Item 1A. Risk Factors
You should carefully consider the risks described below before making an investment decision. The risks and uncertainties described below are not the only ones
we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations.
If
any of the following risks actually occur, our business, financial condition, or results of operations could be materially adversely affected. In such case, the market price of our class A common stock could decline and you may lose all or part of
your investment.
Our quarterly operating results, revenues, and expenses may fluctuate significantly, which could have an adverse effect on the market
price of our stock
For a number of reasons, including those described below, our operating results, revenues, and expenses have varied in the past and
may vary significantly in the future from quarter to quarter. These fluctuations could have an adverse effect on the market price of our class A common stock.
Fluctuations in Quarterly Operating Results.
Our quarterly operating results may fluctuate, in part, as a result of:
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the size, timing, volume, and execution of significant orders and shipments;
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the mix of products and services ordered by customers, including product licenses and subscription offerings, which can affect the extent to which revenue is recognized immediately or over future quarterly periods;
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the timing of the release or delivery of new or enhanced offerings, which may affect the period in which we are able to recognize revenue;
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the timing of announcements of new offerings by us or our competitors;
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changes in our pricing policies or those of our competitors;
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market acceptance of new and enhanced versions of our products and services;
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the length of our sales cycles;
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seasonal or other buying patterns of our customers;
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changes in our operating expenses, including as a result of various cost-saving initiatives that we are implementing;
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planned major maintenance activities related to our corporate aircraft;
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the timing of research and development projects and the capitalization of software development costs;
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personnel changes, including as a result of our recent executive management reorganization;
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our use of channel partners;
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utilization of our consulting and education services, which can be affected by delays or deferrals of customer implementation of our software products;
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changes in foreign currency exchange rates;
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our profitability and expectations for future profitability and their effect on our deferred tax assets and net income for the period in which any adjustment to our net deferred tax asset valuation allowance may be
made;
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increases or decreases in our liability for unrecognized tax benefits; and
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changes in customer decision making processes or customer budgets.
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Limited Ability to Adjust Expenses.
We base our operating expense budgets on expected revenue trends and strategic objectives. Many of our expenses, such as office leases and certain personnel costs, are relatively fixed. We may be unable to adjust spending quickly enough to
offset any unexpected revenue shortfall. Accordingly, any shortfall in revenue may cause significant variation in operating results in any quarter. For example, although we have reduced our operating expenses in certain recent periods, if our
revenues in the future are not sufficient to offset our operating expenses, or we are unable to adjust our operating expenses in a timely manner in response to any shortfall in anticipated revenue, we may incur operating losses.
Based on the above factors, we believe that quarter-to-quarter comparisons of our operating results are not a good indication of our future performance. It is
possible that in one or more future quarters, our operating results may be below the expectations of public market analysts and investors. In that event, the market price of our class A common stock may fall.
The market price of our class A common stock has been and may continue to be volatile
The market price of our class A common stock historically has been volatile and may continue to be volatile. The market price of our class A common stock may
fluctuate widely in response to various factors, some of which are beyond our control. These factors include, but are not limited to:
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quarterly variations in our results of operations or those of our competitors;
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announcements about our earnings that are not in line with analyst expectations, the likelihood of which may be enhanced because it is our policy not to give guidance relating to our anticipated financial performance in
future periods;
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announcements by us or our competitors of acquisitions, dispositions, new offerings, significant contracts, commercial relationships, or capital commitments;
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the emergence of new sales channels in which we are unable to compete effectively;
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our ability to develop, market, and deliver new and enhanced offerings on a timely basis;
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commencement of, or our involvement in, litigation;
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any major change in our Board of Directors, management, or governing documents;
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changes in governmental regulations or in the status of our regulatory approvals;
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recommendations by securities analysts or changes in earnings estimates;
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announcements by our competitors of their earnings that are not in line with analyst expectations;
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the volume of shares of our class A common stock available for public sale;
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sales or purchases of stock by us or by our stockholders, and issuances of awards under our stock incentive plan;
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short sales, hedging, and other derivative transactions involving shares of our class A common stock; and
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general economic conditions and slow or negative growth of related markets.
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In addition, the stock market in
general, and the market for technology companies in particular, have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of technology companies. These broad market and
industry factors may seriously harm the market price of our class A common stock, regardless of our actual operating performance.
We may not be able
to sustain or increase profitability in the future
We generated net income for the six months ended June 30, 2016; however, we may not be able to
sustain or increase profitability on a quarterly or annual basis in the future. If our revenues are not sufficient to offset our operating expenses, or we are unable to adjust our operating expenses in a timely manner in response to any shortfall in
anticipated revenue, our profitability may decrease, we may cease to be profitable, or we may incur operating losses. As a result, our business, results of operations, and financial condition may be materially adversely affected.
As of June 30, 2016, we had $9.1 million of deferred tax assets, net of a $2.0 million valuation allowance. If we are unable to sustain profitability in
the future, we may be required to increase the valuation allowance against these deferred tax assets, which could result in a charge that would materially adversely affect net income in the period in which the charge is incurred.
We face risks arising from our restructuring activities and other cost-saving initiatives
In 2014, we implemented substantially all of a restructuring plan to streamline our workforce and spending to better align our cost structure with our business
strategy. The restructuring, including the organizational, operational, and strategic changes that have taken place during and following the implementation of the restructuring plan, as well as an executive management reorganization that we recently
implemented and other cost-savings initiatives that we have implemented or are implementing, present significant potential risks that may impair our ability to achieve anticipated cost reductions or otherwise harm our business, including:
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a decrease in employee morale, which could lead to voluntary departures of key employees;
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failure to meet operational targets or customer requirements due to the termination or attrition of employees, or a decrease in employee morale;
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failure to maintain adequate controls and procedures while consolidating operational and administrative infrastructure;
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diversion of management attention from ongoing business activities; and
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employment by our competitors of employees whose positions were eliminated.
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Economic uncertainty,
particularly in the retail industry, could materially adversely affect our business and results of operations
In recent years, the U.S. and other
significant markets have experienced cyclical downturns and worldwide economic conditions remain uncertain. Economic uncertainty and associated macroeconomic conditions make it extremely difficult for our customers and us to accurately forecast and
plan future business activities, and could cause our customers to slow spending on our products and services, which could delay and lengthen sales cycles. Furthermore, during uncertain economic times, our customers may face issues gaining timely
access to sufficient credit, which could result in an impairment of their ability to make timely payments to us. If that were to occur, we may be required to increase our allowance for doubtful accounts and our results would be negatively impacted.
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Furthermore, we have a significant number of customers in the retail industry. A significant downturn in this
industry may cause organizations to reduce their capital expenditures in general or specifically reduce their spending on information technology. In addition, customers in this industry may delay or cancel information technology projects or seek to
lower their costs by renegotiating vendor contracts. Customers with excess information technology resources may choose to develop in-house software solutions rather than obtain those solutions from us. Moreover, competitors may respond to
challenging market conditions by lowering prices and attempting to lure away our customers.
We cannot predict the timing, strength, or duration of any
economic slowdown or any subsequent recovery generally, or in the retail industry in particular. If the conditions in the general economy and the markets in which we operate worsen from present levels, our business, financial condition, and results
of operations could be materially adversely affected.
We may have exposure to greater than anticipated tax liabilities
We are subject to income taxes and non-income taxes in a variety of domestic and foreign jurisdictions. Our future income taxes could be materially adversely
affected by earnings that are lower than anticipated in jurisdictions where we have lower statutory rates, earnings that are higher than anticipated in jurisdictions where we have higher statutory rates, changes in the valuation of our deferred tax
assets and liabilities, changes in the amount of unrecognized tax benefits, or changes in tax laws, regulations, accounting principles, or interpretations thereof.
Further changes in the tax laws of foreign jurisdictions could arise, including as a result of the base erosion and profit shifting (BEPS) project
undertaken by the Organisation for Economic Co-operation and Development (OECD). The OECD, which represents a coalition of member countries, has issued recommendations that, in some cases, would make substantial changes to numerous
long-standing tax positions and principles. These contemplated changes, to the extent adopted by OECD members and/or other countries, could increase tax uncertainty and may adversely affect our provision for income taxes. In addition, in the United
States, proposals for broad reform of the existing U.S. corporate tax system are under evaluation by various legislative and administrative bodies, but it is not possible to accurately determine the overall impact of such proposals on our effective
tax rate at this time.
Our determination of our tax liability is subject to review by applicable domestic and foreign tax authorities. For example, we
are currently under tax examination in the United States. Any adverse outcome of such reviews could have an adverse effect on our operating results and financial condition. The determination of our worldwide provision for income taxes and other tax
liabilities requires significant judgment and, in the ordinary course of business, there are many transactions and calculations where the ultimate tax determination is uncertain. Moreover, as a multinational business, we have subsidiaries that
engage in many intercompany transactions in a variety of tax jurisdictions where the ultimate tax determination is uncertain.
We also have contingent tax
liabilities that, in managements judgment, are not probable of assertion. If such unasserted contingent liabilities were to be asserted, or become probable of assertion, we may be required to record significant expenses and liabilities in the
period in which these liabilities are asserted or become probable of assertion.
As a result of these and other factors, the ultimate amount of tax
obligations owed may differ from the amounts recorded in our financial statements and any such difference may materially affect our financial results in future periods in which we change our estimates of our tax obligations or in which the ultimate
tax outcome is determined.
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If the market for analytics products fails to grow as we expect or if businesses fail to adopt our offerings,
our business, operating results, and financial condition could be materially adversely affected
Nearly all of our revenues to date have come from
sales of analytics products and related technical support, consulting, and education services. We expect these sales to account for a large portion of our revenues for the foreseeable future. Although demand for analytics products has grown in
recent years, the market for analytics offerings continues to evolve. Resistance from consumer and privacy groups to increased commercial collection and use of data on spending patterns and other personal behavior, governmental restrictions on the
collection, use, and transfer of personal data, and other developments may impair the further growth of this market. We cannot be sure that this market will continue to grow or, even if it does grow, that businesses will adopt our solutions.
We have spent, and intend to keep spending, considerable resources to educate potential customers about analytics offerings in general and our offerings in
particular. However, we cannot be sure that these expenditures will help any of our offerings achieve any additional market acceptance. If the market fails to grow or grows slower than we currently expect or businesses fail to adopt our offerings,
our business, operating results, and financial condition could be materially adversely affected.
Our products face intense competition, which may lead
to lower prices for our products and services, reduced gross margins, loss of market share, and reduced revenue
The analytics market is highly
competitive and subject to rapidly changing technology paradigms. Within the analytics space, we compete with many different vendors, including (i) large software vendors, such as IBM (Cognos), SAP (BO), Microsoft (Power BI), and Oracle
(OBIEE), that provide one or more products that directly compete with our products, (ii) open source analytics vendors, such as OpenText (Actuate) and Hitachi (Pentaho), (iii) various other analytics software providers, such as Qlik,
Tableau Software, TIBCO, Information Builders, and the SAS Institute, (iv) pure-play mobile analytics vendors, such as MeLLmo (Roambi), that do not offer an analytics platform, but offer a mobile user interface that can be used as an extension
to existing analytics platforms, and (v) other vendors offering cloud-based offerings, such as GoodData and Birst. Our future success depends on the effectiveness with which we can differentiate and compete with these vendors and other
potential competitors across analytics implementation projects of varying sizes. Failure to maintain adequate technology differentiation from these competitors could materially adversely affect our revenue from both existing and prospective
customers.
Some of our competitors have longer operating histories and significantly greater financial, technical, and marketing resources than we do. As
a result, they may be able to respond more quickly to new or emerging technologies and changes in customer requirements or devote greater resources to the development, promotion, sale, and marketing of their offerings than we can, such as offering
certain analytics products free of charge when bundled with other software offerings. In addition, many of our competitors have strong relationships with current and potential customers, extensive industry and specialized business knowledge, as well
as corresponding proprietary technologies that they can leverage, such as multidimensional databases and ERP repositories. As a result, they may be able to prevent us from penetrating new accounts or expanding within existing accounts.
Increased competition may lead to price cuts, reduced gross margins, and loss of market share. We may not be able to compete successfully against current and
future competitors, and the failure to meet the competitive pressures we face may have a material adverse effect on our business, operating results, and financial condition.
Current and future competitors may also make strategic acquisitions or establish cooperative relationships among themselves or with others. By doing so, these
competitors may increase their ability to meet the needs of our potential customers by virtue of their expanded offerings. Our current or prospective channel partners may establish cooperative relationships with our current or future competitors.
These relationships may limit our ability to sell our analytics offerings through specific distribution channels. Accordingly, new competitors or alliances among current and future competitors may emerge and rapidly gain significant
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market share. These developments could limit our ability to obtain revenues from new customers and to sustain software maintenance revenues from our installed customer base. In addition, basic
office productivity software suites, such as Microsoft Office, could evolve to offer advanced analysis and reporting capabilities that may reduce the demand for our analytics offerings.
Usher competes with technologies categorized as user authentication products, which are dominated by a few companies such as the RSA division of EMC, CA,
SafeNet, Vasco, and Gemalto. These competitors focus primarily on traditional forms of identity verification such as smart cards, tokens, and password managers. These companies have significant name recognition and offer solutions with security
architectures that are familiar to IT buyers. Usher also competes with companies with newer solutions, often involving mobile technology, including Telesign, Authentify, SecurEnvoy, Daon, Entrust, and Duo Security. To date, we have expended
significant resources in the development and marketing of Usher, which has not generated significant revenues. Failure to adequately differentiate and market our technology from these competitors could materially adversely affect our ability to
generate significant revenues from Usher.
We depend on revenue from a single suite of products and related services
Our MicroStrategy Analytics, MicroStrategy Mobile, and MicroStrategy Cloud products and related services account for a substantial portion of our revenue.
Because of this revenue concentration, our business could be harmed by a decline in demand for, or in the adoption or prices of, these products and related services as a result of, among other factors, any change in our pricing model, increased
competition, maturation in the markets for these products, or other risks described in this Quarterly Report.
If we are unable to develop and release
product enhancements and new offerings to respond to rapid technological change in a timely and cost-effective manner, our business, operating results, and financial condition could be materially adversely affected
The market for our offerings is characterized by rapid technological change, frequent new product introductions and enhancements, changing customer demands,
and evolving industry standards. The introduction of offerings embodying new technologies can quickly make existing offerings obsolete and unmarketable. We believe that our future success depends largely on our ability to:
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continue to support a number of popular operating systems and databases;
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maintain and improve our current offerings; and
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rapidly develop new offerings and product enhancements that achieve market acceptance, maintain technological competitiveness, and meet an expanding range of customer requirements.
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Analytics applications are inherently complex, and it can take a long time and require significant research and development expenditures to develop and test
new offerings and product enhancements. In addition, customers may delay their purchasing decisions because they anticipate that new or enhanced versions of our offerings will soon become available. We cannot be sure that we will succeed in
developing, marketing, and delivering on a timely and cost-effective basis new or enhanced offerings that respond to technological change or new customer requirements, nor can we be sure that any new or enhanced offerings, such as MicroStrategy 10,
which was made generally available in June 2015, will achieve market acceptance. Moreover, even if we introduce a new offering, we may experience a decline in revenues of our existing offerings that is not fully matched by the new offerings
revenue. For example, customers may delay making purchases of a new offering to permit them to make a more thorough evaluation of the offering, or until industry and marketplace reviews become widely available. Some customers may hesitate migrating
to a new offering due to concerns regarding the complexity of migration and product infancy issues on performance. In addition, we may lose existing customers who choose a competitors offering rather than migrate to our new offering. This
could result in a temporary or permanent revenue shortfall and materially adversely affect our business.
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A substantial customer shift from the deployment of MicroStrategy Analytics based on a perpetual software
license to our cloud services offerings could affect the timing of revenue recognition and materially adversely affect our operating results
We offer
our analytics platform in the form of a perpetual software license and a cloud-based Platform-as-a-Service subscription. The payment streams and revenue recognition timing for our perpetual software licenses are different from those for our
subscription services. For perpetual software licenses, customers typically pay us a lump sum soon after entering into a software license agreement and revenue is typically recognized upon delivery of the software to the customer. For
subscription services, customers typically make periodic payments over the subscription period and revenue is typically recognized ratably over the subscription period. As a result, if a substantial number of current or new customers shift to
subscribing to our cloud services offerings instead of purchasing perpetual software licenses for MicroStrategy Analytics, the resulting change in payment terms and revenue recognition may materially adversely affect our operating results and cash
flows for the reporting periods during which such a shift occurs.
Our investment in new business strategies and initiatives could disrupt the
operations of our ongoing business and present risks that we have not adequately anticipated
We have invested, and in the future may invest, in new
business strategies and initiatives. For example, in recent years we have introduced a number of innovative technologies designed to enable companies to capitalize on Big Data, mobile applications, cloud-based services, and security trends in the
marketplace. These endeavors may involve significant risks and uncertainties, including distraction of management from other business operations, the dedication of significant research and development, sales and marketing, and other resources to
these new initiatives at the expense of our other business operations, generation of insufficient revenue to offset expenses associated with new initiatives, incompatibility of our new technologies with third-party platforms, inadequate return of
capital, and other risks that we may not have adequately anticipated. For example, we have expended significant resources in the development and marketing of Usher, which has not generated significant revenues to date. Because new strategies and
initiatives are inherently risky, these strategies and initiatives may not be successful and could materially adversely affect our financial condition and operating results.
Business disruptions, including interruptions, delays, or failures of our systems, third-party data center hosting facilities or other third-party
services, could materially adversely affect our operating results or result in a material weakness in our internal controls that could adversely affect the market price of our stock
A significant portion of our research and development activities or certain other critical business operations are concentrated in facilities in Northern
Virginia, China, and Poland. In addition, we serve our customers, and manage certain critical internal processes, using third-party data center hosting facilities located in the United States and England and other third-party services, including
Amazon Web Services and other cloud services. We could experience a disruption or failure of our systems, or the third-party hosting facilities or other services that we use. Such disruptions or failures could include a major earthquake, fire,
cyber-attack, act of terrorism or other catastrophic event, as well as power outages or telecommunications infrastructure outages, or a decision by one of our third-party service providers to close facilities that we use without adequate notice or
other unanticipated problems with the third-party services that we use, including a failure to meet service standards.
We are a highly automated business
and any such disruptions or failures could (i) result in the destruction or disruption of any of our critical business operations, controls or procedures, or information technology systems, (ii) severely affect our ability to conduct
normal business operations, including delaying completion of sales and provision of services, (iii) result in a material weakness in our internal control over financial reporting, (iv) cause our customers to terminate their subscriptions,
(v) result in our issuing credits to customers or paying penalties or fines, (vi) harm our reputation, (vii) adversely affect our attrition rates or our ability to attract new customers, or (viii) cause our offerings to be
perceived as not being secure, any of which could materially adversely affect our future operating results.
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We use channel partners and if we are unable to maintain successful relationships with them, our business,
operating results, and financial condition could be materially adversely affected
In addition to our direct sales force, we use channel partners such
as resellers, value-added resellers, system integrators, consulting firms, original equipment manufacturers, and technology partners to license and support our products. For the six months ended June 30, 2016, transactions by channel partners
for which we recognized revenues accounted for 18.0% of our total product licenses revenues. Our channel partners may offer customers the products and services of several different companies, including offerings that compete with ours. Because our
channel partners generally do not have an exclusive relationship with us, we cannot be certain that they will prioritize or devote adequate resources to selling our products. Moreover, divergence in strategy or contract defaults by any of these
channel partners may materially adversely affect our ability to develop, market, sell, or support our offerings.
Although we believe that direct sales
will continue to account for a majority of product licenses revenues, we seek to maintain a significant level of sales activities through our channel partners. There can be no assurance that our channel partners will continue to cooperate with us.
In addition, actions taken or not taken by such parties may materially adversely affect us. Our ability to achieve revenue growth in the future will depend in part on our ability to maintain successful relationships with our channel partners. If we
are unable to maintain our relationships with these channel partners, our business, results of operations, and financial condition could be materially adversely affected.
In addition, we rely on our channel partners to operate in accordance with the terms of their contractual agreements with us. For example, some of our
agreements with our channel partners prescribe the terms and conditions pursuant to which they are authorized to resell or distribute our software and offer technical support and related services. We also typically require our channel partners to
represent to us the details of product licenses transactions sold through to end user customers. If our channel partners do not comply with their contractual obligations to us, our business, results of operations, and financial condition may be
materially adversely affected.
Our recognition of deferred revenue and advance payments is subject to future performance obligations and may not be
representative of revenues for succeeding periods
Our gross current and non-current deferred revenue and advance payments totaled $206.4 million as of
June 30, 2016. We offset our accounts receivable and deferred revenue for any unpaid items, which totaled $73.9 million, resulting in net current and non-current deferred revenue and advance payments of $132.5 million as of June 30, 2016.
The timing and ultimate recognition of our deferred revenue and advance payments depend on various factors, including our performance of various service obligations.
Because of the possibility of customer changes or delays in customer development or implementation schedules or budgets, and the need for us to satisfactorily
perform product support and other services, deferred revenue and advance payments at any particular date may not be representative of actual revenue for any succeeding period.
Our international operations are complex and expose us to risks that could have a material adverse effect on our business, operating results, and financial
condition
We receive a significant portion of our total revenues from international sales, and conduct our business activities in various foreign
countries, including some emerging markets where we have limited experience, where the challenges of conducting our business can be significantly different from those we have faced in more developed markets, and where business practices may create
internal control risks. International revenues accounted for 40.0% and 35.3% of our total revenues for the three months ended June 30, 2016 and 2015, respectively, and 39.7% and 35.8% of our total revenues for the six months ended June 30,
2016 and 2015, respectively. Our international operations require significant management attention and financial resources.
There are certain risks
inherent in our international business activities, including:
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fluctuations in foreign currency exchange rates;
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new, or changes in, regulatory requirements;
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tariffs, export and import restrictions, restrictions on foreign investments, sanctions, and other trade barriers or protection measures;
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costs of localizing offerings;
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lack of acceptance of localized offerings;
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difficulties in and costs of staffing, managing, and operating our international operations;
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tax issues, including restrictions on repatriating earnings;
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weaker intellectual property protection;
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economic weakness or currency related crises;
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the burden of complying with a wide variety of laws, including those relating to labor matters, consumer and data protection, privacy, network security, and encryption;
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generally longer payment cycles and greater difficulty in collecting accounts receivable;
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our ability to adapt to sales practices and customer requirements in different cultures;
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corporate espionage; and
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political instability and security risks in the countries where we are doing business.
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We may face heightened
risks in connection with our international operations as a result of the referendum vote held on June 23, 2016 in the United Kingdom, which favored the United Kingdom leaving the European Union. Currently, we cannot predict the impact that this
vote will have on the economy in Europe, including in the United Kingdom, or on the Great Britain Pound or other currencies. The United Kingdoms withdrawal from the European Union could, among other outcomes, disrupt the free movement of
goods, services and people between the United Kingdom and the European Union, and significantly disrupt trade between the United Kingdom and the European Union. In addition, the withdrawal could lead to legal uncertainty and potentially divergent
national laws and regulations as the United Kingdom determines which E.U. laws to replace or replicate. Disruptions to trade, weakening of economic conditions, economic and legal uncertainties, or changes in currency rates may adversely affect our
business, financial condition, operating results and cash flows.
Various corporate tax reform bills and other proposals have been or are currently
under consideration by Congress and the Obama Administration. These proposals include, among other items, corporate income tax rate changes in varying, uncertain, or unspecified amounts, the reduction or elimination of certain corporate tax
incentives, modifications to the existing regime for taxing overseas earnings (including consideration of a minimum tax on adjusted unrepatriated foreign earnings), and measures to prevent base erosion and profit shifting. It is not clear whether,
or to what extent, these proposals may be enacted. Although the overall impact that such proposals may have on our future effective tax rate is unclear at this time, significant changes to the U.S. taxation of our international income could
have a material adverse effect on our results of operations
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From time to time, we may undertake various potential intercompany
transactions and legal entity restructurings that involve our international subsidiaries. We consider various factors in evaluating these potential transactions and restructurings, including the alignment of our corporate structure with our
organizational objectives, the operational and tax efficiency of our corporate structure, and the long-term cash flows and cash needs of our business. Such transactions and restructurings could negatively impact our overall tax rate and result in
additional tax liabilities.
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In addition, compliance with foreign and U.S. laws and regulations that are applicable to our international
operations is complex and may increase our cost of doing business in international jurisdictions, and our international operations could expose us to fines and penalties if we fail to comply with these regulations. These laws and regulations include
anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act, the U.K. Bribery Act, and local laws prohibiting corrupt payments to governmental officials. These laws and regulations also include import and export requirements and economic and
trade sanctions administered by the Office of Foreign Assets Control and the U.S. Commerce Department based on U.S. foreign policy and national security goals against targeted foreign states, organizations, and individuals. Although we have
implemented policies and procedures designed to help ensure compliance with these laws, there can be no assurance that our employees, partners, and other persons with whom we do business will not take actions in violation of our policies or
these laws. Any violations of these laws could subject us to civil or criminal penalties, including substantial fines or prohibitions on our ability to offer our products and services to one or more countries, and could also materially damage our
reputation and our brand.
These factors may have a material adverse effect on our future sales and, consequently, on our business, operating results, and
financial condition.
We may lose sales, or sales may be delayed, due to the long sales and implementation cycles of certain of our products and
services, which could reduce our revenues
To date, our customers have typically invested substantial time, money, and other resources and involved
many people in the decision to license our software products and purchase our related services. As a result, we may wait nine months or more after the first contact with a customer for that customer to place an order while it seeks internal approval
for the purchase of our products or services. During this long sales cycle, events may occur that affect the size and/or timing of the order or even cause it to be canceled. For example, our competitors may introduce new offerings, or the
customers own budget and purchasing priorities may change.
Even after an order is placed, the time it takes to deploy our products and complete
services engagements can vary widely. Implementing some of our offerings can take several months, depending on the customers needs, and may begin only with a pilot program. It may be difficult to deploy our products if the customer has
complicated deployment requirements, which typically involve integrating databases, hardware, and software from different vendors. If a customer hires a third party to deploy our products, we cannot be sure that our products will be deployed
successfully.
Our results in any particular period may depend on the number and volume of large transactions in that period and these transactions may
involve lengthier, more complex, and more unpredictable sales cycles than other transactions
As existing and potential customers seek to standardize
on a single analytics vendor or require greater vendor capacity to meet their growing analytics needs, our business may experience larger transactions at the enterprise level and larger transactions may account for a greater proportion of our
business. The presence or absence of one or more large transactions in a particular period may have a material positive or negative effect on our revenue and operating results for that period. For the six months ended June 30, 2016 and 2015,
our top three product licenses transactions with recognized revenue totaled $4.3 million and $6.1 million, respectively, or 9.3% and 12.2% of total product licenses revenues, respectively. These transactions represent significant business and
financial decisions for our customers, require considerable effort on the part of customers to assess alternative products, and often require additional levels of management approval. In addition, large transactions are often more complex than
smaller transactions. These factors generally lengthen the typical sales cycle and increase the risk that customers may postpone or delay purchasing decisions from one period to another subsequent or later period or that customers will alter their
purchasing requirements. We may also encounter greater competition and pricing pressure in larger transactions and the sales effort and service delivery scope for larger transactions may require us to use additional resources to execute the
transaction. These factors could result in lower than anticipated revenue and earnings for a particular period or in lower estimated revenue and earnings in future periods.
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We face a variety of risks in doing business with U.S., foreign, state, and local governments and government
agencies, including risks related to the procurement process, budget constraints and cycles, termination of contracts, and compliance with government contracting requirements
Our customers include the U.S. government and a number of state and local governments and government agencies. There are a variety of risks in doing business
with government entities, including:
Procurement.
Contracting with public sector customers is highly competitive and can be
time-consuming and expensive, requiring us to incur significant up-front time and expense without any assurance that we will win a contract.
Budgetary Constraints and Cycles.
Demand and payment for our products and services are impacted by public sector budgetary cycles and
funding availability, with funding reductions or delays adversely impacting public sector demand for our products and services.
Termination of Contracts.
Public sector customers often have contractual or other legal rights to terminate current contracts for
convenience or due to a default. If a contract is terminated for convenience, which can occur if the customers needs change, we may only be able to collect fees for products or services delivered prior to termination and settlement expenses.
If a contract is terminated due to a default, we may not recover even those amounts, and we may be liable for excess costs incurred by the customer for procuring alternative products or services.
Compliance with Government Contracting Requirements.
Government contractors are required to comply with a variety of complex laws,
regulations, and contractual provisions relating to the formation, administration, or performance of government contracts that give public sector customers substantial rights and remedies, many of which are not typically found in commercial
contracts. These may include rights with respect to price protection, the accuracy of information provided to the government, contractor compliance with socio-economic policies, and other terms that are particular to government contracts. Federal,
state, and local governments and government agencies routinely investigate and audit contractors for compliance with these requirements. If, as a result of an audit or review, it is determined that we have failed to comply with these requirements,
we may be subject to civil and criminal penalties and administrative sanctions, including termination of contracts, forfeiture of profits, cost associated with the triggering of price reduction clauses, fines, and suspensions or debarment from
future government business, and we may suffer harm to our reputation.
Our customers also include a number of foreign governments and government agencies.
Similar procurement, budgetary, contract, and audit risks also apply to our doing business with these entities. In addition, compliance with complex regulations and contracting provisions in a variety of jurisdictions can be expensive and consume
significant management resources. In certain jurisdictions, our ability to win business may be constrained by political and other factors unrelated to our competitive position in the market. Each of these difficulties could materially adversely
affect our business and results of operations.
We depend on technology licensed to us by third parties, and the loss of this technology could impair
our software, delay implementation of our offerings, or force us to pay higher license fees
We license third-party technologies that are incorporated
into or utilized by our existing offerings. There can be no assurance that the licenses for such third-party technologies will not be terminated or that we will be able to license third-party software for future offerings. In addition, we may be
unable to renegotiate acceptable third-party license terms, or we may be subject to infringement liability if third-party software that we license is found to infringe intellectual property rights of others. Changes in or the loss of third-party
licenses could lead to a material increase in our costs, or to our software offerings becoming
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inoperable or their performance being materially reduced. As a result, we may need to incur additional development costs to ensure continued performance of our offerings, and we may experience a
decreased demand for our offerings.
If we are unable to recruit or retain skilled personnel, or if we lose the services of our Chairman of the Board
of Directors, President & Chief Executive Officer, our business, operating results, and financial condition could be materially adversely affected
Our future success depends on our continuing ability to attract, train, assimilate, and retain highly skilled personnel. Competition for these employees is
intense. We may not be able to retain our current key employees, or attract, train, assimilate, and retain other highly skilled personnel in the future. For example, our restructuring activities and cost-saving initiatives may adversely impact our
ability to attract or retain key employees. Our future success also depends in large part on the continued service of Michael J. Saylor, our Chairman of the Board of Directors, President & Chief Executive Officer. If we lose the services of
Mr. Saylor, or if we are unable to attract, train, assimilate, and retain the highly skilled personnel we need, our business, operating results, and financial condition could be materially adversely affected.
The emergence of new industry standards may materially adversely affect the demand for our existing offerings
The emergence of new industry standards in related fields may materially adversely affect the demand for our existing offerings. This could happen if new Web
standards and technologies or new standards in the field of operating system support emerged that were incompatible with customer deployments of our software offerings. For example, if we are unable to adapt our software offerings on a timely basis
to new standards in database access technology, the ability of our software offerings to access customer databases could be impaired.
The nature of
our software offerings makes them particularly vulnerable to undetected errors, or bugs, which could cause problems with how the offerings perform and which could, in turn, reduce demand for our offerings, reduce our revenue, and lead to product
liability claims against us
Software as complex as ours may contain errors and/or defects. Although we test our software offerings extensively, we
have in the past discovered software errors in our offerings after their introduction. Despite testing by us and our current and potential customers, errors may be found in new offerings or releases after commercial shipments begin. This could
result in lost revenue, damage to our reputation, or delays in market acceptance, which could have a material adverse effect on our business, operating results, and financial condition. We may also have to expend resources and capital to correct
these defects.
Our agreements with customers typically contain provisions designed to limit our exposure to product liability, warranty, and other
claims. It is possible, however, that these provisions may not be effective under the laws of certain domestic or international jurisdictions and we may be exposed to product liability, warranty and other claims. A successful product liability claim
against us could have a material adverse effect on our business, operating results, and financial condition.
Changes in laws or regulations relating
to privacy or the collection, processing, disclosure, storage, or transmission of personal data, or any actual or perceived failure by us or our third-party service providers to comply with such laws and regulations or applicable privacy policies,
could materially adversely affect our business
Aspects of our business, including our cloud services offerings and Usher, involve collecting,
processing, disclosing, storing, and transmitting personal data, which is subject to certain privacy policies and certain federal, state, and foreign laws and regulations relating to privacy and data protection. The amount of customer and employee
data that we store through our cloud services offerings, networks, and other systems, including personal data, is increasing. In recent years, the collection and use of personal data by companies have come under increased regulatory and public
scrutiny, especially in relation to the collection
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and processing of sensitive data, such as healthcare, financial services, and government data. For example, in the United States, protected health information is subject to the Health Insurance
Portability and Accountability Act (HIPAA). HIPAA has been supplemented by the Health Information Technology for Economic and Clinical Health Act with the result of increased civil and criminal penalties for noncompliance. Entities
performing certain functions that engage in creating, receiving, maintaining, or transmitting protected health information provided by covered entities and other business associates are directly subject to enforcement under HIPAA. Our access to
protected health information through our cloud services offerings triggers obligations to comply with certain privacy rules and data security requirements under HIPAA. Furthermore, any systems failure or security breach that results in the release
of, or unauthorized access to, personal data, or any failure or perceived failure by us or our third-party service providers to comply with applicable privacy policies or any applicable laws or regulations relating to privacy or data protection,
could result in proceedings against us by domestic or foreign governmental entities or others. Such proceedings could result in the imposition of sanctions, fines, penalties, liabilities, and/or governmental orders requiring that we change our data
practices, any of which could have a material adverse effect on our business, operating results, reputation, and financial condition.
Various federal,
state, and foreign legislative, regulatory, or other governmental bodies may enact new or additional laws or regulations, or issue rulings that invalidate prior laws or regulations, concerning privacy, data storage, and data protection that could
materially adversely impact our business. For example, in October 2015, the Court of Justice of the European Union issued a ruling that declared the U.S.-EU Safe Harbor Framework invalid. Following this ruling, U.S. and European authorities agreed
to, and in July 2016 the European Commission formally adopted, a new mechanism for lawfully transferring personal data from the European Union to the United States, referred to as the Privacy Shield. In addition, in April 2016, the
European Parliament and the Council of the European Union formally adopted a comprehensive general data protection regulation, which will take effect in 2018. Complying with these and other changing requirements could cause us or our customers to
incur substantial costs, require us to change our business practices, or limit our ability to provide certain products and services in certain jurisdictions, any of which could materially adversely affect our business and operating results.
Additionally, new laws or regulations restricting or limiting the collection or use of mobile data could reduce demand for certain of our services or require changes to our business practices, which could materially adversely affect our business and
operating results.
If we or our third-party service providers experience a security breach and unauthorized parties obtain access to our
customers or channel partners data, our data, or our cloud services offerings, networks, or other systems, our offerings may be perceived as not being secure, our reputation may be harmed, demand for our offerings may be reduced, our
operations may be disrupted, we may incur significant legal and financial liabilities, and our business could be materially adversely affected
As part
of our business, we process, store, and transmit our customers and channel partners information and data as well as our own, including in our cloud services offerings, networks, and other systems. There can be no assurance that any
security measures that have been implemented will be effective against all current or future security threats. For example, security measures may be breached as a result of technological error, computer viruses, or third-party action, including
intentional misconduct by computer hackers, physical break-ins, the actions of state actors, industrial espionage, fraudulent inducement of employees, customers, or channel partners to disclose sensitive information such as user names or passwords,
and employee, customer or channel partner error or malfeasance. High-profile security breaches at other companies have increased in recent years. A security breach could result in unauthorized access to or disclosure, modification, misuse, loss, or
destruction of our customers or channel partners data, our data (including our proprietary information, intellectual property, or trade secrets), or our cloud services offerings, networks, or other systems. Because there are many
different security breach techniques and such techniques continue to evolve, we may be unable to anticipate attempted security breaches and implement adequate preventative measures. Third parties may also conduct attacks designed to temporarily deny
customers access to our services. Any security breach or successful denial of service attack could result in a loss of customer confidence in the security of our offerings and damage to our brand, reducing the demand for our offerings and our
revenue, disrupt our normal business operations, require us to spend material resources to investigate or correct the breach, expose us to legal liabilities, including litigation, regulatory enforcement, and indemnity obligations, and materially
adversely affect our operating results. These risks will increase as we continue to grow the number and scale of our cloud-based offerings, and process, store, and transmit increasingly large amounts of our customers, channel partners,
and our own information and data, which may include proprietary or confidential data or personal or identifying information.
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Our intellectual property is valuable, and any inability to protect it could reduce the value of our products,
services, and brand
We rely on a combination of copyrights, patents, trademarks, trade secrets, confidentiality procedures, and contractual
commitments to protect our intellectual property. Despite our efforts, these measures can only provide limited protection. Unauthorized third parties may try to copy or reverse engineer portions of our products or otherwise obtain and use our
intellectual property. Any patents owned by us may be invalidated, circumvented, or challenged. Any of our pending or future patent applications, whether or not currently being challenged, may not be issued with the scope of the claims we seek, if
at all. Moreover, recent amendments to and developing jurisprudence regarding U.S. patent law may affect our ability to protect our intellectual property and defend against claims of patent infringement. In addition, although we generally enter into
confidentiality agreements with our employees, our former employees may seek employment with our business partners, customers, or competitors and there can be no assurance that the confidential nature of our intellectual property will be maintained.
Furthermore, the laws of some countries do not provide the same level of protection of our intellectual property as do the laws of the United States. If we cannot protect our intellectual property against unauthorized copying or use, we may not
remain competitive.
Third parties may claim we infringe their intellectual property rights
We periodically receive notices from third parties claiming we are infringing their intellectual property rights, principally patent and trademark rights. We
expect the number of such claims will increase as we continue to expand our offerings and branding, the number of offerings and level of competition in our industry segments grow, the functionality of offerings overlaps, and the volume of issued
patents, patent applications, and trademark registrations continues to increase. Responding to any infringement claim, regardless of its validity, could:
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be time-consuming, costly, and/or result in litigation;
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divert managements time and attention from developing our business;
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require us to pay monetary damages or enter into royalty and licensing agreements that we would not normally find acceptable;
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require us to stop selling certain of our offerings;
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require us to redesign certain of our offerings using alternative non-infringing technology or practices, which could require significant effort and expense;
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require us to rename certain of our offerings or entities; or
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require us to satisfy indemnification obligations to our customers and channel partners.
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Additionally, while
we monitor our use of third-party software, including open source software, we cannot assure you that our processes for controlling such use in our products will be effective. If we inadvertently embed certain types of open source software into one
or more of our products, or if third-party software that we license is found to infringe intellectual property rights of others, we could subject ourselves to infringement liability and be required to re-engineer our products, discontinue the sale
of our products if re-engineering could not be accomplished on a timely or cost-effective basis, or make available to certain third parties or generally available, in source code form, our proprietary code, any of which could materially adversely
affect our business, operating results, and financial condition.
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If a successful infringement claim is made against us and we fail to develop or license a substitute technology
or brand name, as applicable, our business, results of operations, financial condition, or cash flows could be materially adversely affected.
For
example, in December 2011, DataTern filed a complaint alleging that certain of our analytics products infringe a patent allegedly owned by it, and we have received indemnification requests from certain of our channel partners and customers who were
also named as defendants in connection with this matter. This matter is described in further detail in this Quarterly Report under Part II. Item 1. Legal Proceedings.
Pending or future litigation could have a material adverse effect on our results of operation and financial condition
In addition to intellectual property litigation, from time to time, we have been subject to other litigation. Regardless of the merits of any claims that may
be brought against us, pending or future litigation could result in a diversion of managements attention and resources and we may be required to incur significant expenses defending against these claims. If we are unable to prevail in
litigation, we could incur substantial liabilities. Where we can make a reasonable estimate of the liability relating to pending litigation and determine that it is probable, we record a related liability. As additional information becomes
available, we assess the potential liability and revise estimates as appropriate. However, because of uncertainties relating to litigation, the amount of our estimates could be wrong.
Because of the rights of our two classes of common stock and because we are controlled by Michael J. Saylor, who beneficially owns the majority of our
class B common stock, Mr. Saylor could transfer control of MicroStrategy to a third party without the approval of our Board of Directors or our other stockholders, prevent a third party from acquiring us, or limit your ability to influence
corporate matters
We have two classes of common stock: class A common stock and class B common stock. Holders of our class A common stock generally
have the same rights as holders of our class B common stock, except that holders of class A common stock have one vote per share while holders of class B common stock have ten votes per share. As of July 22, 2016, holders of our class B common
stock owned 2,035,184 shares of class B common stock, or 68.4% of the total voting power. As of July 22, 2016, Mr. Saylor, our Chairman of the Board of Directors, President & Chief Executive Officer, beneficially owned 2,011,668
shares of class B common stock, or 67.6% of the total voting power. Accordingly, Mr. Saylor is able to control MicroStrategy through his ability to determine the outcome of elections of our directors, amend our certificate of incorporation and
by-laws, and take other actions requiring the vote or consent of stockholders, including mergers, going-private transactions, and other extraordinary transactions and their terms.
Our certificate of incorporation allows holders of class B common stock to transfer shares of class B common stock, subject to the approval of stockholders
holding a majority of the outstanding class B common stock. Mr. Saylor or a group of stockholders holding a majority of the outstanding class B common stock could, without the approval of our Board of Directors or our other stockholders,
transfer voting control of MicroStrategy to a third party. Such a transfer of control could have a material adverse effect on our business, operating results, and financial condition. Mr. Saylor or a group of stockholders holding a majority of
the outstanding class B common stock could also prevent a change of control of MicroStrategy, regardless of whether holders of class A common stock might otherwise receive a premium for their shares over the then current market price. In addition,
this concentrated control limits stockholders ability to influence corporate matters and, as a result, we may take actions that our non-controlling stockholders do not view as beneficial or that conflict with their interests. As a result, the
market price of our class A common stock could be materially adversely affected.
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We rely on the controlled company exemption from certain corporate governance requirements for
NASDAQ-listed companies, which could make our class A common stock less attractive to some investors or otherwise materially adversely affect our stock price
Because we qualify as a controlled company under the corporate governance rules for NASDAQ-listed companies, we are not required to have
independent directors comprise a majority of our Board of Directors. Additionally, our Board of Directors is not required to have an independent compensation or nominating committee, or to have the independent directors exercise the nominating
function. We are also not required to have the compensation of our executive officers be determined by a compensation committee of independent directors. In addition, we are not required to empower our Compensation Committee with the authority to
engage the services of any compensation consultants, legal counsel, or other advisors, or to have the Compensation Committee assess the independence of compensation consultants, legal counsel, and other advisors that it engages.
In light of our status as a controlled company, our Board of Directors has determined not to establish an independent nominating committee or have its
independent directors exercise the nominating function, and has elected instead to have the Board of Directors be directly responsible for nominating members of the Board. A majority of our Board of Directors is currently comprised of independent
directors, and our Board of Directors has established a Compensation Committee comprised entirely of independent directors. The Compensation Committee determines the compensation of our Chief Executive Officer. However, our Board of Directors
has authorized our Chief Executive Officer to determine the compensation of executive officers other than himself, rather than having such compensation determined by the Compensation Committee, except that certain executive officer compensation that
is intended to qualify as performance-based compensation for purposes of Section 162(m) of the Internal Revenue Code is determined by the Compensation Committee pursuant to the requirements of Section 162(m). Awards under our 2013 Equity
Plan are also approved by the Compensation Committee. Additionally, while our Compensation Committee is empowered with the authority to retain and terminate outside counsel, compensation consultants, and other experts or consultants, it is not
required to assess their independence.
Although currently a majority of our Board of Directors is comprised of independent directors and the Compensation
Committee is comprised entirely of independent directors, we may elect in the future not to have independent directors constitute a majority of the Board of Directors or the Compensation Committee, have our Chief Executive Officers
compensation determined by a compensation committee of independent directors, or have a compensation committee of the Board of Directors at all.
Accordingly, should the interests of our controlling stockholder differ from those of other stockholders, the other stockholders may not have the same
protections that are afforded to stockholders of companies that are required to follow all of the corporate governance rules for NASDAQ-listed companies. Our status as a controlled company could make our class A common stock less attractive to some
investors or otherwise materially adversely affect our stock price.
Revenue recognition accounting pronouncements may materially adversely affect our
reported results of operations
We continuously review our compliance with all new and existing revenue recognition accounting pronouncements. In May
2014, the FASB issued Accounting Standards Update No. 2014-09,
Revenue from Contracts with Customers (Topic 606)
(ASU 2014-09), which supersedes nearly all existing revenue recognition guidance. See Note 2, Recent Accounting
Standards, to the Consolidated Financial Statements in Part I. Item 1. Financial Statements of this Quarterly Report for further information regarding ASU 2014-09. We are currently evaluating the impact of this guidance on our
consolidated financial position, results of operations, and cash flows. Depending on the outcome of these ongoing reviews and the potential issuance of further accounting pronouncements, implementation guidelines, and interpretations, we may be
required to modify our reported results, revenue recognition policies, or business practices, which could materially adversely affect our results of operations.
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