in the nine months ended September 30, 2022 and 2021, we incurred $32.4 million and $8.4 million in legal fees and related expenses arising from proceedings that originated outside of the ordinary course of business. We expect to continue to incur additional expenses for these proceedings. See "Note 14. Commitments and Contingencies" in Part I, Item 1 of this Quarterly Report for additional information.
Investing activities
The change in cash provided by investing activities in the nine months ended September 30, 2022 was primarily driven by our investments in financial instruments and an increase in office space related capital expenditures.
Financing activities
Debt financing
In February 2020, we issued $600 million in aggregate principal amount of convertible senior notes, which mature on March 1, 2025.
In November 2019, and as since amended, we entered into a five-year $100 million senior secured revolving credit agreement (the “Credit Facility”) with PNC Bank, National Association. As of September 30, 2022, we had no outstanding cash borrowings under the Credit Facility but had $27.3 million in outstanding letters of credit which reduce the available borrowing capacity. See "Note 8. Debt" in Part I, Item 1 of this Quarterly Report for additional information.
Stock repurchase program
Changes in the remaining stock repurchase authority:
(in thousands)
Nine Months Ended September 30, 2022
December 31, 2021
$
22,583
Authorizations (1)
60,000
Repurchases (2)
(24,508)
September 30, 2022
$
58,075
(1) On June 2, 2022, we announced that our Board of Directors extended the current stock repurchase program’s expiration date to June 30, 2023.
(2) All purchases under this program have been made on the open market.
26
Common stock repurchases
Nine Months Ended September 30,
2022
2021
(in thousands)
Shares
Amount
Shares
Amount
Repurchases paid
279
$
24,508
245
$
31,788
Repurchases unpaid at period end
—
—
3
400
Stock repurchase program
279
24,508
248
32,188
Tax withholdings for net settlement of equity awards
253
17,575
462
59,819
532
$
42,083
710
$
92,007
During the nine months ended September 30, 2022 and 2021, instead of receiving cash from the equity holders, we withheld shares with a value of $11.5 million and $47.1 million, respectively, for the exercise price of options. These amounts are not included in the table above.
Dividends
We intend to pay a quarterly cash dividend of $0.03 per share. However, the Board of Directors may terminate or modify the dividend program without prior notice.
Nine Months Ended September 30,
(in thousands)
2022
2021
Dividend payments to stockholders
$
7,368
$
7,310
Contractual obligations
As of September 30, 2022, our contractual obligations were:
Payments due by period
(in thousands)
Remainder of 2022
2023
2024
2025
2026
2027 and thereafter
Other
Total
Convertible senior notes (1)
$
—
$
4,500
$
4,500
$
602,250
$
—
$
—
$
—
$
611,250
Purchase obligations (2)
7,925
14,802
15,479
17,594
14,492
14
—
70,306
Operating lease obligations
(4,717)
18,804
16,841
14,778
11,257
48,397
—
105,360
Liability for uncertain tax positions (3)
—
—
—
—
—
—
1,242
1,242
$
3,208
$
38,106
$
36,820
$
634,622
$
25,749
$
48,411
$
1,242
$
788,158
(1) Includes principal and interest.
(2) Represents the fixed or minimum amounts due under purchase obligations for hosting services and sales and marketing programs.
(3) We are unable to reasonably estimate the timing of this cash outflow due to uncertainties in the timing of the effective settlement of tax positions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in financial market prices and rates.
Foreign currency exposure
Translation risk
Our international operations’ operating expenses are primarily denominated in foreign currencies. However, our international sales are also primarily denominated in foreign currencies, which partially offsets our foreign currency exposure.
A hypothetical 10% strengthening in the U.S. dollar against other currencies would have resulted in:
Nine Months Ended September 30,
2022
2021
(Decrease) increase in revenue
(4)
%
(4)
%
Increase (decrease) in net income
2
%
(9)
%
Remeasurement risk
We incur transaction gains and losses from the remeasurement of monetary assets and liabilities denominated in currencies other than the functional currency of the entities in which they are recorded.
We are primarily exposed to changes in foreign currency exchange rates associated with the Australian dollar, Euro, and U.S. dollar-denominated cash, cash equivalents, receivables, and intercompany balances held by our U.K. subsidiary, a British pound functional entity.
27
A hypothetical 10% strengthening in the British pound exchange rate in comparison to the Australian dollar, Euro, and U.S. dollar would have resulted in the following impact:
Nine Months Ended September 30,
(in thousands)
2022
2021
Foreign currency gain (loss)
$
(6,335)
$
(4,480)
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures
Our management, with the participation of our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (“Exchange Act”)) as of September 30, 2022. In designing and evaluating our disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives, and our management necessarily applied its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on this evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of September 30, 2022.
(b) Changes in internal control over financial reporting
There have been no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended September 30, 2022 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.
28
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The information set forth in “Note 14. Commitments and Contingencies”, in Part I, Item 1 of this Quarterly Report is incorporated herein by reference and updates the description of our pending legal proceedings, as described in our Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on February 16, 2022 and in our Quarterly Reports on Form 10-Q filed with the U.S. Securities and Exchange Commission on April 28, 2022 and July 27, 2022.
ITEM 1A. RISK FACTORS
The risk factors set forth below update the risk factors in our Annual Report on Form 10-K filed with the SEC on February 16, 2022 and in our Quarterly Reports on Form 10-Q filed with the SEC on April 28, 2022 and July 27, 2022.
In addition to the risk factors set forth below, we encourage you to carefully consider the risk factors identified in Item 1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the U.S. Securities and Exchange Commission. These risk factors could materially affect our business, financial condition, and future results, and may cause our actual business and financial results to differ materially from those contained in forward-looking statements made in this Quarterly Report on Form 10-Q or elsewhere by management.
We face risks related to intellectual property claims or appropriation of our intellectual property rights.
We rely primarily on a combination of patent, copyright, trademark, and trade secrets laws, as well as intellectual property and confidentiality agreements to protect our proprietary rights. We also try to control access to and distribution of our technologies and other proprietary information. We have obtained patents in strategically important global markets relating to the architecture of our systems. We cannot be certain that such patents will not be challenged, invalidated, or circumvented, or that rights granted thereunder, or the claims contained therein will provide us with competitive advantages. Moreover, despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our software or to obtain the use of information that we regard as proprietary. Although we generally enter into intellectual property and confidentiality agreements with our employees and strategic partners, despite our efforts our former employees may seek employment with our business partners, clients, or competitors, and there can be no assurance that the confidential nature of our proprietary information will be maintained. In addition, the laws of some foreign countries do not protect our proprietary rights as effectively as they do in the U.S. There can be no assurance that our means of protecting our proprietary rights will be adequate or that our competitors will not independently develop similar technology.
Other companies or individuals have obtained proprietary rights covering a variety of designs, processes, and systems. Third parties have claimed and may in the future claim that we have infringed or otherwise violated their intellectual property. We are currently party to litigation with Appian Corp. - see Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of this Quarterly Report; Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of our Quarterly Report filed with the SEC on July 27, 2022; Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of our Quarterly Report filed with the SEC on April 28, 2022; and Part I, Item 3 “Legal Proceedings” and Note 19 in the “Notes to Consolidated Financial Statements” included in Part II, Item 8 of our Annual Report filed with the SEC on February 16, 2022.
Although we attempt to limit the amount and type of our contractual liability for infringement or other violation of the proprietary rights of third parties and assert ownership of work product and intellectual property rights as appropriate, there are often exceptions, and limitations may not be applicable and enforceable in all cases. Even if limitations are found to be applicable and enforceable, our liability to our clients for these types of claims could be material given the size of certain of our transactions. We expect that software product developers will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grows and the functionality of products in different industry segments overlaps. Any such claims, with or without merit, could be time-consuming, result in costly litigation, cause product shipment and delivery delays, require us to enter into royalty or licensing agreements, or preclude us from making and selling the infringing software, if such proprietary rights are found to be valid. Royalty or licensing agreements, if required, may not be available on terms acceptable to us or at all. These claims could also subject us to significant liability for damages, potentially including treble damages if we are found to have willfully infringed patents or copyrights. Even if a license were available, we could be required to pay significant royalties, which would increase our operating expenses. As a result, we may be required to develop alternative non-infringing technology, which could require substantial effort and cost. If we cannot license or develop technology for any infringing aspect of our business, we would be forced to limit or stop sales of our software and may be unable to compete effectively, which could have a material effect upon our business, operating results, and financial condition.
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Intellectual property rights claims by third parties are extremely costly to defend, could require us to pay significant damages, and could limit our ability to use certain technologies.
Companies in the software and technology industries, including some of our current and potential competitors, own large numbers of patents, copyrights, trademarks, and trade secrets and frequently enter into litigation based on allegations of infringement or other violations of intellectual property rights. In addition, many of these companies can dedicate greater resources to enforce their intellectual property rights and to defend claims that may be brought against them. The litigation may involve patent holding companies or other adverse patent owners that have no relevant product revenues and against which our patents may, therefore, provide little or no deterrence. Third parties have claimed and may claim in the future that we have misappropriated, misused, or infringed other parties' intellectual property rights, and, to the extent we gain greater market visibility, we face a higher risk of being the subject of intellectual property claims.
Any litigation regarding intellectual property could be costly and time-consuming and could divert the attention of our management and key personnel from our business operations. Significant judgments are required for the determination of probability and the range of the outcomes in any legal dispute, and the estimates are based only on the information available to us at the time. Due to the inherent uncertainties involved in claims, legal proceedings, and in estimating the losses that may arise, actual outcomes may differ from our estimates. Contingencies deemed not probable or for which losses were not estimable in one period may become probable, or losses may become estimable in later periods which may have a material impact on our results of operations and financial position. Intellectual property disputes could subject us to significant liabilities, require us to enter into royalty and licensing arrangements on unfavorable terms, prevent us from manufacturing or licensing certain of our products, cause severe disruptions to our operations or the markets in which we compete or require us to satisfy indemnification commitments to our customers. Any of these could seriously harm our business.
We are currently party to litigation with Appian Corp. - see Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of this Quarterly Report; Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of our Quarterly Report filed with the SEC on July 27, 2022; Part II, Item 1 “Legal Proceedings” and Note 14 in the “Notes to Unaudited Condensed Consolidated Financial Statements” included in Part I, Item 1 of our Quarterly Report filed with the SEC on April 28, 2022; and Part I, Item 3 “Legal Proceedings” and Note 19 in the “Notes to Consolidated Financial Statements” included in Part II, Item 8 of our Annual Report filed with the SEC on February 16, 2022. On September 15, 2022, the circuit court of Fairfax County entered judgment in the amount of $2,060,479,287, consisting of the jury verdict and the Court’s award of attorneys’ fees and costs to Appian, and stating that Appian will be entitled to post-judgment interest at the rate of 6% per annum from the date of the jury verdict (May 9, 2022) as to the amount of the jury verdict and from September 15, 2022 as to the portion of the judgment that is attributable to the Court’s award of attorneys’ fees and costs. On September 15, 2022, the Company filed a notice of appeal from the judgment. On September 29, 2022, the circuit court of Fairfax County approved of the $25,000,000 letter of credit obtained by the Company to secure the judgment and entered an order suspending the judgment during the pendency of the Company’s appeal. This appeals process could potentially take years to complete. Notwithstanding the circuit court of Fairfax County having entered this judgment, we are unable to reasonably estimate possible damages in that matter because, among other things, of the uncertainty as to the outcome of appellate proceedings, and/or any potential new trial resulting from the appellate proceedings. If we are ultimately unsuccessful in prevailing in the matter in its entirety or in obtaining a substantially smaller jury verdict, we may be required to incur debt or otherwise engage in capital market transactions to finance the final judgment, together with interest and any awards of attorneys’ fees and costs. In addition, if we do not satisfy the judgment within 60 days following the expiration of the right to appeal, there may be an acceleration of liabilities under our Convertible Senior Notes and our Credit Facility. While we continue to believe that we have the financial strength to pay these amounts if it ever becomes necessary, it is possible that we may not be able to engage in these activities on desirable terms, which could have a material adverse effect on our business, financial condition, and operating results.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Issuer purchases of equity securities
Common stock repurchased in the three months ended September 30, 2022:
(in thousands, except per share amounts)
Total Number of Shares Purchased (1) (2)
Average
Price Paid
per Share (1) (2)
Total Number of Shares Purchased as Part of Publicly Announced Share Repurchase Program (2)
Approximate Dollar Value of Shares That May Yet Be Purchased at Period End Under Publicly Announced Share Repurchase Programs (2)
July 1, 2022 - July 31, 2022
14
$
48.98
—
$
58,075
August 1, 2022 - August 31, 2022
7
40.49
—
$
58,075
September 1, 2022 - September 30, 2022
121
36.81
—
$
58,075
142
$
38.20
—
(1) Shares withheld to cover the option exercise price and tax withholding obligations under the net settlement provisions of our stock compensation awards have been included in these amounts.
(2) On June 2, 2022, we announced that our Board of Directors extended the current stock repurchase program’s expiration date to June 30, 2023 and increased the remaining stock repurchase authority to $60 million. See "Liquidity and Capital Resources" in Part I, Item 2 of this Quarterly Report for additional information.
Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)
X
++ Indicates that the exhibit is being furnished with this report and is not filed as a part of it.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Pegasystems Inc.
Dated:
October 26, 2022
By:
/s/ KENNETH STILLWELL
Kenneth Stillwell
Chief Operating Officer and Chief Financial Officer
