Document
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 (MARK ONE)
 
ý      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
FOR THE QUARTERLY PERIOD ENDED JULY 31, 2018
 
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 001-35498
 ____________________________________________________

SPLUNK INC.
(Exact name of registrant as specified in its charter)
_____________________________________________________
Delaware
 
86-1106510
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
270 Brannan Street
San Francisco, California 94107
(Address of principal executive offices)
(Zip Code)
 
(415) 848-8400
(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 ý 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 ý 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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
 
Accelerated filer o
 
 
 
Non-accelerated filer o
 
Smaller reporting company o
(Do not check if a smaller reporting company)
 
 
 
 
 
Emerging growth company o

 
 
 
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. 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 ý

There were 146,625,790 shares of the registrant’s Common Stock issued and outstanding as of August 29, 2018.
 


Table of Contents

TABLE OF CONTENTS
 
 
 
Page
No.
 
 
 
 
 
 
 
 
 
 
 
 
 


Table of Contents

PART I. FINANCIAL INFORMATION

 Item 1. Financial Statements (Unaudited)

Splunk Inc.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
(Unaudited)
 
 
 
July 31, 2018

January 31, 2018
 
 
 
*As Adjusted
Assets
 
 

 
 

Current assets
 
 

 
 

Cash and cash equivalents
 
$
419,681

 
$
545,947

Investments, current
 
471,902

 
619,203

Accounts receivable, net
 
247,827

 
396,413

Prepaid expenses and other current assets
 
65,837

 
70,021

Deferred commissions, current
 
57,419

 
52,451

Total current assets
 
1,262,666

 
1,684,035

Investments, non-current
 
9,750

 
5,375

Property and equipment, net
 
156,409

 
160,880

Intangible assets, net
 
105,865

 
48,142

Goodwill
 
503,388

 
161,382

Deferred commissions, non-current
 
43,435

 
37,920

Other assets
 
70,004

 
41,711

Total assets
 
$
2,151,517

 
$
2,139,445

Liabilities and Stockholders’ Equity
 
 

 
 

Current liabilities
 
 

 
 

Accounts payable
 
$
14,470

 
$
11,040

Accrued compensation
 
133,015

 
145,365

Accrued expenses and other liabilities
 
99,251

 
84,631

Deferred revenue, current
 
494,610

 
489,913

Total current liabilities
 
741,346

 
730,949

Deferred revenue, non-current
 
166,976

 
178,792

Other liabilities, non-current
 
96,359

 
98,383

Total non-current liabilities
 
263,335

 
277,175

Total liabilities
 
1,004,681

 
1,008,124

Commitments and contingencies (Note 3)
 


 


Stockholders’ equity
 
 

 
 

Common stock: $0.001 par value; 1,000,000,000 shares authorized; 146,611,514 shares issued and outstanding at July 31, 2018, and 142,835,123 shares issued and outstanding at January 31, 2018
 
146

 
143

Accumulated other comprehensive income (loss)
 
(2,730
)
 
156

Additional paid-in capital
 
2,327,885

 
2,086,893

Accumulated deficit
 
(1,178,465
)
 
(955,871
)
Total stockholders’ equity
 
1,146,836

 
1,131,321

Total liabilities and stockholders’ equity
 
$
2,151,517

 
$
2,139,445

 
* Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.

The accompanying notes are an integral part of these condensed consolidated financial statements.

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Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
 
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2018
 
2017
 
2018
 
2017
 
 
 
*As Adjusted
 
 
*As Adjusted
Revenues
 
 
 
 
 
 
 
 
License
 
$
200,668

 
$
147,231

 
$
339,643

 
$
249,793

Maintenance and services
 
187,635

 
132,993

 
360,299

 
257,199

Total revenues
 
388,303

 
280,224

 
699,942

 
506,992

Cost of revenues (1)
 
 
 
 
 
 
 
 
License
 
5,671

 
3,159

 
10,795

 
6,087

Maintenance and services
 
78,077

 
56,717

 
150,923

 
111,952

Total cost of revenues
 
83,748

 
59,876

 
161,718

 
118,039

Gross profit
 
304,555

 
220,348

 
538,224

 
388,953

Operating expenses (1)
 
 
 
 
 
 
 
 
Research and development
 
106,739

 
71,774

 
193,096

 
143,072

Sales and marketing
 
243,830

 
186,637

 
461,866

 
360,098

General and administrative
 
57,844

 
39,139

 
108,586

 
75,635

Total operating expenses
 
408,413

 
297,550

 
763,548

 
578,805

Operating loss
 
(103,858
)
 
(77,202
)
 
(225,324
)
 
(189,852
)
Interest and other income (expense), net
 
 
 
 
 
 
 
 
Interest income (expense), net
 
1,506

 
(164
)
 
2,620

 
(692
)
Other income (expense), net
 
(336
)
 
(874
)
 
(471
)
 
(1,482
)
Total interest and other income (expense), net
 
1,170

 
(1,038
)
 
2,149

 
(2,174
)
Loss before income taxes
 
(102,688
)
 
(78,240
)
 
(223,175
)
 
(192,026
)
Income tax provision (benefit)
 
811

 
353

 
(1,177
)
 
1,691

Net loss
 
$
(103,499
)
 
$
(78,593
)
 
$
(221,998
)
 
$
(193,717
)

 
 
 
 
 
 
 
 
Basic and diluted net loss per share
 
$
(0.71
)
 
$
(0.57
)
 
$
(1.54
)
 
$
(1.40
)

 
 
 
 
 
 
 
 

Weighted-average shares used in computing basic and diluted net loss per share
 
145,030

 
139,063

 
144,306

 
138,436


 
(1) Amounts include stock-based compensation expense, as follows:  
Cost of revenues
 
$
8,947


$
8,410


$
17,751

 
$
16,602

Research and development
 
33,597


25,991


60,013

 
52,788

Sales and marketing
 
45,546


42,652


88,593

 
83,295

General and administrative
 
16,953


15,314


33,307

 
29,737


* Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.


The accompanying notes are an integral part of these condensed consolidated financial statements.

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Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
(Unaudited)
 
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2018
 
2017
 
2018
 
2017
 
 
 
*As Adjusted
 
 
*As Adjusted
Net loss
 
$
(103,499
)
 
$
(78,593
)
 
$
(221,998
)
 
$
(193,717
)
Other comprehensive gain (loss)
 
 
 
 
 
 
 
 
Net unrealized gain (loss) on investments (net of tax)
 
515

 
33

 
707

 
(449
)
Foreign currency translation adjustments
 
(1,707
)
 
2,207

 
(3,593
)
 
2,113

Total other comprehensive gain (loss)
 
(1,192
)
 
2,240

 
(2,886
)
 
1,664

Comprehensive loss
 
$
(104,691
)
 
$
(76,353
)
 
$
(224,884
)
 
$
(192,053
)

* Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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Splunk Inc.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
 
 
Six Months Ended July 31,
 
 
2018
 
2017
 
 
 
*As Adjusted
Cash flows from operating activities
 
 

 
 

Net loss
 
$
(221,998
)
 
$
(193,717
)
Adjustments to reconcile net loss to net cash provided by operating activities:
 
 
 
 
Depreciation and amortization
 
24,167


19,916

Amortization of deferred commissions
 
32,877

 
20,653

Amortization of investment premiums (accretion of discounts)
 
(537
)
 
342

Stock-based compensation
 
199,664


182,422

Deferred income taxes
 
(125
)

(866
)
Changes in operating assets and liabilities, net of acquisitions:
 
 
 
 
Accounts receivable, net
 
156,362


31,706

Prepaid expenses and other assets
 
(21,937
)

(7,883
)
Deferred commissions
 
(43,360
)
 
(24,322
)
Accounts payable
 
2,990


1,963

Accrued compensation
 
(11,833
)

(6,264
)
Accrued expenses and other liabilities
 
6,259


8,107

Deferred revenue
 
(12,518
)

32,489

Net cash provided by operating activities
 
110,011


64,546

Cash flows from investing activities
 
 
 
 
Purchases of investments
 
(198,631
)
 
(340,697
)
Maturities of investments
 
347,176


338,265

Acquisitions, net of cash acquired
 
(394,910
)
 
(17,223
)
Purchases of property and equipment
 
(7,858
)

(8,513
)
Other investment activities
 
(4,375
)
 

Net cash used in investing activities
 
(258,598
)

(28,168
)
Cash flows from financing activities
 
 
 
 
Proceeds from the exercise of stock options
 
1,354

 
1,973

Proceeds from employee stock purchase plan
 
24,201

 
19,282

Taxes paid related to net share settlement of equity awards
 
(779
)
 
(59,109
)
Repayment of financing lease obligation
 
(1,218
)
 
(802
)
Net cash provided by (used in) financing activities
 
23,558


(38,656
)
Effect of exchange rate changes on cash and cash equivalents
 
(1,237
)

742

Net decrease in cash and cash equivalents
 
(126,266
)

(1,536
)
Cash and cash equivalents at beginning of period
 
545,947


421,346

Cash and cash equivalents at end of period
 
$
419,681

 
$
419,810

Supplemental disclosures
 
 
 
 
Cash paid for income taxes
 
$
4,035

 
$
3,883

Cash paid for interest expense related to financing lease obligation
 
4,123

 
3,974

Non-cash investing and financing activities
 
 
 
 
Increase in accrued purchases of property and equipment
 
129

 
26


* Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.

The accompanying notes are an integral part of these condensed consolidated financial statements.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
(1)  Description of the Business and Significant Accounting Policies
 
Business
 
Splunk Inc. (“we,” “us,” “our”) provides innovative software solutions that enable organizations to gain real-time operational intelligence by harnessing the value of their data. Our offerings enable users to collect, index, search, explore, monitor, correlate and analyze data regardless of format or source. Our offerings address large and diverse data sets commonly referred to as big data and are specifically tailored for machine data. Machine data is produced by nearly every software application and electronic device across an organization and contains a definitive, time-stamped record of various activities, such as transactions, customer and user behavior, and security threats. Our offerings help users derive new insights from machine data that can be used to, among other things, improve service levels, reduce operational costs, mitigate security risks, demonstrate and maintain compliance, and drive better business decisions. We were incorporated in California in October 2003 and reincorporated in Delaware in May 2006.
 
Fiscal Year
 
Our fiscal year ends on January 31. References to fiscal 2019 or fiscal year 2019, for example, refer to the fiscal year ending January 31, 2019.
 
Basis of Presentation
 
Effective February 1, 2018, we adopted the Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” as discussed in “Recently Adopted Accounting Standards” below. Disclosures in this Quarterly Report on Form 10-Q have been updated to comply with the new standards, as indicated by the “As Adjusted” reference in these condensed consolidated financial statements and related notes.

The accompanying unaudited 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 the financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. The condensed consolidated balance sheet data as of January 31, 2018 was derived from audited financial statements as adjusted to reflect the impact of the full retrospective adoption of Topic 606; but does not include all disclosures required by GAAP. Therefore, these condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in the Annual Report on Form 10-K for the fiscal year ended January 31, 2018, filed with the SEC on March 30, 2018.
 
In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all normal recurring adjustments necessary to state fairly the financial position, results of operations, comprehensive loss and cash flows for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full fiscal year 2019.

Use of Estimates
 
The preparation of financial statements in conformity with GAAP requires management to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting periods covered by the financial statements and accompanying notes. In particular, we make estimates with respect to the stand-alone selling price for each distinct performance obligation included in customer contracts with multiple performance obligations, uncollectible accounts receivable, the assessment of the useful life and recoverability of long-lived assets (property and equipment, goodwill and identified intangibles), the period of benefit for deferred commissions, stock-based compensation expense, the fair value of assets acquired and liabilities assumed for business combinations, income taxes, leases and contingencies. Actual results could differ from those estimates.

Segments


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We operate our business as one operating segment: the development and marketing of software solutions that enable our customers to gain real-time operational intelligence by harnessing the value of their data. Our chief operating decision maker is our Chief Executive Officer, who reviews financial information presented on a consolidated basis for purposes of making operating decisions, assessing financial performance and allocating resources.

Principles of Consolidation
 
The accompanying unaudited condensed consolidated financial statements include the accounts of Splunk Inc. and its direct and indirect wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated upon consolidation.

Revenue Recognition

We generate revenues primarily in the form of software license and related maintenance fees, cloud services and other services fees. Licenses for on-premises software are either perpetual or term licenses and provide the customer with a right to use the software, upon delivery to the customer. Typically, when purchasing a perpetual license, a customer also purchases one year of maintenance for which we charge a percentage of the license fee. When a term license is purchased, maintenance is bundled with the license for the term of the license period. Cloud services are provided on a subscription basis and give our customers access to our cloud solutions, which include related customer support. Other services include training and professional services that are not integral to the functionality of the licenses or cloud services.

Revenue from on-premises licenses is recognized upfront upon transfer of control of the software, which occurs at delivery, or when the license term commences, if later. We recognize revenue from maintenance contracts ratably over the service period. Cloud services revenue is recognized ratably over the cloud service term. Training and professional services are provided either on a time and material basis, in which revenues are recognized as services are delivered, or over a contractual term, in which revenues are recognized ratably. With respect to contracts that include customer acceptance provisions, we recognize revenue upon customer acceptance. Our policy is to record revenues net of any applicable sales, use or excise taxes.

Our contracts with customers often contain multiple performance obligations. For these contracts, we account for individual performance obligations separately if they are distinct. The transaction price is allocated to the separate performance obligations on a relative standalone selling price (“SSP”) basis. We determine the SSP based on an observable standalone selling price when it is available, as well as other factors, including, the price charged to customers, our discounting practices, and our overall pricing objectives, while maximizing observable inputs. In situations where pricing is highly variable or uncertain, we estimate the SSP using a residual approach.

A receivable is recorded in the period we deliver products or provide services, or when we have an unconditional right to payment. Some of our multi-year on-premises license contracts are invoiced annually and we generally recognize the total amount of the license revenues upfront and record a corresponding receivable, if we have an unconditional right to receive payment. Current and non-current accounts receivable, net of allowance for doubtful accounts, was $281.6 million and $396.4 million as of July 31, 2018 and January 31, 2018, respectively.

Payment terms and conditions vary by contract type, although our terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of payment, we have determined our contracts do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing.

Deferred revenue is recorded when we invoice a contract prior to recognizing revenue. It is comprised mainly of balances related to maintenance and cloud services invoiced at the beginning of each service period. Deferred revenue also includes balances for training and professional services for which a payment has been received in advance of performance, as well as for licenses that we invoice and deliver prior to the license term commencing.

Deferred Sales Commissions
    
Sales commissions paid to our sales force and the related payroll taxes are considered incremental and recoverable costs of obtaining a contract with a customer. These costs are capitalized and recorded in “Deferred commissions, current and non-current” in our condensed consolidated balance sheets. We generally amortize these costs over the remaining contractual term of our customer contracts, consistent with the pattern of revenue recognition of each performance obligation, for contracts in which the commissions paid on the initial and renewal contracts are commensurate. For certain contracts in which the

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commissions paid on the initial and renewal contracts are not commensurate, we amortize the commissions paid on the initial contract over an expected period of benefit, which we have determined to be approximately five years. We have determined the period of benefit by taking into consideration our customer contracts, the duration of our relationships with our customers and our technology. In capitalizing and amortizing deferred commissions, we have elected to apply a portfolio approach. We include amortization of deferred commissions in “Sales and marketing expense” in our condensed consolidated statements of operations. There were no impairments to deferred commissions for all periods presented.

Equity Investments

Equity investments without readily determinable fair values are accounted for at cost, less impairment and adjusted for subsequent observable price changes obtained from transactions for identical or similar investments issued by the same issuer. Changes in the basis of the equity investment will be recognized in “Other income (expense), net.”

Investments in entities where we have the ability to exercise significant influence, but not control, over the investee are accounted for using the equity method of accounting. Our results of operations will include, as a component of “Other income (expense), net,” our share of the net income or loss of the equity investments accounted for under the equity method of accounting.

Stock-Based Compensation

We recognize compensation expense for all share-based payment awards, including stock options, restricted stock units (“RSUs”), performance units (“PSUs”) and restricted stock awards (“RSAs”), based on the estimated fair value of the award on the grant date over the related vesting periods. The expense recorded is based on awards ultimately expected to vest and therefore is reduced by estimated forfeitures. Forfeitures are estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. We calculate the fair value of options using the Black-Scholes method and expense using the straight-line attribution approach.

We account for equity awards issued to non-employees, such as consultants, in accordance with the guidance relating to equity instruments that are issued to other than employees for acquiring, or in conjunction with selling, goods or services, using the Black-Scholes method to determine the fair value of such instruments. Awards granted to non-employees are remeasured over the vesting period, and the resulting value is recorded as an expense over the period the services are received.
    
The fair value of each option grant and stock purchase right granted under the Employee Stock Purchase Plan (“ESPP”) was estimated on the date of grant using the Black-Scholes option pricing model. We recognize stock-based compensation expense related to our ESPP on a straight-line basis over the offering period, which is twelve months. Stock-based compensation expense is recognized net of estimated forfeiture activity.

The determination of the grant date fair value of options using an option-pricing model is affected by assumptions regarding a number of other complex and subjective variables, which include our expected stock price volatility over the expected term of the options, stock option exercise and cancellation behaviors, risk-free interest rates and expected dividends.

The number of PSUs earned and eligible to vest are determined based on achievement of certain performance conditions and/or market conditions and the recipients' continued service with us. For awards subject to service and performance conditions, the number of shares of our stock issued pursuant to the award can range from 0% to 200% of the target amount. For awards subject to service and performance conditions that also include market conditions, the number of shares of our stock issued pursuant to the award can range from 0% to 300% of the target amount. Compensation expense for PSUs with performance conditions is measured using the fair value at the date of grant and recorded over the vesting period under the graded-vesting attribution method, and may be adjusted over the vesting period based on interim estimates of performance against the pre-set objectives. We use a Monte Carlo option-pricing model to determine the fair value of PSUs with market conditions.

Recently Adopted Accounting Standards

In May 2017, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2017-09 (Topic 718), Scope of Modification Accounting. The new standard clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. We adopted this new standard as of February 1, 2018. The adoption of this new standard did not have an impact on our condensed consolidated financial statements.


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In January 2017, the FASB issued ASU No. 2017-01 (Topic 805), Business Combinations - Clarifying the Definition of a Business. The new standard narrows the application of when an integrated set of assets and activities is considered a business and provides a framework to assist entities in evaluating whether both an input and a substantive process are present to be considered a business. We adopted this new standard as of February 1, 2018, and anticipate that the adoption of the new guidance will result in more transactions being accounted for as asset acquisitions rather than business combinations and that the new standard will impact our consideration of strategic investments. The adoption of this new standard did not have an impact on our condensed consolidated financial statements.

In October 2016, the FASB issued ASU No. 2016-16 (Topic 740), Income Taxes: Intra-Entity Transfers of Assets Other Than Inventory, which includes a revision of the accounting for the income tax consequences of intra-entity transfers of assets other than inventory to reduce the complexity in accounting standards. We adopted this new standard as of February 1, 2018 with an immaterial cumulative effect adjustment recorded in accumulated deficit as of February 1, 2018.

In January 2016, the FASB issued ASU No. 2016-01 (Subtopic 825-10), Financial Instruments - Overall. The amendments in this update, and recent clarifications issued by the FASB through ASU No. 2018-03 and ASU No. 2018-04, address certain aspects of recognition, measurement, presentation, and disclosure of financial instruments, and require equity securities to be measured at fair value with changes in fair value recognized through net income. We adopted this new standard as of February 1, 2018 on a prospective basis. As part of the adoption, we elected to apply the measurement alternative for our non-marketable equity investments that do not have readily determinable fair values, measuring them at cost, less any impairment, plus or minus adjustments resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. The adoption of these standards did not result in an adjustment for our non-marketable equity investments.

In May 2014, the FASB issued ASU No. 2014-09 (Topic 606), Revenue from Contracts with Customers, which supersedes the revenue recognition requirements in Accounting Standards Codification 605, Revenue Recognition and establishes a new revenue standard. This new standard is based on the principle that revenue is recognized to depict the transfer of control of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. The standard also requires additional disclosures about the nature, amount, timing and uncertainty of revenues and cash flows arising from customer contracts, including significant judgments and changes in judgments, and assets recognized from costs incurred to obtain or fulfill a contract. The FASB has also issued several amendments to the new standard which were designed to clarify and simplify the adoption process.
    
In preparation for adoption of the new standard, we updated our accounting policies, systems, internal controls and processes. We adopted Topic 606 as of February 1, 2018 using the full retrospective method, which required us to adjust our historical financial information for fiscal years 2017 and 2018 to be consistent with the new standard. The most significant impacts of the standard relate to the timing of revenue recognition for arrangements involving term licenses, deferred revenue and sales commissions. Under the new revenue standard, we are required to recognize term license revenues upon the transfer of the license and the associated maintenance revenues over the contract period. Additionally, some deferred revenue, primarily from arrangements involving term licenses, was never recognized as revenue and instead is now a part of the cumulative effect adjustment within accumulated deficit. Finally, we are required to capitalize and amortize incremental costs of obtaining a contract, such as certain sales commission costs, over the remaining contractual term or over an expected period of benefit, which we have determined to be approximately five years.

We applied the following practical expedients permitted under Topic 606. For all reporting periods presented before the date of initial adoption, we have elected not to disclose the amount of the transaction price allocated to the remaining performance obligations or provide an explanation of when we expect to recognize that amount as revenue. Additionally, we have also elected not to separately evaluate each contract modification that occurred before the initial adoption date. We have elected not to assess whether a contract has a significant financing component if we expect at contract inception that the period between payment and the transfer of products or services will be one year or less.

The following tables present the impact of the new revenue standard to the reported results on our selected condensed consolidated statements of operations data and condensed consolidated balance sheet data and (in thousands, except per share data):

Selected Condensed Consolidated Statements of Operations Data

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Three Months Ended July 31, 2017
 
 
As Reported
 
Impact of Adoption
 
As Adjusted
Revenues
 
 
 
 
 
 
License
 
$
142,851

 
$
4,380

 
$
147,231

Maintenance and services
 
137,113

 
(4,120
)
 
132,993

Total revenues
 
279,964

 
260

 
280,224

Gross profit
 
220,088

 
260

 
220,348

Operating expenses
 
 
 
 
 
 
Sales and marketing
 
191,284

 
(4,647
)
 
186,637

Operating loss
 
(82,109
)
 
4,907

 
(77,202
)
Net loss
 
$
(83,500
)
 
$
4,907

 
$
(78,593
)
 
 
 
 
 
 
 
Basic and diluted net loss per share
 
$
(0.60
)
 
$
0.03

 
$
(0.57
)

 
 
Six Months Ended July 31, 2017
 
 
As Reported
 
Impact of Adoption
 
As Adjusted
Revenues
 
 
 
 
 
 
License
 
$
259,577

 
$
(9,784
)
 
$
249,793

Maintenance and services
 
262,835

 
(5,636
)
 
257,199

Total revenues
 
522,412

 
(15,420
)
 
506,992

Gross profit
 
404,373

 
(15,420
)
 
388,953

Operating expenses
 
 
 
 
 
 
Sales and marketing
 
365,232

 
(5,134
)
 
360,098

Operating loss
 
(179,566
)
 
(10,286
)
 
(189,852
)
Net loss
 
$
(183,431
)
 
$
(10,286
)
 
$
(193,717
)
 
 
 
 
 
 
 
Basic and diluted net loss per share
 
$
(1.33
)
 
$
(0.07
)
 
$
(1.40
)

Selected Condensed Consolidated Balance Sheet Data
 
 
January 31, 2018
 
 
As Reported
 
Impact of Adoption
 
As Adjusted
Assets
 
 
 
 
 
 
Accounts receivable, net
 
$
391,799

 
$
4,614

 
$
396,413

Deferred commissions, current
 

 
52,451

 
52,451

Deferred commissions, non-current
 

 
37,920

 
37,920

Liabilities and Stockholders’ Equity
 
 
 
 
 
 
Accrued expenses and other liabilities
 
77,160

 
7,471

 
84,631

Deferred revenue, current
 
635,253

 
(145,340
)
 
489,913

Deferred revenue, non-current
 
269,954

 
(91,162
)
 
178,792

Accumulated deficit
 
(1,279,887
)
 
324,016

 
(955,871
)

The adoption of Topic 606 had no impact to cash provided by or used in operating, financing, or investing activities on our condensed consolidated statements of cash flows.

Recently Issued Accounting Pronouncements
 

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In June 2018, the FASB issued ASU No. 2018-07 (Topic 718), Compensation - Stock Compensation: Improvements to Nonemployee Share-Based Payment Accounting. Under the new standard, entities will no longer be required to value non-employee share-based payment awards differently from employee awards. Upon transition, entities are required to measure non-employee awards at their grant-date fair value as of the adoption date. The standard is effective for our first quarter of fiscal 2020, although early adoption is permitted. We do not expect this standard will have a material impact on our condensed consolidated financial statements upon adoption.

In June 2016, the FASB issued ASU No. 2016-13 (Topic 326), Financial Instruments - Credit Losses. The amendments in this update require a financial asset (or a group of financial assets) measured at an amortized cost basis to be presented at the net amount expected to be collected. The new approach to estimating credit losses (referred to as the current expected credit losses model) applies to most financial assets measured at amortized cost and certain other instruments, including trade and other receivables, loans and held-to-maturity debt securities. The standard is effective for our first quarter of fiscal 2021, although early adoption is permitted. We are currently evaluating whether the adoption of this standard will have a material impact on our condensed consolidated financial statements.

In February 2016, the FASB issued ASU No. 2016-02 (Topic 842), Leases, which supersedes the lease recognition requirements in ASC Topic 840, Leases. The standard requires an entity to recognize right-of-use assets and lease liabilities arising from a lease for operating leases, initially measured at the present value of the lease payments on the condensed consolidated balance sheets. The impact of such leases on the condensed consolidated statements of operations and cash flows will continue to be treated in a similar manner under current GAAP. The standard also requires additional qualitative and quantitative disclosures. In July 2018, the FASB issued ASU No. 2018-10, Codification Improvements to Topic 842, Leases, which clarifies the codification or corrects unintended application of the guidance. In addition, the FASB issued ASU No. 2018-11, Leases (Topic 842): Targeted Improvements, which provides an optional transition method to apply the new lease standard at the adoption date, as opposed to the beginning of the earliest year presented, and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The standard is effective for our first quarter of fiscal 2020, although early adoption is permitted. We are currently evaluating the impact of this standard on our condensed consolidated financial statements and related disclosures. We anticipate that most of our office leases will be recognized as lease liabilities and corresponding right-of-use assets, and will accordingly have a material impact on our condensed consolidated balance sheets upon adoption.

(2)  Investments and Fair Value Measurements
 
The carrying amounts of certain of our financial instruments including cash equivalents, accounts receivable, accounts payable and accrued liabilities approximate fair value due to their short-term maturities.
 
Assets and liabilities recorded at fair value in the financial statements are categorized based upon the level of judgment associated with the inputs used to measure their fair value. Hierarchical levels that are directly related to the amount of subjectivity associated with the inputs to the valuation of these assets or liabilities are as follows:
 
Level 1—Observable inputs, such as quoted prices in active markets for identical assets or liabilities.
 
Level 2—Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
 
Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
 
Assets and liabilities measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires management to make judgments and consider factors specific to the asset or liability.

The following table sets forth the fair value of our financial assets that were measured on a recurring basis as of July 31, 2018 and January 31, 2018 (in thousands): 

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July 31, 2018
 
January 31, 2018
 
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Money market funds
 
$
368,655

 
$

 
$

 
$
368,655

 
$
341,687

 
$

 
$

 
$
341,687

U.S. treasury securities
 

 
471,902

 

 
471,902

 

 
619,203

 

 
619,203

Other
 

 

 
4,000

 
4,000

 

 

 

 

Reported as:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Assets:
 
 

 
 

 
 

 
 

 
 

 
 

 
 

 
 

Cash and cash equivalents
 
 

 
 

 
 

 
$
368,655

 
 

 
 

 
 

 
$
341,687

Investments, current
 
 
 
 
 
 
 
471,902

 
 
 
 
 
 
 
619,203

Investments, non-current
 
 
 
 
 
 
 
4,000

 
 
 
 
 
 
 

Total
 
 

 
 

 
 

 
$
844,557

 
 

 
 

 
 

 
$
960,890


Our investments in money market funds are measured at fair value on a recurring basis. These money market funds are actively traded and reported daily through a variety of sources. The fair value of the money market fund investments is classified as Level 1.

The following table represents our investments in U.S. treasury securities, which we have classified as available-for-sale investments as of July 31, 2018 (in thousands): 
 
 
July 31, 2018
 
 
Amortized Cost
 
Unrealized Gains
 
Unrealized Losses
 
Fair Value
Investments, current:
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
472,338

 
$

 
$
(436
)
 
$
471,902

Total available-for-sale investments in U.S. treasury securities
 
$
472,338

 
$

 
$
(436
)
 
$
471,902


The following table represents our investments in U.S. treasury securities, which we have classified as available-for-sale investments as of January 31, 2018 (in thousands): 
 
 
January 31, 2018
 
 
Amortized Cost
 
Unrealized Gains
 
Unrealized Losses
 
Fair Value
Investments, current:
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
620,345

 
$

 
$
(1,142
)
 
$
619,203

Total available-for-sale investments in U.S. treasury securities
 
$
620,345

 
$

 
$
(1,142
)
 
$
619,203


As of July 31, 2018, and January 31, 2018, the following marketable securities were in an unrealized loss position (in thousands):
 
 
Less than 12 Months
 
12 Months or Greater
 
Total
 
 
Fair Value
 
Unrealized Losses
 
Fair Value
 
Unrealized Losses
 
Fair Value
 
Unrealized Losses
July 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
471,902

 
$
(436
)
 
$

 
$

 
$
471,902

 
$
(436
)
January 31, 2018
 
 
 
 
 
 
 
 
 
 
 
 
U.S. treasury securities
 
$
619,203

 
$
(1,142
)
 
$

 
$

 
$
619,203

 
$
(1,142
)

As of July 31, 2018, we did not consider any of our investments to be other-than-temporarily impaired.

The contractual maturities of our investments are as follows (in thousands):

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July 31, 2018
Due within one year
 
$
471,902

Total
 
$
471,902


Investments with maturities of less than 12 months from the balance sheet date are classified as current assets, which are available for use to fund current operations. Investments with maturities greater than 12 months from the balance sheet date are classified as long-term assets.

Equity Investments

Our equity investments are reported in “Investments, non-current” on our condensed consolidated balance sheets. The following table provides a summary of our equity investments as of July 31, 2018 and January 31, 2018 (in thousands):
 
 
July 31, 2018
 
January 31, 2018
Equity investments without readily determinable fair values
 
$
5,000

 
$
5,000

Equity investments under the equity method of accounting
 
750

 
375

Total
 
$
5,750

 
$
5,375


(3)  Commitments and Contingencies
 
Operating Lease Commitments
 
We lease our office spaces under non-cancelable leases. Rent expense, net of sublease income, for our operating leases was $6.1 million and $5.5 million for the three months ended July 31, 2018 and 2017, respectively, and $12.2 million and $10.8 million for the six months ended July 31, 2018 and 2017, respectively.

On June 18, 2018, we renewed our office lease at 250 Brannan Street for approximately 101,000 square feet located in San Francisco, California. This lease is expected to commence in the first quarter of fiscal 2020 for a term of 147 months. Our total obligation for the base rent will be approximately $137.6 million.
  
The following summarizes our operating lease commitments as of July 31, 2018 (in thousands):
 
 
Payments Due by Period
 
 
Total
 
Less Than 1
year
 
1-3 years
 
3-5 years
 
More Than 5
years
Operating lease commitments (1)
 
$
293,571

 
$
27,431

 
$
60,900

 
$
54,512

 
$
150,728

 _________________________
(1) We have entered into sublease agreements for portions of our office space and the future rental income of $6.2 million from these agreements has been included as an offset to our future minimum rental payments.

Financing Lease Obligation

On April 29, 2014, we entered into an office lease (the “Lease”) for approximately 182,000 square feet located at 270 Brannan Street, San Francisco, California (the “Premises”). The Premises is allocated between the “Initial Premises” and “Additional Premises,” which are each approximately 91,000 square feet of rentable space. The term of the Additional Premises begins one year after the term of the Initial Premises, which began in August 2015, and each have a term of 84 months. Our total obligation for the base rent is approximately $92.0 million. On May 13, 2014, we entered into an irrevocable, standby letter of credit with Silicon Valley Bank for $6.0 million to serve as a security deposit for the Lease.

As a result of our involvement during the construction period, whereby we had certain indemnification obligations related to the construction, we were considered, for accounting purposes only, the owner of the construction project under build-to-suit lease accounting. We have recorded project construction costs incurred by the landlord as an asset and a corresponding long-term liability in “Property and equipment, net” and “Other liabilities, non-current,” respectively, on our condensed consolidated balance sheets. We moved into the Premises in February 2016. We have determined that the lease does not meet the criteria for “sale-leaseback” treatment, due to our continuing involvement in the construction project resulting from our standby letter of credit. Accordingly, the Lease will continue to be accounted for as a financing obligation.


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As of July 31, 2018, future payments on the financing lease obligation are as follows (in thousands):
Fiscal Period:
 
 
Remaining six months of fiscal 2019
 
$
6,288

Fiscal 2020
 
12,928

Fiscal 2021
 
13,316

Fiscal 2022
 
13,715

Fiscal 2023
 
14,127

Thereafter
 
8,142

Total future minimum lease payments
 
$
68,516


Legal Proceedings
 
We are subject to certain routine legal and regulatory proceedings, as well as demands and claims that arise in the normal course of our business. We make a provision for a liability relating to legal matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impact of negotiations, estimated settlements, legal rulings, advice of legal counsel and other information and events pertaining to a particular matter. In our opinion, resolution of any pending claims (either individually or in the aggregate) is not expected to have a material adverse impact on our condensed consolidated results of operations, cash flows or financial position, nor is it possible to provide an estimated amount of any such loss. However, depending on the nature and timing of any such dispute, an unfavorable resolution of a matter could materially affect our future results of operations or cash flows, or both, in a particular quarter.

Indemnification Arrangements
 
During the ordinary course of business, we may indemnify, hold harmless and agree to reimburse for losses suffered or incurred, our customers, vendors and each of their affiliates for certain intellectual property infringement and other claims by third parties with respect to our offerings, in connection with our commercial license arrangements or related to general business dealings with those parties.

As permitted under Delaware law, we have entered into indemnification agreements with our officers, directors and certain employees, indemnifying them for certain events or occurrences while they serve as our officers or directors or those of our direct and indirect subsidiaries.
 
To date, there have not been any costs incurred in connection with such indemnification obligations; therefore, there is no accrual of such amounts as of July 31, 2018. We are unable to estimate the maximum potential impact of these indemnifications on our future results of operations.

(4)  Property and Equipment
 
Property and equipment are stated at cost, net of accumulated depreciation and amortization. These assets are depreciated and amortized using the straight-line method over their estimated useful lives. Property and equipment consisted of the following as of July 31, 2018 and January 31, 2018 (in thousands):
 
 
As of
 
 
July 31, 2018
 
January 31, 2018
Computer equipment and software
 
$
73,842

 
$
69,457

Furniture and fixtures
 
18,251

 
18,090

Leasehold and building improvements (1)
 
70,853

 
67,348

Building (2)
 
82,250

 
82,250

Property and equipment, gross
 
245,196

 
237,145

Less: accumulated depreciation and amortization
 
(88,787
)
 
(76,265
)
Property and equipment, net
 
$
156,409

 
$
160,880

 _________________________ 

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(1) Includes costs related to assets not yet placed into service of $7.2 million and $2.8 million, as of July 31, 2018 and January 31, 2018, respectively.
(2) This relates to the capitalization of construction costs in connection with our financing lease obligation, where we are considered the owner of the asset, for accounting purposes only. There is a corresponding long-term liability for this obligation on our condensed consolidated balance sheets under “Other liabilities, non-current.” Refer to Note 3 “Commitments and Contingencies” for details.

Depreciation and amortization expense on Property and equipment was $6.5 million and $6.6 million for the three months ended July 31, 2018 and 2017, respectively, and $13.1 million and $13.0 million for the six months ended July 31, 2018 and 2017, respectively.

(5)  Acquisitions, Goodwill and Intangible Assets

VictorOps
On June 22, 2018, we acquired 100% of the voting equity interest of VictorOps, Inc. (“VictorOps”), a privately-held Delaware corporation, that develops incident management solutions for the IT and DevOps markets. This acquisition has been accounted for as a business combination. The purchase price of $112.3 million, paid in cash of $108.8 million and $3.5 million in fair value of replacement equity awards attributable to pre-acquisition service, was preliminarily allocated as follows: $21.1 million to identified intangible assets, $1.7 million to net assets acquired, with the excess $89.5 million of the purchase price over the fair value of net tangible and intangible assets acquired recorded as goodwill, allocated to our one operating segment. Goodwill is primarily attributable to the value expected from the synergies of the combination, including combined selling opportunities with our products. This goodwill is not deductible for income tax purposes. The results of operations of VictorOps, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Additionally, we recognized $2.7 million of acquisition-related costs as general and administrative expense on our condensed consolidated statements of operations.
Per the terms of the merger agreement with VictorOps, certain unvested stock options held by VictorOps employees were cancelled and exchanged for replacement stock options to purchase shares of our common stock under our 2012 Equity Incentive Plan. Additionally, certain shares of stock issued under share-based compensation awards held by key employees of VictorOps were cancelled and exchanged for unregistered restricted shares of our common stock subject to vesting. The portion of the fair value of the replacement equity awards associated with pre-acquisition service of VictorOps employees represented a component of the total purchase consideration, as discussed above. The remaining fair value of $7.6 million of these issued awards, which are subject to the recipients’ continued service with us and was excluded from the purchase price, will be recognized ratably as stock-based compensation expense over the required service period. We are still finalizing the allocation of the purchase price, which may be subject to change as additional information becomes available to us.
The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):
 
 
Fair Value
 
 Useful Life (months)
Developed technology
 
$
11,700

 
84
Customer relationships
 
9,400

 
60
Total intangible assets acquired
 
$
21,100

 
 

Phantom

On April 6, 2018, we acquired 100% of the voting equity interest of Phantom Cyber Corporation (“Phantom”), a privately-held Delaware corporation, that develops solutions for security orchestration, automation and response. This acquisition has been accounted for as a business combination. The purchase price of $303.8 million, paid in cash of $291.5 million and $12.3 million in fair value of replacement equity awards attributable to pre-acquisition service, was preliminarily allocated as follows: $44.1 million to identified intangible assets, $10.5 million to net assets acquired, $3.3 million to net deferred tax liability, with the excess $252.5 million of the purchase price over the fair value of net tangible and intangible assets acquired recorded as goodwill, allocated to our one operating segment. Goodwill is primarily attributable to the value expected from the synergies of the combination, including combined selling opportunities with our products. This goodwill is not deductible for income tax purposes. The results of operations of Phantom, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Additionally, we recognized $3.3 million of acquisition-related costs as general and administrative expense on our condensed consolidated statements of operations.

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Per the terms of the merger agreement with Phantom, certain shares of stock issued under share-based compensation awards held by key employees of Phantom were canceled and exchanged for replacement equity awards consisting of unregistered restricted shares of our common stock subject to vesting. The portion of the fair value of the replacement equity awards associated with pre-acquisition service of Phantom's key employees represented a component of the total purchase consideration, as discussed above. The remaining fair value of $62.2 million of these issued awards, which are subject to the recipients’ continued service with us and thus excluded from the purchase price, will be recognized ratably as stock-based compensation expense over the required service period. We are still finalizing the allocation of the purchase price, which may be subject to change as additional information becomes available to us.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):
 
 
Fair Value
 
 Useful Life (months)
Developed technology
 
$
34,400

 
84
Customer relationships
 
9,700

 
60
Total intangible assets acquired
 
$
44,100

 
 

Unaudited Pro Forma Financial Information

The following unaudited pro forma information presents the combined results of operations as if the acquisitions of VictorOps and Phantom had been completed on February 1, 2017, the beginning of the comparable prior annual reporting period. The unaudited pro forma results include adjustments primarily related to the following: (i) amortization associated with preliminary estimates for the acquired intangible assets; (ii) recognition of post-acquisition stock-based compensation; (iii) acquisition-related costs incurred prior to the acquisitions and (iv) the associated tax impact of the acquisitions and these unaudited pro forma adjustments.

The unaudited pro forma results do not reflect any cost saving synergies from operating efficiencies or the effect of the incremental costs incurred from integrating these companies. Accordingly, these unaudited pro forma results are presented for informational purposes only and are not necessarily indicative of what the actual results of operations of the combined company would have been if the acquisitions had occurred at the beginning of the period presented, nor are they indicative of future results of operations (in thousands, except per share amounts):

 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2018
 
2017
 
2018
 
2017
Revenue
 
$
389,283

 
$
283,651

 
$
708,561

 
$
514,758

Net loss
 
$
(103,945
)
 
$
(92,294
)
 
$
(234,407
)
 
$
(221,801
)
Basic and diluted net loss per share
 
$
(0.72
)
 
$
(0.66
)
 
$
(1.62
)
 
$
(1.60
)

Rocana

On October 6, 2017, we acquired certain assets of Rocana, Inc. (“Rocana”), a privately-held Delaware corporation that develops analytics solutions for the IT market. This acquisition has been accounted for as a business combination. The purchase price of $30.2 million, paid in cash, was preliminarily allocated as follows: $10.1 million to identifiable intangible assets, with the excess $20.1 million of the purchase price over the fair value of net assets acquired recorded as goodwill. This goodwill is primarily attributable to the value expected from the synergies of the combination, including advancing the analytics and machine learning capabilities of our products, and is deductible for income tax purposes. The results of operations of the acquired entity, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Pro forma and historical results of operations of the acquired entity have not been presented as we do not consider the results to have a material effect on any of the periods presented in our condensed consolidated statements of operations. We are currently finalizing the allocation of the purchase price, which may be subject to change as additional information becomes available to us.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):

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Fair Value
 
 Useful Life (months)
Developed technology
 
$
8,320

 
36
Other acquired intangible assets
 
1,790

 
24
Total intangible assets acquired
 
$
10,110

 
 

SignalSense

On September 29, 2017, we acquired 100% of the voting equity interest of SignalSense Inc. (“SignalSense”), a privately held Washington corporation that develops cloud-based data collection and breach detection solutions that leverage machine learning. This acquisition has been accounted for as a business combination. The purchase price of $12.2 million, paid in cash, was preliminarily allocated as follows: $11.3 million to identifiable intangible assets acquired, $0.2 million in net assets and $2.0 million to net deferred tax liabilities, with the excess $2.7 million of the purchase price over the fair value of net assets acquired recorded as goodwill. This goodwill is primarily attributable to the value expected from the synergies of the combination, including developing more advanced cloud and machine learning capabilities for our products, and is not deductible for income tax purposes. The results of operations of the acquired entity, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Pro forma and historical results of operations of the acquired entity have not been presented as we do not consider the results to have a material effect on any of the periods presented in our condensed consolidated statements of operations. We are currently finalizing the allocation of the purchase price, which may be subject to change as additional information becomes available to us.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):
 
 
Fair Value
 
 Useful Life (months)
Developed technology
 
$
11,310

 
36
Total intangible assets acquired
 
$
11,310

 
 
    
Drastin

On May 15, 2017, we acquired 100% of the voting equity interest of Drastin, Inc. (“Drastin”), a privately-held Delaware corporation that develops technology for search-driven analytics on enterprise data. This acquisition has been accounted for as a business combination. The purchase price of $17.3 million, paid in cash, was allocated as follows: $3.8 million to identifiable intangible assets and $0.5 million to net deferred tax liability, with the excess $14.0 million of the purchase price over the fair value of net assets acquired recorded as goodwill. This goodwill is primarily attributable to the value expected from the synergies of the combination, including developing a more intuitive search experience for our products, and is not deductible for income tax purposes. The results of operations of the acquired entity, which are not material, have been included in our condensed consolidated financial statements from the date of purchase. Pro forma and historical results of operations of the acquired entity have not been presented as we do not consider the results to have a material effect on any of the periods presented in our condensed consolidated statements of operations.

The following table sets forth the components of identifiable intangible assets acquired and their estimated useful lives as of the date of acquisition (in thousands, except useful life):
 
 
Fair Value
 
 Useful Life (months)
Developed technology
 
$
3,500

 
48
Other acquired intangible assets
 
300

 
24
Total intangible assets acquired
 
$
3,800

 
 

Goodwill

There were no impairments to goodwill during the three or six months ended July 31, 2018 or during prior periods. Goodwill balances are presented below (in thousands):

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Carrying Amount
Balance as of January 31, 2018
 
$
161,382

Goodwill acquired
 
342,006

Balance as of July 31, 2018
 
$
503,388


Intangible Assets

Intangible assets subject to amortization realized from acquisitions as of July 31, 2018 are as follows (in thousands, except useful life):
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Net Carrying Amount
 
Weighted Average Remaining Useful Life
(months)
Developed technology
 
$
132,100

 
$
(45,758
)
 
$
86,342

 
56
Customer relationships
 
20,910

 
(2,613
)
 
18,297

 
58
Other acquired intangible assets
 
3,270

 
(2,044
)
 
1,226

 
15
Total intangible assets subject to amortization
 
$
156,280

 
$
(50,415
)
 
$
105,865

 
 

Amortization expense from acquired intangible assets was $6.3 million and $4.2 million for the three months ended July 31, 2018 and 2017, respectively, and $11.0 million and $6.9 million for the six months ended July 31, 2018 and 2017, respectively.
    
The expected future amortization expense for acquired intangible assets as of July 31, 2018 is as follows (in thousands):
Fiscal Period:
 
 
Remaining six months of fiscal 2019
 
$
14,282

Fiscal 2020
 
27,903

Fiscal 2021
 
23,780

Fiscal 2022
 
13,701

Fiscal 2023
 
10,406

Thereafter
 
15,793

Total amortization expense
 
$
105,865


(6)  Debt Financing Facilities

On May 9, 2013, we entered into a Loan Agreement with Silicon Valley Bank, which was most recently amended in May 2018. As amended, the agreement provides for a revolving line of credit facility, which expires in May 2019. Under the agreement, we are able to borrow up to $25 million. Interest on any drawdown under the revolving line of credit accrues either at the prime rate (5.00% in July 2018) or the LIBOR rate plus 2.75%. As of July 31, 2018, we had no balance outstanding under this agreement. The agreement contains customary financial covenants and other affirmative and negative covenants. We were in compliance with all covenants as of July 31, 2018.

(7)  Stock Compensation Plans
 
The following table summarizes our stock option, RSU and PSU award activity during the six months ended July 31, 2018

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Options Outstanding
 
RSUs and PSUs
Outstanding
 
 
Shares Available
for Grant
 
Shares
 
Weighted-
Average
Exercise
Price
Per Share
 
Weighted-
Average
Remaining
Contractual
Term
 
Aggregate
Intrinsic
Value (1)
 
Shares
 
 
 
 
 
 
 
 
(in years)
 
(in thousands)
 
 
Balances as of January 31, 2018
 
14,658,992

 
623,120

 
$
8.22

 
3.68
 
$
52,435

 
13,016,473

Additional shares authorized
 
7,141,756

 
 
 
 
 
 
 
 
 


Options granted
 
(54,343
)
 
54,343

 
22.71

 
 
 
 
 
 
Options exercised
 

 
(194,432
)
 
6.96

 

 
19,283

 


Options forfeited and expired
 
99

 
(99
)
 
15.27

 

 


 


RSUs and PSUs granted
 
(2,554,121
)
 


 


 

 


 
2,554,121

RSUs and PSUs vested
 

 


 


 
 
 
 
 
(2,396,505
)
Shares withheld related to net share settlement of RSUs and PSUs
 
39

 


 


 
 
 
 
 

RSUs and PSUs forfeited and canceled
 
504,098

 


 


 

 


 
(504,098
)
Balances as of July 31, 2018
 
19,696,520

 
482,932

 
$
10.36

 
3.92
 
$
41,423

 
12,669,991

Vested and expected to vest
 
 
 
482,835

 
$
10.35

 
3.92
 
$
41,418

 
12,265,053

Exercisable as of July 31, 2018
 
 
 
428,260

 
$
8.95

 
3.32
 
$
37,322

 
 
 _________________________ 
(1) The intrinsic value is calculated as the difference between the exercise price of the underlying stock option award and the closing market price of our common stock as of July 31, 2018.

Beginning in fiscal 2016, we have granted PSUs to certain executives under our 2012 Equity Incentive Plan. The number of PSUs earned and eligible to vest are determined based on achievement of certain performance conditions and/or market conditions and the recipients' continued service with us. For awards subject to service and performance conditions, the number of shares of our stock issued pursuant to the award can range from 0% to 200% of the target amount. For awards subject to service and performance conditions that also include market conditions, the number of shares of our stock issued pursuant to the award can range from 0% to 300% of the target amount.

As of July 31, 2018, total unrecognized compensation cost related to stock options was $4.4 million, adjusted for estimated forfeitures, which is expected to be recognized over a weighted-average period of 1.5 years. As of July 31, 2018, total unrecognized compensation cost was $799.1 million related to RSUs, adjusted for estimated forfeitures, which is expected to be recognized over the next 2.7 years. As of July 31, 2018, total unrecognized compensation cost was $57.9 million related to PSUs, adjusted for estimated forfeitures, which is expected to be recognized over the next 2.6 years.

The weighted-average grant date fair value of RSUs granted was $110.60 per share during the six months ended July 31, 2018. The weighted-average grant date fair value of PSUs granted was $86.55 per share during the six months ended July 31, 2018.

The following table summarizes our RSA activity during the six months ended July 31, 2018
 
 
Shares
Outstanding as of January 31, 2018
 
63,353

RSAs granted
 
824,605

RSAs vested
 
(7,483
)
Outstanding as of July 31, 2018
 
880,475


The weighted-average grant date fair value of RSAs granted was $79.07 per share during the six months ended July 31, 2018. As of July 31, 2018, total unrecognized compensation cost related to RSAs was $61.8 million, adjusted for estimated forfeitures, which is expected to be recognized over the next 2.4 years.

(8) Deferred Revenue and Remaining Performance Obligations         

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Deferred Revenue

Revenues recognized from amounts included in deferred revenue as of January 31, 2018 were $279.2 million during the six months ended July 31, 2018. Revenues recognized during the six months ended July 31, 2018 from performance obligations satisfied or partially satisfied in previous periods were not material.

Remaining Performance Obligations

Revenue allocated to remaining performance obligations represents contracted revenue that has not yet been recognized, which includes deferred revenue and non-cancelable amounts that will be invoiced and excludes performance obligations that are subject to cancellation terms. Our remaining performance obligations were $841.2 million as of July 31, 2018, of which we expect to recognize approximately 89% as revenue over the next 24 months and the remainder thereafter.

Disaggregation of Revenues
    
Refer to Note 9 “Geographic Information” for details regarding disclosures on the disaggregation of revenues.
    
(9)  Geographic Information
 
Revenues

Revenues by geography are based on the shipping address of the customer. The following table presents our revenues by geographic region for the periods presented (in thousands):

 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2018

2017*
 
2018
 
2017*
United States
 
$
267,201

 
$
199,573

 
$
494,643

 
$
362,036

International
 
121,102

 
80,651

 
205,299

 
144,956

Total revenues
 
$
388,303

 
$
280,224

 
$
699,942

 
$
506,992

*Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.
 
Other than the United States, no other individual country exceeded 10% of total revenues during any of the periods presented. One channel partner represented 33% and 31% of total revenues during the three months ended July 31, 2018 and 2017, respectively, and approximately 31% and 30% of total revenues during the six months ended July 31, 2018 and 2017, respectively. A second channel partner represented approximately 16% and 19% of total revenues during the three months ended July 31, 2018 and 2017, respectively, and approximately 15% and 18% of total revenues during the six months ended July 31, 2018 and 2017, respectively. The revenues from these channel partners are comprised of a number of customer transactions, none of which were individually greater than 10% of total revenues for the three or six months ended July 31, 2018 or 2017.

As of July 31, 2018, one channel partner represented 23% and a second channel partner represented 21% of total current and non-current accounts receivable. As of January 31, 2018, one channel partner represented 39% and a second channel partner represented 10% of total current and non-current accounts receivable.

Property and Equipment

The following table presents our property and equipment, net of depreciation and amortization, by geographic region as of July 31, 2018 and January 31, 2018 (in thousands):
 
 
As of
 
 
July 31, 2018
 
January 31, 2018
United States
 
$
145,159

 
$
153,335

International
 
11,250

 
7,545

Total property and equipment, net
 
$
156,409

 
$
160,880



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Other than the United States, no other country represented 10% or more of our total property and equipment as of July 31, 2018 or January 31, 2018.

(10)  Income Taxes

For the three months ended July 31, 2018 and 2017, we recorded income tax expense of $0.8 million and $0.4 million, respectively. The increase in income tax expense for the three months ended July 31, 2018 was primarily due to an increase in taxable income from our international jurisdictions. For the six months ended July 31, 2018 and 2017, we recorded an $1.2 million income tax benefit and an $1.7 million income tax expense, respectively. The decrease in income tax expense for the six months ended July 31, 2018 was primarily due to the partial release of the valuation allowance as a result of an acquisition.

During the three months ended July 31, 2018, there were no material changes to our unrecognized tax benefits. During fiscal year 2018, we recorded an increase to unrecognized tax benefits with an offset to the valuation allowance for $6.0 million relating to a change in accounting method for tax purposes. During the period ended April 30, 2018, we filed an application to formally change the accounting method with the IRS and received audit protection. As such, a reversal of the unrecognized tax benefits of $6.0 million was recorded with an offset to the valuation allowance during the period ended April 30, 2018. We do not expect to have other significant changes to unrecognized tax benefits through the end of fiscal year 2019. Because of our history of tax losses, all years remain open to tax audit.

Tax Cuts and Jobs Act of 2017

In December 2017, the SEC staff issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (“SAB 118”), which allows us to record provisional amounts for the 2017 Tax Cuts and Jobs Act (the “Tax Act”) during a measurement period not to extend beyond one year of the enactment date, with further clarifications made recently with the issuance of ASU No. 2018-05 (Topic 740), Income Taxes: Amendments to SEC Paragraphs Pursuant to SEC SAB 118. Through July 31, 2018, we did not have any significant adjustments to our provisional amounts. We will continue our analysis of these provisional amounts, which are still subject to change during the measurement period. We anticipate further guidance on accounting interpretations from the FASB and application of the law from the Department of Treasury. We expect to reach a final determination within the measurement period described above.

The FASB Staff Q&A, Topic 740, No. 5, Accounting for Global Intangible Low-Taxed Income ("GILTI"), states that an entity can make an accounting policy election to either recognize deferred taxes for temporary basis differences expected to reverse as GILTI in future years or provide for the tax expense related to GILTI in the year the tax is incurred as a period expense. Given the complexity of the GILTI provisions, we are still evaluating the effects of the GILTI provisions and have not yet determined our accounting policy.

(11)  Net Loss Per Share
 
Basic net loss per share is computed by dividing the net loss by the weighted-average number of shares of common stock outstanding during the period, less the weighted-average unvested common stock subject to repurchase or forfeiture. Diluted net loss per share is computed by giving effect to all potential shares of common stock, including preferred stock, stock options, RSUs, PSUs and RSAs to the extent dilutive.
 
The following table sets forth the computation of historical basic and diluted net loss per share for the periods presented (in thousands, except per share data):
 
 
Three Months Ended July 31,
 
Six Months Ended July 31,
 
 
2018
 
2017*
 
2018
 
2017*
Numerator:
 
 

 
 

 
 

 
 

Net loss
 
$
(103,499
)
 
$
(78,593
)
 
$
(221,998
)
 
$
(193,717
)
Denominator:
 
 

 
 

 
 

 
 

Weighted-average common shares outstanding
 
145,851

 
139,135

 
144,361

 
138,509

Less: Weighted-average unvested common shares subject to repurchase or forfeiture
 
(821
)
 
(72
)
 
(55
)
 
(73
)
Weighted-average shares used to compute net loss per share, basic and diluted
 
145,030

 
139,063

 
144,306

 
138,436

Net loss per share, basic and diluted
 
$
(0.71
)
 
$
(0.57
)
 
$
(1.54
)
 
$
(1.40
)

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Table of Contents

* Prior-period information has been adjusted to reflect the adoption of ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which we adopted on February 1, 2018. Refer to Note 1 for further details.

Since we were in a net loss position for all periods presented, basic net loss per share is the same as diluted net loss per share for all periods as the inclusion of all potentially dilutive securities outstanding would have been anti-dilutive. Potentially dilutive securities that were not included in the diluted per share calculations because they would be anti-dilutive were as follows (in thousands):
 
 
As of July 31,
 
 
2018
 
2017
Shares subject to outstanding common stock options
 
483

 
1,483

Shares subject to outstanding RSUs, PSUs and RSAs
 
13,550

 
12,127

Employee stock purchase plan
 
371

 
344

Total
 
14,404

 
13,954

 
(12)  Related Party Transactions
 
Certain members of our board of directors serve on the board of directors of and/or are executive officers of, and, in some cases, are investors in, companies that are customers or vendors of ours. Certain of our executive officers also serve on the board of directors of companies that are customers or vendors of ours. All contracts with related parties are executed in the ordinary course of business. We recognized revenues from sales to these companies of $2.7 million and $2.9 million for the three months ended July 31, 2018 and 2017, respectively, and $5.1 million and $5.9 million for the six months ended July 31, 2018 and 2017, respectively. We recorded $0.8 million and $0.3 million in expenses related to purchases from these companies during the three months ended July 31, 2018 and 2017, respectively, and $1.5 million and $0.5 million for the six months ended July 31, 2018 and 2017, respectively. We had $1.6 million and $2.0 million of current and non-current accounts receivable from these companies as of July 31, 2018 and January 31, 2018, respectively. We had $0.2 million and $0.3 million of accounts payable to these companies as of July 31, 2018 and January 31, 2018, respectively.
 
(13)  Subsequent Event

On August 15, 2018, we entered into an office lease at 3060 Olsen Drive for approximately 301,000 square feet located in San Jose, California. This lease is expected to commence in the first quarter of fiscal 2020 for a term of 130 months, subject to the completion of certain pre-occupancy improvements by our landlord. Our total obligation for the base rent will be approximately $162.6 million.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q. The following discussion and analysis contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. Statements that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are often identified by the use of words such as, but not limited to, “anticipate,” “believe,” “can,” “continue,” “could,” “estimate,” “expect,” “predict,” “intend,” “may,” “might,” “plan,” “project,” “potential,” “seek,” “should,” “target,” “will,” “would” and similar expressions or variations intended to identify forward-looking statements. Such statements include, but are not limited to, statements concerning our market opportunity, our future financial and operating results; our planned investments, particularly in our product development efforts; our planned expansion of our sales and marketing organization; our expectation that we will continue to use acquisitions to contribute to our growth objectives; our growth and product integration strategies; our continued efforts to market and sell both domestically and internationally; our expectations about seasonal trends; our expectations regarding our revenues mix; our expectations regarding our cost of revenues and gross margin; use of non-GAAP (as defined below) financial measures; our expectations regarding our operating expenses, including increases in research and development, sales and marketing, and general and administrative expenses; our expectations regarding our capital expenditures; sufficiency of cash to meet cash needs for at least the next 12 months; exposure to interest rate changes; inflation; anticipated income tax rates; our expectations regarding our leases; exposure to exchange rate fluctuations and our ability to manage such exposure; and our expected cash flows and liquidity.


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These statements are based on the beliefs and assumptions of our management based on information currently available to us. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the section titled “Risk Factors” included under Part II, Item 1A below. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances that occur after the date of this report.


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Overview

Splunk provides innovative software solutions that enable organizations to gain real-time operational intelligence by harnessing the value of their data. Our offerings enable users to collect, index, search, explore, monitor, correlate and analyze data regardless of format or source. Our offerings address large and diverse data sets commonly referred to as big data and are specifically tailored for machine data. Machine data is produced by nearly every software application and electronic device across an organization and contains a definitive, time-stamped record of various activities, such as transactions, customer and user behavior, and security threats. Beyond an organization’s traditional information technology (“IT”) and security infrastructure, data from the Industrial Internet, including industrial control systems, sensors, supervisory control and data acquisition (“SCADA”) systems, networks, manufacturing systems, smart meters and the Internet of Things (“IoT”), which includes consumer-oriented systems, such as electronic wearables, mobile devices, automobiles and medical devices is also continuously generating machine data. Our offerings help organizations gain the value contained in machine data by delivering real-time information to enable operational decision making.

We believe the market for products that provide operational intelligence presents a substantial opportunity as data grows in volume and diversity, creating new risks, opportunities and challenges for organizations. Since our inception, we have invested a substantial amount of resources developing our offerings to address this market, specifically with respect to machine data.
 
Our offerings are designed to deliver rapid return-on-investment for our customers. They generally do not require customization, long deployment cycles or extensive professional services commonly associated with traditional enterprise software applications. Prospective users can get started with our free online sandboxes that enable our customers to immediately try and experience Splunk offerings. Users that prefer to deploy the software on-premises can take advantage of our free 60-day trial of Splunk Enterprise, which converts into a limited free perpetual license of up to 500 megabytes of data per day. Paying users can sign up for Splunk Cloud and avoid the need to provision, deploy and manage internal infrastructure. Alternatively, they can simply download and install the software, typically in a matter of hours, to connect to their relevant machine data sources. Customers can also provision a compute instance on Amazon Web Services via a pre-built Amazon Machine Image, which delivers a pre-configured virtual machine instance with our Splunk Enterprise software. In fiscal 2017, we introduced free development-test licenses for certain commercial customers, allowing users to explore new data and use cases in a non-production environment without incurring additional fees. We also offer support, training and professional services to our customers to assist in the deployment of our software.

For Splunk Enterprise, we base our license fees on the estimated daily data indexing capacity our customers require. A substantial portion of our license revenues consist of revenues from perpetual and term licenses, whereby we generally recognize the license fee portion of these arrangements upfront. As a result, the timing of when we enter into large perpetual and term licenses may lead to fluctuations in our revenues and operating results because our expenses are largely fixed in the short-term. From time to time, we also enter into transactions that are designed to enable broad adoption of our software within an enterprise, referred to as enterprise adoption agreements. These agreements often include provisions that require revenue deferral and recognition over time.

Splunk Cloud delivers the core capabilities of Splunk Enterprise as a scalable, reliable cloud service. Splunk Cloud customers pay an annual subscription fee based on the combination of the volume of data indexed per day and the length of the data retention period. Splunk Light provides log search and analysis that is designed, priced and packaged for small IT environments, where a single-server log analytics solution is sufficient. Splunk Enterprise Security (“ES”) addresses emerging security threats and security information and event management (“SIEM”) use cases through monitoring, alerts and analytics. Splunk IT Service Intelligence (“ITSI”) monitors the health and key performance indicators of critical IT and business services. Splunk User Behavior Analytics (“UBA”) detects cyber-attacks and insider threats using data science, machine learning and advanced correlation.

We intend to continue investing for long-term growth. We have invested and intend to continue to invest heavily in product development to deliver additional features and performance enhancements, deployment models and solutions that can address new end markets. For example, we released new versions of existing offerings such as Splunk ES during the three months ended July 31, 2018. We expect to continue to aggressively expand our sales and marketing organizations to market and sell our software both in the United States and internationally. We have utilized and expect to continue to utilize acquisitions to contribute to our long-term growth objectives. During the second quarter of fiscal 2019, we acquired 100% of the voting equity interest of VictorOps, Inc., which develops incident management solutions for the IT and DevOps markets.
 
Our goal is to make our software the platform for delivering operational intelligence and real-time business insights from machine data. The key elements of our growth strategy are to:

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Table of Contents

 
Extend our technological capabilities.

Continue to expand our direct and indirect sales organization, including our channel relationships, to increase our sales capacity and enable greater market presence.

Further penetrate our existing customer base and drive enterprise-wide adoption.

Enhance our value proposition through a focus on solutions which address core and expanded use cases.

Grow our user communities and partner ecosystem to increase awareness of our brand, target new use cases, drive operational leverage and deliver more targeted, higher value solutions.

Continue to deliver a rich developer environment to enable rapid development of enterprise applications that leverage machine data and the Splunk platform.
 
We believe the factors that will influence our ability to achieve our goals include, among other things, our ability to deliver new offerings as well as additional product functionality; acquire new customers across geographies and industries; cultivate incremental sales from our existing customers by driving increased use of our software within organizations; provide additional solutions that leverage our core machine data platform to help organizations understand and realize the value of their machine data in specific end markets and use cases; add additional original equipment manufacturer (“OEM”) and strategic relationships to enable new sales channels for our software as well as extend our integration with third-party products; help software developers leverage the functionality of our machine data platform through software development kits (“SDKs”) and application programming interfaces (“APIs”); and successfully integrate acquired businesses and technologies.

New Accounting Standard

Prior period information presented in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section and comparative references to prior periods have been adjusted to reflect the impact of the full retrospective adoption of Topic 606. Refer to Note 1 contained in the “Notes to Condensed Consolidated Financial Statements” included in Part I of this Quarterly Report on Form 10-Q for further information.

Financial Summary
    
For the three months ended July 31, 2018 and 2017, our total revenues were $388.3 million and $280.2 million, respectively. For the three months ended July 31, 2018 and 2017, approximately 31% and 29% of our total revenues, respectively, were derived from customers located outside the United States. Our customers and end-users represent the public sector and a wide variety of industries, including financial services, manufacturing, retail and technology, among others. As of July 31, 2018, we had over 16,000 customers, including over 85 of the Fortune 100 companies.

For the three months ended July 31, 2018 and 2017, our GAAP operating loss was $103.9 million and $77.2 million, respectively. Our non-GAAP operating income was $11.4 million and $19.6 million for the three months ended July 31, 2018 and 2017, respectively.

For the three months ended July 31, 2018 and 2017, our GAAP net loss was $103.5 million and $78.6 million, respectively. Our non-GAAP net income was $11.7 million and $15.1 million for the three months ended July 31, 2018 and 2017, respectively.

Our quarterly results reflect seasonality in the sale of our offerings. Historically, a pattern of increased license sales in the fourth fiscal quarter as a result of industry buying patterns has positively impacted sales activity in that period, which can result in lower sequential revenues in the following first fiscal quarter. Our gross margins and operating losses have been affected by these historical trends because the majority of our expenses are relatively fixed in the short-term. The majority of our expenses are personnel-related and include salaries, stock-based compensation, benefits and incentive-based compensation plan expenses. As a result, we have not experienced significant seasonal fluctuations in the timing of expenses from period to period.


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Table of Contents

Non-GAAP Financial Results
 
To supplement our condensed consolidated financial statements, which are prepared and presented in accordance with GAAP, we provide investors with certain non-GAAP financial measures, including non-GAAP cost of revenues, non-GAAP gross margin, non-GAAP research and development expense, non-GAAP sales and marketing expense, non-GAAP general and administrative expense, non-GAAP operating income (loss), non-GAAP operating margin, non-GAAP income tax provision (benefit), non-GAAP net income (loss) and non-GAAP net income (loss) per share (collectively the “non-GAAP financial measures”). These non-GAAP financial measures exclude all or a combination of the following (as reflected in the following reconciliation tables): expenses related to stock-based compensation and related employer payroll tax, amortization of acquired intangible assets, adjustments related to a financing lease obligation and acquisition-related adjustments, including the partial release of the valuation allowance due to acquisitions. The adjustments for the financing lease obligation are to reflect the expense we would have recorded if our build-to-suit lease arrangement had been deemed an operating lease instead of a financing lease and is calculated as the net of actual ground lease expense, depreciation and interest expense over estimated straight-line rent expense. The non-GAAP financial measures are also adjusted for our estimated tax rate on non-GAAP income (loss). To determine the annual non-GAAP tax rate, we evaluate a financial projection based on our non-GAAP results. The annual non-GAAP tax rate takes into account other factors including our current operating structure, our existing tax positions in various jurisdictions and key legislation in major jurisdictions where we operate. The non-GAAP tax rate applied to the three and six months ended July 31, 2018 was 20%. We expect to utilize this annual non-GAAP tax rate in fiscal 2019 and will provide updates to this rate on an annual basis, or more frequently if material changes occur. In addition, non-GAAP financial measures include free cash flow, which represents cash from operations less purchases of property and equipment. The presentation of the non-GAAP financial measures is not intended to be considered in isolation or as a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP. We use these non-GAAP financial measures for financial and operational decision-making purposes and as a means to evaluate period-to-period comparisons. We believe that these non-GAAP financial measures provide useful information about our operating results, enhance the overall understanding of past financial performance and future prospects and allow for greater transparency with respect to key metrics used by management in our financial and operational decision making. In addition, these non-GAAP financial measures facilitate comparisons to competitors’ operating results.

We exclude stock-based compensation expense because it is non-cash in nature and excluding this expense provides meaningful supplemental information regarding our operational performance and allows investors the ability to make more meaningful comparisons between our operating results and those of other companies. We exclude employer payroll tax expense related to employee stock plans in order for investors to see the full effect that excluding that stock-based compensation expense had on our operating results. These expenses are tied to the exercise or vesting of underlying equity awards and the price of our common stock at the time of vesting or exercise, which may vary from period to period independent of the operating performance of our business. We also exclude amortization of acquired intangible assets, acquisition-related costs, including the partial release of the valuation allowance due to acquisitions, and make adjustments related to a financing lease obligation from our non-GAAP financial measures because these are considered by management to be outside of our core operating results. Accordingly, we believe that excluding these expenses provides investors and management with greater visibility to the underlying performance of our business operations, facilitates comparison of our results with other periods and may also facilitate comparison with the results of other companies in our industry. We consider free cash flow to be a liquidity measure that provides useful information to management and investors about the amount of cash generated by the business that can be used for strategic opportunities, including investing in our business, making strategic acquisitions and strengthening our balance sheet.

There are limitations in using non-GAAP financial measures because the non-GAAP financial measures are not prepared in accordance with GAAP, may be different from non-GAAP financial measures used by our competitors and exclude expenses that may have a material impact upon our reported financial results. Further, stock-based compensation expense has been and will continue to be for the foreseeable future a significant recurring expense in our business and an important part of the compensation provided to our employees. The non-GAAP financial measures are meant to supplement and be viewed in conjunction with GAAP financial measures.

The following table reconciles our net cash provided by operating activities to free cash flow for the three and six months ended July 31, 2018, and 2017 (in thousands):

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Table of Contents

 
Three Months Ended
 
Six Months Ended
 
July 31,
 
July 31,
 
July 31,
 
July 31,
 
2018
 
2017
 
2018
 
2017
Net cash provided by operating activities
$
33,524

 
$
23,188

 
$
110,011

 
$
64,546

Less purchases of property and equipment
(5,562
)
 
(2,908
)
 
(7,858
)
 
(8,513
)
Free cash flow (non-GAAP)
$
27,962

 
$
20,280

 
$
102,153

 
$
56,033

Net cash used in investing activities
$
(119,007
)
 
$
(63,155
)
 
$
(258,598
)
 
$
(28,168
)
Net cash provided by (used in) financing activities
$
23,813

 
$
(7,364
)
 
$
23,558

 
$
(38,656
)

The following table reconciles our GAAP to Non-GAAP Financial Measures for the three months ended July 31, 2018 (in thousands, except per share amounts):
 
 
GAAP
 
Stock-based compensation and related employer payroll tax
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Acquisition-related adjustments
 
Income tax effects related to non-GAAP adjustments(3)
 
Non-GAAP
Cost of revenues
 
$
83,748

 
$
(9,438
)
 
$
(5,353
)
 
$
304

 
$

 
$

 
$
69,261

Gross margin
 
78.4
 %
 
2.5
%
 
1.4
%
 
(0.1
)%
 
%
 
%
 
82.2
%
Research and development
 
106,739

 
(34,518
)
 
(268
)
 
507

 

 

 
72,460

Sales and marketing
 
243,830

 
(47,020
)
 
(652
)
 
1,147

 

 

 
197,305

General and administrative
 
57,844

 
(17,440
)
 

 
248

 
(2,730
)
 

 
37,922

Operating income (loss)
 
(103,858
)
 
108,416

 
6,273

 
(2,206
)
 
2,730

 

 
11,355

Operating margin
 
(26.7
)%
 
27.9
%
 
1.6
%
 
(0.6
)%
 
0.7
%
 
%
 
2.9
%
Income tax provision
 
811

 

 

 

 

 
2,105

 
2,916

Net income (loss)
 
$
(103,499
)
 
$
108,416

 
$
6,273

 
$
(151
)
(2) 
$
2,730

 
$
(2,105
)
 
$
11,664

Net income (loss) per share (1)
 
$
(0.71
)
 
 
 
 
 
 
 
 
 
 
 
$
0.08

_________________________
(1) Calculated based on 145,030 basic and diluted weighted-average shares of common stock. Non-GAAP net income per share calculated based on 151,441 diluted weighted-average shares of common stock, which includes 6,411 potentially dilutive shares related to employee stock awards. GAAP to non-GAAP net income (loss) per share is not reconciled due to the difference in the number of shares used to calculate basic and diluted weighted-average shares of common stock.
(2) Includes $2.1 million of interest expense related to the financing lease obligation.
(3) Represents the tax effect of the non-GAAP adjustments based on the estimated annual effective tax rate of 20%.

The following table reconciles our GAAP to non-GAAP Financial Measures for the three months ended July 31, 2017 (in thousands, except per share amounts):

26

Table of Contents

 
 
GAAP
 
Stock-based compensation and related employer payroll tax
 
 Amortization of acquired intangible assets
 
Adjustments related to financing lease obligation
 
Partial release of the valuation allowance due to acquisition
 
Income tax effects related to non-GAAP adjustments (3)
 
Non-GAAP
Cost of revenues
 
$
59,876

 
$
(8,687
)
 
$
(2,870
)
 
$
309

 
$

 
$

 
$
48,628

Gross margin
 
78.6
 %
 
3.1
%
 
1.0
%
 
(0.1
)%
 
%
 
%
 
82.6
%
Research and development
 
71,774

 
(26,550
)
 
(55
)
 
495

 

 

 
45,664

Sales and marketing
 
186,637

 
(43,837
)
 
(1,316
)
 
1,174

 

 

 
142,658

General and administrative
 
39,139

 
(15,691
)
 

 
227

 

 

 
23,675

Operating income (loss)
 
(77,202
)
 
94,765

 
4,241

 
(2,205
)
 

 

 
19,599

Operating margin
 
(27.6
)%
 
33.9
%
 
1.5
%
 
(0.8
)%
 
%
 
%
 
7.0
%
Income tax provision
 
353

 

 

 

 
546

 
4,681

 
5,580

Net income (loss)
 
$
(78,593
)
 
$
94,765

 
$
4,241

 
$
(99
)