RIBBON COMMUNICATIONS INC. Overview
We are a leading provider of next generation ("NextGen") software solutions to
telecommunications, wireless and cable service providers and enterprises across
industry verticals. With over 1,000 customers around the globe, including some
of the largest telecommunications service providers and enterprises in the
world, we enable service providers and enterprises to modernize their
communications networks through software and provide secure RTC solutions to
their customers and employees. By securing and enabling reliable and scalable IP
networks, we help service providers and enterprises adopt the next generation of
software-based virtualized and cloud communications technologies for service
providers to drive new, incremental revenue while protecting their existing
revenue streams. Our software solutions provide a secure way for our customers
to connect and leverage multivendor, multiprotocol communications systems and
applications across their networks and the cloud, around the world and in a
rapidly changing ecosystem of IP-enabled devices, such as smartphones and
tablets. In addition, our software solutions secure cloud-based delivery of UC
solutions - both for service providers transforming to a cloud-based network and
for enterprises using cloud-based UC. We sell our software solutions through
both direct sales and indirect channels globally, leveraging the assistance of
resellers, and we provide ongoing support to our customers through a global
services team with experience in design, deployment and maintenance of some of
the world's largest software IP networks.
Presentation
Unless otherwise noted, all financial amounts, excluding tabular information, in
this Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") are rounded to the nearest thousand dollar amount, and all
percentages, excluding tabular information, are rounded to the nearest
percentage point.
Unless otherwise noted, all forward-looking statements in this MD&A exclude the pending ECI Merger.
Business Acquisitions Pending Merger OnNovember 14, 2019 , we entered into an Agreement and Plan of Merger (the "ECI Merger Agreement") withEclipse Communications Ltd. , an indirect wholly-owned subsidiary of the Company ("Merger Sub"),Ribbon Communications Israel Ltd. ,ECI Telecom Group Ltd. ("ECI") andECI Holding (Hungary ) kft, pursuant to which Merger Sub will merge with and into ECI, with ECI surviving such merger as a wholly-owned subsidiary of the Company (the "ECI Merger").
Our Board of Directors (the "Board") unanimously approved the ECI Merger Agreement and the transactions contemplated thereby. Our stockholders approved the issuance of 32.5 million shares of our common stock (the "ECI Stock Consideration") as partial consideration in the ECI Merger.
As provided in the ECI Merger Agreement, at the time of the closing, all equity securities of ECI issued and outstanding immediately prior to the closing will be converted into the right to receive consideration consisting of$324 million in cash (the "ECI Cash Consideration") and the ECI Stock Consideration, less the amount of indebtedness of ECI. ECI equityholders will also receive approximately$31 million from ECI's sale of real estate assets. We intend to fund the ECI Cash Consideration with proceeds from a new$500 million credit facility that we expect to enter into withCitizens Bank, N.A. andSantander Bank, N.A ., as joint lead arrangers and bookrunners, in connection with the closing of the ECI Merger (the "2020 Credit Facility"). The 2020 Credit Facility consists of a$400 million term loan, which will be used in part to fund the merger, and a$100 million revolver that is projected to be undrawn at closing. The 2020 Credit Facility will retire our existing credit facility. Immediately following the closing, it is expected that the former holders of ECI will own approximately 23% of our outstanding common shares. The ECI Merger is expected to close in the first quarter of 2020, subject to regulatory approvals and customary closing conditions. AnovaData, Inc. OnFebruary 28, 2019 (the "Anova Acquisition Date"), we acquired the business and technology assets ofAnova Data, Inc. ("Anova"), a private company headquartered inWestford, Massachusetts (the "Anova Acquisition"). Anova is a provider of advanced analytics solutions and its NextGen products provide a cloud-native, streaming analytics platform for network and subscriber optimization and monetization. The Company believes that the Anova Acquisition is reinforcing and extending 46
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Ribbon's strategy to expand into network optimization, security and data monetization via big data analytics and machine learning.
As consideration for the Anova Acquisition, we issued 2.9 million shares of our common stock with a fair value of$15.2 million to Anova's sellers and equity holders on the Anova Acquisition Date and held back an additional 0.3 million shares of our common stock with a fair value of$1.7 million , some or all of which could be issued subject to post-closing adjustments (the "Anova Deferred Consideration"). The Anova Deferred Consideration is included as a component of Accrued expenses and other current liabilities in our consolidated balance sheet atDecember 31, 2019 .
The Anova Acquisition has been accounted for as a business combination and the financial results of Anova have been included in our consolidated financial statements for the period subsequent to the Anova Acquisition Date.
OnAugust 3, 2018 (the "Edgewater Acquisition Date"), we completed our acquisition ofEdgewater Networks, Inc. ("Edgewater"), a private company headquartered inSan Jose, California (the "Edgewater Acquisition"). Edgewater is a market leader in Network Edge Orchestration for the small and medium enterprise and UC market. We believe that the acquisition of Edgewater allows us to offer our global customer base a complete core-to-edge product portfolio, end-to-end service assurance and analytics solutions, and a fully integrated SD-WAN service. As consideration for the Edgewater Acquisition, we paid, in the aggregate, approximately$46 million of cash, net of cash acquired, and issued 4.2 million shares of Ribbon common stock to Edgewater's selling shareholders and holders of vested in-the-money options and warrants to acquire common stock of Edgewater (the "Edgewater Selling Stakeholders") on the Edgewater Acquisition Date. The cash payment was funded through our then-current credit facility. We had previously agreed to pay the Edgewater Selling Stakeholders an additional$30 million of cash,$15 million of which was to be paid six months from the Edgewater Acquisition Date and the other$15 million of which was to be paid as early as nine months from the Edgewater Acquisition Date and no later than 18 months from the Edgewater Acquisition Date (the exact timing of which would depend on the amount of revenue generated from the sales of Edgewater products in 2018) (the "Edgewater Deferred Consideration"). OnFebruary 15, 2019 , we and the Edgewater Selling Stakeholders agreed to reduce the amount of Edgewater Deferred Consideration from$30 million to$21.9 million and agreed that all such deferred consideration would be payable onMarch 8, 2019 . We paid the Edgewater Selling Stakeholders$21.9 million onMarch 8, 2019 and recorded the reduction to the Edgewater Deferred Consideration of$8.1 million in Other income, net, in our consolidated statement of operations for the year endedDecember 31, 2019 .
The Edgewater Acquisition has been accounted for as a business combination and the financial results of Edgewater have been included in our consolidated financial statements for the period subsequent to the Edgewater Acquisition Date.
GENBAND
OnOctober 27, 2017 (the "Merger Date"),Sonus Networks, Inc. ("Sonus") consummated an acquisition as specified in an Agreement and Plan of Merger (the "Merger Agreement") withSolstice Sapphire Investments, Inc. ("NewCo") and certain of its wholly-owned subsidiaries,GENBAND Holdings Company ,GENBAND Inc. and GENBAND II, INC. (collectively, "GENBAND") such that, following a series of mergers (collectively, the "Merger"), Sonus and GENBAND each became a wholly-owned subsidiary of NewCo. As a result of the Merger, we believe we are better positioned to enable network transformations to IP and to cloud-based networks for service providers and enterprise customers worldwide, with a broader and deeper sales footprint, increased ability to invest in growth, more efficient and effective research and development, and a comprehensive RTC product offering. Pursuant to the Merger Agreement, NewCo issued 50.9 million shares to the GENBAND equity holders, with the number of shares issued in the aggregate to the GENBAND equity holders equal to the number of shares of Sonus common stock outstanding immediately prior to the closing date of the Merger, such that former stockholders of Sonus would own 50%, and former shareholders of GENBAND and the two related holding companies would own 50% of the shares of NewCo common stock issued and outstanding immediately following the consummation of the Merger. 47
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The Merger has been accounted for as a business combination and the financial results of GENBAND have been included in our consolidated financial statements beginning on the Merger Date. OnNovember 28, 2017 , the Company changed its name from "Sonus Networks, Inc. " to "Ribbon Communications Inc. "
Litigation Settlement
OnApril 22, 2019 , we andMetaswitch Networks Ltd. ,Metaswitch Networks Corp andMetaswitch Inc. (collectively, "Metaswitch") agreed to a binding mediator's proposal that resolves the six previously disclosed lawsuits between the Company andMetaswitch (the "Lawsuits"). We andMetaswitch signed a Settlement and Cross-License Agreement onMay 29, 2019 (the "Royalty Agreement"). Pursuant to the terms of the Royalty Agreement,Metaswitch agreed to pay us an aggregate amount of$63.0 million , which included cash payments of$37.5 million during the second quarter of 2019 and$25.5 million payable in three installments annually, beginningJune 26, 2020 , with such installment payments accruing interest at a rate of 4% per year. As part of the Royalty Agreement, we andMetaswitch have (i) released the other from all claims and liabilities; (ii) licensed each party's existing patent portfolio to the other party; and (iii) requested the applicable courts to dismiss the Lawsuits. We received$37.5 million of aggregate payments fromMetaswitch in the second quarter of 2019 and recorded notes receivable for future payments of$25.5 million , comprised of$8.5 million in Other current assets and$17.0 million in Other assets in our consolidated balance sheet atDecember 31, 2019 . We recorded the$63.0 million gain in Other income, net, in our consolidated statement of operations for the year endedDecember 31, 2019 .
Financial Overview
For a discussion of our results of operations for the year endedDecember 31, 2017 , including a year-to-year comparison between 2018 and 2017, and a discussion of our liquidity and capital resources for the year endedDecember 31, 2017 , refer to Part II, Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations" in our Annual Report on Form 10-K/A for the year endedDecember 31, 2018 .
Financial Results
We reported losses from operations of
Our revenue was
Our operating expenses were$507 million in 2019 and$374 million in 2018. Our 2019 operating expenses included$164 million for the impairment of goodwill,$13 million of acquisition- and integration-related expenses, primarily related to the pending ECI Merger, and$16 million of restructuring expense, primarily related to severance and related costs. Our 2018 operating expenses included$17 million of acquisition- and integration-related expenses, primarily related to the Merger and, to a lesser extent, to the Edgewater Acquisition, and$17 million of restructuring expense, primarily related to severance and related costs. We recorded stock-based compensation expense of$13 million in 2019 and$11 million in 2018. The expense recorded in 2019 includes$2 million of incremental expense related to the accelerated vesting of RSUs and PSUs held by our former president and chief executive officer,Franklin Hobbs , in connection with his separation from the Company effectiveDecember 31, 2019 .
See "Results of Operations" in this MD&A for additional discussion of our
results of operations for the years ended
Restructuring and Cost Reduction Initiatives
InJune 2019 , we implemented a restructuring plan to further streamline our global footprint, improve our operations and enhance our customer delivery (the "2019 Restructuring Initiative"). The 2019 Restructuring Initiative includes facility consolidations, refinement of our research and development activities, and a reduction in workforce. In connection with this initiative, we expect to reduce our focus on hardware and appliance-based development over time and to increase our development focus on software virtualization, functional simplicity and important customer requirements. The facility consolidations under the 2019 Restructuring Initiative (the "Facilities Initiative") include a consolidation of ourNorth Texas sites into a single campus, housing engineering, customer training and support, and administrative functions, as well as a reduction or elimination of certain excess and duplicative facilities worldwide. In addition, we intend to substantially 48
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consolidate our global software laboratories and server farms into two lower cost North American sites. We continue to evaluate our properties included in the Facilities Initiative for accelerated amortization and/or right-of-use asset impairment. We expect that the actions under the Facilities Initiative will be completed by the end of 2020. In connection with the 2019 Restructuring Initiative, we recorded restructuring and related expense of$11 million in the year endedDecember 31, 2019 , comprised of$6 million for severance and related costs for approximately 120 employees,$1 million for variable and other facilities-related costs and$4 million for accelerated amortization of lease assets. We expect that nearly all of the amount accrued for severance and related costs will be paid by the end of the first half of 2020. We estimate that we will record nominal, if any, additional restructuring and related expense related to severance and related costs under the 2019 Restructuring Initiative. In connection with the Merger, we implemented a restructuring plan in the fourth quarter of 2017 to eliminate certain redundant positions and facilities within the combined companies (the "Merger Restructuring Initiative"). In connection with the Merger Restructuring Initiative, we recorded$5 million of restructuring and related expense in 2019, virtually all of which was for severance and related costs for approximately 40 employees. We recorded$16 million of restructuring expense related to the Merger Restructuring Initiative in 2018, comprised of$15 million for severance and related expenses for approximately 275 employees and$1 million in connection with redundant facilities located in theCzech Republic ,Canada and theU.S. We recorded$9 million of restructuring expense in connection with the Merger Restructuring Initiative in 2017 for severance and related expenses for approximately 120 employees. The Merger Restructuring Initiative is substantially complete, and we anticipate that we will record nominal future expense, if any, in connection with this initiative. In connection with the adoption of Accounting Standards Codification ("ASC") 842, Leases ("ASC 842"), effectiveJanuary 1, 2019 , we wrote off the remaining restructuring accrual related to facilities. We expect that the amount accrued atDecember 31, 2019 for severance and related expenses will be paid by the end of the first half of 2020. We assumed GENBAND's restructuring liability aggregating$4 million at the Merger Date (the "GENBAND Restructuring Initiative"), primarily related to headcount reductions. In 2018, we recorded$1 million of restructuring expense for changes in estimated costs for previously recorded initiatives, primarily changes in negotiated severance to employees in certain international locations and changes in estimated sublease income for restructured facilities. In connection with the adoption of ASC 842 effectiveJanuary 1, 2019 , we wrote off the remaining restructuring accrual related to facilities. The GENBAND Restructuring Initiative is complete, and we do not expect to record future expense in connection with this initiative. OnJuly 25, 2016 , we announced a program (the "2016 Restructuring Initiative") to further accelerate our investment in new technologies as the communications industry migrates to a cloud-based architecture and to pursue new strategic initiatives, such as new products and an expanded go-to-market footprint in selected geographies and discrete vertical markets. We have recorded an aggregate of$2 million of restructuring expense in connection with this initiative, primarily for severance and related costs. The actions under the 2016 Restructuring Initiative were completed in 2019 and accordingly, no additional expense will be recorded in connection with this initiative. In connection with the acquisition of Taqua, we implemented a restructuring plan in the third quarter of 2016 to eliminate certain redundant positions within the combined companies. OnOctober 24, 2016 , the Audit Committee of our Board (the "Audit Committee") approved a broader Taqua restructuring plan related to headcount and redundant facilities (collectively, the "Taqua Restructuring Initiative"). In connection with this initiative, we have recorded$2 million of restructuring expense for severance and related costs and estimated costs related to the elimination of redundant facilities. The actions under the Taqua Restructuring Initiative have been completed and accordingly, no additional expense will be recorded in connection with this initiative. In connection with the adoption of ASC 842 effectiveJanuary 1, 2019 , we wrote off the remaining restructuring accrual related to redundant facilities.
Critical Accounting Policies and Estimates
Management's discussion and analysis of the financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States of America . The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. We base our estimates and judgments on historical experience, knowledge of current conditions and beliefs of what could occur in the future given available information. We consider the following accounting policies to be both those most important to the portrayal of our financial condition and those that require the most subjective judgment. If actual results differ significantly from management's estimates and projections, there could be a material effect on our consolidated financial statements. The significant accounting policies that we believe are the most critical include revenue recognition, the valuation of inventory, loss 49
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contingencies and reserves, stock-based compensation, business combinations,
goodwill and intangible assets, accounting for leases and accounting for income
taxes.
Revenue Recognition. We account for revenue in accordance with ASC 606, Revenue
from Contracts with Customers ("ASC 606"), which we adopted on January 1, 2018
using the modified retrospective method.
We derive revenue from two primary sources: products (software and non-software
products) and services. Software and non-software product revenue is generated
from sales of our software with proprietary appliances that function together to
deliver the products' essential functionality. Software and appliances are also
sold on a standalone basis. Services include customer support (software updates
and technical support), consulting, design services, installation services and
training. A typical contract includes both product and services. Generally,
contracts with customers 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 basis. SSPs are typically
estimated based on observable transactions when these services are sold on a
standalone basis.
The software licenses typically provide a perpetual right to use our software.
We also sell term-based software licenses that expire and Software-as-as-Service
("SaaS")-based software, which are referred to as subscription arrangements. We
do not customize our software nor are installation services required, as the
customer has a right to utilize internal resources or a third-party service
company. The software and appliances are delivered before related services are
provided and are functional without professional services or customer support.
We have concluded that our software licenses are functional intellectual
property that are distinct, as the user can benefit from the software on its
own. The product revenue is typically recognized upon transfer of control or
when the software is made available for download, as this is the point that the
user of the software can direct the use of, and obtain substantially all of the
remaining benefits from, the functional intellectual property. We do not
recognize software revenue related to the renewal of subscription software
licenses earlier than the beginning of the subscription period. Appliance
products are generally sold with software to provide the customer solution.
Service revenue includes revenue from customer support and other professional
services. We offer warranties on our products. Certain of our warranties are
considered to be assurance-type in nature and do not cover anything beyond
ensuring that the product is functioning as intended. Based on the guidance in
ASC 606, assurance-type warranties do not represent separate performance
obligations. We also sell separately-priced maintenance service contracts which
qualify as service-type warranties and represent separate performance
obligations. We do not allow and have no history of accepting product returns.
Customer support includes software updates on a when-and-if-available basis,
telephone support, integrated web-based support and bug fixes or patches. We
sell our customer support contracts at a percentage of list or net product price
related to the support. Customer support revenue is recognized ratably over the
term of the customer support agreement, which is typically one year.
Our professional services include consulting, technical support, resident
engineer services, design services and installation services. Because control
transfers over time, revenue is recognized based on progress toward completion
of the performance obligation. The method to measure progress toward completion
requires judgment and is based on the nature of the products or services to be
provided. We generally use the input method to measure progress for our
contracts because we believe it best depicts the transfer of assets to the
customer which occurs as we incur costs for the contracts. Under the
cost-to-cost measure of progress, the progress toward completion is measured
based on the ratio of costs incurred to date to the total estimated costs at
completion of the performance obligation. When the measure of progress is based
upon expended labor, progress toward completion is measured as the ratio of
labor time expended to date versus the total estimated labor time required to
complete the performance obligation. Revenue is recorded proportionally as costs
are incurred or as labor is expended. Costs to fulfill these obligations include
internal labor as well as subcontractor costs.
We offer customer training courses, for which the related revenue is typically recognized as the training services are performed.
Our contracts with customers often include promises to transfer multiple
products and services to the customer. Determining whether products and services
are considered distinct performance obligations that should be accounted for
separately versus together may require significant judgment.
Judgment is required to determine the SSP for each distinct performance
obligation. In instances where SSP is not directly observable, such as when we
do not sell the product or service separately, we determine the SSP using
information that may include market conditions and other observable inputs. We
typically have more than one SSP for individual products and
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services due to the stratification of those products and services by customers and circumstances. In these instances, the Company may use information such as the size of the customer and geographic region in determining the SSP. Valuation of Inventory. We review inventory for both potential obsolescence and potential loss of value periodically. In this review, we make assumptions about the future demand for and market value of the inventory and, based on these assumptions, estimate the amount of any excess, obsolete or slow-moving inventory. We write down our inventories if they are considered to be obsolete or at levels in excess of forecasted demand. In these cases, inventory is written down to estimated realizable value based on historical usage and expected demand. Inherent in our estimates of market value in determining inventory valuation are estimates related to economic trends, future demand for our products and technical obsolescence of our products. If future demand or market conditions are less favorable than our projections, additional inventory write-downs could be required and would be reflected in the cost of revenue in the period the revision is made. To date, we have not been required to revise any of our assumptions or estimates used in determining our inventory valuations.
We write down our evaluation equipment at the time of shipment to our customers, as it is not probable that the inventory value will be realizable.
Loss Contingencies and Reserves. We are subject to ongoing business risks arising in the ordinary course of business that affect the estimation process of the carrying value of assets, the recording of liabilities and the possibility of various loss contingencies. An estimated loss contingency is accrued when it is probable that a liability has been incurred or an asset has been impaired and the amount of loss can be reasonably estimated. We regularly evaluate current information available to determine whether such amounts should be adjusted and record changes in estimates in the period they become known. We are subject to various legal claims. We reserve for legal contingencies and legal fees when the amounts are probable and reasonably estimable. Stock-Based Compensation. Our stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the requisite service period, which is generally the vesting period. We use the Black-Scholes valuation model for estimating the fair value on the date of grant of employee stock options. Determining the fair value of stock option awards at the grant date requires judgment regarding certain valuation assumptions, including the volatility of our stock price, expected term of the option, risk-free interest rate and expected dividends. Changes in such assumptions and estimates could result in different fair values and could therefore impact our earnings. Such changes, however, would not impact our cash flows. The fair value of restricted stock awards, restricted stock units and performance-based awards is based upon our stock price on the grant date. We grant performance-based stock units, some of which include a market condition, to certain of our executives. We use a Monte Carlo simulation approach to model future stock price movements based upon the risk-free rate of return, the volatility of each entity, and the pair-wise covariance between each entity. These results are then used to calculate the grant date fair values of the performance-based stock units. The amount of stock-based compensation expense recorded in any period for unvested awards requires estimates of the amount of stock-based awards that are expected to be forfeited prior to vesting, as well as assumptions regarding the probability that performance-based stock awards without market conditions will be earned. Business Combinations. We allocate the purchase price of acquired companies to identifiable assets acquired and liabilities assumed at their acquisition date fair values.Goodwill as of the acquisition date is measured as the excess of consideration transferred over the net of the acquisition date fair values of the assets acquired and the liabilities assumed and represents the expected future economic benefits arising from other assets acquired in the business combination that are not individually identified and separately recognized. Significant management judgments and assumptions are required in determining the fair value of assets acquired and liabilities assumed, particularly acquired intangible assets which are principally based upon estimates of the future performance and cash flows expected from the acquired business and applied discount rates. While we use our best estimates and assumptions as part of the purchase price allocation process to accurately value assets acquired and liabilities assumed at a business combination date, our estimates and assumptions are inherently uncertain and subject to refinement. If different assumptions are used, it could materially impact the purchase price allocation and our financial position and results of operations. Any adjustments to assets acquired or liabilities assumed subsequent to the purchase price allocation period are included in operating results in the period in which the adjustments are determined. Intangible assets typically are comprised of in-process research and development, developed technology, customer relationships, trade names and internal use software. 51
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Goodwill and Intangible Assets.Goodwill is not amortized, but instead is tested for impairment annually, or more frequently if indicators of potential impairment exist. Intangible assets with estimated lives and other long-lived assets are reviewed for impairment when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of intangible assets with estimated lives and other long-lived assets is measured by comparing the carrying amount of the asset to future net undiscounted pretax cash flows expected to be generated by the asset. If these comparisons indicate that an asset is not recoverable, we will recognize an impairment loss for the amount by which the carrying value of the asset exceeds the related estimated fair value. Judgment is required in determining whether an event has occurred that may impair the value of goodwill or identifiable intangible or other long-lived assets. Factors that could indicate an impairment may exist include significant underperformance relative to plan or long-term projections, strategic changes in business strategy, significant negative industry or economic trends, a significant change in circumstances relative to a large customer, a significant decline in our stock price for a sustained period and a decline in our market capitalization to below net book value. We must make assumptions about future control premiums, market comparables, cash flows, operating plans, discount rates and other factors to determine recoverability. Our annual testing for impairment of goodwill is completed as ofNovember 30 . We operate as a single operating segment with one reporting unit and consequently we evaluate goodwill for impairment based on an evaluation of the fair value of the Company as a whole. Based on the results of our 2019 annual impairment test, we determined that our carrying value exceeded our fair value. We performed a fair value analysis using both an Income and Market approach, which encompasses a discounted cash flow analysis and a guideline public company analysis using selected multiples. We determined that the amount of the impairment was$164 million and recorded an impairment charge in the fourth quarter of 2019. The impairment charge is reported separately in our consolidated statement of operations for the year endedDecember 31, 2019 . We performed our assessments for the years endedDecember 31, 2018 and 2017 and determined that in each such year, our fair value was in excess of our carrying value and accordingly, there was no impairment of goodwill. At certain times during both 2019 and 2018, including at our annual testing date ofNovember 30, 2018 , our market capitalization was below our book value. While we concluded that our fair value exceeded carrying value atNovember 30, 2018 , we regularly monitored for changes in circumstances, including changes to our projections regarding performance of the business, that could result in impairment of goodwill. Leases. EffectiveJanuary 1, 2019 , we adopted Accounting Standards Update ("ASU") 2016-02, Leases (Topic 842) Section A - Leases: Amendments to the FASB Accounting Standards Codification ("ASU 2016-02"), the new standard on accounting for leases. ASU 2016-02 introduces a lessee model that brings most leases onto the balance sheet and eliminates the current GAAP requirement for an entity to use bright-line tests in determining lease classification. We must determine if an arrangement is a lease at inception. A contract is determined to contain a lease component if the arrangement provides us with a right to control the use of an identified asset. Lease agreements may include lease and non-lease components. In such instances for all classes of underlying assets, we do not separate lease and non-lease components but instead account for the entire arrangement under leasing guidance. Leases with an initial term of 12 months or less are not recorded on the balance sheet and lease expense for these leases is recognized on a straight-line basis over the lease term. Right-of-use assets and lease liabilities are initially measured based on the present value of the future minimum fixed lease payments (i.e., fixed payments in the lease contract) over the lease term at the commencement date. As our existing leases do not have a readily determinable implicit rate, we use our incremental borrowing rate based on the information available at the commencement date in determining the present value of future minimum fixed lease payments. We calculate our incremental borrowing rate to reflect the interest rate that we would have to pay to borrow on a collateralized basis an amount equal to the lease payments in a similar economic environment over a similar term and consider our historical borrowing activities and market data from entities with comparable credit ratings in this determination. The measurement of the right-of-use asset also includes any lease payments made prior to the commencement date (excluding any lease incentives) and initial direct costs incurred. We assessed our right-of-use assets for impairment as ofDecember 31, 2019 and determined no impairment has occurred. Lease terms may include options to extend or terminate the lease and we incorporate such options in the lease term when we have the unilateral right to make such an election and it is reasonably certain that we will exercise that option. In making this determination, we consider our prior renewal, termination history and planned usage of the assets under lease, incorporating expected market conditions.
For restructuring events that involve lease assets and liabilities, we apply lease reassessment and modification guidance
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and evaluate the right-of-use assets for potential impairment. If we plan to
exit all or distinct portions of a facility and do not have the ability or
intent to sublease, we will accelerate the amortization of each of these lease
components through the vacate date. The accelerated amortization is recorded as
a component of Restructuring and related expense in our consolidated statements
of operations. Related variable lease expenses will continue to be expensed as
incurred through the vacate date, at which time we will reassess the liability
balance to ensure it appropriately reflects the remaining liability associated
with the premises and record a liability for the estimated future variable lease
costs.
Accounting for Income Taxes. Our provision for income taxes is comprised of a
current and a deferred portion. The current income tax provision is calculated
as the estimated taxes payable or refundable on tax returns for 2019. We provide
for deferred income taxes resulting from temporary differences between financial
and taxable income. Such differences arise primarily from tax net operating loss
("NOL") and credit carryforwards, depreciation, deferred revenue, stock-based
compensation expense, accruals and reserves.
We assess the recoverability of any tax assets recorded on the balance sheet and
provide any necessary valuation allowances as required. In evaluating our
ability to recover our deferred tax assets, we consider all available positive
and negative evidence, including our past operating results, the existence of
cumulative income in the most recent years, changes in the business in which we
operate and our forecast of future taxable income. In determining future taxable
income, we are responsible for assumptions utilized, including the amount of
state, federal and international pre-tax operating income, the reversal of
temporary differences and the implementation of feasible and prudent tax
planning strategies. These assumptions require significant judgment about the
forecasts of future taxable income and are consistent with the plans and
estimates we are using to manage our underlying businesses. Such assessment is
completed on a jurisdiction by jurisdiction basis.
At December 31, 2019 , we had valuation allowances of $71 million to offset net
domestic deferred tax assets of $72 million . In addition, we had valuation
allowances to offset Canada federal credits carryovers of $11 million , Ireland
net deferred tax assets of $9 million and Brazil net deferred tax assets of $3
million . In the event we determine it is more likely than not that we will be
able to use a deferred tax asset in the future in excess of its net carrying
value, the valuation allowance would be reduced, thereby increasing net earnings
and increasing equity in the period such determination is made. We have recorded
net deferred tax assets in some of our other international subsidiaries. These
amounts could change in future periods based upon our operating results and
changes in tax law.
We provide for income taxes during interim periods based on the estimated
effective tax rate for the full year. We record a cumulative adjustment to the
tax provision in an interim period in which a change in the estimated annual
effective tax rate is determined.
We have provided for income taxes on the undistributed earnings of our non-U.S.
subsidiaries as of December 31, 2019 , with the exception of the Company's Irish
subsidiary, as we do not plan to permanently reinvest these amounts outside the
U.S. The repatriation of the undistributed earnings would result in withholding
taxes imposed on the repatriation. Consequently, we have recorded a tax
liability of $5 million , consisting of potential withholding and distribution
taxes related to undistributed earnings from these subsidiaries as of December
31, 2019 . Had the earnings of the Irish subsidiary been determined to not be
permanently reinvested outside the U.S. , no additional deferred tax liability
would be required due to no withholding taxes or income tax expense being
imposed on such repatriation.
We assess all material positions taken in any income tax return, including all
significant uncertain positions, in all tax years that are still subject to
assessment or challenge by relevant taxing authorities. Assessing an uncertain
tax position begins with the initial determination of the position's
sustainability and is measured at the largest amount of benefit that has a
greater than 50% likelihood of being realized upon ultimate settlement. As of
each balance sheet date, unresolved uncertain tax positions must be reassessed,
and we will determine whether (i) the factors underlying the sustainability
assertion have changed and (ii) the amount of recognized tax benefit is still
appropriate. The recognition and measurement of tax benefits require significant
judgment. Judgments concerning the recognition and measurement of a tax benefit
might change as new information becomes available.
On December 22, 2017 , the U.S. government enacted comprehensive tax legislation
commonly referred to as the Tax Cuts and Jobs Act (the "Tax Act"). The Tax Act
makes broad and complex changes to the U.S. tax code, including, but not limited
to: reducing the U.S. federal corporate tax rate from 35% to 21%; requiring
companies to pay a one-time transition tax on certain unrepatriated earnings of
foreign subsidiaries; generally eliminating U.S. federal income taxes on
dividends from foreign subsidiaries; requiring a current inclusion in U.S.
federal taxable income of certain earnings (Global Intangible Low-taxed Income)
("GILTI") of controlled foreign corporations; eliminating the corporate
alternative minimum tax ("AMT") and changing how existing AMT credits can be
realized; creating the base erosion anti-abuse tax; creating a new limitation on
deductible interest expense; changing rules related to uses and limitations of
net operating loss carryforwards created in tax
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years beginning after
We completed our accounting for the effects of the Tax Act in the fourth quarter
of 2018 and the effects of the Tax Act were reflected in in our 2018 tax
provision. We considered the impact of the Base Erosion and Anti-Abuse Tax
("BEAT"), the GILTI, the deduction for foreign derived intangible income and
other provisions of the Tax Act when preparing our 2018 tax provision. Based on
this analysis, we recorded BEAT tax expense of $0.4 million in 2018 and recorded
an adjustment to the provisional amounts previously recorded related to the Tax
Act that decreased our deferred tax assets by $0.2 million . When the 2018
Federal tax return was filed, there was no BEAT tax expense. The related true-up
was recorded as a provision to return adjustment in the 2019 tax provision.
Results of Operations
Years Ended December 31, 2019 and 2018
Revenue. Revenue for the years ended
Year ended Increase (decrease)
December 31, from prior year
2019 2018 $ %
Product $ 262.0 $ 279.0 $ (17.0 ) (6.1 )%
Service 301.1 298.9 2.2 0.7 %
Total revenue $ 563.1 $ 577.9 $ (14.8 ) (2.6 )%
Our product revenue is generated from sales of software with attached
appliances, software licenses and software subscription fees. Certain of our
products may be included in more than one of our solutions (session control
solutions, network transformation solutions, and applications and security
solutions), depending upon the configuration of the individual customer
solutions sold. Our software with attached appliances and software license
revenues are primarily comprised of our media gateway, call controller,
signaling, virtual mobile core, security and management products. Our software
subscription fees revenue is primarily comprised of sales of our UC-related
(i.e., application server, media server, etc.) and Kandy Cloud products. Each of
our solutions portfolios addresses both the service provider and enterprise
markets and are sold through both our direct sales program and from indirect
sales through our channel partner program.
The decrease in our product revenue in 2019 compared to 2018 was primarily the
result of $39 million of lower sales of software with attached appliances,
partially offset by $22 million of higher sales of our software licenses and
subscriptions.
In 2019, 27% of our product revenue was attributable to sales to enterprise customers, compared to 21% in 2018. These sales were made through both our direct sales team and indirect sales channel partners.
In 2019, 36% of our product revenue was from indirect sales through our channel partner program, compared to 25% in 2018.
The timing of the completion of customer projects and revenue recognition criteria satisfaction may cause our product revenue to fluctuate from one period to the next.
Service revenue is primarily comprised of appliance and software maintenance and support ("maintenance revenue") and network design, installation and other professional services ("professional services revenue").
Service revenue for the years ended
Year ended Increase
December 31, from prior year
2019 2018 $ %
Maintenance $ 234.2 $ 234.0 $ 0.2 0.1 %
Professional services 66.9 64.9 2.0 3.0 %
Total service revenue
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Our maintenance revenue was essentially unchanged in 2019 compared to 2018, as expected industry consolidation and the resulting pricing pressure were offset by the sale of new software products under maintenance support. The increase in professional services revenue was primarily due to the timing and related revenue recognition of certain projects in 2019 compared to 2018.
The following customers contributed 10% or more of our revenue in the years
ended
Year ended
December 31,
2019 2018
Verizon Communications Inc. 17% 17%
AT&T Inc. 12% *
* Less than 10% of total revenue.
Revenue earned from customers domiciled outside
Service revenue
Product Service revenue (professional
Year ended December 31, 2019 revenue (maintenance) services) Total revenue
United States $ 170,937 $ 133,271 $ 37,085 $ 341,293
Europe, Middle East and Africa 42,262 43,186 12,279 97,727
Japan 13,065 11,692 5,842 30,599
Other Asia Pacific 17,552 16,106 4,879 38,537
Other 18,214 29,973 6,768 54,955
$ 262,030 $ 234,228 $ 66,853 $ 563,111
Service revenue
Product Service revenue (professional
Year ended December 31, 2018 revenue (maintenance) services) Total revenue
United States $ 169,510 $ 132,282 $ 35,832 $ 337,624
Europe, Middle East and Africa 37,833 46,856 11,794 96,483
Japan 23,108 11,234 5,069 39,411
Other Asia Pacific 30,575 12,321 4,358 47,254
Other 17,988 31,273 7,872 57,133
$ 279,014 $ 233,966 $ 64,925 $ 577,905
Our deferred product revenue was $5 million at December 31, 2019 and $14 million
at December 31, 2018 . Our deferred service revenue was $116 million at December
31, 2019 and $108 million at December 31, 2018 . Our deferred revenue balance may
fluctuate as a result of the timing of revenue recognition, customer payments,
maintenance contract renewals, contractual billing rights and maintenance
revenue deferrals included in multiple element arrangements.
We expect that our total revenue in 2020 will increase slightly compared with our 2019 total revenue.
Cost of Revenue/Gross Margin. Our cost of revenue consists primarily of amounts paid to third-party manufacturers for purchased materials and services, royalties, and manufacturing and services personnel and related costs. Our cost of revenue and gross margins for the years endedDecember 31, 2019 and 2018 were as follows (in millions, except percentages): 55
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Year ended Decrease
December 31, from prior year
2019 2018 $ %
Cost of revenue
Product $ 133.3 $ 142.2 $ (8.9 ) (6.2 )%
Service 112.7 127.4 (14.7 ) (11.5 )%
Total cost of revenue $ 246.0 $ 269.6 $ (23.6 ) (8.7 )%
Gross margin
Product 49.1 % 49.0 %
Service 62.6 % 57.4 %
Total gross margin 56.3 % 53.4 %
Our product gross margin in 2019 was essentially unchanged compared with 2018.
The gross margin benefit of increasing sales of higher gross margin software
products was offset by the inclusion of a full year of Edgewater product sales
in 2019, as Edgewater products include attached appliances as part of a sales
order. Our purchases of materials and components were $70 million in 2019,
compared with $75 million in 2018. The reduction in 2019 reflects the higher
software content of our 2019 sales as a percentage of total product revenue
compared with 2018, offset by the inclusion of a full year of Edgewater attached
appliance purchases. We expect that our future purchases of materials and
components will decrease as a result of the increasing software content of our
products, both in absolute terms and as a percentage of revenue.
The increase in service gross margin in 2019 compared to 2018 was primarily due to efficiency measures undertaken in our professional sales organization.
We believe that our total gross margin will increase in 2020 compared to 2019, primarily due to the expected higher software content as a percentage of our total revenue, coupled with the impact of our restructuring and integration cost reduction initiatives. Research and Development Expenses. Research and development expenses consist primarily of salaries and related personnel expenses and prototype costs for the design, development, testing and enhancement of our products. Research and development expenses for the years endedDecember 31, 2019 and 2018 were as follows (in millions, except percentages): Year ended Decrease December 31, from prior year 2019 2018 $ %$ 141.1 $ 145.5 $ (4.4 ) (3.0 )% The decrease in research and development expenses in 2019 compared with 2018 was primarily attributable to$6 million of lower employee-related expenses, partially offset by$1 million of higher product development expense (i.e., third-party development, prototype and test equipment costs) and$1 million of higher infrastructure-related expenses. The decrease in employee-related expenses was primarily attributable to lower salary and related expenses, reflecting the impact of our restructuring and cost savings initiatives. Some aspects of our research and development efforts require significant short-term expenditures, the timing of which may cause significant variability in our expenses. We believe that rapid technological innovation is critical to our long-term success, and we are tailoring our investments to meet the requirements of our customers and market. We believe that our research and development expenses in 2020 will benefit from our ongoing restructuring and cost savings initiatives, partially offset by our increased investment in our software solutions. Sales and Marketing Expenses. Sales and marketing expenses consist primarily of salaries and related personnel costs, commissions, travel and entertainment expenses, promotions, customer trial and evaluations inventory and other marketing and sales support expenses. Sales and marketing expenses for the years endedDecember 31, 2019 and 2018 were as follows (in millions, except percentages): Year ended Decrease December 31, from prior year 2019 2018 $ %$ 118.0 $ 128.3 $ (10.3 ) (8.0 )%
The decrease in sales and marketing expenses in 2019 compared with 2018 was
primarily attributable to
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million of net increases in other sales and marketing expenses. The decrease in employee-related expenses was primarily attributable to lower salary and related expenses, reflecting the impact of our restructuring and cost savings initiatives. We believe that our sales and marketing expenses will increase in 2020 compared with 2019, primarily due to higher amortization of intangible assets arising from prior acquisitions, coupled with slightly higher employee-related expenses. General and Administrative Expenses. General and administrative expenses consist primarily of salaries and related personnel costs for executive and administrative personnel, and audit, legal and other professional fees. General and administrative expenses for the years endedDecember 31, 2019 and 2018 were as follows (in millions, except percentages): Year ended Decrease December 31, from prior year 2019 2018 $ %$ 53.9 $ 66.0 $ (12.1 ) (18.4 )% The decrease in 2019 general and administrative expenses compared with 2018 was primarily attributable to$5 million of lower employee-related expenses,$4 million of lower legal fees and$3 million of lower consulting fees. The decrease in employee-related expenses was primarily attributable to lower salary and related expenses, reflecting the impact of our restructuring and cost savings initiatives.
We believe that our general and administrative expenses will decrease in 2020 compared with 2019, primarily due to savings from our restructuring and integration cost savings initiatives.
Impairment ofGoodwill . Our annual testing for impairment of goodwill is completed as ofNovember 30 . We operate as a single operating segment with one reporting unit and consequently evaluate goodwill for impairment based on an evaluation of the fair value of the Company as a whole. Based on the results of our 2019 annual impairment test, we determined that our carrying value exceeded our fair value and accordingly, we recorded an impairment charge of$164 million in 2019. Impairment of goodwill is reported separately in the consolidated statements of operations. Acquisition- and Integration-Related Expenses. Acquisition- and integration-related expenses include those expenses related to acquisitions that we would otherwise not have incurred. Acquisition-related expenses include professional and services fees, such as legal, audit, consulting, paying agent and other fees, and expenses related to cash payments to certain former executives of the acquired businesses in connection with their employment agreements. Integration-related expenses represent incremental costs related to combining the Company's systems and processes with those of acquired businesses, such as third-party consulting and other third-party services. We recorded$13 million of acquisition- and integration-related expenses in 2019, comprised of$9 million of acquisition-related expenses and$4 million of integration-related expenses. The acquisition-related expense primarily related to the pending ECI Merger and, to a lesser extent, the Anova Acquisition and other acquisition-related activities. The integration-related expenses related to our ongoing integration activities, primarily related to the Merger. We recorded$17 million of acquisition- and integration-related expenses in 2018, comprised of$10 million of acquisition-related expenses and$7 million of integration-related expenses. The acquisition-related expense primarily related to the Merger, with nominal amounts related to the acquisition of Edgewater and other acquisition-related activities.
Acquisition- and integration-related expenses are reported separately in the consolidated statements of operations.
Restructuring and Related Expense. We have been committed to streamlining operations and reducing operating costs by closing and consolidating certain facilities and reducing our worldwide workforce. Please see the additional discussion of our restructuring initiatives in the "Restructuring and Cost Reduction Initiatives" section of the Overview of this Management's Discussion and Analysis of Financial Condition and Results of Operations. We recorded restructuring and related expense of$16 million in 2019, comprised of$11 million for severance and related costs,$1 million for variable and other facilities-related costs and$4 million for accelerated amortization of lease assets. We recorded$17 million of restructuring and related expense in 2018, comprised of$16 million in connection with our Merger Restructuring Initiative and$1 million for changes in estimated costs in connection with our assumption of GENBAND's restructuring liability at the time of Merger. 57
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Although we have eliminated positions as part of our restructuring initiatives, we continue to hire in certain areas that we believe are important to our future growth. Restructuring and related expense is reported separately in the consolidated statements of operations. Interest (Expense) Income, net. Interest expense and interest income for the years endedDecember 31, 2019 and 2018 were as follows (in millions, except percentages): Year ended Increase (decrease) December 31, from prior year 2019 2018 $ % Interest income$ 0.6 $ 0.3 $ 0.3 100.0 % Interest expense (4.5 ) (4.5 ) - - %
Interest (expense) income, net
Interest income in 2019 was primarily earned from an outstanding$25.5 million three-year note receivable bearing interest at 4%. Interest expense in 2019 primarily related to revolver and term borrowings and the promissory note issued to certain of GENBAND's equityholders in connection with the Merger. Interest expense in 2018 was primarily comprised of interest on the promissory note issued to certain of GENBAND's equityholders in connection with the Merger, the outstanding revolving credit facility balance and the amortization of debt issuance costs in connection with our revolving credit facilities. Interest income consisted of interest earned on our cash equivalents, marketable securities and investments. Other Income (Expense), Net. We recorded a gain of$63 million from the settlement of litigation withMetaswitch in 2019 and a gain of$8 million from the reduction of deferred purchase consideration in connection with the Edgewater Acquisition. These gains were the primary components of our other income (expense), net, in 2019 and were partially offset primarily by expense related to foreign currency translation. Our other expense, net, in 2018 was$4 million , and was primarily comprised of expense related to foreign currency translation. Income Taxes. We recorded income tax provisions of$7 million in 2019 and$3 million in 2018. The provision recorded in 2019 was primarily the result of foreign operations and valuation allowances established. The provision recorded in 2018 was primarily the result of foreign operations. During 2019 and 2018, we performed an analysis to determine if, based on all available evidence, we considered it more likely than not that some portion or all of the recorded deferred tax assets will not be realized in a future period. As a result of our evaluations, we concluded that there was insufficient positive evidence to overcome the more objective negative evidence related to our cumulative losses and other factors. Accordingly, we maintained a valuation against our domestic deferred tax asset. A similar analysis and conclusion was made with regard to the valuation allowance on the deferred tax assets of our foreign subsidiaries, mainly the Irish and Brazilian subsidiaries. In analyzing the deferred tax assets related to our Canadian subsidiaries, we concluded that it was more likely than not that the Canadian federal credits would not be realized in a future period.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that have or are reasonably likely to
have a current or future material effect on our financial position, changes in
financial position, revenue or expenses, results of operations, liquidity,
capital expenditures or capital resources.
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Liquidity and Capital Resources
Our consolidated statements of cash flows are summarized as follows (in
millions):
Year ended December 31, 2019 compared to year ended Year ended
December 31, 2018 December 31,
2019 2018 Change
Net loss $ (130.1 ) $ (76.8 ) $ (53.3 )
Adjustments to reconcile net loss to cash flows
provided by (used in) operating activities 236.4 77.1 159.3
Changes in operating assets and liabilities (50.6 ) (9.9 ) (40.7 )
Net cash provided by (used in) operating activities $ 55.7 $ (9.6 ) $ 65.3
Net cash used in investing activities $ (3.5 ) $
(35.4 )
We had$45 million of cash atDecember 31, 2019 . Our cash, cash equivalents and marketable securities totaled$51 million atDecember 31, 2018 . We had cash held by our non-U.S. subsidiaries aggregating$12 million atDecember 31, 2019 and$11 million atDecember 31, 2018 . If we elect to repatriate all of the funds held by our non-U.S. subsidiaries as ofDecember 31, 2019 , we do not believe that the amounts of potential withholding taxes that would arise from the repatriation would have a material effect on our liquidity. OnDecember 21, 2017 , we entered into a Senior Secured Credit Agreement (the "2017 Credit Facility") withSilicon Valley Bank ("SVB"), which refinanced the prior credit agreement with SVB that the Company had assumed in connection with the Merger. OnJune 24, 2018 , we amended the 2017 Credit Facility to, among other things, permit the Edgewater Acquisition and related transactions (the "2018 Credit Facility"). AtDecember 31, 2018 , we had an outstanding debt balance of$55 million at an average interest rate of 5.96% and$3 million of outstanding letters of credit at an average interest rate of 1.75% under the 2018 Credit Facility. We were in compliance with all covenants of the 2018 Credit Facility atDecember 31, 2018 . OnApril 29, 2019 , we, as guarantor, andRibbon Communications Operating Company, Inc. , as borrower, entered into a syndicated, amended and restated credit facility (the "2019 Credit Facility") with SVB, as lead agent. The 2019 Credit Facility provides for a$50 million term loan facility that was advanced in full onApril 29, 2019 , and a$100 million revolving line of credit. The 2019 Credit Facility also includes procedures for additional financial institutions to become syndicate lenders, or for any existing lender to increase its commitment under either the term loan facility or the revolving loan facility, subject to an aggregate increase of$75 million for all incremental commitments under the 2019 Credit Facility. The 2019 Credit Facility is scheduled to mature in 2024. AtDecember 31, 2019 , we had an outstanding term loan debt balance of$49 million and an outstanding revolving line of credit balance of$8 million with a combined average interest rate of 3.30%, and$5 million of outstanding letters of credit at an interest rate of 1.50%. The indebtedness and other obligations under the 2019 Credit Facility are unconditionally guaranteed on a senior secured basis by us and each of our other materialU.S. domestic subsidiaries (collectively, the "Guarantors"). The 2019 Credit Facility is secured by first-priority liens on substantially all of our assets. The 2019 Credit Facility requires periodic interest payments on outstanding borrowings under the facility until maturity. We may prepay all revolving loans under the 2019 Credit Facility at any time without premium or penalty (other than customary LIBOR breakage costs), subject to certain notice requirements. Revolving loans under the 2019 Credit Facility bear interest at our option at either the Eurodollar (LIBOR) rate plus a margin ranging from 1.50% to 3.00% per year or the base rate (the highest of the Federal Funds rate plus 0.50%, or the prime rate announced from time to time inThe Wall Street Journal ) plus a margin ranging from 0.50% to 2.00% per year (such margins being referred to as the "Applicable Margin"). The Applicable Margin varies depending on our consolidated leverage ratio (as defined in the 2019 Credit Facility). The base rate and the LIBOR rate are each subject to a zero percent floor. The 2019 Credit Facility requires compliance with certain financial covenants, including a minimum consolidated quick ratio, minimum consolidated fixed cover charge coverage ratio and maximum consolidated leverage ratio, all of which are defined in the 2019 Credit Facility and tested on a quarterly basis. We were in compliance with all covenants of the 2019 Credit Facility atDecember 31, 2019 . 59
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In addition, the 2019 Credit Facility contains various covenants that, among other restrictions, limit our and our subsidiaries' ability to enter into certain types of transactions, including, but not limited to: incurring or assuming indebtedness; granting or assuming liens; making acquisitions or engaging in mergers; making dividend and certain other restricted payments; making investments; selling or otherwise transferring assets; engaging in transactions with affiliates; entering into sale and leaseback transactions; entering into burdensome agreements; changing the nature of our business; modifying our organizational documents; and amending or making prepayments on certain junior debt. The 2019 Credit Facility contains events of default that are customary for a secured credit facility. If an event of default relating to bankruptcy or other insolvency events with respect to a borrower occurs, all obligations under the 2019 Credit Facility will immediately become due and payable. If any other event of default exists under the 2019 Credit Facility, the lenders may accelerate the maturity of the obligations outstanding under the 2019 Credit Facility and exercise other rights and remedies, including charging a default rate of interest equal to 2.00% per year above the rate that would otherwise be applicable. In addition, if any event of default exists under the 2019 Credit Facility, the lenders may commence foreclosure or other actions against the collateral. If any default exists under the 2019 Credit Facility, or if the Borrower is unable to make any of the representations and warranties as stated in the 2019 Credit Facility at the applicable time, the Borrower will be unable to borrow funds or have letters of credit issued under the 2019 Credit Facility, which, depending on the circumstances prevailing at that time, could have a material adverse effect on the Borrower's liquidity and working capital. We intend to fund the cash consideration relating to the proposed ECI Merger with proceeds received from a new credit facility that we expect to enter into withCitizens Bank, N.A. andSantander Bank, N.A ., as lead arrangers, in connection with the closing of the ECI Merger. Such cash consideration is expected to be financed through cash on hand and committed debt financing consisting of a new$400 term loan facility and new$100 million revolving credit facility (together, the "2020 Credit Facility"), which is projected to be undrawn at close. The 2020 Credit Facility is expected to retire our 2019 Credit Facility. In connection with the Merger, onOctober 27, 2017 , we issued a promissory note for$23 million to certain of GENBAND's equity holders (the "Promissory Note"). The Promissory Note did not amortize and the principal thereon was payable in full on the third anniversary of its execution. Interest on the promissory note was payable quarterly in arrears and accrued at a rate of 7.5% per year for the first six months after issuance, and thereafter at a rate of 10% per year. AtDecember 31, 2018 , the Promissory Note balance was$24 million , comprised of$22 million of principal plus$2 million of interest converted to principal. OnApril 29, 2019 , concurrently with the closing of the 2019 Credit Facility as discussed above, we repaid in full all outstanding amounts under the Promissory Note, totaling$25 million and comprised of$23 million of principal plus$2 million of interest converted to principal. We did not incur any early termination penalties in connection with this repayment. In the second quarter of 2019, our Board approved a stock repurchase program pursuant to which we may repurchase up to$75 million of the Company's common stock prior toApril 18, 2021 . Repurchases under the program may be made in the open market, in privately negotiated transactions or otherwise, with the amount and timing of repurchases depending on the market conditions and corporate discretion. This program does not obligate us to acquire any particular amount of common stock and the program may be extended, modified, suspended or discontinued at any time at the Board's discretion. During the year endedDecember 31, 2019 , we repurchased and retired 1 million shares of our common stock for a total purchase price of$5 million , including transaction fees.
Our operating activities provided
In 2019, our cash flow from operating activities was generated from$106 million from our 2019 results, net of non-cash items comprising goodwill impairment, depreciation and amortization, stock-based compensation and other amounts, and$8 million from increased efficiency of inventory, partially offset by cash used for higher other operating assets and accounts receivable aggregating$21 million and lower liabilities of$37 million . The decrease in our liabilities was primarily related to lower accounts payable and accrued expenses and other long-term liabilities. The decrease in accounts payable relates to the timing and amounts of purchases of both services and tangible goods and their related payment arrangements. The decrease in accrued expenses and other long-term liabilities primarily relates to lower accruals for employee-related expenses. Cash used in operating activities in 2018 was primarily the result of lower accrued expenses and other long-term liabilities and accounts payable, coupled with higher accounts receivable and other operating assets. These were partially offset by higher deferred revenue, lower inventory, and the net impact of non-cash items against our net loss. The decrease in accrued expenses and other long-term liabilities is primarily related to lower accruals for taxes and professional fees. The decrease in accounts payable relates to the timing and amounts of purchases of both services and tangible goods and their related payment 60
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arrangements. The increase in accounts receivable primarily relates to the Edgewater Acquisition. Our net loss, adjusted for non-cash items such as depreciation, amortization, stock-based compensation, deferred income taxes and other non-cash items, including foreign currency exchange losses, was virtually break-even. Our investing activities used$4 million and$35 million of cash in 2019 and 2018, respectively. In 2019, we used$11 million to purchase property and equipment, partially offset by$7 million of maturities of marketable securities. In 2018, we used$46 million to pay the cash consideration for the Edgewater Acquisition and$8 million to purchase property and equipment, partially offset by$19 million of sales/maturities of marketable securities.
Our financing activities used
In 2019, we repaid outstanding borrowings of$165 million under our credit facilities, comprised of$164 million for borrowings under the revolving line of credit and$1 million for borrowings under the term loan. We also repaid$25 million on the note to certain of the former GENBAND equityholders and the deferred purchase consideration of$22 million to the selling Edgewater shareholders. We spent$5 million to repurchase and retire shares of our common stock on the open market and used$1 million to pay withholding obligations related to the net share settlement of restricted stock awards upon vesting. We also spent$1 million for principal payments on our finance lease obligations and$1 million for debt issuance costs. Our borrowings totaled$167 million , comprised of$117 million of borrowings under the revolving line of credit and$50 million of term loan debt under the 2019 Credit Facility. Cash proceeds from the sale of our common stock under our ESPP and from option exercises totaled approximately$1 million . Cash provided by financing activities in 2018 was primarily comprised of$35 million of net borrowings against our 2018 Credit Facility, partially offset by$2 million used to pay withholding obligations related to the net share settlement of restricted and performance-based stock grants upon vesting and$1 million in the aggregate used to make principal payments on our finance lease obligations and debt issuance costs related to our 2018 Credit Facility.
Contractual Obligations
Our contractual obligations atDecember 31, 2019 consisted of the following (in millions): Payments due by period Less than More than Total 1 year 1-3 years 3-5 years 5 years Finance lease obligations$ 3.4 $ 1.6 $ 1.8 $ - $ - Operating lease obligations 55.5 10.3 17.1 12.4 15.7 Purchase obligations 54.4 52.3 2.1 - - Restructuring severance obligations 2.5 2.5 - - - Debt obligations - principal * 56.8 2.5 5.0 49.3 - Debt obligations - interest 6.3 1.6 2.9 1.8 - Employee postretirement defined benefit plans 10.0 0.1 0.1 0.3 9.5 Uncertain tax positions ** 3.6 3.6 - - -$ 192.5 $ 74.5 $ 29.0 $ 63.8 $ 25.2
__________________________________
* Debt obligations - principal represents the outstanding balance on our 2019
Credit Facility of
million outstanding under the revolving credit facility and
outstanding term loan principal. We periodically make payments and borrow on
the revolving credit facility, and accordingly, we have included it in
current liabilities in our consolidated balance sheet. However, we have
reported the outstanding balance payment due in the table above in the "3-5
years" column based solely on the expiration date of the 2019 Credit
Facility.
** This liability is not subject to fixed payment terms and the amount and
timing of payments, if any, that we will make related to this liability are
not known. See Note 20 to our consolidated financial statements appearing in
this Annual Report on Form 10-K for additional information.
Based on our current expectations, we believe our current cash and available
borrowings under the 2019 Credit Facility or the 2020 Credit Facility, as
applicable, will be sufficient to meet our anticipated cash needs for working
capital, the pending ECI Merger and capital expenditures for at least twelve
months. However, the rate at which we consume cash is dependent on the cash
needs of our future operations. We anticipate devoting substantial capital
resources to continue our research and development efforts, to maintain our
sales, support and marketing, to complete merger-related integration activities
and for
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other general corporate activities. However, it is difficult to predict future liquidity requirements with certainty, and our cash and available borrowings under the 2019 Credit Facility or the 2020 Credit Facility, as applicable, may not be sufficient to meet our future needs, which would require us to refinance our debt and/or obtain additional financing. We may not be able to refinance our debt or obtain additional financing on favorable terms or at all.
Recent Accounting Pronouncements
EffectiveJanuary 1, 2019 , we adopted the Financial Accounting Standard Board's ("FASB") new standard on accounting for leases, ASC 842. ASC 842 replaced existing lease accounting rules with a comprehensive lease measurement and recognition standard and expanded disclosure requirements. ASC 842 requires lessees to recognize most leases on their balance sheets and eliminates the current GAAP requirement for an entity to use bright-line tests in determining lease classification. We elected to use the alternative transition method, which allows entities to initially apply ASC 842 at the adoption date with no subsequent adjustments to prior period lease costs for comparability. We elected the package of practical expedients permitted under the transition guidance, which provided that a company need not reassess whether expired or existing contracts contained a lease, the lease classification of expired or existing leases, and the amount of initial direct costs for existing leases. In connection with the adoption of ASC 842, we recorded additional lease assets of approximately$44 million and additional lease liabilities of approximately$48 million as ofJanuary 1, 2019 . The difference between the additional lease assets and lease liabilities, net of the deferred tax impact, was due to the absorption of related balances into the right-of-use assets, such as deferred rent. The adoption of this standard had no impact on our consolidated statements of operations or of cash flows. The FASB has issued the following accounting pronouncements, all of which became effective for the Company onJanuary 1, 2019 and none of which had a material impact on the Company's consolidated financial statements: InJuly 2018 , the FASB issued ASU 2018-09, Codification Improvements ("ASU 2018-09"), which contains amendments to clarify, correct errors in or make minor improvements to the FASB codification. ASU 2018-09 makes improvements to multiple topics, including but not limited to comprehensive income, debt, income taxes related to both stock-based compensation and business combinations, fair value measurement and defined contribution benefit plans. InJune 2018 , the FASB issued ASU 2018-07, Compensation - Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting, which expands the scope of Accounting Standards Codification ("ASC") 718, Compensation - Stock Compensation ("ASC 718"), to include all share-based payment arrangements related to the acquisition of goods and services from both nonemployees and employees. As a result, most of the guidance in ASC 718 associated with employee share-based payments, including most of its requirements related to classification and measurement, applies to nonemployee share-based payment arrangements. InFebruary 2018 , the FASB issued ASU 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income ("ASU 2018-02"), which amends ASC 220, Income Statement - Reporting Comprehensive Income, to allow a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Act and requires entities to provide certain disclosures regarding stranded tax effects. We did not elect to reclassify the income tax effects of the Tax Act from accumulated other comprehensive income to accumulated deficit.
In
In addition, the FASB has issued the following accounting pronouncements, none of which we believe will have a material impact on our consolidated financial statements: InAugust 2018 , the FASB issued ASU 2018-15, Intangibles -Goodwill and Other -Internal-Use Software (Subtopic 350-40): Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract ("ASU 2018-15"), which provides guidance on implementation costs incurred in a cloud computing arrangement ("CCA") that is a service contract. ASU 2018-15 amends ASC 350, Intangibles -Goodwill and Other ("ASC 350") to include in its scope implementation costs of a CCA that is a service contract and clarifies that a customer should apply the guidance in 62
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ASC 350-40 to determine which implementation costs should be capitalized in such
a CCA. ASU 2018-15 was effective for us beginning
InAugust 2018 , the FASB issued ASU 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Subtopic 715-20): Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans ("ASU 2018-14"), which amends ASC 715, Compensation - Retirement Benefits, to add, remove and clarify disclosure requirements related to defined benefit pension and other postretirement plans. ASU 2018-14 was effective for us beginningJanuary 1, 2020 . InAugust 2018 , the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement ("ASU 2018-13"), which changes the fair value measurement requirements of ASC 820, Fair Value Measurement. ASU 2018-13 was effective for us beginningJanuary 1, 2020 for both interim and annual reporting. InJune 2016 , the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments ("ASU 2016-13"), which adds an impairment model that is based on expected losses rather than incurred losses. Under ASU 2016-13, an entity recognizes as an allowance its estimate of expected credit losses, which the FASB believes will result in more timely recognition of such losses. In April andMay 2019 , the FASB issued ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments - Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments ("ASU 2019-04") and ASU 2019-05 Financial Instruments - Credit Losses (Topic 326): Targeted Transition Relief ("ASU 2019-05"), respectively. ASU 2019-04 provides transition relief for entities adopting ASU 2016-13 and ASU 2019-05 clarifies certain aspects of the accounting for credit losses, hedging activities and financial instruments in connection with the adoption of ASU 2016-13. ASU 2019-04 and ASU 2019-05 are effective with the adoption of ASU 2016-13, which was effective for us beginningJanuary 1, 2020 for both interim and annual reporting periods.
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