Filed Pursuant to Rule 424(b)(4)
Registration Statement No. 333-221570

 

PROSPECTUS

975,000 Shares

 

Common Stock

 

 

We are offering 975,000 shares of our common stock. Our common stock is listed on The NASDAQ Global Market, or NASDAQ, under the symbol “VERI.” On November 16, 2017, the last reported sale price of our common stock on NASDAQ was $26.82 per share.

We are an “emerging growth company” as defined by the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. As such, we have elected to comply with certain reduced public company reporting requirements for this prospectus and future filings. See “Prospectus Summary—Implications of Being an Emerging Growth Company.”

 

 

Investing in shares of our common stock involves a high degree of risk. See “Risk Factors” beginning on page 13 of this prospectus.

 

		Price to Public				Underwriting Discounts and Commissions (1)				Proceeds to Us, Before Expenses
Per Share		$	23.00			$	1.38			$	21.62
Total		$	22,425,000			$	1,345,500			$	21,079,500

 

(1)	See “Underwriting” beginning on page 125 of this prospectus for additional information regarding the total compensation to be paid to the underwriters.

We have granted an over-allotment option to the underwriters. Under this option, the underwriters may elect to purchase a maximum of 146,250 additional shares of common stock from us at the public offering price, less underwriting discounts and commissions, within 30 days following the date of this prospectus to cover over-allotments.

We are a “controlled company” under the listing requirements of NASDAQ, or the NASDAQ Marketplace Rules, which entitle us to rely on certain exemptions from NASDAQ’s corporate governance requirements.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The underwriters expect to deliver the shares of our common stock to purchasers on or about November 21, 2017.

 

 

Joint Book-Running Managers

 

Roth Capital Partners		Craig-Hallum Capital Group

The date of this prospectus is November 17, 2017

TABLE OF CONTENTS

 

		Page
Prospectus Summary			1
Risk Factors			13
Cautionary Note Regarding Forward-Looking Statements			36
Use of Proceeds			37
Market for Common Stock and Related Stockholder Information			38
Dividend Policy			39
Capitalization			40
Dilution			41
Selected Consolidated Financial Data			42
Management’s Discussion and Analysis of Financial Condition and Results of Operations			44
Business			69
Management			84
Executive Compensation			92
Certain Relationships and Related Party Transactions			106
Principal Stockholders			113
Description of Capital Stock			115
Material U.S. Federal Income Tax Consequences to Non-U.S. Holders			121
Underwriting			125
Legal Matters			129
Experts			129
Where You Can Find More Information			129
Index to Financial Statements			F-1

In considering whether to purchase shares of our common stock, you should rely only on the information contained in this prospectus or in any free writing prospectus we may file with the Securities and Exchange Commission, or the SEC. Neither we nor the underwriters have authorized anyone to provide you with any information, or to make any representations, other than those contained in this prospectus or in any free writing prospectuses we file with the SEC. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may provide to you. The information in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus, or any free writing prospectus, as the case may be, or any sale of shares of our common stock. Our business, financial condition, results of operations and prospects may have changed after that date.

For investors outside the United States: We are offering to sell, and seeking offers to buy, shares of our common stock only in jurisdictions where offers and sales are permitted. Neither we nor the underwriters have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of common stock and the distribution of this prospectus outside the United States.

The representations, warranties and covenants made by us in any contract or other document that is filed as an exhibit to the registration statement of which this prospectus is a part were made solely for the benefit of the parties to such contract, or other document, including, in some cases, for the purpose of allocating risk among the parties to such contract or other document, and should not be deemed to be a representation, warranty or covenant made to you or for your benefit. Moreover, such representations, warranties or covenants were accurate only as of the date they were made, as set forth in the relevant contract or document. Accordingly, such representations, warranties and covenants should not be relied on as accurately representing the current state of our business, financial condition, operations or prospects.

Trademarks

This prospectus includes references to our trademarks, trade names and service marks, such as Veritone^®, Veritone Platform^TM, Veritone One™, aiWARE™, Conductor™, Veritone eDiscovery™, Veritone Legal^TM and Veritone Politics™, which are protected under applicable intellectual property laws and are our property. This prospectus also contains references to trademarks, trade names and service marks of other companies, which are the property of their respective owners. Solely for convenience, trademarks and trade names referred to in this prospectus may appear without the ^®, ^TM or ^SM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks, trade names and service marks. We do not intend our use or display of other parties’ trademarks, trade names or service marks to imply, and such use or display should not be construed to imply, a relationship with, or endorsement or sponsorship of us by, these other parties.

Market, Industry Data and Other Data

Unless otherwise indicated, information contained in this prospectus concerning our industry and the markets in which we operate is based on information from independent industry and research organizations and other third-party sources (including industry publications, surveys and forecasts), as well as management estimates. Management estimates are derived from publicly available information released by independent industry analysts and third-party sources, as well as data from our internal research, and are based on assumptions made by us upon reviewing such data and our knowledge of such industry and markets, which we believe to be reasonable. Although we believe the data from these third-party sources is reliable, we have not independently verified any third-party information. In addition, projections, assumptions and estimates of the future performance of the industry in which we operate and our future performance are necessarily subject to uncertainty and risk due to a variety of factors, including those described in “Risk Factors.” These and other factors could cause results to differ materially from those expressed in the estimates made by the independent parties and by us.

Certain monetary amounts, percentages and other figures included in this prospectus have been subject to rounding adjustments. Accordingly, figures shown as totals in certain tables or charts may not be the arithmetic aggregation of the figures that precede them, and figures expressed as percentages in the text may not total 100% or, if applicable, when aggregated may not be the arithmetic aggregation of the percentages that precede them.

 

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RISK FACTORS

Investing in our common stock involves a high degree of risk. You should carefully consider the following information about these risks, together with the other information appearing elsewhere in this prospectus, including our consolidated financial statements, the notes thereto and the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” before deciding to invest in our common stock. The occurrence of any of the following risks could have a material and adverse effect on our business, reputation, financial condition, results of operations and future growth prospects, as well as our ability to accomplish our strategic objectives. As a result, the trading price of our common stock could decline and you could lose all or part of your investment. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations and stock price. Certain statements contained in this section constitute forward-looking statements. See the information included in “Cautionary Note Regarding Forward-Looking Statements.”

Risks Related to Our Business, Industry and Financial Condition

Most of our revenues are currently generated by our Media Agency Business, and our effort to expand our AI Platform business may not succeed.

In the first nine months of 2017 and fiscal years 2016 and 2015, most of our revenues were advertising-related revenues generated from media placement services performed under advertising contracts with our media clients. We typically receive a percentage of the total advertising placement by these customers with selected media sources. We did not commence licensing of our AI platform until April 2015, and SaaS licensing revenue from our AI platform was $1.0 million in the nine months ended September 30, 2017, $0.5 million for the year ended December 31, 2016 and less than $0.1 million for the year ended December 31, 2015. In order for us to grow our business and achieve profitability, we must expand our revenue base by ramping up our SaaS licensing business and entering into additional licensing agreements. However, we are currently in the early stages of developing our SaaS licensing business, and we may not be able to succeed with respect to these efforts.

Many factors may adversely affect our ability to establish a viable and profitable SaaS licensing business, including but not limited to:

 

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Failure to add cognitive engines with sufficient levels of capability into our platform, difficulties integrating cognitive engines, or loss of access to cognitive engines;

 

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Inability to expand the automation capabilities of our Conductor technology to other types of cognitive engines;

 

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Inability to expand the number of cognitive engines in different classes that can operate in a network isolated manner, which would limit the capabilities of our hybrid on-premise/cloud version of aiWARE;

 

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Failure to add market-specific capabilities and analytics for each of our vertical markets;

 

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Failure to articulate the perceived benefits of our solution, or failure to persuade potential customers that such benefits justify the additional cost over competitive solutions or technologies;

 

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Introduction of competitive offerings by larger, better financed and more well-known companies;

 

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Inability to enter into satisfactory agreements relating to the integration of our platform with products of other companies to pursue particular vertical markets, or the failure of such relationships to achieve their anticipated benefits;

 

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Failure to provide adequate customer support;

 

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Long sales cycles for customers in the government and law enforcement markets;

 

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Failure to generate broad customer acceptance of or interest in our solutions;

 

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Increases in costs or lack of availability of certain cognitive engines;

 

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Challenges in operating our platform on secure government cloud platforms;

 

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Inability to continue to access public media for free;

 

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Higher data storage and computing costs; and

 

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Difficulties in adding technical capabilities to our platform and ensuring future compatibility of additional third party providers.

If we fail to develop a successful SaaS licensing business, or if we are unable to ramp up our SaaS operations in a timely manner or at all, our business, results of operations and financial condition will suffer and you may lose all or part of your investment in this offering.

The AI market is new and unproven, and it may decline or experience limited growth, which would adversely affect our ability to fully realize the potential of our platform.

The AI market is relatively new and evaluating the size and scope of the market is subject to a number of risks and uncertainties. We believe that our future success will depend in large part on the growth of this market. The utilization of our platform by customers is still relatively new, and customers may not recognize the need for, or benefits of, our platform, which may prompt them to cease use of our platform or decide to adopt alternative products and services to satisfy their cognitive computing search and analytics requirements. In order to expand our business and extend our market position, we intend to focus our marketing and sales efforts on educating customers about the benefits and technological capabilities of our platform and the application of our platform to the specific needs of customers in different market verticals. Our ability to access and expand the market that our platform is designed to address depends upon a number of factors, including the cost, performance and perceived value of our platform. Market opportunity estimates are subject to significant uncertainty and are based on assumptions and estimates, including our internal analysis and industry experience. Assessing the market for our SaaS solutions in each of the vertical markets we are competing in, or are planning to compete in, is particularly difficult due to a number of factors, including limited available information and rapid evolution of the market. The market for our platform, or for AI cognitive computing in general, may fail to grow significantly or be unable to meet the level of growth we expect. As a result, we may experience lower-than-expected demand for our products and services due to lack of customer acceptance, technological challenges, competing products and services, decreases in spending by current and prospective customers, weakening economic conditions and other causes. If our market does not experience significant growth, or if demand for our platform does not increase in line with our projections, then our business, results of operations and financial condition will be adversely affected.

We rely on third parties to develop cognitive engines for our platform and in some cases to integrate them with our platform.

A key element of our platform is the ability to incorporate and integrate cognitive engines developed by multiple third-party vendors, and we plan to continue to increase the number of third-party cognitive engines incorporated into our platform in order to enhance the performance and power of our platform. As we become increasingly dependent on third-party developers for new cognitive engines, we may encounter difficulties in identifying additional high-quality cognitive engines, entering into agreements for their inclusion in our ecosystem on acceptable terms or at all and/or in coordinating and integrating their technologies into our system. We may incur additional costs to modify and adjust existing functionalities of our platform to accommodate multiple classes of third-party cognitive engines, without the assurance that such costs can be recouped by the additional revenues generated by the new capabilities. As our platform becomes more complex due to the inclusion of various third-party cognitive engines, we may not be able to integrate them in a seamless or timely manner due to a number of factors, including incompatible software applications, lack of cooperation from developers, insufficient internal technical resources, and the inability to secure the necessary licenses or legal

 

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authorizations required. In addition, we currently use third-party providers to integrate such third party cognitive engines onto our platform. In the future, we plan to require such third party developers to integrate their engines onto our platform, and we will be dependent in part upon their ability to do so effectively and quickly. We may not have full control over the quality and performance of third-party providers, and therefore, any unexpected deficiencies or problems arising from these third-party providers may cause significant interruptions of our platform. The failure of third party developers to integrate their cognitive engines seamlessly into our platform and/or provide reliable, scalable services may impact the reliability of our platform and harm our reputation and business, results of operations and financial conditions.

Our competitors, partners or others may acquire third party technologies, which could result in them blocking us from using the technology in our platform, offering it for free to the public or making it cost prohibitive for us to continue to incorporate their technologies in our platform.

Our success depends in part on our ability to attract and incorporate the leading cognitive engines into our platform. If any third party acquires a cognitive engine that is integral to our platform, they may preclude us from using it as a component of our platform or make it more expensive for us to utilize, and our revenues could decline if the interruption causes us to lose customers. It is also possible that a third party acquirer of such technology could offer the cognitive engines and technologies to the public as a free add-on capability, in which case our customers would have less incentive to pay us for the use of our platform. If a key third party technology becomes unavailable to us or is impractical for us to continue to use, the functionality of our platform could be interrupted and our expenses could increase as we search for an alternative technology. As a result, our business, results of operations and financial condition could be adversely affected through the loss of customers, reputational harm and/or from increased operating costs.

Our continuous access to public media may be restricted, disrupted or terminated, which would reduce the effectiveness of our platform.

The success of our platform for certain users depends substantially on our ability to continuously ingest and process large amounts of data available in the public media, and any interruption to our free access to such public media will adversely affect the performance and quality of our platform for such users. Public media sources may change their policies to restrict access or implement procedures to make it more difficult or costly for us to maintain access. Free access to certain public media has also been challenged in courts as a potential violation of laws. In a recent case, Fox News v. TVEyes, Fox News filed a lawsuit in the Southern District of New York against a media-monitoring service company for alleged violation of copyright laws. The District Court held that TVEyes’ indexing, viewing and archiving capabilities constituted fair use, but that its downloading, emailing and date-time search capabilities did not. Both parties have appealed the decision to the Court of Appeals for the Second Circuit. If the Court of Appeals overturns the lower court decision as requested by Fox News, or other broadcasters pursue similar legal actions, our free access to some or all public media could be limited or eliminated entirely, which will severely reduce the effectiveness and capabilities of our platform and cause us to lose customers. If we no longer have free access to public media, our online media library and the capability and quality of our platform for some users will be significantly reduced. Furthermore, we may be forced to pay significant fees to public media sources in order to maintain access, which would adversely affect our financial condition and results of operations.

If we are not able to develop a strong brand for our platform and increase market awareness of our company and our platform, then our business, results of operations and financial condition may be adversely affected.

We believe that the success of our platform will depend in part on our ability to develop a strong brand identity for our “Veritone”, “Veritone Platform”, “aiWARE” and other service marks, and to increase the market awareness of our platform and its capabilities. The successful promotion of our brand will depend largely on our continued marketing efforts and our ability to offer high quality cognitive engines on our platform and ensure that our technology provides the expected benefits to our customers. We also believe that it is important for us to

 

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be thought leaders in the AI-based cognitive computing market. Our brand promotion and thought leadership activities may not be successful or produce increased revenue. In addition, independent industry analysts often provide reviews of our platform and of competing products and services, which may significantly influence the perception of our platform in the marketplace. If these reviews are negative or not as positive as reviews of our competitors’ products and services, then our brand may be harmed.

The promotion of our brand also requires us to make substantial expenditures, and we anticipate that these expenditures will increase as our industry becomes more competitive and as we seek to expand into new markets. These higher expenditures may not result in any increased revenue or in revenue that is sufficient to offset the higher expense levels. If we do not successfully maintain and enhance our brand, then our business may not grow, we may see our pricing power reduced relative to competitors and we may lose customers, all of which would adversely affect our business, results of operations and financial condition.

We expect that our brand and reputation may also be affected by customer reviews and reactions, including reviews and feedback received through online social media channels. We must consistently provide high quality services to ensure that our customers have a positive experience using our platform. If customers complain about our services, if we do not handle customer complaints effectively or if we cannot generate positive reviews and feedback on social media channels, then our brand and reputation may suffer, and our customers may lose confidence in us and reduce or cease their use of our platform.

We may not be able to expand the capabilities of our proprietary Conductor technology to optimize our AI platform.

We recently enhanced the performance of our platform by adding our proprietary Conductor technology, which automates the selection of cognitive engines available on our platform within a class from the engines available on our platform. Our Conductor technology is designed to optimize data processing by choosing the best cognitive engine to deploy to generate the ideal results for each individual search based on performance, cost, and speed. Our Conductor technology currently only works with transcription engines. While we are working on expanding our Conductor technology to other cognitive classes, we cannot guarantee that such expansion will be completed on a timely basis or at all. We may not be able to develop the technology to effectively navigate and process multiple complex classes of cognitive engines, particularly those developed by third parties. Even if we are able to do so, we may not be able to develop Conductor technology for those other classes that achieves the expected performance, which would have an adverse effect on our customer experience and satisfaction. In addition, we expect to incur significant costs in the development and deployment of our proprietary Conductors, and if we cannot achieve our expected performance goals, it could have an adverse effect on our financial condition and results of operations.

We currently generate significant revenue from a limited number of key customers and the loss of any of our key customers may harm our business, results of operations and financial results.

Our ten largest customers by revenue accounted for approximately 66% of our net revenues in the first nine months of 2017 and 72.2% and 81.0% in fiscal years 2016 and 2015, respectively. If any of our key customers decides not to renew its contract with us or renews on less favorable terms, or if any such customer decides to develop its own platform, our business, revenue and reputation could be materially and adversely affected.

For example, our two largest customers by revenue in 2015, LifeLock, Inc. and DraftKings, Inc., collectively accounted for approximately 42.7% of our net revenues in 2015, but only 10.5% of our net revenues in 2016. In September 2015, our agreement with LifeLock, Inc. was terminated, which contributed to the reduction in our net revenues in 2016 compared with the prior year. Furthermore, as a result of certain legal proceedings in which it was involved, DraftKings, Inc. reduced its marketing spend in 2016, and our net revenues related to our agreement with DraftKings, Inc. declined significantly. If we lose business with additional key

 

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customers, and are not able to gain additional customers or increase our revenue from other customers to offset the reduction of revenues from those key customers, our business, results of operations and financial condition would be harmed.

Media Agency clients periodically review and change their advertising requirements and relationships. If we are unable to remain competitive or retain key clients, our business, results of operations and financial position may be adversely affected.

The media placement industry is highly competitive, and certain advertising clients periodically put their advertising, marketing and corporate communications business up for competitive review. Clients also review the cost and benefit of servicing all or a portion of their advertising and marketing needs in-house. We have won and lost accounts in the past as a result of these reviews. In addition, from time to time, customers cancel media campaigns for their internal business reasons. Because our Media Agency contracts generally can be cancelled by our customers upon 30 to 90 days prior written notice, clients can easily change media providers or cancel media commitments on short notice without any penalty. In order to retain existing clients and win new clients, we must continue to develop solutions that meet client needs, provide quality and effective client service, and achieve clients’ requirements for return on advertising investment and pricing. In addition, our Media Agency Business is primarily engaged in the placement of endorsed media, and we may face increased competition in this business in the future from other advertising agencies that provide a more comprehensive range of advertising services to their customers. To be able to offer a broader range of services, we would need to add additional capabilities, such as television buying, and we may not be able to do so effectively. To the extent that we are not able to remain competitive or retain key clients, our revenue may be adversely affected, which could have a material and adverse effect on our business, results of operations and financial position.

Our Media Agency Business is dependent on growth in demand for endorsed media and the availability of sufficient media personalities to deliver such content.

Our Media Agency Business is primarily engaged in the placement of endorsed media, which depends on the availability of media personalities to deliver the endorsed media content. The endorsed media market is still at a relatively early stage of development, and its future growth is uncertain. Our ability to grow our sales in this business will be dependent in part upon the level of interest in endorsed media among advertisers, and upon the number of available media personalities and our ability to identify and engage an increasing number of such personalities on a cost-effective basis. If demand for endorsed media fails to grow, or if we are unable to identify sufficient appropriate media personalities to deliver the endorsed media content, our ability to grow our Media Agency Business would be impacted materially.

Acquiring and retaining Media Agency clients depends on our ability to avoid and manage conflicts of interest arising from other client relationships and attracting and retaining key personnel.

Our ability to acquire new Media Agency clients and to retain existing clients may, in some cases, be limited by clients’ perceptions of, or policies concerning, conflicts of interest arising from other client relationships. If we are unable to manage these client relationships and avoid potential conflicts of interest, our business, results of operations and financial position may be adversely affected.

Our ability to acquire new Media Agency clients and to retain existing clients is dependent in large part upon our ability to attract and retain our key personnel in that business, who are an important aspect of our competitiveness. If we are unable to attract and retain key personnel, our ability to provide our services in the manner clients have come to expect may be adversely affected, which could harm our reputation and result in a loss of clients, which could have a material adverse effect on our business, results of operations and financial position.

 

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Our quarterly results may fluctuate significantly and period-to-period comparisons of our results may not be meaningful.

Our quarterly results, including the levels of our revenue, our operating expenses and other costs, and our operating margins, may fluctuate significantly in the future, and period-to-period comparisons of our results may not be meaningful. Accordingly, the results of any one period should not be relied upon as an indication of our future performance. In addition, our quarterly results may not fully reflect the underlying performance of our business. Factors that may cause fluctuations in our quarterly results include, but are not limited to:

 

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the timing of new advertising program wins with our Media Agency customers;

 

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our ability to retain our existing customers and to expand our business with our existing customers;

 

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our ability to attract new customers, the type of customers we are able to attract, the size and needs of their businesses and the cost of acquiring these new customers;

 

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the timing and market acceptance of our SaaS solutions and other products introduced by us and our competitors;

 

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variations in the timing of licensing revenues from our SaaS solutions as a result of trends impacting our target vertical markets;

 

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changes in our pricing policies or those of our competitors;

 

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the timing of our recognition of revenue and the mix of our revenues during the period;

 

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the amount and timing of operating expenses and other costs related to the maintenance and expansion of our business, infrastructure and operations;

 

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the amount and timing of operating expenses and other costs associated with assessing or entering new vertical markets;

 

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the amount and timing of operating expenses and other costs related to the development or acquisition of businesses, services, technologies or intellectual property rights;

 

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the timing and impact of security breaches, service outages or other performance problems with our technology infrastructure and software solutions;

 

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the timing and costs associated with legal or regulatory actions;

 

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changes in the competitive dynamics of our industry, including consolidation among competitors, strategic partners or customers;

 

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loss of our executive officers or other key employees;

 

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industry conditions and trends that are specific to the vertical markets in which we sell or intend to sell our SaaS solutions; and

 

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general economic and market conditions.

Fluctuations in quarterly results may negatively impact the value of our common stock, regardless of whether they impact or reflect the overall performance of our business. If our quarterly results fall below the expectations of investors or any securities analysts who follow our stock, or below any guidance we may provide, the price of our common stock could decline substantially.

If we are not able to enhance or introduce new products that achieve market acceptance and keep pace with technological developments, our business, results of operations and financial condition could be harmed.

Our ability to attract new customers and increase revenue from existing customers depends in part on our ability to enhance and improve our platform, increase adoption and usage of our products and introduce new

 

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products and features, including products and services designed for operation on a network-isolated basis, behind the user’s firewall, or in a mobile user environment. The success of any enhancements or new products depends on several factors, including timely completion, adequate quality testing, actual performance quality, market-accepted pricing levels and overall market acceptance and demand. Enhancements and new products that we develop may not be introduced in a timely or cost-effective manner, may contain defects, may have interoperability difficulties with our platform, or may not achieve the market acceptance necessary to generate significant revenue. If we are unable to successfully enhance our existing platform and capabilities to meet evolving customer requirements, increase adoption and usage of our platform, develop new products, or if our efforts to increase the usage of our products are more expensive than we expect, then our business, results of operations and financial condition could be harmed.

The success of our business depends on our ability to expand into new vertical markets and attract new customers in a cost-effective manner.

In order to grow our business, we plan to drive greater awareness and adoption of our platform from enterprises across new vertical markets, including Legal, Government and Retail. We intend to increase our investment in sales and marketing, as well as in technological development, to meet evolving customer needs in these and other markets. There is no guarantee, however, that we will be successful in gaining new customers from any or all of these markets. We have limited experience in marketing and selling our products and services generally, and in particular in these new markets, which may present unique and unexpected challenges and difficulties. For example, in order for us to offer our hosted, cloud-based products and services to certain government customers, we will be required to operate our platform in secure government cloud environments in order to enable our customers to maintain compliance with applicable regulations that govern the use, storage and transfer of certain government data. However, due to the secure nature of these government cloud environments, we may not be able to fully perform all functionalities and features of our platform or make available all of the third party cognitive engines within our non-government cloud platform ecosystem, which may limit or reduce the performance and quality of our services. Furthermore, we may incur additional costs to modify our current platform to conform to the cloud provider’s requirements, and we may not be able to generate sufficient revenue to offset these costs. We will also be required to comply with certain regulations required by government customers, such as FedRAMP and CJIS, which will require us to incur costs, devote management time and modify our current platform and operations. If we are unable to comply with those regulations effectively and in a cost-effective manner, our financial results could be adversely affected.

We use a variety of marketing channels to promote our products and platform, such as digital, print and social media advertising, email campaigns, industry events and public relations. If the costs of the marketing channels we use increase dramatically, then we may choose to use alternative and less expensive channels, which may not be as effective as the channels we currently use. As we add to or change the mix of our marketing strategies, we may need to expand into more expensive channels than those we are currently in, which could adversely affect our business, results of operations and financial condition. In addition, we have limited experience marketing our products and platform and we may not be successful in selecting the marketing channels that will provide us with exposure to customers in a cost-effective manner. As part of our strategy to penetrate the new vertical markets, we will incur marketing expenses before we are able to recognize any revenue in such markets, and these expenses may not result in increased revenue or brand awareness. We have made in the past, and may make in the future, significant expenditures and investments in new marketing campaigns, and these investments may not lead to the cost-effective acquisition of additional customers. If we are unable to maintain effective marketing programs, then our ability to attract new customers or enter into new vertical markets could be adversely affected.

Interruptions or performance problems associated with our technology and infrastructure may adversely affect our business and operating results.

Our continued growth depends in part on the ability of customers to access our platform at any time and within an acceptable amount of time. We have experienced, and may in the future experience, disruptions,

 

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outages and other performance problems due to a variety of factors, including infrastructure changes, introductions of new applications and functionality, software errors and defects, capacity constraints due to an increasing number of users accessing our platform simultaneously, or security related incidents. In addition, from time to time we may experience limited periods of server downtime due to server failure or other technical difficulties (as well as maintenance requirements). Because we also incorporate diverse software and hosted services from many third-party vendors, we may encounter difficulties and delays in integrating and synthesizing these applications and programs, which may cause downtimes or other performance problems. It may become increasingly difficult to maintain and improve our performance, especially during peak usage times and as our platform becomes more complex and our user traffic increases. If our platform is unavailable or if our users are unable to access our platform within a reasonable amount of time or at all, our business would be adversely affected and our brand could be harmed. In the event of any of the factors described above, or certain other failures of our infrastructure, customer or consumer data may be permanently lost. To the extent that we do not effectively address capacity constraints, upgrade our systems as needed, and continually develop our technology and network architecture to accommodate actual and anticipated changes in technology, customers and consumers may cease to use our platform and our business and operating results may be adversely affected.

Our business depends on customers increasing their use of our services and/or platform, and we may experience loss of customers or decline in their use of our services and/or platform.

Our ability to grow and generate revenue depends, in part, on our ability to maintain and grow our relationships with existing customers and convince them to increase their usage of our platform. If our customers do not increase their use of our platform, then our revenue may not grow and our results of operations may be harmed. Our revenue model for advertising contracts is generally structured as a percentage of the total fees for the advertisement. If our customers reduce their spending on the placement of advertisements with media vendors, or if they decide to use other marketing or selling strategies, we will experience a decline in our revenue. In addition, many of our SaaS licensing contracts include a usage-based license fee that is based upon our customers’ level of usage of our platform’s cognitive engines. It is difficult to accurately predict customers’ usage levels and the loss of customers or reductions in their usage levels may have a negative impact on our business, results of operations and financial condition. If a significant number of customers cease using, or reduce their usage of, our platform, then we may be required to spend significantly more on sales and marketing than we currently plan to spend in order to maintain or increase revenue from customers. These additional expenditures could adversely affect our business, results of operations and financial condition. Most of our customers do not have long-term contractual financial commitments to us and, therefore, most of our customers may reduce or cease their use of our platform at any time without penalty or termination charges.

We rely upon AWS and Iron.io to operate our platform, and any disruption of or interference with our use of such third party services would adversely affect our business operations.

We use AWS to host our platform and for our storage needs. We also utilize Iron.io (a unit of Oracle) for certain computing processes related to our services. Users of our platform need to be able to access our platform at any time, without interruption or degradation of performance. AWS and Iron.io run their own platforms that we access, and we are, therefore, vulnerable to service interruptions at AWS and Iron.io. We do not have control over the operations of AWS or Iron.io, and we may experience interruptions, delays and outages in service and availability from time to time due to a variety of factors, including infrastructure changes, human or software errors, website hosting disruptions and capacity constraints. In addition, if our security, or that of AWS or Iron.io, is compromised, our platform is unavailable to our customers, or our customers are unable to use our platform within a reasonable amount of time or at all, then our business, results of operations and financial condition could be adversely affected. In some instances, we may not be able to identify the cause or causes of these performance problems within a period of time acceptable to our customers.

AWS and Iron.io provide us with hosting, computing and storage capacity pursuant to agreements that may be cancelled by providing 30 days’ prior written notice, and in some cases, the agreements can be terminated

 

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immediately for cause without notice. If any of these agreements are terminated with little or no notice, we could experience interruptions on our platform and in our ability to make our platform available to customers, as well as delays and additional expenses in arranging alternative cloud infrastructure services.

While we have deployed our platform to work on Microsoft’s Azure government cloud, and are in the process of deploying it on AWS’ secure government cloud, the secure nature of these secure government clouds limits certain features of our platform, which could impact a user’s experience on our site and may make it harder to achieve broad acceptance of the cloud-based version of our platform among government users.

Any of the above circumstances or events may harm our reputation, cause customers to stop using our platform, impair our ability to increase revenue from existing customers, impair our ability to grow our customer base, subject us to financial penalties and liabilities under our service level agreements and otherwise harm our business, results of operations and financial condition.

The security of our platform, networks or computer systems may be breached, and any unauthorized access to our customer data will have an adverse effect on our business and reputation.

The use of our platform involves the storage, transmission and processing of our clients’ private data as well as public media, and this private media may contain confidential and proprietary information of our clients or other personal or identifying information regarding our clients, their employees or other persons. Individuals or entities may attempt to penetrate our network or platform security, or that of our third-party hosting and storage providers, and could gain access to our clients’ private media, which could result in the destruction, disclosure or misappropriation of proprietary or confidential information of our clients’ or their customers, employees and business partners. If any of our clients’ private media is leaked, obtained by others or destroyed without authorization, it could harm our reputation, we could be exposed to civil and criminal liability, and we may lose our ability to access private media information, which will adversely affect the quality and performance of our platform.

In addition, our platform may be subject to computer malware, viruses and computer hacking, fraudulent use attempts and phishing attacks, all of which have become more prevalent in our industry. Though it is difficult to determine what, if any, harm may directly result from any specific interruption or attack, they may include the theft or destruction of data owned by us or our customers, and/or damage to our platform. Any failure to maintain the performance, reliability, security and availability of our products and technical infrastructure to the satisfaction of our customers may harm our reputation and our ability to retain existing customers and attract new users.

While we have implemented procedures and safeguards that are designed to prevent security breaches and cyber-attacks, they may not be able to protect against all attempts to breach our systems, and we may not become aware in a timely manner of any such security breach. Unauthorized access to or security breaches of our platform, network or computer systems, or those of our technology service providers or third party cognitive engines, could result in the loss of business, reputational damage, regulatory investigations and orders, litigation, indemnity obligations, damages for contract breach, civil and criminal penalties for violation of applicable laws, regulations or contractual obligations, and significant costs, fees and other monetary payments for remediation. If customers believe that our platform does not provide adequate security for the storage of sensitive information or its transmission over the Internet, our business will be harmed. Customers’ concerns about security or privacy may deter them from using our platform for activities that involve personal or other sensitive information.

If we are not able to compete effectively, our business and operating results will be harmed.

While the market for AI-based systems for search and analysis of audio, video and other unstructured data is still in the early stages of development, we face competition from various sources, including large, well-capitalized technology companies such as Google and IBM. These competitors may have better brand name

 

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recognition, greater financial and engineering resources and larger sales teams than we have. As a result, these competitors may be able to develop and introduce competing solutions and technologies that may have greater capabilities than ours or that are able to achieve greater customer acceptance, and they may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards or customer requirements. In addition, we may also compete with smaller third-party developers of cognitive engines, who may develop their own platforms that perform similar services as our platform. We expect that competition will increase and intensify as we continue to expand our serviceable markets and improve our platform and services. Increased competition may result in pricing pressures and require us to incur additional sales and marketing expenses, which could negatively impact our sales, profitability and market share.

Privacy and data security laws and regulations could require us to make changes to our business, impose additional costs on us and reduce the demand for our software solutions.

Our business model contemplates that we will store, process and transmit both public media and our clients’ private media. Our customers may store and/or transmit a significant amount of personal or identifying information through our platform. Privacy and data security have become significant issues in the United States and in other jurisdictions where we may offer our software solutions. The regulatory framework relating to privacy and data security issues worldwide is evolving rapidly and is likely to remain uncertain for the foreseeable future. Federal, state and foreign government bodies and agencies have in the past adopted, or may in the future adopt, laws and regulations regarding the collection, use, processing, storage and disclosure of personal or identifying information obtained from customers and other individuals. In addition to government regulation, privacy advocates and industry groups may propose various self-regulatory standards that may legally or contractually apply to our business. Because the interpretation and application of many privacy and data security laws, regulations and applicable industry standards are uncertain, it is possible that these laws, regulations and standards may be interpreted and applied in a manner inconsistent with our existing privacy and data management practices. As we expand into new jurisdictions or verticals, we will need to understand and comply with various new requirements applicable in those jurisdictions or verticals.

To the extent applicable to our business or the businesses of our customers, these laws, regulations and industry standards could have negative effects on our business, including by increasing our costs and operating expenses, and delaying or impeding our deployment of new core functionality and products. Compliance with these laws, regulations and industry standards requires significant management time and attention, and failure to comply could result in negative publicity, subject us to fines or penalties or result in demands that we modify or cease existing business practices. In addition, the costs of compliance with, and other burdens imposed by, such laws, regulations and industry standards may adversely affect our customers’ ability or desire to collect, use, process and store personal information using our software solutions, which could reduce overall demand for them. Even the perception of privacy and data security concerns, whether or not valid, may inhibit market acceptance of our software solutions in certain verticals. Furthermore, privacy and data security concerns may cause our customers’ clients, vendors, employees and other industry participants to resist providing the personal information necessary to allow our customers to use our applications effectively. Any of these outcomes could adversely affect our business and operating results.

Failure to manage our growth effectively could increase our expenses, decrease our revenue and prevent us from implementing our business strategy.

We expect that our ability to achieve profitability will require substantial growth in our business, which will put a strain on our management and financial resources. To manage this and our anticipated future growth effectively, we must continue to maintain and enhance our platform and information technology infrastructure, as well as our financial and accounting systems and controls. We also must attract, train and retain a significant number of qualified software developers and engineers, technical and management personnel, sales and marketing personnel, customer support personnel and professional services personnel. Failure to effectively manage our rapid growth could lead us to over-invest or under-invest in development and operations, result in

 

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weaknesses in our platform, systems or controls, give rise to operational mistakes, losses, loss of productivity or business opportunities and result in loss of employees and reduced productivity of remaining employees. Our growth could require significant capital expenditures and might divert financial resources from other projects such as the development of new products and services. If our management is unable to effectively manage our growth, our expenses might increase more than expected, our revenue could decline or grow more slowly than expected, and we might be unable to implement our business strategy. The quality of our products and services might suffer, which could negatively affect our reputation and harm our ability to retain and attract customers.

We intend to pursue the acquisition of other companies, businesses or technologies, which could be expensive, divert our management’s attention and/or fail to achieve the expected benefits.

As part of our growth strategy, we intend to acquire businesses, services, technologies or intellectual property rights that we believe could complement, expand or enhance the features and functionality of our platform and our technical capabilities, broaden our service offerings or offer growth opportunities. The pursuit of potential acquisitions may divert the attention of management and cause us to incur various expenses in identifying, investigating and pursuing suitable acquisitions, whether or not such acquisitions are consummated. Acquisitions also could result in dilutive issuances of equity securities or the incurrence of debt, which could adversely affect our operating results and financial condition. In addition, we may experience difficulties in integrating the acquired personnel, operations and/or technologies successfully or effectively managing the combined business following the acquisition. We also may not achieve the anticipated benefits from the acquired business and may incur unanticipated costs and liabilities in connection with any such acquisitions. If any of these results occurs, our business and financial result could be adversely affected.

Any failure to offer high-quality customer support may adversely affect our relationships with our customers.

Our ability to retain existing customers and attract new customers depends in part on our ability to maintain a consistently high level of customer service and technical support. Our customers depend on our service support team to assist them in utilizing our platform effectively and to help them to resolve issues quickly and to provide ongoing support. If we are unable to hire and train sufficient support resources or are otherwise unsuccessful in assisting our customers effectively, it could adversely affect our ability to retain existing customers and could prevent prospective customers from adopting our platform. We may be unable to respond quickly enough to accommodate short-term increases in demand for customer support. We also may be unable to modify the nature, scope and delivery of our customer support to compete with changes in the support services provided by our competitors. Increased demand for customer support, without corresponding revenue, could increase our costs and adversely affect our business, results of operations and financial condition. Our sales are highly dependent on our business reputation and on positive recommendations from customers. Any failure to maintain high-quality customer support, or a market perception that we do not maintain high-quality customer support, could adversely affect our reputation, business, results of operations and financial condition.

We plan to expand our international operations, which exposes us to significant risks.

As part of our growth strategy, we recently opened an office in the United Kingdom, and are also planning to expand in other countries to help us increase our revenue from customers outside of the United States. We expect, in the future, to open additional foreign offices and hire employees to work at these offices in order to reach new customers and gain access to additional technical talent. Operating in international markets requires significant resources and management attention and will subject us to regulatory, economic and political risks in addition to those we already face in the United States. Because of our limited experience with international operations as well as developing and managing sales in international markets, our international expansion efforts may not be successful. In addition, we will face risks in doing business internationally that could adversely affect our business, including, but not limited to:

 

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the difficulty of managing and staffing international operations and the increased operating, travel, infrastructure and legal compliance costs associated with numerous international locations;

 

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our ability to effectively price our products in competitive international markets;

 

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the need to adapt and localize our products for specific countries;

 

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the need to offer customer support in various languages;

 

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difficulties in understanding and complying with U.S. laws, regulations and customs relating to U.S. companies operating in foreign jurisdictions;

 

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difficulties in understanding and complying with local laws, regulations and customs in foreign jurisdictions, particularly in the areas of data privacy and personal privacy;

 

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difficulties with differing technical and environmental standards, data privacy and telecommunications regulations and certification requirements outside the United States, which could prevent customers from deploying our products or limit their usage;

 

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more limited protection for intellectual property rights in some countries; and

 

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political or social unrest or economic instability in a specific country or region in which we operate.

Our failure to manage any of these risks successfully could harm our international operations, and adversely affect our business, results of operations and financial condition.

We may be sued by third parties for alleged infringement of their proprietary rights, which could adversely affect our business, results of operations and financial condition.

There has been considerable patent and other intellectual property development activity in the AI industry, which has resulted in litigation based on allegations of infringement or other violations of intellectual property rights. Our future success depends, in part, on not infringing the intellectual property rights of others. In the future, we may receive claims from third parties, including our competitors, alleging that our platform and underlying technology infringe or violate such third party’s intellectual property rights, and we may be found to be infringing upon such rights. We may be unaware of the intellectual property rights of others that may cover some or all of our technology. Any such claims or litigation could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering some portion of our platform, or require that we comply with other unfavorable terms. We may also be obligated to indemnify our customers or business partners in connection with any such litigation and to obtain licenses or modify our platform, which could further exhaust our resources. Patent infringement, trademark infringement, trade secret misappropriation and other intellectual property claims and proceedings brought against us, whether successful or not, could harm our brand, business, results of operations and financial condition. Litigation is inherently uncertain, and any judgment or injunctive relief entered against us or any adverse settlement could negatively affect our business, results of operations and financial condition. In addition, litigation can involve significant management time and attention and be expensive, regardless of the outcome. During the course of litigation, there may be announcements of the results of hearings and motions and other interim developments related to the litigation. If securities analysts or investors regard these announcements as negative, the trading price of our common stock may decline.

We could incur substantial costs in protecting or defending our intellectual property rights, and any failure to protect our intellectual property could adversely affect our business, results of operations and financial condition.

Our success depends, in part, on our ability to protect our brand and the proprietary methods and technologies that we develop under patent and other intellectual property laws of the United States and foreign jurisdictions so that we can prevent others from using our inventions and proprietary information. As of September 30, 2017, in the United States, we had nine issued patents, which expire between 2028 and 2031, 29 patent applications pending for examination, and 20 patent applications pending for examination in foreign

 

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jurisdictions. We may not be issued any additional patents and any patents that have been issued or that may be issued in the future may not provide significant protection for our intellectual property. In addition, as of September 30, 2017, we had five registered trademarks in the United States, and we have filed applications to register several additional marks. If we fail to protect our intellectual property rights adequately, our competitors might gain access to our technology and our business, results of operations and financial condition may be adversely affected.

The particular forms of intellectual property protection that we seek, or our business decisions about when to file patent applications and trademark applications, may not be adequate to protect our business. We could be required to spend significant resources to monitor and protect our intellectual property rights. Litigation may be necessary in the future to enforce our intellectual property rights, determine the validity and scope of our proprietary rights or those of others, or defend against claims of infringement or invalidity. Such litigation could be costly, time-consuming and distracting to management, result in a diversion of significant resources, lead to the narrowing or invalidation of portions of our intellectual property and have an adverse effect on our business, results of operations and financial condition. Our efforts to enforce our intellectual property rights may be met with defenses, counterclaims and countersuits attacking the validity and enforceability of our intellectual property rights or alleging that we infringe the counterclaimant’s own intellectual property. Any of our patents, copyrights, trademarks or other intellectual property rights could be challenged by others or invalidated through administrative process or litigation.

We also rely, in part, on confidentiality agreements with our business partners, employees, consultants, advisors, customers and others in our efforts to protect our proprietary technology, processes and methods. These agreements may not effectively prevent disclosure of our confidential information, and it may be possible for unauthorized parties to copy our software or other proprietary technology or information, or to develop similar software independently without our having an adequate remedy for unauthorized use or disclosure of our confidential information. In addition, others may independently discover our trade secrets and proprietary information, and in these cases we would not be able to assert any trade secret rights against those parties. Costly and time-consuming litigation could be necessary to enforce and determine the scope of our proprietary rights, and the failure to obtain or maintain trade secret protection could adversely affect our competitive business position.

In addition, the laws of some countries do not protect intellectual property and other proprietary rights to the same extent as the laws of the United States. To the extent we expand our international activities, our exposure to unauthorized copying, transfer and use of our proprietary technology or information may increase.

Our means of protecting our intellectual property and proprietary rights may not be adequate or our competitors could independently develop similar technology. If we fail to meaningfully protect our intellectual property and proprietary rights, our business, results of operations and financial condition could be adversely affected.

We depend on our executive officers and other key employees, and the loss of one or more of these employees or an inability to attract and retain highly skilled employees could adversely affect our business.

Our success depends largely upon the continued services of our Chief Executive Officer, Chad Steelberg, our President, Ryan Steelberg, and our other executive officers. We rely on our leadership team in the areas of strategy and implementation, research and development, operations, security, marketing, sales, support and general and administrative functions. We do not currently have any employment agreements with our executive officers that require them to continue to work for us for any specified period, and, therefore, they could terminate their employment with us at any time. The loss of Chad Steelberg or Ryan Steelberg, or one or more of the members of our management team, could adversely impact our business and operations and disrupt our relationships with our key customers.

 

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If we are unable to hire, retain and motivate qualified personnel, our business will suffer.

Our future success depends, in part, on our ability to continue to attract and retain highly skilled personnel. We believe that there is, and will continue to be, intense competition for highly skilled management, engineering, data science, sales and other personnel with experience in our industry. We must provide competitive compensation packages and a high-quality work environment to hire, retain and motivate employees. If we are unable to retain and motivate our existing employees and attract qualified personnel to fill key positions, we may be unable to manage our business effectively, including the development, marketing and sale of our products, which could adversely affect our business, results of operations and financial condition. To the extent we hire personnel from competitors, we also may be subject to allegations that they have been improperly solicited or that they have divulged proprietary or other confidential information.

Volatility in, or lack of performance of, our stock price may also affect our ability to attract and retain key personnel. Many of our key personnel are, or will soon be, vested in a substantial number of shares of common stock or stock options. Employees may be more likely to terminate their employment with us if the shares they own or the shares underlying their vested options have significantly appreciated in value relative to the original purchase prices of the shares or the exercise prices of the options, or, conversely, if the exercise prices of the options that they hold are significantly above the trading price of our common stock. If we are unable to retain our employees, our business, results of operations and financial condition could be adversely affected.

We expect to require additional capital to support our business, and this capital might not be available on acceptable terms, if at all.

We intend to continue to make investments to support our business and may require additional funds. In particular, we expect to seek additional funds to develop new products and enhance our platform, expand our operations, including our sales and marketing organizations and our presence outside of the United States, improve our infrastructure or acquire complementary businesses, technologies, services, products and other assets. Accordingly, we expect to engage in equity and/or debt financings to secure additional funds. If we raise additional funds through future issuances of equity or convertible debt securities, our stockholders could suffer significant dilution, and any new equity securities we issue could have rights, preferences and privileges superior to those of holders of our common stock. Any debt financing that we may secure in the future could involve debt service obligations and restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities. We may not be able to obtain additional financing on terms favorable to us, if at all. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, our ability to continue to support our business growth, scale our infrastructure, develop product enhancements and to respond to business challenges could be significantly impaired, and our business, results of operations and financial condition may be adversely affected.

Changes in laws and regulations related to the Internet or changes in the Internet infrastructure itself may diminish the demand for our products.

The future success of our business depends upon the continued use of the Internet as a primary medium for commerce, communications and business applications. Federal, state or foreign government bodies or agencies have in the past adopted, and may in the future adopt, laws or regulations affecting the use of the Internet as a commercial medium. Changes in these laws or regulations could require us to modify our products and platform in order to comply with these changes. In addition, government agencies or private organizations have imposed and may impose additional taxes, fees or other charges for accessing the Internet or commerce conducted via the Internet. These laws or charges could limit the growth of Internet-related commerce or communications generally, or result in reductions in the demand for Internet-based products and services such as our platform. In addition, the use of the Internet as a business tool could be adversely affected due to delays in the development or adoption of new standards and protocols to handle increased demands of Internet activity, security, reliability,

 

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cost, ease-of-use, accessibility and quality of service. The performance of the Internet and its acceptance as a business tool has been adversely affected by “viruses”, “worms” and similar malicious programs. If the use of the Internet is reduced as a result of these or other issues, then demand for our products could decline, which could adversely affect our business, results of operations and financial condition.

We have a limited operating history, which makes it difficult to evaluate our current business and future prospects and increases the risk of your investment.

We were founded in 2014 and launched our platform in April 2015. As a result of our limited operating history, our ability to forecast our future results of operations is limited and subject to a number of uncertainties, including our ability to plan for future growth. We have encountered and will encounter risks and uncertainties frequently experienced by growing companies in rapidly changing industries, such as:

 

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market acceptance of our platform and new products;

 

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reliability and scalability of our platform and services;

 

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adding new customers and new vertical markets;

 

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retention of customers;

 

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the successful expansion of our business;

 

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competition;

 

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our ability to control costs, particularly our product development and sales and marketing expenses;

 

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network outages or security breaches and any associated expenses;

 

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executing acquisitions and integrating acquired businesses, technologies, services, products and other assets; and

 

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general economic and political conditions.

If we do not address these risks successfully, our business, results of operations and financial condition may be adversely affected.

We have had a history of losses and we may be unable to achieve or sustain profitability.

We experienced net losses of $46.8 million in the first nine months of 2017 and $27.0 million and $6.2 million in fiscal years 2016 and 2015, respectively. As of September 30, 2017, we had an accumulated deficit of approximately $96.5 million. We may not achieve profitability in the near future or at all. We expect to continue to expend substantial financial and other resources on, among other things:

 

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investments to expand and enhance our platform and technology infrastructure, make improvements to the scalability, availability and security of our platform, and develop new products;

 

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sales and marketing, including expanding our direct sales organization and marketing programs, and expanding our programs directed at increasing our brand awareness among current and new customers;

 

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hiring additional employees;

 

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expansion of our operations and infrastructure, both domestically and internationally; and

 

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general administration, including legal, accounting and other expenses related to being a public company.

These investments may not result in increased revenue or growth of our business. We may not be able to generate net revenues sufficient to offset our expected cost increases and planned investments in our business and

 

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platform. As a result, we may incur significant losses for the foreseeable future, and may not be able to achieve and sustain profitability. If we fail to achieve and sustain profitability, then we may not be able to achieve our business plan, fund our business or continue as a going concern.

Our business is subject to the risks of earthquakes, fire, floods and other natural catastrophic events, and to interruption by man-made problems such as power disruptions, computer viruses, data security breaches or terrorism.

Our corporate headquarters are located in Southern California, a region known for seismic activity. A significant natural disaster, such as an earthquake, fire or a flood, occurring at our headquarters, at one of our other facilities or where a business partner is located could adversely affect our business, results of operations and financial condition. Further, if a natural disaster or man-made problem were to affect Iron.io and/or AWS, our network service providers or Internet service providers, this could adversely affect the ability of our customers to use our products and platform. In addition, natural disasters and acts of terrorism could cause disruptions in our business, or the businesses of our customers or service providers. We also rely on our network and third-party infrastructure and enterprise applications and internal technology systems for our engineering, sales and marketing and operations activities. Although we maintain incident management and disaster response plans, in the event of a major disruption caused by a natural disaster or man-made problem, we may be unable to continue our operations and may endure system interruptions, reputational harm, delays in our development activities, lengthy interruptions in service, breaches of data security and loss of critical data, any of which could adversely affect our business, results of operations and financial condition.

Risks Related to This Offering, the Ownership of Our Securities and Our Public Company Operations

We will have broad discretion as to the use of proceeds from this offering and may not use the proceeds effectively.

We estimate that the net proceeds to us from this offering will be approximately $20.6 million, after deducting the underwriting discounts and commissions and estimated offering expenses payable by us. Our Board and management will have broad discretion in the application of the net proceeds from this offering and could spend the proceeds in ways that do not improve our results of operations or enhance the value of our common stock. We intend to use the net proceeds from this offering for working capital or other general corporate purposes, including funding our growth strategies discussed in this prospectus. We do not currently have any definitive or preliminary plans with respect to the use of proceeds for such purposes. In addition, we may use a portion of the net proceeds of this offering to acquire or invest in complementary businesses, services, technologies or intellectual property rights. However, we have no agreements or commitments with respect to any material acquisitions or investments at this time. We have not allocated these net proceeds for any specific purposes. We might not be able to yield a significant return, if any, on any investment of these net proceeds. You will not have the opportunity to influence our Board’s or management’s decisions on how to use the net proceeds from this offering, and our failure to apply these funds effectively could have a material and adverse effect on our business and cause the price of our common stock to decline.

If you purchase shares of common stock sold in this offering, you will incur immediate and substantial dilution.

The public offering price of our common stock offered pursuant to this prospectus is substantially higher than the net tangible book value per share of our common stock. Therefore, if you purchase shares of common stock in this offering, you will incur immediate and substantial dilution in the pro forma net tangible book value per share of common stock from the price per share that you pay for the common stock. See the section entitled “Dilution” below for a more detailed discussion of the dilution you will incur if you purchase shares in this offering. Furthermore, we expect that we will seek to raise additional capital from time to time in the future. Such financings may involve the issuance of equity securities and/or securities convertible into or exercisable or

 

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exchangeable for our equity securities. We also expect to continue to utilize equity-based compensation. To the extent outstanding warrants and options are exercised or we issue equity securities or securities such as warrants that are convertible into, exercisable or exchangeable for, our equity securities in the future, you may experience further dilution.

Our officers, directors and principal stockholders have significant voting power and control over our company and may take actions that could conflict with the interests of our other stockholders.

Our officers, directors and principal stockholders that hold more than 5% of our common stock collectively control approximately 76% of our voting securities. If any of our officers, directors and principal stockholders purchases additional shares of common stock, the aggregate percentage of their equity ownership may increase further. As a result, these stockholders, if they act together, will be able to control the management and affairs of our company and most matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. This concentration of ownership may have the effect of delaying or preventing a change of control and might adversely affect the market price of our common stock. This concentration of ownership may not be in the best interests of our other stockholders. Due to such concentration of ownership, we may take actions with respect to our business that may conflict with the desire of other stockholders.

Furthermore, pursuant to the Voting Agreement and during the Voting Period, Acacia and the Holders have the right to designate all nine authorized directors on our Board. In addition, pursuant to the Voting Agreement, each of Acacia and the Holders has the right to appoint three designees to attend and participate in the meetings of our Board in a non-voting capacity. In addition, so long as our Board includes three directors designated by Acacia, unless approved by a majority of our Board, including at least one director designated by Acacia, we cannot take any corporate action, and the Holders cannot take any stockholder action, to effect any (i) merger, consolidation or other business combination involving our company, (ii) sale, transfer or other disposition of any capital stock or assets of our company, or (iii) acquisition, license out of the ordinary course of business, or merger or other business combination with a subsidiary of our company, in each case of (i) through (iii), in which the transaction value exceeds $50 million.

As a result of these arrangements, Acacia and the Holders will be able to exercise significant control over our business operations and on all matters requiring stockholder approval. This voting control may also discourage transactions involving a change-of-control of our company, including transactions in which you as a holder of our common stock might otherwise receive a premium for your shares.

We are a “controlled company” within the meaning of the NASDAQ Marketplace Rules and, as a result, are exempt from certain corporate governance requirements. Therefore, you may not have the same protections afforded to stockholders of companies that are subject to such requirements.

Acacia and the Holders collectively beneficially own more than 50% of our voting power. Pursuant to the Voting Agreement, Acacia and the Holders (acting as a group) can designate and elect all nine directors on our Board. As a result, we will be considered a “controlled company” within the meaning of the corporate governance standards of NASDAQ.

Under these rules, a listed company of which more than 50% of the voting power is held by an individual, group or another company is a “controlled company” and may elect not to comply with certain corporate governance requirements, including, the requirements that, among others:

 

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a majority of our Board consist of “independent directors” as defined by the applicable rules and regulations of NASDAQ;

 

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the compensation of our executive officers to be determined, or recommended to our Board for determination, by independent directors constituting a majority of the independent directors of our Board in a vote in which only independent directors participate or by a compensation committee comprised solely of independent directors; and

 

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director nominees be selected, or recommended to our Board for selection, by independent directors constituting a majority of the independent directors of our Board in a vote in which only independent directors participate or by a nomination committee comprised solely of independent directors.

At this time, we are unable to comply with certain of NASDAQ’s corporate governance requirements with respect to our Board, as a majority of our Board does not consist of independent directors, and as such, are electing to avail ourselves to the exemptions afforded to controlled companies. We intend that our Compensation Committee and our Corporate Governance and Nominating Committee will continue to be comprised solely of independent directors. We may not be able to comply with all of NASDAQ’s other corporate governance requirements. As a controlled company, you will not have the same protections afforded to stockholders of companies that are subject to all of NASDAQ’s corporate governance requirements.

If Acacia or the Holders sell a controlling interest in our company to a third-party in a private transaction, you may not realize any change-of-control premium on shares of our common stock and we may become subject to the control of a presently unknown third-party.

Acacia and the Holders will continue to control a majority of the voting power of our outstanding common stock. Following the expiration of the lock-up period, Acacia and the Holders will have the ability to sell some or all of their shares of our common stock in a privately negotiated transaction, which, if sufficient in size, could result in a change-of-control of our company without your approval and without providing for a purchase of your shares. The ability of Acacia and the Holders to privately sell their shares of our common stock, with no requirement for a concurrent offer to be made to acquire your shares of our common stock, could prevent you from realizing any change-of-control premium of your shares of our common stock that may otherwise accrue to Acacia and the Holders on their private sale of our common stock. Additionally, if either Acacia or the Holders privately sell their equity interest in our company, we may become subject to the control of a presently unknown third-party. Such third-party may have conflicts of interest with those of other stockholders. In addition, if Acacia or the Holders sell a controlling interest in our company to a third-party, any future indebtedness we have may be subject to acceleration, and our other commercial agreements and relationships could be impacted, all of which may adversely affect our ability to run our business as described herein and may have a material adverse effect on our operating results and financial condition.

Our common stock price has been extremely volatile and could continue to fluctuate widely in price, which could result in substantial losses for investors.

The market price of our common stock has been, and we expect will continue to be, subject to extreme fluctuations over short periods of time. For example, the closing price of our common stock since May 12, 2017, has ranged from a low of $7.76 to a high of $65.91. These fluctuations may be due to various factors, many of which are beyond our control, including:

 

•

the volume and timing of our revenues and quarterly variations in our results of operations or those of others in our industry;

 

•

announcement of new contracts with customers or termination of contracts with customers;

 

•

the introduction of new services, content or features by us or others in our industry;

 

•

disputes or other developments with respect to our or others’ intellectual property rights;

 

•

media exposure of our products or of those of others in our industry;

 

•

changes in governmental regulations;

 

•

additions or departures of key personnel;

 

•

sales of our common stock;

 

•

speculative trading practices of certain market participants;

 

30

•

changes in earnings estimates or recommendations by securities analysts; and

 

•

general market conditions and other factors, including factors unrelated to our operating performance or the operating performance of our competitors.

In recent years, the stock markets generally have experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to the operating performance of the listed companies. Broad market and industry factors may significantly affect the market price of our common stock, regardless of our actual operating performance. These fluctuations have been, and may continue to be, even more pronounced in the trading market for our common stock shortly before this offering. If the market price of shares of our common stock after this offering does not ever exceed the offering price, you may not realize any return on your investment in us and may lose some or all of your investment.

In addition, in the past, class action litigation has often been instituted against companies whose securities have experienced periods of volatility in market price. Securities litigation brought against us following volatility in our stock price, regardless of the merit or ultimate results of such litigation, could result in substantial costs, which would hurt our financial condition and operating results and divert management’s attention and resources from our business.

If securities or industry analysts do not publish or cease publishing research or reports about us, our business, our market or our competitors, or if such analysts adversely change their recommendations regarding our common stock, the market price and trading volume of our common stock could decline.

The trading market for our common stock will be influenced by the research and reports that securities or industry analysts may publish about us, our business, our market or our competitors. If any of the analysts who cover us adversely change their recommendations regarding our common stock or provide more favorable recommendations about our competitors, the market price of our common stock may decline. If any of the analysts who cover us were to cease coverage of us or fail to publish reports on us regularly, visibility of our company in the financial markets could decrease, which in turn could cause the market price or trading volume of our common stock to decline. These concerns may be exacerbated by the relatively small size of our public float, which limits the trading volume of our common stock.

We have incurred and will continue to incur increased costs as a result of becoming a public company, including costs related to compliance with the Sarbanes-Oxley Act and other regulations.

As a public company, we have incurred and will continue to incur significant legal, accounting, insurance and other expenses that we had not incurred as a private company, including costs associated with public company reporting requirements. In the future, we expect to also incur costs associated with compliance with the Sarbanes-Oxley Act and related rules implemented by the SEC. The expenses incurred by public companies generally for reporting and corporate governance purposes have been increasing. We expect these rules and regulations to continue to increase our legal and financial compliance costs and to make some activities more time-consuming and costly. If we are unable to satisfy our obligations as a public company, we could be subject to delisting of our common stock, fines, sanctions and other regulatory action and potentially civil litigation.

The Sarbanes-Oxley Act requires, among other things, that we maintain effective internal control over financial reporting and disclosure controls and procedures. In particular, we must perform system and process evaluation and testing of our internal control over financial reporting to allow management to report on the effectiveness of our internal control over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act. In addition, we will be required to have our independent registered public accounting firm attest to the effectiveness of our internal control over financial reporting in the later of our second annual report on Form 10-K or the first annual report on Form 10-K following the date on which we are no longer an emerging growth company. Our compliance with Section 404 of the Sarbanes-Oxley Act will require that we incur substantial

 

31

accounting expense and expend significant management efforts. We currently do not have an internal audit group, and we will need to hire additional accounting and financial staff with appropriate public company experience and technical accounting knowledge. If we are not able to comply with the requirements of Section 404 in a timely manner, or if we or our independent registered public accounting firm identify deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, the market price of our stock could decline and we could be subject to sanctions or investigations by NASDAQ, the SEC or other regulatory authorities, which would require additional financial and management resources.

Our ability to successfully implement our business plan and comply with Section 404 requires us to be able to prepare timely and accurate financial statements. We expect that we will need to continue to improve existing, and implement new operational and financial systems, procedures and controls to manage our business effectively. Any delay in the implementation of, or disruption in the transition to, new or enhanced systems, procedures or controls, may cause our operations to suffer and we may be unable to conclude that our internal control over financial reporting is effective and/or to obtain an unqualified report on internal control our financial reporting from our auditors as may be required under Section 404 of the Sarbanes-Oxley Act. This, in turn, could have an adverse impact on trading prices for our common stock, and could adversely affect our ability to access the capital markets.

We had identified a material weakness in our internal control over financial reporting for the years ended December 31, 2016 and 2015, and we may not be able to successfully maintain effective internal control over financial reporting.

We identified control deficiencies in our financial reporting process that constituted a material weakness for the years ended December 31, 2016 and 2015. The material weakness related to the lack of competent accounting personnel with the appropriate level of knowledge, experience and training in generally accepted accounting principles and SEC reporting requirements with respect to equity transactions, resulting in several adjustments to the interim financial statements and also a restatement of our previously issued financial statements as of and for the years ended December 31, 2016 and 2015.

We have implemented certain measures to remediate this material weakness. For example, we hired a new Chief Financial Officer in October 2016, a new Corporate Controller in March 2017 and a new Senior Director of Financial Reporting in June 2017. We have also engaged outside consultants with requisite experience to assist us in the financial reporting process and utilized interim professionals to strengthen our accounting and financial reporting team. We believe that the actions we have taken remediated the material weakness.

However, we may suffer from other material weaknesses in the future. If we fail to maintain effective internal control over financial reporting in the future, such failure could result in a material misstatement of our annual or quarterly financial statements that would not be prevented or detected on a timely basis and which could cause investors and other users to lose confidence in our financial statements, limit our ability to raise capital and have a negative effect on the trading price of our common stock. Additionally, failure to maintain effective internal control over financial reporting may also negatively impact our operating results and financial condition, impair our ability to timely file our periodic and other reports with the SEC, subject us to additional litigation and regulatory actions and cause us to incur substantial additional costs in future periods relating to the implementation of remedial measures.

Substantial future sales of our common stock, or the perception in the public markets that these sales may occur, may depress our stock price.

Our common stock is traded on NASDAQ and, despite certain increases of trading volume from time to time, there have been periods when our common stock could be considered thinly-traded, meaning that the number of persons interested in purchasing our common stock at or near bid prices at any given time may be relatively small. Equity or equity-related financing transactions that result in a large amount of newly issued

 

32

shares that become readily tradable, or other events that cause current stockholders to sell shares, could place downward pressure on the trading price of our stock. In addition, the lack of a robust resale market may require a stockholder who desires to sell a large number of shares of common stock to sell the shares in increments over time to mitigate any adverse impact of the sales on the market price of our stock.

If our stockholders sell, or the market perceives that our stockholders intend to sell (for various reasons, including the ending of restrictions on resale), substantial amounts of our common stock in the public market, including shares issued upon the exercise of any outstanding options or warrants, the market price of our common stock could fall. Sales of a substantial number of shares of our common stock may make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem reasonable or appropriate. In the event that the price of our stock falls, we may become involved in securities class action litigation that could divert management’s attention and harm our business.

Certain holders of our common stock have entered into lock-up agreements in connection with this offering. As these lockup restrictions expire, the market price of our common stock could drop significantly if the holders of these restricted shares sell them or are perceived by the market as intending to sell them.

Further, we have registered all common stock issuable or that we may issue under our 2014 Plan, our 2017 Plan and our ESPP. As a result, these shares can be freely sold in the public market once vested and exercised, subject to the lock-up agreements referred to above. If a large number of these shares are sold in the public market, the sales could reduce our trading price.

In the future, we may also issue our securities if we need to raise additional capital or in connection with acquisitions. The number of shares of our common stock issued in connection with a financing or acquisition could constitute a material portion of our then-outstanding shares of our common stock.

We are an “emerging growth company” and a “smaller reporting company” under the U.S. federal securities laws, and the reduced reporting requirements applicable to emerging growth companies and smaller reporting companies could make our common stock less attractive to investors.

We are an “emerging growth company” and a “smaller reporting company” under U.S. federal securities laws. For as long as we continue to be an emerging growth company and/or a smaller reporting company, we may take advantage of exemptions from various reporting requirements that are applicable to other public companies that are not emerging growth companies or smaller reporting companies, including not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements and (to the extent we continue to qualify as an emerging growth company) exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. We could be an emerging growth company for up to five years, although circumstances could cause us to lose that status earlier, including if the market value of our common stock held by non-affiliates exceeds $700 million as of any June 30 date before that time, in which case, we would no longer be an emerging growth company as of the following December 31. Even if we do not qualify as an emerging growth company, we may still qualify as a smaller reporting company, which would allow us to take advantage of many of the same exemptions from disclosure requirements that are applicable to emerging growth companies. Investors may not find our common stock attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may be more volatile.

We do not currently expect to pay any cash dividends.

The continued operation and expansion of our business will require substantial funding. Accordingly, we do not currently expect to pay any cash dividends on shares of our common stock. Any determination to pay

 

33

dividends in the future will be at the discretion of our Board and will depend upon results of operations, financial condition, contractual restrictions, restrictions imposed by applicable law and other factors our Board deems relevant. Additionally, we expect these restrictions to continue in the future. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.

Our anti-takeover provisions could prevent or delay a change in control of our company, even if such change in control would be beneficial to our stockholders.

Provisions of our amended and restated certificate of incorporation and amended and restated bylaws as well as provisions of Delaware law could discourage, delay or prevent a merger, acquisition or other change in control of our company, even if such change in control would be beneficial to our stockholders. These include:

 

•

authorizing the issuance of “blank check” preferred stock that could be issued by our Board to increase the number of outstanding shares and thwart a takeover attempt;

 

•

a provision for a classified board of directors so that not all members of our Board are elected at one time;

 

•

the removal of directors only for cause;

 

•

no provision for the use of cumulative voting for the election of directors;

 

•

limiting the ability of stockholders to call special meetings;

 

•

requiring all stockholder actions to be taken at a meeting of our stockholders (i.e. no provision for stockholder action by written consent); and

 

•

establishing advance notice requirements for nominations for election to the Board or for proposing matters that can be acted upon by stockholders at stockholder meetings.

In addition, the Delaware General Corporation Law prohibits us, except under specified circumstances, from engaging in any mergers, significant sales of stock or assets or business combinations with any stockholder or group of stockholders who owns at least 15% of our common stock.

Our amended and restated certificate of incorporation designates the Court of Chancery of the State of Delaware as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or other employees.

Our amended and restated certificate of incorporation provides that, unless we consent in writing to the selection of an alternative forum, the Court of Chancery of the State of Delaware shall be the sole and exclusive forum for:

 

•

any derivative action or proceeding brought on our behalf;

 

•

any action asserting a claim of breach of a fiduciary duty owed by any of our directors, officers or other employees to us or to our stockholders;

 

•

any action asserting a claim against us arising pursuant to any provision of the Delaware General Corporation Law, our amended and restated certificate of incorporation or our amended and restated bylaws; or

 

•

any action asserting a claim against us governed by the internal affairs doctrine.

 

34

Any person or entity purchasing or otherwise acquiring any interest in shares of our capital stock shall be deemed to have notice of and consented to this provision of our amended and restated certificate of incorporation. This choice-of-forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable or convenient for disputes with us or our directors, officers or other employees, which may discourage such lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to find these provisions of our amended and restated certificate of incorporation inapplicable to, or unenforceable in respect of, one or more of the specified types of actions or proceedings, we may incur additional costs associated with resolving such matters in other jurisdictions, which could adversely affect our business, financial condition or results of operations.

 

35

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements within the meaning of Section 27A of the Securities Act, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995, as amended, that involve substantial risks and uncertainties. These forward-looking statements are principally contained in the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” although we make forward-looking statements throughout this prospectus. Forward-looking statements include all statements that are not statements of historical facts and can be identified by words such as “anticipates,” “believes,” “seeks,” “estimates,” “expects,” “intends,” “may,” “plans,” “potential,” “projects,” “should,” “could,” “will,” “would” or similar expressions and the negatives of those expressions. In particular, forward-looking statements contained in this prospectus relate to, among other things, our future financial condition and results of operations, business forecasts and plans, strategic plans and objectives, product development plans, capital needs and financing plans, use of proceeds from this offering, competitive position, industry environment, potential growth opportunities, potential market opportunities, acquisitions, compensation plans and objectives, governance structure and policies, and the price of our common stock.

Forward-looking statements represent our management’s current beliefs and assumptions based on information currently available. Forward-looking statements involve numerous known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. We discuss these risks and uncertainties in greater detail in the section entitled “Risk Factors” and elsewhere in this prospectus. Given these risks and uncertainties, you should not place undue reliance on these forward-looking statements. You should read this prospectus, and the other documents that we have filed as exhibits to the registration statement of which this prospectus is a part, completely and with the understanding that our actual future results may be materially different from the results expressed or implied by these forward-looking statements.

Moreover, we operate in an evolving environment. New risks and uncertainties emerge from time to time and it is not possible for our management to predict all risks and uncertainties, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual future results to be materially different from those expressed or implied by any forward-looking statements.

Except as required by law, we assume no obligation to update any forward-looking statements, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

We qualify all of our forward-looking statements by these cautionary statements.

 

36

USE OF PROCEEDS

We estimate that the net proceeds to us from the sale of common stock in this offering, after deducting the underwriting discounts and commissions and estimated offering expenses payable by us, will be approximately $20.6 million (or $23.7 million if the underwriters exercise their option to purchase additional shares in full).

The principal purposes of this offering are to increase our working capital and financial flexibility. We currently intend to use the net proceeds from this offering for working capital or other general corporate purposes. In addition, we may use a portion of the net proceeds of this offering to acquire or invest in complementary businesses, services, technologies or intellectual property rights. However, we have no agreements or commitments with respect to any material acquisitions or investments at this time.

Our expected uses of the net proceeds from this offering are based upon our present plans, objectives and business condition. As of the date of this prospectus, we cannot predict with certainty all of the particular uses for the net proceeds from this offering, and management has not estimated the amount of proceeds, or the range of proceeds, to be used for any particular purpose. The amounts and timing of our actual uses of net proceeds will vary depending on numerous factors, including the factors described in the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.” As a result, our management will retain broad discretion over the allocation of the net proceeds from this offering, and investors will be relying on our management’s judgment regarding the application of the net proceeds.

Pending the use of the net proceeds from this offering, we may invest the net proceeds in investment grade, short-term interest-bearing obligations, such as money-market funds, certificates of deposit, or direct or guaranteed obligations of the United States government, or hold the net proceeds as cash. We cannot predict whether any net proceeds invested will yield a favorable return.

 

37

MARKET FOR COMMON STOCK AND RELATED STOCKHOLDER INFORMATION

Our common stock is listed on NASDAQ under the symbol “VERI” and has been trading since May 12, 2017. Prior to that date, there was no public trading market for our common stock. From May 12, 2017 to May 14, 2017, our common stock traded on The NASDAQ Capital Market.

The following table sets forth for the periods indicated the high and low intraday sales prices per share of our common stock as reported on NASDAQ:

 

		Low				High
Year ending December 31, 2017
Second Quarter (beginning May 11, 2017)		$	10.00			$	15.64
Third Quarter		$	7.76			$	74.92
Fourth Quarter (through November 16, 2017)		$	21.00			$	52.38

On November 16, 2017, the last reported sale price of our common stock as reported on NASDAQ was $26.82 per share.

As of November 16, 2017, we had 52 holders of record of our common stock. The actual number of stockholders is greater than this number of record holders, and includes stockholders who are beneficial owners, but whose shares are held in street name by brokers and other nominees. This number of holders of record also does not include stockholders whose shares may be held in trust by other entities.

 

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DIVIDEND POLICY

We have never declared or paid cash dividends on our capital stock. We currently intend to retain all available funds and any future earnings for use in the operation of our business. Therefore, we do not currently expect to pay any cash dividends on our common stock for the foreseeable future. Any future determination to pay cash dividends will be at the discretion of our Board and will depend upon our results of operations, financial condition, capital requirements, general business conditions, and other factors that our Board deems relevant. Our ability to pay dividends may also be restricted by the terms of any future credit agreement or any future debt or preferred equity securities of ours or of our subsidiaries.

 

39

CAPITALIZATION

The following table sets forth our cash and cash equivalents and capitalization as of September 30, 2017:

 

•

on an actual basis; and

 

•

on an as adjusted basis to reflect the issuance and sale by us of 975,000 shares of common stock in this offering at the public offering price of $23.00 per share, after deducting the underwriting discounts and commissions, and estimated offering expenses payable by us.

You should read the information in this table together with “Use of Proceeds,” our consolidated financial statements and the accompanying notes appearing elsewhere in this prospectus and the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section and other financial information contained elsewhere in this prospectus.

 

		As of September 30, 2017
		Actual				As Adjusted
		(in thousands, except share and per share data)
Cash and cash equivalents		$	20,762			$	41,337
Stockholders’ equity (deficit):
Undesignated preferred stock, $0.001 par value; 1,000,000 shares authorized, no shares issued and outstanding, actual or as adjusted			—				—
Common stock, $0.001 par value; 75,000,000 shares authorized, 14,956,322 shares issued and outstanding, actual; and 15,931,322 shares issued and outstanding, as adjusted			15				16
Additional paid in capital			144,396				164,970
Accumulated other comprehensive income			(62	)			(62	)
Accumulated deficit			(96,517	)			(96,517	)
Total stockholders’ equity			47,832				68,407
Total capitalization		$	47,832			$	68,407

If the underwriters’ option to purchase additional shares of common stock is exercised in full, the as adjusted amount of each of cash and cash equivalents, accumulated deficit, total stockholders’ equity (deficit), and total capitalization would be $44.5 million, $96.5 million, $71.6 million, and $71.6 million, respectively, after deducting estimated underwriting discounts and commissions and estimated operating expenses payable by us.

The number of shares of our common stock to be outstanding after this offering is based upon 14,956,322 shares of our common stock outstanding as of September 30, 2017, and excludes:

 

•

4,362,592 shares of our common stock issuable upon exercise of stock options outstanding as of September 30, 2017 under the 2014 Plan at a weighted-average exercise price of $13.21 per share;

 

•

199,350 shares of our common stock issuable upon exercise of stock options outstanding as of September 30, 2017 under the 2017 Plan at a weighted-average exercise price of $8.24 per share;

 

•

35,576 shares of our common stock issuable upon the vesting of restricted stock units outstanding as of September 30, 2017 under the 2017 Plan;

 

•

1,752,482 shares of our common stock reserved for future grants under the 2017 Plan;

 

•

1,000,000 shares of our common stock reserved for future issuance under the ESPP; and

 

•

1,524,573 shares of our common stock issuable upon exercise of warrants outstanding as of September 30, 2017 at a weighted average exercise price of $12.71 per share.

 

40

DILUTION

If you invest in our common stock in this offering, your ownership interest will be immediately diluted to the extent of the difference between the public offering price per share of our common stock and the as adjusted net tangible book value per share of our common stock after this offering.

Net tangible book value per share represents our total tangible assets (total assets less intangible assets) less total liabilities divided by the total number of shares of common stock outstanding as of September 30, 2017. As of September 30, 2017, our historical net tangible book value was $47.5 million, or $3.17 per share of common stock.

Our as adjusted net tangible book value as of September 30, 2017 would have been $68.1 million, or $4.27 per share of common stock, after giving effect to the sale by us of 975,000 shares of our common stock in this offering at the public offering price of $23.00 per share, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. This represents an immediate increase in net tangible book value of $1.10 per share to existing stockholders and an immediate dilution in net tangible book value of $18.73 per share to investors purchasing common stock in this offering. The following table illustrates this per share dilution:

 

Public offering price per share						$	23.00
Net tangible book value per share of common stock as of September 30, 2017		$	3.17
Increase in net tangible book value per share attributable to new investors in this offering			1.10
Adjusted net tangible book value per share as of September 30, 2017, after giving effect to this offering							4.27
Dilution in net tangible book value per share to new investors in this offering						$	18.73

If the underwriters exercise their over-allotment option in full in this offering, the adjusted net tangible book value after the offering would be $4.43 per share, the additional increase in adjusted net tangible book value per share to existing stockholders would be $0.16 and the dilution in net tangible book deficit per share to new investors would be $18.57 per share.

The table and discussion above exclude the following:

 

•

4,362,592 shares of our common stock issuable upon exercise of stock options outstanding as of September 30, 2017 under the 2014 Plan at a weighted-average exercise price of $13.21 per share;

 

•

199,350 shares of our common stock issuable upon exercise of stock options outstanding as of September 30, 2017 under the 2017 Plan at a weighted-average exercise price of $8.24 per share;

 

•

35,576 shares of our common stock issuable upon the vesting of restricted stock units outstanding as of September 30, 2017 under the 2017 Plan;

 

•

1,752,482 shares of our common stock reserved for future grants under the 2017 Plan;

 

•

1,000,000 shares of our common stock reserved for future issuance under the ESPP; and

 

•

1,524,573 shares of our common stock issuable upon exercise of warrants outstanding as of September 30, 2017 at a weighted average exercise price of $12.71 per share.

 

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SELECTED CONSOLIDATED FINANCIAL DATA

You should read the following selected consolidated financial data in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes appearing elsewhere in this prospectus. The following tables set forth our selected consolidated financial data as of and for the periods indicated below. We have derived the summary consolidated statement of operations data for the years ended December 31, 2016 and 2015 from our audited consolidated financial statements included elsewhere in this prospectus. We have derived the summary unaudited consolidated statement of operations data for the nine months ended September 30, 2017 and 2016 and our unaudited consolidated balance sheet data as of September 30, 2017 from our unaudited interim consolidated financial statements included elsewhere in this prospectus. The unaudited interim consolidated financial statements were prepared on a basis consistent with our annual financial statements and include, in the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary for the fair statement of the financial information contained in those statements. Our historical results are not necessarily indicative of the results that may be expected in the future, and our interim results are not necessarily indicative of the results to be expected for the full year or any other period.

 

		Year Ended December 31,								Nine Months Ended September 30,
		2016				2015				2017				2016
		(in thousands, except share and per share data)
Consolidated Statements of Operations Data:
Net revenues		$	8,911			$	13,928			$	10,914			$	6,408
Cost of revenue			1,577				1,860				824				1,067
Gross profit			7,334				12,068				10,090				5,341
Operating expenses:
Sales and marketing (1)			8,279				5,735				9,689				5,688
Research and development (1)			7,900				4,633				9,613				5,357
General and administrative (1)			14,935				7,990				24,722				10,723
Total operating expenses			31,114				18,358				44,024				21,768
Loss from operations			(23,780	)			(6,290	)			(33,934	)			(16,427	)
Other income (expense), net			(3,193	)			85				(12,872	)			(1,483	)
Loss before provision for income taxes			(26,973	)			(6,205	)			(46,806	)			(17,910	)
Provision for income taxes			6				5				5				5
Net loss		$	(26,979	)		$	(6,210	)			(46,811	)			(17,915	)
Accretion of redeemable convertible preferred stock			(3,204	)			(3,330	)			(4,470	)			(2,383	)
Net loss attributable to common stockholders		$	(30,183	)		$	(9,540	)		$	(51,281	)		$	(20,298	)
Per Share Data:
Net loss per share attributable to common stockholders, basic and diluted		$	(14.59	)		$	(6.73	)		$	(5.94	)		$	(10.37	)
Weighted average shares used to compute basic and diluted net loss per share			2,068,334				1,416,732				8,640,178				1,957,596

 

footnotes on following page

 

42

		As of September 30, 2017
		Actual				As Adjusted (2)
		(in thousands)
Consolidated Balance Sheet Data (unaudited):
Cash and cash equivalents		$	20,762			$	41,337
Working capital (deficit)		$	46,673			$	67,248
Total assets		$	79,682			$	100,257
Total liabilities		$	31,850			$	31,850
Total stockholders’ equity (deficit)		$	47,832			$	68,407

 

footnotes from prior page

 

(1)	Includes stock-based compensation expense as follows:

 

		Year Ended December 31,								Nine Months Ended September 30,
		2016				2015				2017				2016
		(in thousands)
Sales and marketing		$	71			$	81			$	276			$	51
Research and development			31				20				261				17
General and administrative			1,628				26				13,074				1,520
Total stock-based compensation expense		$	1,730			$	127			$	13,611			$	1,588

 

(2)

The as adjusted column in the consolidated balance sheet data table above gives effect to the sale and issuance by us of 975,000 shares of our common stock in this offering at the public offering price of $23.00 per share, and after deducting underwriting discounts and commissions and estimated offering expenses payable by us.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and the related notes and other financial information included elsewhere in this prospectus. Some of the information contained in this discussion and analysis or set forth elsewhere in this prospectus, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. You should review the “Cautionary Note Regarding Forward-Looking Statements” and “Risk Factors” sections of this prospectus for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Overview

Our proprietary platform unlocks the power of AI-based cognitive computing so that audio, video and other unstructured data can be transformed and analyzed in conjunction with structured data in a seamless, automated manner to generate actionable intelligence for enterprises of all sizes. Our AI operating system, aiWARE, integrates and orchestrates an ecosystem of best-of-breed cognitive engines, together with our suite of powerful applications, to reveal valuable multivariate insights from vast amounts of structured and unstructured data.

Operating results for the periods presented herein include the following (in thousands, except per share data and percentages):

 

		Year Ended December 31,								Nine Months Ended September 30,
		2016				2015				2017				2016
		(dollars in thousands)
Net revenues		$	8,911			$	13,928			$	10,914			$	6,408
Cost of revenues			1,577				1,860				824				1,067
Gross profit			7,334				12,068				10,090				5,341
Gross margin			82.3	%			86.6	%			92.5	%			83.3	%
Total operating expenses			31,114				18,358				44,024				21,768
Net loss		$	(26,979	)		$	(6,210	)		$	(46,811	)		$	(17,915	)
Per share data:
Net loss per share attributable to common stockholders, basic and diluted		$	(14.59	)		$	(6.73	)		$	(5.94	)		$	(10.37	)

During the years ended December 31, 2016 and 2015, our net revenues were $8.4 million and $13.9 million, respectively, from our Media Agency Business and $0.5 million and less than $0.1 million, respectively, from our AI Platform Business. During the nine months ended September 30, 2017 and 2016, our net revenues were $9.9 million and $6.2 million, respectively, from our Media Agency Business and $1.0 million and less than $0.2 million, respectively, from our AI Platform Business.

Media Agency Business

Since our inception, we have generated most of our revenues from our media placement services performed under advertising contracts with our media clients. Our media agency services include media planning and strategy, media buying and placement, campaign messaging, clearance verification and attribution and custom analytics. We typically enter into agency contracts with our Media Agency customers that do not have a fixed term, but generally can be cancelled by us or the customer upon 30 to 90 days prior written notice without penalty.

The key performance indicators for our Media Agency Business include: (i) number of new customers, (ii) total number of customers with active media campaigns, (iii) average media spend per customer and (iv) net

 

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revenue. Tracking the number of new and active customers provides us with insight regarding our ability to grow the market share of our Media Agency Business by winning new customers, as well as regarding customer churn. By tracking media spend by customer, we can analyze not only spending trends, but our ability to grow media spend with existing customers. The following table sets forth the results for each of our key performance indicators for each quarterly period ended December 31, 2016 and for the nine months ended September 30, 2017.

 

Quarter Ended
		March 31, 2016				June 30, 2016				September 30, 2016				December 31, 2016				March 31, 2017				June 30, 2017				September 30, 2017
Net New Customers Added During Quarter			4				12				6				15				8				16				9
Customers with Active Media Campaigns During Quarter			30				35				35				39				39				45				49
Average Media Spend per Active Customer During Quarter ($000’s)		$	602			$	499			$	560			$	572			$	670			$	695			$	649
Net Revenue During Quarter ($000’s)		$	2,036			$	1,938			$	2,223			$	2,207			$	2,899			$	3,739			$	3,288

In the past, our Media Agency Business has experienced volatility in its net revenues due to a number of factors, including (i) the timing of new large account wins, (ii) loss of customers who choose to replace our services by bringing their advertising placement in-house, (iii) customers who experience reductions in their advertising budgets due to issues with their own business, (iv) losses of customers who change providers from time to time based largely on pricing, and (v) the seasonality of the campaigns for certain large customers. Our Media Agency Business is also reliant on certain large key customers and has historically generated a significant portion of its net revenues from a few major customers. During the nine months ended September 30, 2017, our ten largest customers by revenue collectively accounted for approximately 73% of our Media Agency net revenues. In addition, our two largest customers by revenue in 2015, LifeLock, Inc. and DraftKings, Inc., collectively accounted for approximately 43% of our net revenues in 2015, but only approximately 10% of our net revenues in 2016. During 2016, our net revenues from this business declined compared with 2015, primarily because (i) LifeLock, Inc. chose to replace our media placement services by bringing their advertising placement in-house, and (ii) DraftKings, Inc. experienced a reduction in business activity and their media purchases due to legal restrictions imposed on them in certain jurisdictions for a period of time. If we lose any key customers or their media spending with us declines significantly, our business, results of operations and financial condition would be harmed.

Development of Our AI Platform Business

Our proprietary platform unlocks the power of AI cognitive computing so that audio, video and other unstructured data can be transformed and analyzed in conjunction with structured data in a seamless, automated manner to generate actionable intelligence for enterprises of all sizes. Our AI operating system, aiWare, integrates and orchestrates an ecosystem of best-of-breed cognitive engines, together with our powerful suite of applications, to reveal valuable multivariate insights from vast amounts of structured and unstructured data.

We are in the early stages of developing our AI Platform Business and are targeting industries that capture or use audio and video data, including in the media, politics, legal, government and other vertical markets. While we are in the process of rolling out our AI platform in a variety of markets, we have generated revenue from our AI Platform Business primarily in the media market.

We track key performance indicators as we continue to develop and grow our AI Platform Business. The key performance indicators for our AI Platform Business include: (i) total number of accounts on the platform, (ii) number of active third-party cognitive engines on the platform, (iii) hours of data processed, (iv) total

 

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contract value (TCV) of new bookings, (v) monthly recurring revenue under active agreements, and (vi) net revenue. The following table sets forth our key performance indicators for each quarterly period ended December 31, 2016 and for the nine months ended September 30, 2017.

 

Quarter Ended
		March 31, 2016				June 30, 2016				September 30, 2016				December 31, 2016				March 31, 2017				June 30, 2017				September 30, 2017
Total Accounts on Platform at Quarter End			4				8				14				23				57				169				170
Active Third-Party Cognitive Engines at Quarter End			11				19				28				41				48				69				122
Hours of Data Processed During Quarter			190,000				178,000				331,000				447,000				367,000				438,000				711,000
Total Contract Value (TCV) of New Bookings Received During Quarter ($000’s)		$	156			$	126			$	394			$	163			$	1,947			$	151			$	2,645
Monthly Recurring Revenue under Agreements in Effect at Quarter End ($000’s)		$	14			$	24			$	72			$	46			$	60			$	132			$	135
Net Revenue During Quarter ($000’s)		$	40			$	73			$	98			$	296			$	209			$	348			$	431

We commenced commercial licensing of our SaaS solutions in April 2015 with an initial focus on the media market to provide media owners and broadcasters with visibility on ad placements and the effectiveness of their media campaigns. We generally license access to our platform via a SaaS model directly to such media owners and broadcasters, and in the first nine months of 2017, we signed license agreements with a leading national news and sports radio network, a major financial news television network, and the largest operator of radio stations in the United States, among others. In the politics market, we have licensed our platform to political parties, consultants, candidates and special interest groups, who can use our platform to search and analyze large amounts of public and private media.

In the legal market, during the first quarter of 2017, we completed the integration of our platform with Relativity, an industry leading eDiscovery software platform, enabling users to perform large scale analytics of audio and video discovery files using our AI platform within the Relativity environment. As of September 30, 2017, we had entered into 35 reseller agreements with providers of eDiscovery services and solutions.

The funding provided by the Acacia investment (described below) in August 2016 and by our initial public offering in May 2017 has allowed us to expand our engineering team to continue the development and expansion of the capabilities of our AI platform, as well as to expand our sales and marketing team, both of which have enabled us to grow our AI Platform Business significantly. We expect to continue to invest significant resources and capital into developing our AI Platform Business, and therefore do not expect to achieve profitability in the foreseeable future.

Factors Affecting Our Performance

We believe that the growth of our business and our future success are dependent upon many factors, including market acceptance of our product, becoming a market leader, the success of our sales and marketing efforts, our expansion strategy, our investments for operational scale and our international growth. While each of these areas presents significant opportunities for us, they also pose important challenges that we must successfully address in order to sustain the growth of our business and improve our results of operations. The

 

46

investments that we make in these areas may not result in increased revenue or operating profit. Accordingly, these investments may delay or otherwise impair our ability to achieve profitability. The timing of our future profitability will depend upon many variables, including the success of our growth strategies and the timing and size of investments and expenditures that we choose to undertake, as well as market growth and other factors that are not within our control. We have not yet determined when we expect to achieve profitability.

Product and Market Leadership. We are committed to delivering market-leading products to continue to build and maintain credibility within the markets that we serve. We believe we must maintain and further develop our product and market position and strengthen our brand to drive future revenue growth. We intend to continue to invest in our engineering, product capabilities and marketing activities to maintain and expand our position in the markets we serve. Our results of operations may fluctuate as we make these investments to drive increased customer adoption and usage of our platform.

To deliver a highly valued service offering and market-leading products to our customers, we need to add additional third-party cognitive engines to our platform. We measure the number of third-party cognitive engines that are active at the end of each period and establish goals for adding new cognitive engines each quarter. During 2016, we integrated approximately 30 new third-party cognitive engines onto our platform. During the first nine months of 2017, we integrated 81 new third-party cognitive engines onto our platform.

Sales and Marketing. In order to acquire new customers in an efficient manner, we must maintain and expand our grassroots business development efforts and effectively generate additional sales to enterprises and customers across our targeted vertical markets.

Expansion Strategy. We are focused on expanding our existing customers’ use of our products and platform. We believe that there is a significant opportunity to drive additional sales to existing customers, and expect to invest in additional sales, marketing and customer service capabilities to support this growth.

In our AI Platform Business, we are in the early stages of selling to large media companies. Our sales approach is to initially license our platform to these companies for use in one of their markets as a test. We believe that once these customers use our platform and understand its capabilities and value, many of them will choose to utilize our platform in their other markets. We expect to measure the success of this strategy by analyzing the number of new customers acquired and our revenues per customer.

Investments to Increase Scale. As our business grows and as we continue our platform optimization efforts, we expect to realize cost savings through improved economies of scale. In some cases, we may pass on these savings to our customers in the form of lower usage prices. In addition, such potential cost savings may be offset, partially or completely, by higher costs related to the release of new products and our expansion into new geographies. In addition, in some instances, we may acquire certain larger customers that we consider to be strategically important but that generate a lower gross margin. As a result, we expect our gross margins to fluctuate from period to period.

Acquisition of ROIM, Inc. and NextMedium, LLC

In July 2014, we acquired ROIM, Inc., a Delaware corporation, or ROIM, and NextMedium, LLC, a Delaware limited liability company, or NM, through a series of transactions between entities where common control existed, as described below. ROIM was renamed “Veritone Media, Inc.,” and was subsequently renamed “Veritone One, Inc.” in January 2017. NM was subsequently renamed “Veritone, LLC.” ROIM and NM are now wholly-owned subsidiaries of our company.

On June 17, 2014, ROIM Acquisition Corporation, or RAC, was incorporated as a transitory entity for the purpose of acquiring the assets of ROIM. On July 14, 2014, RAC and an affiliated entity, Brand Affinity Technologies, Inc., or BAT, entered into an Asset Purchase Agreement, or the ROIM Agreement, pursuant to

 

47

which RAC purchased, or the BAT Purchase, (i) all of the outstanding shares of capital stock of ROIM and (ii) certain intellectual property, or the BAT IP, from BAT in exchange for 2,161,938 shares of RAC’s Class B common stock and a promissory note of RAC payable to BAT in the original principal amount of $885,194, or the BAT Note.

In connection with the ROIM Agreement, RAC also assumed the following promissory notes: (i) two senior secured promissory notes of BAT dated October 24, 2012 and March 19, 2013 in the original aggregate principal amount of $2,000,000, or the NCI Notes, payable to Newport Coast Investments, LLC, a California limited liability company beneficially owned by Chad and Ryan Steelberg, or NCI, (ii) two senior secured promissory notes of BAT dated October 24, 2012 and March 19, 2013 payable to Brand Affinity, LLC, an unaffiliated Illinois limited liability company, or BALLC, in the original principal amount of $2,000,000, or the BALLC Notes, and (iii) certain senior secured promissory notes of BAT dated as of dates between September 27, 2013 and December 26, 2013 in the original aggregate principal amount of $4,900,000, or the BAT Bridge Notes. The holders of the BAT Bridge Notes described in subsection (iii) above are collectively referred to as the “BAT Noteholders.”

On July 15, 2014, prior to the RAC Merger described below, the BAT Noteholders exchanged the BAT Bridge Notes for an aggregate of 1,038,066 shares of Class B common stock of RAC. The NCI Notes, the BALLC Notes and the BAT Bridge Note remained outstanding and were assumed by us in connection with the RAC Merger.

On July 15, 2014, we and the members of NM entered into a Unit Purchase Agreement, pursuant to which we acquired all of the outstanding membership interests in NM in exchange for the issuance to the members of NM of an aggregate of 900,000 shares of our common stock and 3,000,000 shares of our Series A preferred stock, or the NM Transfer.

On July 15, 2014, we and each of the stockholders of RAC entered into an Agreement and Plan of Merger, pursuant to which RAC was merged with and into our company, with our company as the surviving company in the merger, or the RAC Merger. In connection with the RAC Merger, all of the outstanding capital stock of RAC was converted into an aggregate of 800,000 shares of our common stock and 2,666,667 shares of our Series A-1 preferred stock. The NCI Notes, the BALLC Notes and the BAT Bridge Note assumed by us in connection with the RAC Merger were repaid in full in July 2014.

The terms of our Series A preferred stock and Series A-1 preferred stock issued in the NM Transfer and the RAC Merger were substantially identical except for the adverse treatment of the Series A-1 preferred stock in the event certain indemnification claims were made pursuant to the merger agreement in the RAC Merger. No indemnification claims were made under such merger agreement, and accordingly, all of the outstanding shares of Series A-1 preferred stock were automatically converted into shares of our Series A preferred stock on a one-for-one basis in July 2016.

The above transactions were considered transactions between entities under common control pursuant to FASB ASC 805-50, as the same group of stockholders (Chad Steelberg and Ryan Steelberg) beneficially owned more than 50% of the voting ownership interest of BAT and RAC, and of NM and our company, at the time of the respective transactions. Accordingly, upon completion of the NM Transfer and the RAC Merger, the assets and liabilities acquired and assumed by us through the NM Transfer and the RAC Merger were recorded at their carrying value by the respective predecessor entities without any step up in value or the recognition of any goodwill. In addition, since the expenses related to the development of the BAT IP had been expensed and not capitalized by BAT, there was no predecessor carrying value for the BAT IP. As a result of us having assumed liabilities in excess of the carrying value of the net assets acquired in the RAC Merger, Additional Paid In Capital was negative and therefore, the book value of the Series A-1 preferred stock issued in connection with such transaction was recorded as $0. Conversely, in connection with the NM Transfer, for which the carrying value of the net assets acquired was positive, the corresponding issuances of our common stock and Series A preferred stock were accounted for based upon the allocation of the carrying value of the net assets acquired.

 

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Acacia Investment

On August 15, 2016, we entered into an Investment Agreement with Acacia, or the Investment Agreement, that provided for Acacia to invest up to $50 million in our company, consisting of both debt and equity components. Pursuant to the Investment Agreement, we entered into a convertible secured promissory note that provided for up to $20 million in borrowings through two $10 million advances, each bearing interest at the rate of 6.0% per annum. On August 15, 2016, we borrowed $10 million that initially had a one-year term, or the First Loan, and, on November 25, 2016, we borrowed the remaining $10 million under the Acacia Note, or the Second Loan. The Second Loan also had a one-year term from the date of issuance. Upon the borrowing of the Second Loan, the maturity date of the First Loan was automatically extended to the maturity date of the Second Loan, with both loans becoming due and payable on November 25, 2017. The Acacia Note was secured by substantially all of our assets pursuant to a security agreement that we entered into with Acacia dated August 15, 2016, which was amended and restated in March 2017 in connection with our Bridge Loan. Upon the completion of our initial public offering in May 2017, the outstanding $20 million principal and all accrued interest under the Acacia Note was converted into 1,523,746 shares of our common stock at a conversion price of $13.6088 per share.

Pursuant to the Investment Agreement, we also issued to Acacia a five-year warrant, or the Primary Warrant, to purchase up to a number of shares of our common stock determined by dividing (i) $50 million, less all outstanding principal and accrued interest under the Acacia Note, by (ii) an exercise price per share ranging from $13.3028 to $13.7323, with the actual exercise price per share to be determined by the amount of principal and accrued interest under the Acacia Note that was converted into our common stock. In March 2017, we amended the Primary Warrant to provide that it would be automatically exercised in full upon the closing of our initial public offering, and that the exercise price thereof would be equal to the lower of $13.6088 or our initial public offering price per share. Upon the completion of our initial public offering, the Primary Warrant was automatically exercised in full at an exercise price of $13.6088 per share, and we issued to Acacia an aggregate of 2,150,335 shares of our common stock in exchange for cash proceeds of $29.3 million.

In conjunction with the First Loan, we issued to Acacia a four-year warrant to purchase a number of shares of our common stock determined by dividing $0.7 million by an exercise price per share ranging from $8.0833 to $13.7323, with the actual exercise price to be determined by the type and/or valuation of our future equity financings. In conjunction with the Second Loan in November 2016, we issued to Acacia two additional four-year warrants, each to purchase a number of shares of our common stock determined by dividing $0.7 million by an exercise price per share ranging from $8.0833 to $13.7323, with the actual exercise price to be determined by the type and/or valuation of our future equity financings. In March 2017, in connection with the amendment of the Primary Warrant, each of these warrants was amended to provide that the exercise prices thereof would be equal to the lower of $13.6088 or our initial public offering price per share. As a result, upon completion of our initial public offering, each of these warrants became exercisable to purchase 51,437 shares of common stock, or an aggregate of 154,311 shares of common stock, at an exercise price of $13.6088 per share.

Upon the exercise in full of the Primary Warrant in connection with our initial public offering, we issued to Acacia the 10% Warrant, with a term of five years, which provided for the issuance of 809,400 shares of our common stock at an exercise price of $13.6088 per share. Fifty percent of the shares underlying the 10% Warrant vested upon the issuance of the 10% Warrant and the remaining fifty percent of the shares will vest on the first anniversary of the issuance date of the 10% Warrant.

Bridge Loan Financing

In March 2017, we entered into a note purchase agreement, or the Note Purchase Agreement, with Acacia and Veritone LOC I, LLC, or VLOC, together we refer to as the Lenders, which provided for an $8 million line of credit pursuant to secured convertible notes that accrued interest at the rate of eight percent (8%) per year, compounded quarterly, or the Bridge Notes, with Acacia and VLOC each purchasing equal amounts of the Bridge Notes. The Bridge Notes were due and payable on November 25, 2017, and our obligations under such

 

49

Bridge Notes were secured by a security interest in substantially all of our assets, which was of equal priority to the security interest of Acacia under the Acacia Note. We borrowed the initial $2.0 million installment under the Bridge Loan in March 2017, and we borrowed the second $2.0 million installment in April 2017. Prior to the completion of our initial public offering, the Lenders exercised their options to advance the remaining $4.0 million available under the Bridge Loan. Upon the completion of our initial public offering, all of the $8.0 million of principal and all accrued interest under the Bridge Notes were automatically converted into an aggregate of 590,717 shares of our common stock at a conversion price of $13.6088 per share.

In connection with the Bridge Loan, we issued an aggregate of 120,000 shares of our common stock to the Lenders upon the execution of the Note Purchase Agreement. In addition, in connection with the funding of the $8.0 million principal amount of the Bridge Loan, we issued to the Lenders an aggregate of 180,000 shares of our common stock and warrants to purchase an aggregate of 240,000 shares of our common stock. Such warrants were automatically adjusted upon completion of the initial public offering to be exercisable to purchase an aggregate of 313,440 shares of our common stock (representing 1.5% of our fully-diluted shares outstanding immediately following completion of our initial public offering) at an exercise price of $13.6088 per share, and have terms of ten years following the date of issuance.

Redeemable Convertible Preferred Stock

Upon completion of our initial public offering on May 17, 2017, all of our Series B preferred stock outstanding as of such date, which had a liquidation preference of $18.7 million, was automatically converted into an aggregate of 2,309,135 shares of our common stock, and all of our Series A preferred stock outstanding as of such date, which had a liquidation preference of $8.6 million, was automatically converted into an aggregate of 2,922,798 shares of our common stock.

Initial Public Offering

In May 2017, we completed the initial public offering of our common stock. In connection with our initial public offering, we issued 2,500,000 shares of our common stock at a price to the public of $15.00 per share. Our shares of common stock began trading on The NASDAQ Capital Market on May 12, 2017, and began trading on the NASDAQ on May 15, 2017. As a result of our initial public offering, we received approximately $32.6 million in net proceeds, after deducting underwriting discounts, commissions and offering costs of approximately $4.9 million. Upon completion of our initial public offering, all outstanding principal and accrued interest under the Acacia Note and the Bridge Loan were converted into shares of our common stock, the Primary Warrant was exercised in full by Acacia and all of our outstanding shares of Series A preferred stock and Series B preferred stock were converted into shares of our common stock.

Stock Repurchases

On April 22, 2015, we entered into an asset purchase agreement with BAT, pursuant to which we repurchased and retired 511,218 shares of our common stock and 1,704,060 shares of our Series A-1 preferred stock, for a total purchase price of $1,419,000. This repurchase was conducted at a price less than the fair value of our common stock and Series A-1 preferred stock at the date of repurchase. In conjunction with the repurchase of these shares, we recorded a debit to accumulated deficit in the amount of $773,000 in our consolidated balance sheet as of December 31, 2015.

On July 21, 2015, we entered into an asset purchase agreement with ad pepper media International N.V., pursuant to which we repurchased and retired 14,373 shares of our common stock and 47,910 shares of our Series A-1 preferred stock, for a total purchase price of $39,895. This repurchase was conducted at a price less than the fair value of our common stock and Series A-1 preferred stock at the date of repurchase. In conjunction with the repurchase of these shares, we recorded a debit to accumulated deficit in the amount of $16,000 in our consolidated balance sheet as of December 31, 2015.

 

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In connection with the settlement of litigation with a former employee, on January 4, 2017, we repurchased 7,500 shares of our common stock from such employee for a purchase price of $7.50 per share, for a total purchase price of $56,000, constituting the estimated fair value of such stock at the time.

Net Loss Carryforwards

At December 31, 2016, we had federal and state net operating loss carryforwards, or NOLs, of approximately $32.6 million and $32.4 million, respectively. If not utilized, the federal and state NOLs will expire at various dates beginning in 2034. At present, we believe that it is more likely than not that the federal and state NOLs will not be realized. Accordingly, a full valuation allowance, in the amount of $9.9 million, has been established against our net deferred tax assets, including our NOLs, as of December 31, 2016.

In general, under Section 382 of the Internal Revenue Code of 1986, as amended, or the Code, a corporation that undergoes an “ownership change” (generally defined as a greater than 50-percentage-point cumulative change (by value) in the equity ownership of certain stockholders over a rolling three-year period) is subject to limitations on its ability to utilize its pre-change NOLs to offset post-change taxable income. Our existing NOLs may be subject to limitations arising from previous ownership changes, and if we undergo an ownership change in connection with or after this offering, our ability to utilize NOLs could be further limited by Section 382 of the Code. In addition, future changes in our stock ownership, some of which may be outside of our control, could result in an ownership change under Section 382 of the Code. The amount of such limitations, if any, has not been determined.

There is also a risk that due to regulatory changes, such as suspensions on the use of NOLs, or other unforeseen reasons, our existing NOLs could expire or otherwise be unavailable to offset future income tax liabilities. For these reasons, we may not be able to realize a tax benefit from the use of our NOLs, even if we attain profitability.

Components of Our Results of Operations

Net Revenues

Revenue is recognized when (i) persuasive evidence of an arrangement exists, (ii) all obligations have been substantially performed pursuant to the terms of the arrangement, (iii) amounts are fixed or determinable, and (iv) the collectability of amounts is reasonably assured.

Media Agency Revenues, Net. We have historically generated revenue primarily from services performed under our advertising contracts. Our advertising contracts typically provide for us to receive a percentage, averaging approximately 10%, of the total dollar amount of the advertising placements of our Media Agency customers, and generally may be cancelled by our customers upon 30 to 90 days prior written notice. Media providers, such as radio stations, are required to provide proof of service that the advertising was actually run or aired before we can recognize any revenue. In general, the earnings process is complete and revenue is recognized when the service is performed and accepted in accordance with the terms of the client arrangement, and when all other revenue recognition criteria have been met. Our Media Agency customers are often required to make a deposit for or pre-pay their media advertising plan. Such amounts are reflected as customer advances on our consolidated balance sheets until all revenue recognition criteria have been met. Pursuant to our advertising contracts, we are deemed to be an agent and, as such, under generally accepted accounting principles, we record revenues on a net basis, whereby the costs charged by the media providers for the advertisements are netted against the gross revenues received from our customers for the media placements.

 

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A summary of gross and net media agency revenues for the periods presented is as follows (in thousands):

 

		Year Ended December 31,								Nine Months Ended September 30,
		2016				2015				2017				2016
Gross media placements		$	75,074			$	109,919			$	87,756			$	53,910
Media placements billed directly to clients			64,923				98,937				74,717				46,496
Media related costs netted against billings (1)			(56,519	)			(85,050	)			(64,791	)			(40,299	)
Net media agency revenues reported		$	8,404			$	13,887			$	9,926			$	6,197

 

(1)	Of the amounts billed directly to customers, this amount represented media related costs netted against such billings in the accompanying consolidated statements of operations as required by generally accepted accounting principles.

SaaS Revenues. We also derive revenue from our SaaS offerings, with fixed and variable payment components, relating to our customers’ use of our platform and other related services. SaaS licensing arrangements historically have had initial terms that generally range in duration from 3 to 24 months, and are typically renewable on an annual basis.

We allocate the value of the SaaS license arrangement to each separate unit of accounting based on an estimated selling price of each separate unit. Revenue allocated to the SaaS/software subscription element is recognized ratably over the non-cancellable term of the SaaS/subscription service. We recognize revenue allocated to other units of accounting included in the arrangement upon the earlier of the completion of the service or the expiration of the customer’s right to receive the service. Customers are billed in arrears for services used. Our SaaS contracts typically provide for a minimum monthly usage commitment.

Our contracts with our customers generally do not contain return rights. However, credits may be issued to customers on a case-by-case basis. These contracts do not provide customers with the right to take possession of the software supporting the applications.

During the years ended December 31, 2016 and 2015, we recognized $0.5 million and less than $0.1 million in SaaS license revenues, respectively. During the nine months September 30, 2017 and 2016, we recognized $1.0 million and $0.2 million in SaaS license revenues, respectively.

Cost of Revenue and Gross Margin

Cost of revenue consists primarily of fees paid to our vendors related to media processing, creative production and cloud infrastructure fees. Our arrangements with our cognitive engine vendors generally require us to pay fees based on the volume of media that we process. Our arrangements with AWS, Microsoft Azure and Iron.io, our cloud infrastructure providers, require us to pay fees based on computing time, storage and reserved computing capacity. Our gross margin has been and is expected to continue to be affected by a number of factors, including the volume and type of the media that we process and the type and cost of the cognitive engines utilized to process such media.

Operating Expenses

The most significant components of operating expenses are personnel costs, which consist of salaries, benefits, bonuses and stock-based compensation. We also incur other non-personnel costs related to our general overhead expenses. We expect that our operating costs will continue to increase in absolute dollars for the foreseeable future.

 

•

Sales and Marketing. Sales and marketing expenses consist primarily of personnel costs, including commissions for our sales employees. Sales and marketing expenses also include expenditures related

 

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to advertising, marketing, our brand awareness activities and professional services fees. We plan to continue to focus our sales and marketing efforts on generating awareness of our company, platform and products through our direct sales organization, distributor partners and self-service model, creating sales leads and establishing and promoting our brand. We plan to continue investing in sales and marketing by increasing our sales and marketing headcount, supplementing our self-service model with an enterprise sales approach, expanding our sales channels, driving our go-to-market strategies, building our brand awareness and sponsoring additional marketing events.

 

•

Research and Development. Research and development expenses consist primarily of personnel costs and outsourced engineering services. We plan to continue to focus our research and development efforts on adding new products and features to our existing products, including new use cases, improving our platform and increasing the functionality of our existing products.

 

•

General and Administrative. General and administrative expenses consist primarily of personnel costs for our accounting, finance, legal, human resources, operations and administrative support personnel and executives. General and administrative expenses also include costs related to financing transactions, legal and other professional services fees, sales and other taxes, depreciation and amortization. We expect that we will incur costs associated with supporting the growth of our business and meeting the increased compliance requirements associated with both our international expansion and our transition to, and operation as, a public company.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make estimates and assumptions about future events that affect amounts reported in our consolidated financial statements and related notes, as well as the related disclosure of contingent assets and liabilities at the date of the financial statements. Management evaluates its accounting policies, estimates, and judgments on an on-going basis. Management bases its estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions and conditions.

Management evaluated the development and selection of its critical accounting policies and estimates and believes that the following involve a higher degree of judgment or complexity and are most significant to reporting our results of operations and financial position, and are therefore discussed as critical. The following critical accounting policies reflect the significant estimates and judgments used in the preparation of our consolidated financial statements. With respect to critical accounting policies, even a relatively minor variance between actual and expected experience can potentially have a materially favorable or unfavorable impact on subsequent results of operations. More information on our significant accounting policies can be found in Note 2 to our audited consolidated financial statements included elsewhere in this prospectus.

Revenue Recognition

As described below, significant management judgment must be made and used in connection with the revenue recognized in any accounting period. Material differences may result in the amount and timing of revenue recognized or deferred for any period, if management made different judgments.

Revenue is recognized when (i) persuasive evidence of an arrangement exists, (ii) all obligations have been performed pursuant to the terms of the agreement, (iii) amounts are fixed or determinable and (iv) collectability of amounts is reasonably assured.

We make estimates and judgments when determining whether the collectability of receivables from customers is reasonably assured. We assess the collectability of receivables based on a number of factors, including past transaction history and the creditworthiness of customers. If it is determined that collection is not

 

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reasonably assured, the revenue is recognized when collectability becomes reasonably assured, assuming all other revenue recognition criteria have been met, which is generally upon receipt of cash for transactions where collectability may have been an issue. Management’s estimates regarding collectability impact the actual revenues recognized each period and the timing of the recognition of revenues. Our assumptions and judgments regarding future collectability could differ from actual events and thus materially impact our financial position and results of operations.

Depending on the complexity of the underlying revenue arrangement and related terms and conditions, significant judgments, assumptions and estimates may be required to determine when substantial delivery of contract elements has occurred, whether any significant ongoing obligations exist subsequent to contract execution, whether amounts due are collectible and the appropriate period or periods in which, or during which, the completion of the earnings process occurs. Depending on the magnitude of specific revenue arrangements, if different judgments, assumptions and estimates are made regarding contracts executed in any specific period, our periodic financial results may be materially affected.

Media Agency Revenue. To date, we have generated revenue primarily from services performed under advertising contracts. Our contracts typically provide for us to receive a percentage of the total fees for the advertising placements of our customers. Media providers, such as radio stations, are required to provide proof of service that the advertising was actually run or aired before we can recognize any revenue. Revenue is recognized when the service is performed in accordance with the client arrangement and upon the completion of the earnings process. Prior to recognizing revenue, persuasive evidence of an arrangement must exist, the sales price must be fixed or determinable, delivery, performance and acceptance must be in accordance with the client arrangement and collection must be reasonably assured.

Our customers are often required to make a deposit or pre-pay the media advertising plan. Such amounts are reflected as customer advances on our consolidated balance sheets until all revenue recognition criteria have been met.

Under our advertising contracts, we are deemed to be an agent and, as such, we present revenues on a net basis whereby the costs charged by the media providers for advertisements are netted against the gross revenues received from our customers for media placements.

SaaS Revenues. SaaS revenues are comprised of revenue from SaaS offerings, with fixed and variable payment components. SaaS arrangements and time-based software subscriptions have initial terms generally ranging in duration from 3 to 24 months and are usually renewable on an annual basis. We allocate the value of the SaaS arrangement to each separate unit of accounting based on the best estimated selling price. Revenue allocated to the SaaS/subscription element is recognized ratably over the non-cancellable term of the SaaS/subscription service. We recognize revenue allocated to other units of accounting included in the arrangement upon the earlier of the completion of the service or the expiration of the customer’s right to receive the service. Customers are billed in arrears via invoices for services used. Customers typically have contracts that provide for a minimum monthly usage commitment. Depending on the magnitude of specific revenue arrangements, if different judgments, assumptions and estimates are made regarding contracts executed in any specific period, our periodic financial results may be materially affected.

Our arrangements with our customers do not contain general rights of return. However, we may issue credits to customers on a case-by-case basis. These contracts do not provide customers with the right to take possession of the software supporting the applications.

Stock-Based Compensation Expense

Prior to our initial public offering, we considered objective and subjective factors to determine the best estimate of fair value of our common stock, including the following factors:

 

•

our business, financial condition, results of operations and recent achievements and milestones;

 

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•

our performance in relation to the performance and market value of public companies that are deemed comparable to our company;

 

•

the likelihood of achieving a liquidity event, such as an initial public offering or sale of our company;

 

•

the terms of the Investment Agreement with Acacia, which was completed in August 2016; and

 

•

third-party valuations of our common stock.

To determine the fair value of our common stock underlying stock option and restricted stock awards, we determine our total equity value and allocate that value to each equity element of our capital structure.

We completed valuations of our common stock as of December 2015, April 2016, August 2016 and December 2016. The December 2015 and April 2016 valuations assumed that our company would remain a private company. Following the Acacia investment in August 2016 in which we agreed to use our best efforts to complete an initial public offering of our common stock, the August 2016 and December 2016 valuations incorporated an assumption that we would complete an initial public offering of our common stock in 2017.

Stock-based compensation payments to employees and non-employee directors are recognized as expense in the statements of operations. The compensation cost for all stock-based awards is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period (generally the vesting period of the equity award).

The fair value of stock options granted is determined utilizing the Black-Scholes option-pricing model. The Black-Scholes option-pricing model incorporates the fair value of our common stock and requires various assumptions, including expected term, expected volatility, risk free interest rate and dividend yields. Determining the fair value of stock-based awards at the grant date requires significant estimates and judgments, including estimating the expected term, expected market price volatility of our common stock, risk free interest rates, dividend yields, and future employee stock option exercise behavior.

Stock-based compensation expense is recorded only for those awards expected to vest, using an estimated pre-vesting forfeiture rate. As such, we are required to estimate pre-vesting option forfeitures at the time of grant and to reflect the impact of estimated pre-vesting option forfeitures on the compensation expense recognized. Estimates of pre-vesting forfeitures must be periodically revised in subsequent periods if actual forfeitures differ from those estimates. We consider several factors in connection with our estimate of pre-vesting forfeitures, including types of awards, employee class, and historical pre-vesting forfeiture data. The estimation of stock awards that will ultimately vest requires judgment, and to the extent that actual results differ from our estimates, such amounts will be recorded as cumulative adjustments in the period the estimates are revised. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially impacted.

Accounting for Income Taxes

As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves the estimating of our actual current tax expense together with assessing temporary differences resulting from differing treatment of items. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheets. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not likely, we must establish a valuation allowance. In the event that we establish a valuation allowance or increase this allowance in a period, we must include a corresponding expense within the tax provision in our consolidated statements of operations.

Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and our valuation allowance. Due to uncertainties related to our ability to utilize our

 

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deferred tax assets in future periods, we have recorded a full valuation allowance against our net deferred tax assets, in the amount of $9.9 million, as of December 31, 2016. These assets primarily consist of NOLs.

In assessing the need for a valuation allowance, management has considered both the positive and negative evidence available, including but not limited to, estimates of future taxable income and related probabilities, estimates surrounding the character of future income and the timing of realization, consideration of the period over which our deferred tax assets may be recoverable, our prior history of net losses, projected future outcomes, industry and market trends and the nature of existing deferred tax assets. In management’s judgment, any positive indicators, including forecasts of potential future profitability of our businesses, are outweighed by the uncertainties surrounding our estimates and judgments of potential future taxable income, due primarily to uncertainties surrounding the timing of realization of future taxable income. In the event that actual results differ from these estimates or we adjust these estimates should we believe we would be able to realize these deferred tax assets in the future, an adjustment to the valuation allowance would increase income in the period such determination was made.

Any changes in the judgments, assumptions and estimates associated with our analysis of the need for a valuation allowance in any future periods could materially impact our financial position and results of operations in the periods in which those determinations are made.

Recently Issued Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update (ASU) No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” (ASU 2014-09), which amends the existing accounting standards for revenue recognition. ASU 2014-09 is based on principles that govern the recognition of revenue at an amount that the entity expects to be entitled to receive when products are transferred to customers. ASU 2014-09 will be effective for us in the year ending December 31, 2019, and for interim periods beginning in the first quarter of 2020. Early adoption is permitted. Subsequently, the FASB has issued the following standards related to ASU 2014-09: ASU No. 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations” (ASU 2016-08); ASU No. 2016-10, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing” (ASU 2016-10); and ASU No. 2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients” (ASU 2016-12). We must adopt ASU 2016-08, ASU 2016-10 and ASU 2016-12 with ASU 2014-09, collectively, the new revenue standards. The new revenue standards may be applied retrospectively to each prior period presented or prospectively with the cumulative effect recognized as of the date of adoption. We are currently evaluating the timing of our adoption and the impact of adopting the new revenue standards on our consolidated financial statements.

In April 2015, the FASB issued ASU 2015-03, “Interest—Imputation of Interest,” which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts, and not be classified as a deferred charge or deferred credit. The recognition and measurement guidance for debt issuance costs are not affected by the amendments of this update. This ASU has been adopted and the provisions of this update are reflected in the consolidated financial statements as of December 31, 2016.

In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842).” The amendments under this pronouncement will change the way all leases with durations of one year or more are treated. Under this guidance, lessees will be required to capitalize virtually all leases on the balance sheet as a right-of-use asset and an associated financing lease liability or capital lease liability. The right-of-use asset represents the lessee’s right to use, or control the use of, a specified asset for the specified lease term. The lease liability represents the lessee’s obligation to make lease payments arising from the lease, measured on a discounted basis. Based on certain characteristics, leases are classified as financing leases or operating leases. Financing lease liabilities, those that contain provisions similar to capitalized leases, are amortized in the same manner as capital leases are

 

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amortized under current accounting rules, as amortization expense and interest expense in the statement of operations. Operating lease liabilities are amortized on a straight-line basis over the life of the lease as lease expense in the statement of operations. This update is effective for annual reporting periods beginning after December 31, 2019 and interim periods within fiscal years beginning after December 15, 2020. We are currently evaluating the impact this standard will have on our policies and procedures pertaining to our existing and future lease arrangements, disclosure requirements and on our consolidated financial statements.

In March 2016, the FASB issued ASU No. 2016-09, “Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting” (ASU 2016-09). The standard is intended to simplify several areas of accounting for share-based compensation arrangements, including the income tax impact, classification on the statement of cash flows and treatment of forfeitures. ASU 2016-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, and interim periods within fiscal years beginning after December 15, 2018, and early adoption is permitted. We are currently evaluating the potential impact that this new standard will have on our consolidated financial statements.

In August 2016, the FASB issued ASU 2016-15, “Statement of Cash Flows (Topic 230),” a consensus of the FASB’s Emerging Issues Task Force,” which provides guidance intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. This ASU is effective for fiscal years beginning after December 15, 2018 and interim periods within fiscal years beginning after December 15, 2019. Early adoption is permitted. This adoption is not expected to have a significant impact on our consolidated financial statements.

In May 2017, the FASB issued ASU No. 2017-09, “Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting,” which amends the scope of modification accounting for share-based payment arrangements. Under the standard, an entity should not apply modification accounting if the fair value, vesting conditions, and classification of the awards are the same immediately before and after the modification. The current disclosure requirements in Topic 718 still applies regardless of whether an entity is required to apply modification accounting under the amendments in this update. The standard is effective for our company beginning the first quarter of 2018, with early adoption permitted. We do not expect that the adoption of ASU 2017-09 will have a material impact on its consolidated financial statements.

 

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Results of Operations

The following tables set forth our results of operations for the periods presented as a percentage of our net revenues for those periods. The period-to-period comparisons of our historical results are not necessarily indicative of the results that may be expected in the future.

 

		Year Ended December 31,								Nine Months Ended September 30,
		2016				2015				2017				2016
Consolidated Statements of Operations Data:
Net revenues			100.0	%			100.0	%			100.0	%			100.0	%
Cost of revenue			17.7				13.4				7.5				16.7
Gross profit			82.3				86.6				92.5				83.3
Operating expenses:
Sales and marketing			92.9				41.2				88.8				88.8
Research and development			88.6				33.3				88.1				83.6
General and administrative			167.6				57.4				226.5				167.3
Total operating expenses			349.1				131.8				403.4				339.7
Loss from operations			(266.8	)			(45.2	)			(310.9	)			(256.4	)
Other income (expense), net			(35.8	)			0.6				(117.9	)			(23.1	)
Loss before provision for income taxes			(302.7	)			(44.6	)			(428.9	)			(279.5	)
Provision for income taxes			0.1				0.0				—				0.1
Net loss			(302.8	)			(44.6	)			(428.9	)			(279.6	)
Accretion of redeemable convertible preferred stock			(36.0	)			(23.9	)			(41.0	)			(37.2	)
Net loss attributable to common stockholders			(338.7	)			(68.5	)			(469.9	)			(316.8	)

Nine Months Ended September 30, 2017 Compared With the Nine Months Ended September 30, 2016

Net Revenues

 

		Nine Months Ended September 30,
		2017				2016				$ Change				% Change
		(dollars in thousands)
Media Agency revenues, net		$	9,926			$	6,197			$	3,729				60.2	%
AI Platform revenues			988				211				777				368.2	%
Net revenues		$	10,914			$	6,408			$	4,506				70.3	%

The year-over-year increase in net revenues was due primarily to an increase in our Media Agency revenues of $3.7 million, or approximately 60%, compared with the prior year period, attributable primarily to increased volume with three existing customers and the addition of a significant new customer. In the first nine months of 2017, we added 33 net new Media Agency customers under master service agreements, compared with 22 net new customers in the prior year period, and the increase in net revenues was driven primarily by revenues earned from these new customers. Contributing to the year-over-year increase in net revenues was an increase in AI Platform revenues of $0.8 million, or approximately 368%, compared with the prior year period. Approximately $0.3 million of this increase was attributable to one customer in the media market, and the remaining increase came from various customers in the media, legal and politics markets. In the first nine months of 2017, our AI Platform Business added 131 accounts. Also, in the first nine months of 2017, we processed 1,516,000 hours of video or audio content, compared with 699,000 hours in the first nine months of 2016, an increase of 117%.

 

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Gross Profit and Margin

Gross profit in the nine months ended September 30, 2017 increased 89% compared with the prior year period, as a result of the increased Media Agency and AI Platform net revenues. Gross margin increased year-over-year, due primarily to the operating leverage provided by our higher net revenue level.

Operating Expenses

 

		Nine Months Ended September 30,
		2017				2016				$ Change				% Change
		(dollars in thousands)
Sales and marketing		$	9,689			$	5,688			$	4,001				70.3	%
Research and development			9,613				5,357				4,256				79.4	%
General and administrative			24,722				10,723				13,999				130.6	%
Total operating expenses		$	44,024			$	21,768			$	22,256				102.2	%
Percentage of net revenues:
Sales and marketing			88.8	%			88.8	%
Research and development			88.1	%			83.6	%
General and administrative			226.5	%			167.3	%
Total operating expenses			403.4	%			339.7	%

Sales and marketing. The increase in sales and marketing expense in the first nine months of 2017 compared with the prior year period was due primarily to increased personnel and consulting costs resulting from the expansion of sales and marketing efforts in the media and legal markets. In addition, our sales and marketing expense in our Media Agency business increased year-over-year, due primarily to increases in variable compensation resulting from the year-over-year increase in net revenues, and to the addition of employees to support the increased business volume.

Research and development. The increase in research and development expense in the first nine months of 2017 compared with the prior year period was attributable primarily to an increase in our personnel costs of $3.3 million, resulting from a 128% net increase in average month-end headcount in the current year period, as we enhance our existing products and develop new products and other technical functionality.

General and administrative. The increase in general and administrative expense in the first nine months of 2017 compared with the prior year period was due primarily to an increase in our stock based compensation expense of $11.6 million, and to additional personnel costs associated with a 68% net increase in our average month-end headcount to support the expected growth of our business. The year-over-year increase in stock-based compensation was due primarily to $9.3 million of expense recorded in the first nine months of 2017 relating to performance-based stock options awarded to our Chief Executive Officer and our President in May 2017. The performance condition applicable to such stock options was achieved in September 2017.

Other Income (Expenses), Net

Other income (expense), net for the first nine months of 2017 and 2016 was comprised primarily of the following:

The first nine months of 2017:

 

•

The net book value of debt discounts and issuance costs were written off when the related debt was converted into common stock in connection with our initial public offering, resulting in an expense of $7.3 million;

 

•

Upon the automatic exercise in full of the Primary Warrant in connection with our initial public offering, we issued to Acacia the 10% Warrant. Fifty percent of the shares under the 10% Warrant

 

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vested upon its issuance and the remaining half will vest in May 2018. We recorded an expense of $5.8 million relating to this warrant upon its issuance, representing its fair value;

 

•

Additional common stock and warrants were issued to the Lenders in March 2017 under the terms of the Bridge Loan agreements, and we recorded an expense of $2.9 million relating to such shares and warrants, representing their fair value;

 

•

Upon the exercise of the Primary Warrant in connection with our initial public offering, the carrying value of this warrant, which was reflected as a liability, was reversed, resulting in a gain of $7.1 million; and

 

•

Debt discount amortization, interest expense and debt issuance cost amortization from the beginning of the year through the date that the related debt instruments were converted to common stock resulted in expense of $4.2 million.

The first nine months of 2016:

 

•

Debt discount amortization, interest expense and debt issuance cost amortization resulted in expense of $1.4 million;

 

•

Gain of $0.1 million resulting from the change in the fair value of warrant liability in connection with the Primary Warrant; and

 

•

Write-off of deferred legal fees of $0.2 million in connection with the Primary Warrant.

Year Ended December 31, 2016 Compared With Year Ended December 31, 2015

Net Revenues

 

		Year Ended December 31,
		2016				2015				$ Change				% Change
		(dollars in thousands)
Media Agency revenues, net		$	8,404			$	13,887			$	(5,483	)			(39.5	)%
AI Platform revenues			507				41				466				1,136.6	%
Net revenues		$	8,911			$	13,928			$	(5,017	)			(36.0	)%

We commenced sales in our AI Platform Business and began generating revenues in April 2015. In the year ended December 31, 2016, revenue from our AI Platform Business was $0.5 million, an increase of more than $0.4 million compared with the prior year period, and we had 41 accounts as of December 31, 2016. We ingested and processed 1.1 million hours of video and audio files in 2016. Revenue from our AI Platform Business represented 5.7% and 0.3% of our total revenues in the years ended December 31, 2016 and 2015, respectively.

Prior to 2016, substantially all of our revenues were derived from advertising media sales by our Media Agency Business. In the year ended December 31, 2016, Media Agency revenues were $8.4 million, a decrease of $5.5 million compared with the prior year period. The decrease in Media Agency revenues was attributable primarily to the loss of our two largest customers, LifeLock, Inc., which took their national endorsed radio planning in-house in August 2015, and DraftKings, Inc., which experienced a reduction of media purchases due to legal restrictions imposed on it from conducting business in certain jurisdictions for a period of time. Due primarily to these two developments, our media dollars placed per agency customer decreased 44% year-over-year, from $2.1 million per agency customer in 2015 to $1.1 million in 2016. The decrease in revenue was offset in part by the addition of new customers in 2016. During 2016, we added 37 net new Media Agency customers and ended the year with 65 active Media Agency customers, compared with 28 new Media Agency customers added in 2015.

 

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In the past, our Media Agency Business has experienced volatility in its net revenues due to a number of factors, including (i) the timing of new large account wins, (ii) loss of customers who choose to replace our services by bringing their advertising placement in-house, (iii) customers who experience reductions in their advertising budgets due to issues with their own business, (iv) losses of customers who change providers from time to time based largely on pricing, and (v) the seasonality of the campaigns for certain large customers. We expect our net revenues from this business to continue to experience some degree of volatility for the foreseeable future.

We plan to continue to enhance our relationships with our existing Media Agency customers to expand our penetration of those accounts, and expand our Media Agency revenues. At the same time, we plan to continue to invest to grow our SaaS platform and capabilities. We plan to drive greater awareness and adoption of our aiWARE platform by enterprises across our existing target markets (media, legal and government), as well as in future vertical markets such as the commercial security and retail markets. In our AI Platform Business, our goal is to establish aiWARE as the standard media analytics platform for media customers in radio broadcasting, television, podcasting and YouTube. We also plan to continue to expand the adoption of our platform by leveraging both direct sales efforts and the expansion of channel partnerships, such as our strategic relationships with Quantum and Westwood One.

Cost of Revenue and Gross Margin

 

		Year Ended December 31,
		2016				2015				$ Change				% Change
		(dollars in thousands)
Cost of revenue		$	1,577			$	1,860			$	(283	)			(15.2	)%
Gross margin			82.3	%			86.6	%							(4.3	)%

In the year ended December 31, 2016, cost of revenue decreased by $0.3 million, or 15.2%, compared with the prior year period. The decrease in cost of revenue was attributable primarily to a decrease in transcription costs of approximately $0.4 million due to a decrease in per hour transcription fees. The decrease was offset in part by an increase in various engine processing costs of approximately $0.1 million and an increase of approximately $0.1 million in the costs for data storage, resulting from an increase in storage capacity.

Cost of revenue relating to our AI Platform Business consists primarily of fees paid to our vendors to process, transcribe and store media and cloud infrastructure fees. Our arrangements with vendors typically require us to pay fees that are based on the volume of media that they process for us, and/or on computing time, storage and reserved computing capacity. Cost of revenue also includes hourly fees charged by our third-party providers of cognitive engines, which are generally based upon the volume of media processed, as measured in duration of media that their engines process via our platform. Cost of revenue relating to our Media Agency Business consists of certain production costs relating to advertising content, and such costs were not material in any of the periods presented. As such, most of our total cost of revenues relates to our AI Platform Business. Gross margin percentages decreased during the year ended December 31, 2016 compared with the year ended December 31, 2015, due primarily to the significant decrease in revenue in our Media Agency Business, which was significantly greater than the decrease in our total cost of revenues during the same period.

 

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Operating Expenses

 

		Year Ended December 31,
		2016				2015				$ Change				% Change
		(dollars in thousands)
Sales and marketing		$	8,279			$	5,735			$	2,544				44.4	%
Research and development			7,900				4,633				3,267				70.5
General and administrative			14,935				7,990				6,945				86.9
Total operating expenses		$	31,114			$	18,358			$	12,756				69.5
Percentage of revenue:
Sales and marketing			92.9	%			41.2	%
Research and development			88.6				33.3
General and administrative			167.6				57.4

Sales and Marketing. The increase in sales and marketing expense in the year ended December 31, 2016 compared with the prior year was attributable primarily to an increase in independent consultant costs as we continued to expand our marketing efforts in both businesses, increase our sales efforts in our Media Agency Business and build our AI Platform sales organization across several vertical markets.

Research and Development. The increase in research and development expenses in the year ended December 31, 2016 compared with the prior year was attributable primarily to higher personnel costs resulting from a 78% net increase in average headcount in 2016 compared with in 2015, and increases in third-party software development and engineering costs as we continued to focus on enhancing our existing products and developing and introducing new products and other technical functionality.

General and Administrative. The increase in general and administrative expenses in the year ended December 31, 2016 compared with the prior year was attributable primarily to an increase of approximately $2.4 million in personnel and consultant costs resulting from increases in headcount, a $1.6 million increase in stock-based compensation expense for share issuances to existing stockholders, and a $1.7 million increase in professional service fees including legal fees associated with litigation with a former employee that was settled in 2016, general legal services, and accounting fees associated with the audits of our 2014 and 2015 audited financial statements.

Seasonality

We have historically experienced occasional seasonality in our Media Agency Business, which is due primarily to the seasonal nature of some of our customers’ advertising activities. For example, in the third quarter of 2015, our net revenues from our Media Agency Business increased significantly, tied to one of our larger customer’s three-month advertising campaign related to the start of the professional football season. As such, our revenue levels in our Media Agency Business are impacted significantly by the timing of particular advertising campaigns of our major customers, which can and do vary from period to period.

Quarterly Results of Operations

The following tables set forth our unaudited historical quarterly statements of operations data for each of the eleven quarters ended September 30, 2017, as well as the percentage that each line item represents of our net revenues for each quarter presented. The information for each quarter has been prepared on a basis consistent with our audited consolidated financial statements included in this prospectus, and reflect, in the opinion of management, all adjustments of a normal, recurring nature that are necessary for a fair presentation of the financial information contained in those statements. Our historical results are not necessarily indicative of the results that may be expected in the future. The following quarterly financial data should be read in conjunction

 

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with our audited consolidated financial statements included in this prospectus. The sum of the quarterly amounts in the tables below may not agree to the annual amounts presented elsewhere in this prospectus due to rounding.

 

		Quarter Ended
		Mar 31, 2015				June 30, 2015				Sept 30, 2015				Dec 31, 2015				March 31, 2016				June 30, 2016				Sept 30, 2016				Dec 31, 2016				March 31, 2017				June 30, 2017				Sept 30, 2017
		(unaudited, in thousands)
Consolidated Statements of Operations:
Net revenues		$	2,684			$	3,235			$	5,387			$	2,621			$	2,076			$	2,011			$	2,321			$	2,503			$	3,108			$	4,087			$	3,719
Cost of revenue			463				544				436				417				320				299				448				510				196				336				292
Gross profit			2,221				2,691				4,951				2,204				1,756				1,712				1,873				1,993				2,912				3,751				3,427
Operating expenses:
Sales and marketing (1)			1,357				1,543				1,845				991				1,646				1,840				2,202				2,591				2,599				3,414				3,676
Research and development (1)			849				1,054				927				1,803				1,530				1,646				2,181				2,543				3,264				2,883				3,466
General and administrative (1)			1,167				1,523				2,208				3,091				2,510				4,754				3,459				4,212				3,680				5,302				15,740
Total operating expenses			3,373				4,120				4,980				5,885				5,686				8,240				7,842				9,346				9,543				11,599				22,882
Loss from operations			(1,152	)			(1,429	)			(29	)			(3,681	)			(3,930	)			(6,528	)			(5,969	)			(7,353	)			(6,631	)			(7,848	)			(19,455	)
Other income (expense), net			4				3				4				74				(31	)			4				(1,456	)			(1,710	)			786				(13,746	)			88
Loss before provision for income taxes			(1,148	)			(1,426	)			(25	)			(3,607	)			(3,961	)			(6,524	)			(7,425	)			(9,063	)			(5,845	)			(21,594	)			(19,367	)
Provision for income taxes			1				1				1				1				2				1				2				1				2				1				2
Net income (loss)			(1,149	)			(1,427	)			(26	)			(3,608	)			(3,963	)			(6,525	)			(7,427	)			(9,064	)			(5,843	)			(21,595	)			(19,369	)
Accretion of redeemable convertible preferred stock			(801	)			(802	)			(802	)			(924	)			(794	)			(794	)			(795	)			(821	)			(1,073	)			(3,397	)			—
Net income (loss) attributable to common stockholders		$	(1,950	)		$	(2,229	)		$	(828	)		$	(4,532	)		$	(4,757	)		$	(7,319	)		$	(8,222	)		$	(9,885	)		$	(6,920	)		$	(24,992	)		$	(19,369	)

 

(1)	Includes stock-based compensation expense as follows:

 

 

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